Should a Month of Higher Producer Costs Be Scaring the Federal Reserve About Inflation?

Jon C. Ogg

The U.S. Bureau of Labor Statistics (BLS) has reported that producer prices are starting to pose a problem for inflation. Or is that not the case? Prices rose on a seasonally adjusted basis by 0.1%. The report on Producer Price Index (PPI) for final demand in August was higher than the flat consensus estimate from the Wall Street Journal (Dow Jones) but was equal to the 0.1% headline gain called for by Econoday.

The biggest part of the game was a 0.3% rise in Service prices. The price of goods was actually lower by 0.5% for producers in August.

The core PPI that excludes food, energy and trade services producer prices rose by 0.4% in August. For the 12 months ended in August on a year-over-year basis, prices for final demand on the core PPI moved up 1.9%, and up 2.3% excluding food and energy. That is closer to the Federal Reserve’s inflation target on the all-indexes basis, but it should still be considered far less than runaway inflation.

There is also often a lag between when producer prices rise and when the rise trickles down into consumer prices. Some businesses eat the higher costs, while others have inventory to work through or have price locks in place for several monthly cycles.

According to the BLS report on PPI for final demand:

Almost 80 percent of the broad-based increase can be traced to prices for final demand services less trade, transportation, and warehousing, which climbed 0.5 percent. Margins for final demand trade services rose 0.2 percent, and prices for final demand transportation and warehousing services advanced 0.3 percent.

Several factors were attributed to individual products. The index for guest room rental rose by 6.4%. The indexes posting gains were fuels and lubricants retailing; apparel, footwear and accessories retailing; chemicals and allied products wholesaling; gaming receipts (partial); and insurance.

In some areas, costs were lower on the production front. Margins for machinery and vehicle wholesaling fell by 4.2%, and there were decreases in the indexes for health, beauty and optical goods retailing and for support activities for oil and gas operations.

As for the index for final demand in goods being down 0.5% in August, the BLS attributed over 80% of that total decline to prices for final demand energy being down 2.5%, and the index for final demand in foods fell by 0.6% in August. Prices for final demand goods less foods and energy were unchanged in the month. The price of gasoline was down 6.6%. The price for meats was up by 3.0% in August. The indexes for fresh vegetables and dry vegetables were lower, as were the indexes for diesel fuel, corn, home heating oil and ethanol.

It is hard to get worried when headlines are showing that August was a month of inflation pressure when the Federal Reserve has been all but begging to see inflation get to that 2.0% target. That said, the real issue to consider is what happens to input costs as tariffs kick in. That could drive prices up artificially without a strengthening economy to support the move, and it might be at a time when prices elsewhere in the world might not be rising.

Note that longer-term interest rates finally have risen. The yield on the 10-year Treasury was up over 30 basis points in just six trading sessions to 1.72%. The yield on the 30-year Treasury’s long bond has risen over 30 basis points in just six trading sessions to 2.21%.