Inflation Stays in Check, But Producers Getting Wary

Includes: CPI, FXR, MZG
by: Wall Street Strategies

By David Urani

One metric I have been keeping an eye on is what I call the inflation spread, which is the difference between core CPI and core PPI (core CPI � core PPI). For October we noted that the balance of inflation had turned towards the producers' favor as PPI showed a relatively large 0.6% decrease and CPI held flat. That implied that producers were charging just as much for goods but paying less to make them. In November, the inflation spread defied the producers, as both PPI and CPI rose, but with PPI rising farther.

Core CPI rose by 0.1% in November whereas core PPI rose by 0.3%. Incidentally, including food and energy, PPI rose by 0.8% while CPI was still up by just 0.1%. Within those trends there is an implied contraction in gross margin amongst the producers. As we have noted previously, the inflation spread holds a fairly close relationship with the S&P. The good news is that the inflation spread did not turn too sharply downward. However, there has been incoming evidence to suggest producer prices are still on the rise.

For December, both the Philadelphia Fed and Empire State Fed manufacturing indexes showed increases for prices paid. For Empire state, the prices paid component rose to 28.4 from 22.1 and for the Philly Fed, it rose to 51.2 from 34.0 and that was the highest it's been since July 2008 (that was back when oil was soaring past $100 per barrel). The Fed's latest Beige Book also noted input price increases in various regions across the country.

All in all, we don't see rising producer prices becoming a problem for the near term, as the inflation spread, although lower than that of October, was still higher in November than in all three months of the third quarter. Therefore, the fourth quarter is still actually shaping up to be an improvement over the third. However, we still see higher prices coming over the horizon, and it's going to hit the producers first before they are able to pass the costs along to consumers; consumers are too fragile right now to have prices raised on them too quickly.

Disclosure: No positions