PPI: What it Says, and Why We're Concerned

by: James Picerno

No, we're not going to jump to conclusions, but neither can we dismiss Friday morning's producer price report for September.

Last month PPI rose by an aggressive 1.1%, which is the highest since February's 1.2%. Yes, looking at recent history it's clear that PPI's monthly pace has been higher as well as lower. And, of course, PPI is a volatile data series and subject to dramatic revisions. (Gee, where have we heard that one before?).

Nonetheless, as our chart below indictes, it's hard not to notice the worrisome trend in PPI now unfolding.

On a 12-month rolling basis, the annual pace in PPI is moving up (again) too. The 4.4% rise for the year through last month is the highest in more than a year. The recent reprieve in wholesale pricing pressure appears, for the moment, to be over.

The PPI trend is that much more notable when you consider it in context with Friday's report on September import prices. Once again, the trend is up: on a 12-month basis, import prices rose 5.2% last month, which is the highest annual pace since August 2006, as you can see from the second chart below.

Pricing pressures, in short, appear to be bubbling once more. And if the two data series above aren't enough, here's one more reason to think twice before dismissing the pricing trend: the retail sales report for September, released Friday morning. The strong 0.6% rise last month, along with the 5.0% annual pace through September, suggests that consumer spending remains alive, and kicking. The notion that the economy's about to descend into recession looks that much more remote. If so, pricing pressures generally are likely to remain robust in the coming months and perhaps well into next year.

How, then, might this alter the Fed's perception of economic events? In particular, when the FOMC meets next on October 31, what will the group decide for interest rates? Will it be time to re-think the 50 basis point cut from September?

The thought already seems to be on the collective mind of those trading Fed funds futures. The November '07 contract's price, for instance, has been slowly but steadily falling for the past two weeks, suggesting that the market's starting to ponder the idea that there are no more rate cuts looming, or that a rate hike, although still unlikely, is no longer beyond the pale at some point.

No, you can't read too much into any one number. But when several reports start sending similar messages, it's time to pay attention. With that in mind, we look to next week's update on consumer prices for September. Will CPI confirm or deny the PPI and import price numbers? Tune in next Wednesday morning for an answer...

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