Fri Dec 1, 2006 11:36 AM ET
(Adds ISM survey chairman's comments paragraphs 10-12)
By Lucia Mutikani
NEW YORK, Dec 1 (Reuters) - U.S. factory activity shrank in November for the first time in 3-1/2 years as new orders, production and employment fell and prices paid rose, according to a survey published on Friday.
The data were seen as further evidence that growth in the U.S. economy is slowing, which could force the Federal Reserve to cut official interest rates in the first quarter of 2007.
The Institute for Supply Management said its index of national factory activity dropped to 49.5 from 51.2 in October, below economists' median forecast for a slight rise to 51.5.
This was the first time that the index had fallen below 50 since April 2003, when a reading of 46.5 was recorded. A reading below 50 indicates shrinkage in the factory sector.
"I think this number will definitely continue to fan fears of a hard landing for the U.S. economy. Overall, this is consistent with the view that the U.S. economy is moderating and could prompt a Fed rate cut in 2007," said Omer Esiner, a senior analyst at Ruesch International in Washington, D.C.
Government bonds rallied on the data, with the yield on the benchmark 10-year note
Federal funds interest rate futures indicated that markets are pricing in a 64 percent chance of a Fed rate cut in the first quarter, up from 52 percent factored in before the data.
The dollar extended losses on the data, slumping to a 20-month low against the euro
The U.S. central bank has kept the benchmark overnight fed funds rate steady at 5.25 percent since August, having raised it by a quarter percentage point 17 times in the two years to June.
ISM's manufacturing survey committee chairman Norbert Ore said that despite the index's drop below 50, the manufacturing sector in the world's largest economy was far from recession.
"According to our data, I would define a manufacturing recession as being six consecutive months or two consecutive quarters below 50," said Ore.
"I don't see situations that would drive us way below 50 into a deep decline in the economy. It seems more like the soft landing effect that many have talked about."
The ISM's prices paid index, which measures inflationary pressures in the factory sector, climbed to 53.5 in November, from 47.0 in October.
New orders, a gauge of future growth, declined to 48.7 -- falling below 50 also for the first time since April 2003 -- from 52.1 and the employment index slipped to 49.2 in November from 50.8.
(Additional reporting by Ellen Freilich)
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