Chart of the Day: PPI’s Round Trip

One day after the US Consumer Price Index (CPI) hit the wires, the US Bureau of Labor Statistics released its business cousin—the Producer Price Index (PPI) Thursday. Like CPI, it decelerated, showing businesses’ cost pressures continue easing. Perhaps more interestingly, it has slowed so much that it is now back to prepandemic rates. We don’t think this is predictive, as PPI and CPI move concurrently—one doesn’t predict the other. However, it is more evidence that on the goods side of the ledger, we are getting back to normal, with one of last year’s big sentiment pressures increasingly in the rearview.

As Thursday’s commentary discussed, services—and specifically shelter costs—are the primary contributor to CPI inflation these days. Given shelter costs (specifically rent and owner equivalent rent) tend to follow home prices at a roughly 15-month or so lag—and home prices have moderated significantly—services prices should decelerate over the foreseeable future. That should make the gradual return to more normal inflation rates in the rest of the CPI basket more visible.

PPI gives you another way to see this. More narrow and volatile than CPI, it attempts to aggregate businesses’ input costs. Commodities weigh heavily in the headline index, so as with CPI, we think it is best to assess both headline and core—which excludes food and energy—in tandem. Both decelerated, but as with CPI, headline has slowed more than core due to falling energy prices’ outsized impact. Headline PPI’s 2.3% y/y inflation rate is now below core’s 3.2%.

Yes, you read those numbers correctly. They aren’t typos. PPI inflation rates, which outran CPI inflation rates last year, are now markedly slower than consumer price inflation rates. Moreover, as Exhibit 1 shows, core is near levels commonly seen in 2018 and 2019. Headline PPI is below all 12 readings in 2018 and right in line with 2019 rates.

Exhibit 1: Producer Price Inflation Is Back to Normal

Source: FactSet, as of 5/11/2023. Headline and core PPI inflation rates, January 2018 – April 2023.

When writing about inflation over the past year or so, we would occasionally borrow a metaphor Fisher Investments’ founder and Executive Chairman, Ken Fisher, used in his commentary: The inflation spike was like a temporary bulge the economy needed to digest. Those who read The Little Prince in their youth—or to their kids or grandkids—may recall the famous depiction of the snake digesting the elephant. Inflation was a lot like that, with the bulge gradually working its way through the economic system. It consisted of rapid money supply growth during COVID lockdowns, supply shortages, shipping bottlenecks, temporary commodity price spikes and other short-lived disruptions. All fed into the classic inflation scenario of too much money chasing too few goods. But for PPI, the bulge is now in the rearview. The dislocations of 2022 have largely had their effect. They wreaked havoc, drove inflation, and then faded—taking inflation fuel with them. Now prices are back to rising at historically normal rates, albeit off a higher base.

As shelter prices continue easing, CPI should show this, too. And the more its recovery becomes apparent, the more sentiment should improve. That is a time-honored recipe for young bull markets, which the rally since last October 12’s low looks increasingly like to us.