US manufacturing shrinks for first time in 3 years

U.S. manufacturing shrank in June for the first time in nearly three years, a troubling sign that the economy is faltering.

The Institute for Supply Management, a trade group of purchasing managers, said Monday that its index of manufacturing activity fell to 49.7. That's down from 53.5 in May and the lowest reading since July 2009, one more after the recession officially ended.

Readings below 50 indicate contraction.

(The Associated Press initially reported the contraction in June occurred for the first time in two years.)

Stocks, which had largely been flat when the market opened, fell immediately after the report was released at 10 a.m.. The Dow Jones industrial average dropped 37 points.

A measure of new manufacturing orders fell below 50 for the first since April 2009. And a gauge of production also fell to its lowest level in more than two years.

U.S. factories are also reporting much less overseas demand, likely because Europe's financial crisis has lowered demand for U.S. exports. A measure of exports dropped to 47.5, its lowest level since April 2009.

A gauge of employment edged down but remained at a healthy level of 56.6. That suggests factories may still be adding jobs. Manufacturers have reported job gains for eight straight months.

The sharp drop in factory activity overshadowed a positive report on U.S. construction spending, which offered more evidence of a slow recovery in the housing market.

Factories have been a key source of jobs and growth since the recession ended almost three years ago. But the sector has shown signs of weakness in recent months.

Manufacturers produced less in May than in April, the Federal Reserve said this month. Automakers cut back on output for the first time in six months. In June, manufacturing activity barely grew in the New York region and contracted sharply in the Philadelphia area, according to surveys by regional Federal Reserve banks. Factory output ticked up in Chicago but only after sliding for three months.

Consumers are less confident in the economy than they have been at any time all year, according to a measure of consumer sentiment released Friday. Worries about slowing job growth are outweighing the benefits of lower gas prices. A separate measure of consumer confidence, issued Tuesday, showed that confidence fell for the fourth straight month.

Overall hiring has slowed sharply this spring, raising concerns about the pace of the recovery. Employers added an average of only 73,000 jobs per month in April and May. That's much lower than the average of 226,000 added in the first three months of this year. The unemployment rate rose in May to 8.2 percent from 8.1 percent, the first increase in a year.

Slower job growth and falling confidence is weighing on consumers' willingness to spend. Americans cut back on purchases of autos and other long-lasting factory goods in May, the government said Friday.

U.S. exports of manufactured goods have also suffered as Europe's financial crisis has cut into demand in that region. And slowing growth in China, India and other emerging markets means that companies in Asia and Latin America are buying fewer American-made cranes, trucks and other heavy equipment.

There have been a few good signs recently.

U.S. factories received more orders for long-lasting manufactured goods in May, the government said last week, while also noting that a key measure of business investment plans rose.

And home sales are up from last year, with prices rising in most cities and homebuilders planning to break ground on more projects in the next 12 months. That should raise demand for manufactured goods such as appliances, building materials and furniture.

Still, the Federal Reserve has cut its forecast for the year. It now expects growth of just 1.9 percent to 2.4 percent for 2012. That's half a percentage point lower than the range it estimated in April. The Fed also says unemployment won't fall much further this year than it has.