Tuesday, May 20, 2008

The PPI report has a mean face

Inflation is running rampant across the globe. As energy prices rise 16% over the year and food prices rise 5% over the year, the U.S. may have dodged the bullet in April with lower-than-expected inflation. Last week, the most popular measure of core inflation (headline inflation minus food and energy inflation), the CPI, fell to 2.4%.

However, today’s April report of the Producer Price Index (PPI) measure of inflation threw a wrench in the hope for stable inflation. Usually this measure of inflation follows the more popular measure of inflation, the Consumer Price Index (CPI). Overall PPI inflation fell, but its core inflation rose for the first time in two months.

PPI inflation is often referred to as wholesale inflation. It represents the prices that firms charge when a good is shipped off to the retailer, rather than the price of the good that is sold by the retailer (CPI). The PPI and the CPI are related in theory. As the prices of inputs (gas, electricity, labor, etc) rise, firms should raise their prices to consumers; the PPI should predict future movements in the CPI.

The reality is that the PPI and the CPI only sometimes move together, and often the PPI is much more volatile than the CPI. The relationship between the two measures of inflation is evident, but not an axiom.

Recently PPI inflation and CPI inflation have fallen. On the surface, that is a good thing as prices are decelerating. However, the underlying data has a meaner face. At the producer level (the PPI), prices other than food and energy are starting to rise, indicating that future retail prices (CPI) may rise as well.

Light motor trucks and passenger cars rose 1.3% and 0.4% in April following declines in March. Commercial furniture rose 1.8%, household furniture 0.9%, household glassware 1.5% and cosmetics rose 0.3%, just to name a few. On the flip side, communication equipment dropped 0.4% and computers fell again 0.5%. On balance this means that non food and energy goods prices are rising, or core inflation is on the move.

The imminent threat is there. In a world of rising inflationary pressures, this month’s PPI inflation report may point to rising prices of consumer goods across the board, and not just for food and energy. Going forward it will be more expensive for a dinner out, a movie ticket, a pair of jeans, a car (truck), furniture, and that’s just to name a few.

Please leave your comments. Best, Nontruths

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