Where Is the Inflation?

In September, the Producer Price Index (PPI) fell 0.6% on a headline basis, while excluding food and energy it was down 0.1% for the month. This is in fairly distinct contrast to August, where the PPI rose 1.7% on a headline basis and 0.2% for the core.

Year over year, producer prices for Finished goods are down 4.8%. In August, they were down 4.3% year over year. These numbers, along with the low readings from the CPI last week (up 0.2% on both headline and core for the month, headline down 1.3% year over year with core up 1.5%) make it clear that the inflation dragon is sleeping.

The big swing factor was energy, which fell 2.4% on the month after an 8.0% surge in August. That is not likely to last into October given the recent strength in both oil and natural gas prices.

Looking farther up the production chain, prices for Intermediate goods rose 0.2% for the month, down from a 1.8% increase in August. On a year-over-year basis, prices for Intermediate goods are down 11.7%. Prices for Crude goods were down 2.1% for the month, mostly reversing the 3.8% increase in August. (Here's a trick to keep Finished, Intermediate and Crude goods straight: think Bread, Flour and Wheat, respectively.)

On a year-over-year basis, Crude goods are down 31.5%. However, the year-over-year numbers at the Intermediate -- and especially the Crude -- levels are going to show much slower declines in the next few months.

In October of last year, Intermediate goods prices fell 4.2% while prices fo Crude goods tumbled 16.1%. The plunge continued into November, with intermediate prices down 4.8% and crude goods falling 13.1%. This is a key reason why the year over year earnings for firms in the Materials sector, like Nucor (NUE), Dow Chemical (DOW) and Freeport McMoran (FCX) are going to generally look ugly in the third quarter, but will look wonderful in the fourth quarter.

From a broad economic point of view, this just adds to the compelling case for the Fed to keep interest rates low, and possibly even extend its unconventional quantitative easing policies. The danger is a recovery that is lackluster and falters, not that the economy overheats and inflation gets out of control.

The graph below shows that the year-over-year change in producer prices at all three levels of production are near their lowest levels of the last 40 years. Getting the economy moving again is job number one; the Fed (and investors) should not be worrying about the non-existent threat of inflation.

Comments

[Faisal Humayun:]

well if you look at Government published numbers, most probably there will never be inflation...

Individuals are experiencing inflation...Check out the health care cost...the education cost...check out the food prices...for every family in US, there is over 5% inflation....which is likely to get higher with the recent massive money printing exercise...

Oct 21 09:04 AM

[writejesse:]

we have been tracking inflation in various sectors at our blog, inflationwatch.wordpre.../

Faisal Humayun is correct that the price of health insurance, higher education are rising. Other sectors experiencing inflation: used cars, new cars, tires, gasoline, air fares, pharmaceuticals, parking, utilities, and, housing.

Oct 21 11:46 AM

[4rdvark:]

Inflation is in thousand dollar gold and eighty dollar oil.

The Consumer Price Index was created for the specific purpose of understating inflation to create lower inflation expectations in times of real inflation.

You, as an investor, can profit as I have by not swallowing the noble lie like a starving dog.

Oct 21 12:12 PM

[Economic Ph...:]

The inflation is coming from the past increases in the money supply that gold and commodities haven't adjusted for.

Oct 21 12:38 PM

[Angel Martin:]

Good article! A welcome break from doom and gloom group 1 that predicts hyperinflation, and doom and gloom group 2 that can only see 1930's style deflation.

A reference to actual data, rather than conspiracy theories is refreshing as well.

Oct 21 08:55 PM

[Albertarocks:]

Where is the inflation? I think it's sitting on the treasury's balance sheet in the form of excess reserves. When those funds get released into the system and become compounded by 100 times through the magic of fractional reserve banking, it'll show up in the form of inflation the likes of which the world has never seen before. But until those funds start to contribute to the velocity of money, we may well see deflation first.

Where' the inflation. More than likely about 2 years over the horizon.

Oct 22 04:02 AM

[H. T. Love:]

And the longer they sit? The worse it is?

The reason I think of that is that the Fed is paying interest on those excess reserves. A couple %? So "money from thin air" (MFTA) is created, given to the banks to lend, the banks deposit the MFTA with the Fed to bolster balance sheets against losses rather lending, the Fed pays interest with new MFTA.

So when the dam bursts, it'll be even a little worse?

Q: if the Fed truly wanted the banks to lend would they pay a *positive* interest on "excess deposits". ISTM (it seems to me) that they should be *charging* a rate against "excess reserves" if they want the banks to lend.

So why this policy?

Q2: Am I just dense?

HardToLove
On Oct 22 04:02 AM Albertarocks wrote:

> Where is the inflation? I think it's sitting on the treasury's balance
> sheet in the form of excess reserves.<snip>

Oct 22 07:39 AM

[Albertarocks:]

On Oct 22 07:39 AM H. T. Love wrote:

> And the longer they sit? The worse it is?<

No, I don't think so. The FED has already clearly shown they don't want to support the dollar. IOW they don't mind the inflation caused by a falling dollar, because that same inflation will support or raise the stock markets too. If they unleash those reserves, which would quickly compound and add to the "velocity of money" (which is how many times money changes hands and how quickly), then they would in effect further be adding to the inflation brew, send the stock markets to the moon and further destroying the dollar. It appears they're really stuck between a rock and a hard place now. They don't want to let the inflation genie "completely" out of the bottle and seem to be satisfied to sacrifice the dollar rather than to tank the stock markets by supporting the dollar.

> The reason I think of that is that the Fed is paying interest on
> those excess reserves. A couple %? So "money from thin air" (seekingalpha.com/symbo...)
> is created, given to the banks to lend, the banks deposit the MFTA
> with the Fed to bolster balance sheets against losses rather lending,
> the Fed pays interest with new MFTA.<

You got me there. I hadn't even thought of that. Perhaps they're using those reserves in the dollar carry trade and are skimming billions even as you and I converse about it.

> So when the dam bursts, it'll be even a little worse?<

Definitely. But it's possible, for example if they were to decide to restrict credit (and they're already making noises about that), or if they surprise and support the dollar, the scenario becomes deflationary and the stock markets will drop some (maybe a lot).

> Q: if the Fed truly wanted the banks to lend would they pay a *positive*
> interest on "excess deposits". ISTM (it seems to me) that they should
> be *charging* a rate against "excess reserves" if they want the banks
> to lend.

> So why this policy?<

> Q2: Am I just dense?<

You're far from sense my friend. I don't have the answers to those good questions either, so if you're dense, so am I. Yeah that's it, we're both dense. Let's go buy a 24 of beer and go figure it all out. lol

I've even heard of the central bank charging negative interest rates in Japan when they were in a severe deflationary spiral. It amounted to offering to pay a corporation a small amount of interest to come in and borrow some money. The FED's more concerned about a deflationary scenario than an inflationary one.


> On Oct 22 04:02 AM Albertarocks wrote:

Oct 22 07:59 AM

[Jimbo:]

As a mere consumer and retail investor, I am untrusting of official data. My electric utility just got a second rate increase approval. It seems to me that every item I buy in the grocery has gone up. True , gasoline has been down but in the last week it has gone up more than 20 cents a gallon. In the meantime local food banks are being deluged by families whose bread winners can't find jobs. Not a pretty picture.

Oct 22 02:36 PM