updated 8/3/2006 10:49:15 AM ET 2006-08-03T14:49:15

The service sector of the U.S. economy expanded in July, but at a slower pace than in the previous month because of higher fuel, delivery and material costs, according to a monthly survey of supply managers released Thursday.

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The Institute for Supply Management (ISM), a research group based in Tempe, Ariz., reported that its index of activity in the service sector, which makes up about two-thirds of the nation’s economic activity, stood at 54.8 in July, versus 57.0 in June. The results came in below analysts’ forecast of 56.5.

A reading of 50 or more indicates expansion, while below 50 indicates contraction.

July marked the 40th consecutive month of expansion for the U.S. service sector.

The ISM’s index of the service sector — which includes banking, construction, retailing and travel — is one of the earliest readings on economic activity in the prior month.

The report’s prices index rose 0.9 percent to a July reading of 74.8 from a June reading of 73.9, indicating that costs could start cutting into the profits of companies in the sector.

The ISM report arrived on the back of the Commerce Department’s report that new bookings to the U.S. manufacturing sector rose by 1.2 percent in June, the biggest rise since March.

The two reports will likely play into the Federal Reserve’s decision on Tuesday whether to raise short-term interest rates.

Analysts’ forecasts are varied on whether the Fed, which in June raised rates for the 17th consecutive time, will hike them again or take a pause. The funds rate, or the interest banks charge each other on overnight loans, is currently 5.25 percent.

The 10-year Treasury bond rose after the reports’ release, as its yield, which moves in the opposite direction, dipped to 4.97 percent.

The survey found that 11 of the 17 industry groups in the non-manufacturing sector reported expansion: other services; retail trade; educational services; accommodation and food services; utilities; transportation and warehousing; finance and insurance; health care and social assistance; information; management of companies and support services; and professional, scientific and technical services.

The three industries reporting activity stayed the same as last month were agriculture, forestry, fishing and hunting; real estate, rental and leasing; and arts, entertainment and recreation. The three reporting decreased activity were construction; wholesale trade; and public administration.

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