Business activity in the U.S. services sector in July and new orders at U.S. factories in June were surprisingly weak, two reports showed on Thursday, signaling that economic growth was decelerating.

Federal Reserve policy-makers are expected to weigh these reports and the July employment data on Friday when they meet on Tuesday to decide whether to increase short-term increase rates.

The data was a tad weaker than expected ... it's not likely to sidetrack the notion that things are on the margin of slowing down. We have higher energy costs, we have housing prices turning a bit rocky, and the consumer is probably feeling a bit more pinched, said Steve Goldman, market strategist, Weeden & Co., Greenwich, Connecticut.

Also on Thursday, the Bank of England and the European Central Bank increased rates to stem inflation. Rising rates worldwide are believed to be slowing global growth and stunting corporate profits.

U.S. stocks (^DJI - news) pared losses on Thursday after the Institute for Supply Management's services sector data, and ended higher. Treasury debt prices also moved off their lows after the data and ended mixed. The dollar fell against the euro after the ECB rate hike, but finished higher against the yen .

WEAKER SERVICES, HIGHER PRICES

The Institute for Supply Management's services index fell to 54.8 in July from 57.0 in June. The median forecast of Wall Street economists looked for an unchanged reading of 57.

It was the lowest reading for the ISM services survey since September 2005, directly after Hurricane Katrina.

A number above 50 indicates growth in the sector, which accounts for about 80 percent of U.S. economic activity.

The ISM services prices-paid index rose to 74.8 in July from 73.9 in June, while the jobs component increased to 54.5 from 52.0, and new orders slipped to 55.6 from 56.6.

Inflation has trended higher in most or all sectors of the economy, and the Fed will have to take notice, said Tim Mazanec, senior currency strategist at Investors Bank & Trust in Boston.

U.S. interest rate futures showed markets pricing in a 46 percent chance of a rate hike at the Federal Reserve's meeting on Tuesday. The Fed has raised rates at 17 straight policy meetings, beginning in June 2004, in a bid to hold off inflationary pressures.

Factory orders also showed signs of a moderating economy.

New orders at U.S. factories rose a smaller-than-expected 1.2 percent in June as orders outside transportation and defense were weak.

After stripping out transportation, factory orders rose a scant 0.1 percent, the weakest since a 2.5 percent drop in February.

In a sign of some manufacturing resilience ahead, unfilled orders for items meant to last more than three years rose 1.6 percent, the 13th gain in the last 14 months. However, inventories of goods rose for the fifth time in the last six months.

An industry report on Thursday showed mixed results for U.S. chain store sales.

Sales rose 3.5 percent on a year-over-year basis in July, but were below the 3.8 percent average for the 2006 fiscal year, the International Council of Shopping Centers said.

Economists and investors have been watching retail sales data for signs of slowing consumer spending as higher interest rates and energy prices work their way through the economy.

On the employment front, the number of workers seeking initial jobless aid rose 14,000 last week, but remained at levels still indicative of a stable labor market.

First-time claims for state unemployment benefits rose to 315,000 last week from an upwardly revised 301,000 for the prior week, the Labor Department said. Analysts had expected a reading of 308,000.

The key labor market data will be released on Friday, in the July employment report. The median estimate from a Reuters poll put payroll job gains at 142,000, modestly higher than the 121,000 increase in June.

(Additional reporting by Nancy Waitz and Mark Felsenthal in Washington and Lucia Mutikani and Kevin Plumberg in New York)

Inflation U.S.