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Fast growth in service sector points to more jobs

WASHINGTON — Activity at manufacturing and service companies has reached a level not seen since before the recession, suggesting a stronger year for hiring.

Some economists are even hopeful that Friday’s employment report may be better than first thought, based on new economic data reported Thursday.

The service sector, which employs nearly 90 percent of the work force, is expanding at the fastest pace in five years. Factories are cranking out goods, retail sales are up, and many companies are nearing the point where they can no longer expand without more employees.

“Rising output along with a broader trend of slowing productivity should translate into a faster pace of hiring,” said Joseph LaVorgna, an economist at Deutsche Bank.

Harsh winter weather that interrupted economic activity along the East coast last month may temper January’s employment gains. Heavy snows caused some companies, particularly those in construction but also in manufacturing, to suspend work. That likely resulted in temporary layoffs.

Still, Thursday’s reports suggest the economy is gaining momentum, and job growth is the next logical step.

“Firms are beginning to say, ‘wait a minute we’re beginning to see enough increases in sales … and we’ve exhausted our productivity gains,’ ” Federal Reserve Chairman Ben Bernanke said Thursday, while addressing reporters at the National Press Club.

The latest evidence came Thursday when the Institute for Supply Management reported its service sector index grew in January at the fastest pace in five years. The private trade group’s index covers a wide swath of employers, from retailers to health care companies to construction firms.

Last month’s reading of 59.4 was the highest since August 2005 and marked the 14th straight month of growth. Any reading above 50 indicates expansion.

Earlier this week, the trade group said factory activity in January expanded at the fastest pace in nearly seven years.

Both the ISM’s factory and services reports showed that order backlogs are growing. That gives companies more certainty that sales will keep rising.

And ISM’s services employment index rose in January to its highest level since May 2006, while the employment gauge in the manufacturing report also jumped. Both point to more hiring by employers.

“It’s that backlog of orders that gives businesses the confidence to go out and hire more workers,” said Mark Vitner, an economist at Wells Fargo Securities.

Another positive sign for hiring is fewer people applied for unemployment benefits last week, reversing a spike from the previous week largely caused by harsh winter weather.

Applications fell to 415,000, the Labor Department said. That resumes a downward trend that took shape late last year and gave rise to hopes that employers would step up hiring.

Bernanke called that a “pretty good number” and predicted that “pretty soon” there would be some reports of stronger job creation.

Applications are well below their peak of 651,000, reached in March 2009, when the economy was deep in recession. Fewer than 425,000 people applying for benefits is consistent with modest job growth. But applications would need to fall consistently below 375,000 to signal a likely decline in the unemployment rate.

Also Thursday:

— Retailers reported solid January sales gains, defying fears that snowstorms would inhibit shopping. Costco Wholesale Corp, Victoria’s Secret parent Limited Brands and Macy’s Inc. all posted increases that beat Wall Street expectations.

— U.S. factory orders rose in December, the Commerce Department said. Orders were pushed up by demand from businesses for machinery and communications equipment. Orders have now risen in five of the past six months.

— Productivity — the level of output per hour worked — rose 2.6 percent in the final three months of last year, Labor reported. That’s slightly higher than the previous quarter. Still, the trend in productivity growth has been declining. That indicates employers may need to step up hiring soon if they want to expand.

Employers will likely create a net 2.2 million jobs this year, according to a survey of economists taken last month by The Associated Press. That’s double the number of jobs generated in 2010.

Consumers are forecast to spend more, boosting economic growth to about 3.2 percent in 2011 from 2.9 percent in 2010. But the economy would need to grow much faster — closer to 5 percent for a year — to substantially reduce unemployment.

Analysts project that the unemployment rate will fall to 8.9 percent by the end of this year, according to the AP Economy Survey.