Producer Price Index (PPI)

The Producer Price Index (PPI) is a program of the U.S. Bureau of Labor Statistics that, in the agency's words, "measures the average change over time in the selling prices received by domestic producers for their output." BLS describes the PPI as "a family of indexes," covering goods, services and construction, and notes that "the prices included in the PPI are from the first commercial transaction for many products and some services." Its defining feature is perspective. PPIs "measure price change from the perspective of the seller," in contrast to measures such as the Consumer Price Index, which track price change from the purchaser's side. The figure reported in the news each month is usually the PPI for final demand.

Final demand and intermediate demand. Since the release of data for January 2014, the PPI's main aggregate structure has been the Final Demand-Intermediate Demand system, which BLS says "replaced the PPI stage-of-processing (SOP) system as PPI's primary aggregation model" and expanded coverage to include services, construction, exports and government purchases. Final demand covers sales to the end users of goods and services: personal consumption, capital investment, government and exports. Intermediate demand covers business purchases other than capital investment, the inputs one producer sells to another. The headline index is the PPI for final demand; BLS also publishes final demand "less foods, energy, and trade services," which plays a role similar to core inflation measures for the CPI.

Why it differs from the CPI. BLS explains that sellers' and purchasers' prices "may differ due to government subsidies, sales and excise taxes, and distribution costs." Because the PPI aims to measure what producers actually receive, its concepts exclude changes in excise taxes, which producers collect on behalf of governments, and BLS states that tariffs "are explicitly excluded from the PPI," though a domestic producer's own price response to tariffs on competing imports is included. The PPI tracks domestic producers, so imported goods fall outside it; BLS measures them in a separate import price program, while the CPI includes them whenever households buy them. The consumer price measures used to adjust tax brackets, Social Security benefits and similar household figures are CPI series, covered on the Consumer Price Index page.

A long history under another name. BLS's Handbook of Methods records that the index was "known until 1978 as the Wholesale Price Index, or WPI," and was first published in 1902; BLS calls it one of the oldest economic time series compiled by the federal government. The 1978 renaming was intended "to better reflect that prices collected were from producers, rather than wholesalers."

Why people watch it. BLS lists several uses. Contracts that run for years often tie future payments to a PPI so that prices track input costs. Because PPIs "capture price movement prior to the retail level," BLS says, "they may foreshadow subsequent price changes for business and consumers," and BLS notes that the Federal Reserve, along with the President and Congress, uses the data in setting policy. PPIs are also used to remove inflation from other statistics, including constant-dollar gross domestic product. The link to consumer prices is a tendency, not a rule: some producer price changes are absorbed in margins, and the CPI includes imported goods that the PPI does not cover.

Each month BLS collects prices from producers who take part voluntarily. For most items the prices are those for the Tuesday of the week containing the 13th of the month, and the indexes are usually released in the second full week of the following month. Individual product prices are combined into industry, product and final-demand indexes using weights drawn from the economic census.

Consider an example of contract escalation, with invented index levels. A three-year supply contract sets a base price of $100,000 a year and ties future prices to a PPI for the main raw material. The index stands at 250.0 when the contract is signed and at 262.5 a year later, a rise of 5% (262.5 divided by 250.0 is 1.05). The second year's price therefore becomes $105,000. If the index then fell to 252.0, the third year's price would be $100,800 (252.0 divided by 250.0 is 1.008), so the buyer shares in falling costs as well as rising ones.

Pros

• Shows price pressure at the producer level, before it reaches retail shelves.
• Detailed enough, with about 10,000 product and product-group indexes released each month, to anchor business contracts to the specific costs that matter.
• A long-running official series with a published methodology.

Cons

• Measures prices received by producers, not the cost of living a household faces.
• Its signal for consumer inflation is a tendency, not a reliable forecast.
• Monthly readings are volatile, especially for food and energy, which is why the core version is watched as well.
• Recent months are revised as late reports and corrections arrive, so a first reading can change.