Wednesday, January 17, 2007

Unexpected rise in PPI could trigger inflation in the U.S.

Associated Press: Stocks Mixed on Inflation Worries U.S. Economy: Producer Prices, Production Increase (Update2)

Today’s economic reports noted a higher-than-expected advance in the Producer Price Index (PPI) in the United States for December 2006.

The PPI is monitored by the U.S. Department of Labor’s (DOL) Bureau of Labor Standards (BLS). It tracks pricing in goods from the vantage point of the domestic seller or producer. As a result, the PPI affects the Consumer Price Index (CPI), which monitors the cost of goods and services to the consumer. An increase in the PPI could foreshadow an increase in the CPI for particular goods and services absent subsidies and other government interventions that could reduce costs. Most importantly from an economic standpoint, the PPI is considered an indicator of impending inflation.

The reaction to the rise in the PPI on Wall Street was a measure of temerity, as the increase dampened hopes that the Federal Reserve will cut interest rates in the first half of 2007. Should the PPI continue its slow but steady rise, the Fed is expected to raise rates in order to control inflation.

A bright spot in the report is that despite the increase in the core PPI (which does not include energy and food producer prices), a drop in energy prices—specifically crude oil, which has fallen twenty percent since mid-December 2006—is a hopeful sign for the CPI and consumer spending.

It seems counterintuitive that an increase in the PPI, which is linked to increases in production and arguably job stability, or even growth, is cause for caution on Wall Street.

1. How do we decide when something is “good” or “bad” for the economy? Is it more relative than one might initially assume?

2. Is there tension between what is “good” for Wall Street and what is “good” for domestic production?

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