The data from the Labour Department on Thursday, coming on the heels of reports this week showing a slump in housing and soft demand for long-lasting manufactured goods, was a relief amid escalating fears the economy is slipping back into recession.
It's good to see a sizable decrease in initial claims, but the labour market remains impaired, said Robert Dye, a senior economist at PNC Financial Services in Pittsburgh. We are not seeing the type of job gains that we need to generate a self-sustaining economic expansion.
Initial claims for state unemployment benefits fell 31,000 to a seasonally adjusted 473,000 last week, better than market expectations for a drop to 490,000.
The report will be of little comfort for President Barack Obama and his fellow Democrats ahead of a tough mid-term election in November. Obama is falling out of favour with Americans frustrated with a 9.5 percent unemployment rate and the Democratic Party could lose its control of Congress.
Investors shrugged off the report and U.S. stocks ended down, with the blue chip Dow Jones industrial average <.DJI> closing below the 10,000-point threshold for the first time since July 6. Prices for safe-haven U.S. government debt rose.
Stubbornly high unemployment is the Achilles heel of the economy's recovery from its worst recession since the 1930s. The economy at first rebounded strongly, fuelled by a $862 billion government stimulus and businesses rebuilding inventories from record low levels.
But with the boost from the stimulus fading, growth has slowed and the government on Friday is expected to revise second-quarter gross domestic product growth lower to an annual pace of 1.4 percent from 2.4 percent.
The economy's poor health has become the campaign issue for the November vote and could hurt the Democratic Party's chances of fighting off Republicans, who are expected to make electoral gains that could alter the balance of power in Congress.
A Reuters/Ipsos poll this week found 72 percent of respondents were very worried about joblessness, while Obama's approval rating, at 45 percent, was overtaken for the first time by a 52 percent disapproval rating.
Paul Sracic, chairman of political science at Youngstown State University in Ohio, said, Democrats are running out of time to score any political benefit even if economic conditions were to improve soon.
Although most economists do not believe the economy is slipping back into recession, they say a quarter of contraction in output could not be ruled out. The tide of weak data so far for July has prompted some economists to lower their growth forecasts for the third quarter.
The International Monetary Fund said the softer data pointed to a more subdued recovery.
Qualitatively we had expected a subdued recovery for some time. Broadly speaking the recent data are in line with this picture, IMF spokesman Gerry Rice told reporters.
The softening economic outlook is set to dominate Friday's gathering of central bankers from around the globe. Federal Reserve Chairman Ben Bernanke is likely to signal his views about the uncertain prospects for domestic economy but probably will not offer many clues on whether the U.S. central bank will pump more cash to keep the recovery going.
Claims for unemployment benefits have hovered above the 400,000 to 450,000 range many analysts say is associated with sustained jobs growth and this implies unemployment will remain stubbornly high well into 2011.
Last week, the four-week average of new claims -- considered a better measure of underlying labour market trends -- rose 3,250 to 486,750, the highest since late November. It was considerable higher than the average for July and economists said it implied more job losses in August.
If you take the signal from the claims data, they definitely do suggest that the August employment report should be weaker than July, said Julia Coronado, a senior economist at BNP Paribas in New York.
We expect private payrolls will decline by 10,000 and total nonfarm payrolls will decline by 160,000.
Payrolls fell by 131,000 last month. Economists reckon claims are being kept elevated by the layoffs related to temporary workers for the decennial census, cut backs in residential construction after the end of a popular homebuyer tax credit and tight budgets at state and local governments.
The claims report also showed the number of people still receiving benefits after an initial week of aid fell 62,000 to 4.46 million in the week ended August 14.
So-called continuing claims covered the survey period for August's employment report, expected to show the jobless rate ticking up to 9.6 percent. The number of people on emergency benefits increased 199,493 to 4.90 million in the week ended August 7.
Separately, the number of U.S. homes headed for foreclosure fell in the second quarter for the first time since the housing slump began in 2006, but improvements may be fleeting as the number of newly delinquent homeowners rose, the Mortgage Bankers Association said.
(Additional reporting by Richard Cowan and Lesley Wroughton; Editing by Eric Walsh)