Tighter lending overshadows services rebound

NEW YORK (Reuters) - The U.S. service sector grew in April for the first time in four months, according to a report on Monday that was overshadowed by a dour Federal Reserve survey showing the banking sector remained in the grips of a credit crunch.

The Institute for Supply Management said its non-manufacturing index rose to 52.0 in April from 49.6 in March. The result was above the level of 50 that indicates growth in the service sector and also beat expectations.

However, a Fed survey showed banks in the United States kept tightening lending standards and terms for both business and consumer loans over the past three months out of concern about a weakening economic outlook.

"The credit crisis has spilled over to the real economy and will continue to weigh on investment and consumer spending for the time being," analysts at UniCredit said in a research note about the Fed survey.

The April survey of senior loan officers at 56 domestic banks and 21 U.S. branches and agencies of foreign banks also underlined that demand for loans from businesses and consumers was weaker.

U.S. stocks .DJI fell on the day, even though they saw a brief bit of relief in the immediate wake of the surprisingly strong ISM data, which beat analysts' expectations for a contractionary reading of 49.1.

The dollar weakened against the euro and yen.

Government bonds, which usually benefit from weak economic data, initially fell after the ISM release, which showed the jobs gauge for the sector posted its biggest improvement in seven months and inflation pressures at their highest in five months.

However, bonds found a slightly firmer footing later as investors saw the data in the wider context of an economy that is not performing particularly well and may still be teetering on the brink of recession.

In fact, Warren Buffett, the world's richest person, said on Sunday that the U.S. economy was already in recession.

Former Federal Reserve Chairman Alan Greenspan was quoted by Bloomberg News on Monday as saying the United States had fallen into an "awfully pale recession" and may remain stagnant for the rest of the year.

"Even though things are coming out a bit better, it doesn't mean the economy is great or is out of the woods," said Gail Dudack, chief investment strategist at Dudack Research Group in New York.

The service sector represents about 80 percent of U.S. economic activity, including businesses such as banks, airlines, hotels and restaurants.

The ISM news follows data on Friday showing the U.S. economy lost far fewer jobs in April than expected, lending some support to investors hoping the current slowdown will prove to be relatively mild.

Consistent with the surprisingly resilient jobs data, ISM's non-manufacturing employment index rose to 50.8 from 46.9 in March. It marked the biggest gain in the jobs measure for services since September 2007.

The index of prices paid rose to 72.1 -- the highest since 73.7 in November -- from 70.8 in March, indicating that persistent inflation was an issue for service providing companies.

Highlighting inflation concerns, oil jumped more than $4 to a record high over $120 a barrel on Monday.

(Additional Reporting by Ellis Mnyandu; Editing by Frank McGurty)