U.S. industrial production fell 0.3% in August, its first decline since December 2001 and a partial reversal of the 0.4% increase reported for July. Traders see the drop as a big disappointment.

The August drop was significantly lower than market expectations of a 0.2% rise. Manufacturing fell 0.1% last month. BMO Nesbitt Burns says that the drop was the first decrease this year and ends a seven-month string of increases.

The slide in industrial production also pushed the capacity utilization rate down 0.2 points from already low levels to 76.0%, BMO says that this will keep the downward pressure on producer prices firmly in place.

RBC Financial Group economists says that the good news in the U.S. numbers is that inflation concerns are a long way off, “allowing the current very stimulative level of monetary conditions to persist as long as necessary, most likely until mid-2003.”

However, RBC notes, “The bad news is that this data reveal just how tentative and fitful the U.S. recovery is at the moment, not a good signal to producers in the rest of the world who have been taking cues from the condition of the U.S. economy.”

“The U.S. production report is another sign (along with jobless claims and ISM) that growth is going through a rough patch after a solid start to Q3,” says BMO. “It will have the double-dippers out in full force, but is consistent with a recovery moving in fits and starts.”