US Service Sector Resilience: Growth Rebounds Amid Tariff Turbulence

The US services sector, a linchpin of economic activity, has shown surprising durability in April 2025, rebounding from a March slump to post a 10-month expansion streak. The Institute for Supply Management’s (ISM) Services Purchasing Managers’ Index (PMI) rose to 51.6% in April, up from 50.8% in March, defying expectations of a slowdown. This reading signals renewed momentum for industries ranging from healthcare to transportation, though underlying challenges—from tariff-driven inflation to hiring freezes—remain.

Key Drivers of the Rebound

The April PMI gain was propelled by two critical factors: new orders and business activity, though the latter showed signs of moderation.

• New Orders Surge: The New Orders Index jumped to 52.3%, its highest since December 2024, as sectors like Transportation & Warehousing and Educational Services reported demand growth. This suggests pent-up demand is still fueling activity, even as businesses grapple with rising costs.
• Business Activity: While the Business Activity Index dipped to 53.7%, marking its slowest pace in five months, it remained in expansion territory for the 59th consecutive month. Industries like Accommodation & Food Services (up 15% year-over-year in sales) and Health Care & Social Assistance led the charge, benefiting from post-pandemic recovery spending.

The Elephant in the Room: Inflation and Tariffs

Despite the PMI rebound, price pressures are at their highest since early 2023. The Prices Index skyrocketed to 65.1%, driven by soaring costs for commodities like aluminum, steel, and labor.

Businesses are passing these costs to consumers, but resistance is growing. One respondent noted, “We expect vendors to honor contracted pricing despite tariffs,” underscoring the tension between rising input costs and customer pushback.

The tariff impact is uneven:
- Winners: Sectors like Wholesale Trade and Retail Trade saw inventory levels climb to 53.4%, as firms stockpiled ahead of anticipated tariffs.
- Losers: Agriculture and Construction faced contraction, with small businesses struggling to source Chinese imports.

Labor Market Strains Persist

While the Employment Index improved to 49.0%—its highest since February—it remains in contraction for the second straight month. Sectors like Finance & Insurance and Public Administration cut jobs, citing uncertainty over federal grants and budget cuts.

The healthcare and retail industries bucked the trend, adding workers to meet demand. However, labor shortages remain acute: 53% of survey respondents cited rising labor costs as a key inflation driver.

Sector Spotlight: Winners and Losers

The PMI report revealed a bifurcated landscape:

Winning Sectors:
1. Accommodation & Food Services: Benefited from strong consumer spending, with hotels and restaurants reporting record sales.
2. Health Care & Social Assistance: Gained from aging demographics and post-pandemic catch-up demand.
3. Transportation & Warehousing: Saw demand rebound as businesses stockpiled inventory.

Struggling Sectors:
1. Construction: Faced delays due to steel shortages and federal funding cuts.
2. Public Administration: Struggled with budget constraints, with one respondent calling it a “business crisis.”
3. Agriculture: Hit by tariff-driven input costs and trade disruptions.

Investment Implications

The April PMI data suggests selective opportunities for investors:

• Health Care and Retail: These sectors, supported by strong demand and pricing power, are likely to outperform. Consider ETFs like the Health Care Select Sector SPDR Fund (XLV) or consumer discretionary stocks like Walmart (WMT).
• Tariff-Resistant Sectors: Look to domestic-facing industries like utilities (e.g., NextEra Energy (NEE)) and wholesale trade, which are less exposed to global supply chain shocks.
• Avoid Overexposure to Trade-Dependent Sectors: Construction (e.g., Caterpillar (CAT)) and agriculture (e.g., Deere & Co. (DE)) face prolonged headwinds.

Conclusion: Growth, But at a Cost

The US services sector’s resilience in April 2025 is undeniable, with the PMI rebound aligning with an estimated 1% annualized GDP growth for the quarter. Yet, the path ahead is fraught with risks:

• Inflation: The Prices Index’s 95-month streak of increases signals sustained cost pressures, which could crimp consumer spending.
• Policy Uncertainty: Tariffs and federal budget cuts remain wildcards, especially for sectors like public administration and construction.
• Labor Shortages: Hiring freezes and elevated labor costs threaten to cap expansion in key industries.

For investors, the data points to a sector-specific approach. While healthcare and retail offer growth, the broader services sector’s momentum hinges on resolving trade disputes and managing inflation. As one PMI respondent warned, “The tariff impact is no longer a future concern—it’s here.”

In this environment, quality over quantity will rule: prioritize companies with pricing power, domestic supply chains, and exposure to inelastic demand sectors like healthcare. The rebound is real, but it’s fragile—and investors must tread carefully.