Growth in the U.S. services sector in January was the fastest in more than five years, another sign the economy started 2011 on a solid footing, with measures of employment showing more strength.

Reports on Thursday, including a sharp fall in weekly claims for jobless benefits, painted a more bullish picture for the world's biggest economy as it recovers from the worst recession since the Great Depression.

U.S. inflation pressures appeared mostly under control even as commodity prices surge -- in stark contrast with other parts of the world -- helped by U.S. businesses keeping a tight grip on labor costs, the largest expense for most companies.

Momentum from the end of 2010 is carrying over. It will be another year of recovery and repair, said Robert Dye, a senior economist at PNC Financial Services in Pittsburgh.

The Institute for Supply Management's index of national non-manufacturing activity rose to 59.4 last month, its highest level since August 2005, from 57.1 in December.

Economists had expected a dip to 57.0.

A reading above 50 indicates expansion in the service sector, which accounts for more than 80 percent of U.S. jobs, and it was the 14th straight month of growth.

The surprise pick-up in growth, which mirrored a similar acceleration in U.S. manufacturing in January, was further confirmation that the economic recovery was broadening.

Federal Reserve Chairman Ben Bernanke on Thursday acknowledged the improvement in the recovery but said the economy still needed help, citing persistently high unemployment.

The U.S. central bank is committed to buying $600 billion of government bonds by June to stimulate the economy further.

Even so, with output growth likely to be moderate for a while and with employers reportedly still reluctant to add to their payrolls, it will be several years before the unemployment rate has returned to a more normal level, Bernanke told the National Press Club in Washington.

A surge in consumer spending lifted the economy to a 3.2 percent annual growth rate in the fourth quarter of 2010, quickening from a 2.6 percent pace in the three prior months.


Economists believe strengthening domestic demand will translate into increased hiring.

A Labor Department report showed new claims for state jobless benefits fell 42,000 to a seasonally adjusted 415,000, unwinding most of the previous week's weather-induced spike.

Economists had forecast claims dropping to 420,000.

The claims data falls outside the survey period for the closely watched payrolls report for January, due on Friday.

The economy probably created 145,000 jobs, according to a Reuters poll, after adding 103,000 in December. Reports on Wednesday suggested private hiring was gathering pace.

Expectations for a pickup in job growth were bolstered by a jump in the ISM's employment gauge to its highest since May 2006.

The data had little impact on U.S. financial markets. Stock market investors were more worried about increasing chaos in Egypt. U.S. stocks fell and prices for government debt also traded lower. The dollar rose against a basket of currencies.

The improving U.S. economic picture was underscored by retailers posting a 4.2 percent rise in sales, handily beating Wall Street expectations for a 2.7 percent gain.

Sales grew strongly despite the snowiest January in six years.

Heavy snow and cold weather slowed the downward trend in initial jobless claims by causing a backlog in applications but economists believe they will soon drop below 400,000, a level believed to signal strong job growth.

We think the trend in claims is coming down because small firms are firing fewer people. With credit now easing we are hopeful claims will fall significantly further over the next few months, said Ian Shepherdson, chief U.S. economist at High Frequency Economics in Valhalla, New York.

A second Labor Department report showed that although businesses faced rising input costs, they kept labor costs down by wringing more from workers, helping keep inflation muted.

Nonfarm productivity, a measure of hourly output per worker, rose at an annual rate of 2.6 percent in the fourth quarter after rising at a 2.4 percent pace in the third quarter.

The increase, which was well above economists' expectations for a 2 percent growth rate, bodes well for company profits.

Unit labor costs, a gauge of potential inflation pressures closely watched by the Fed, fell at a 0.6 percent rate after dipping 0.1 percent in the third quarter.

It's showing that even though we are seeing some sector-specific inflation among businesses that are exposed to commodities, that is not threatening to cut into profits, said PNC Financial Services' Dye.

Dye said he did not expect the rise in commodity prices to feed into so-called core inflation, which the Fed monitors, as overall economic conditions still remained slack. Core inflation strips out volatile food and energy costs.

(Editing by James Dalgleish)