Producer prices outpace consumer gauge, raising margin questions

Producer price inflation is running ahead of comparable consumer inflation measures, according to Bureau of Labor Statistics data cited via FRED, sharpening the debate over whether companies absorb higher costs or pass them through. The gap matters for margins because prices received by producers and prices paid by consumers do not cover the same parts of the economy.

Justin Ho of Marketplace reported Monday on the pressure that rising producer prices can place on businesses. Matthew Miskin, co-chief investment strategist at Manulife John Hancock Investments, told Marketplace that companies facing higher input costs generally confront two choices: accept thinner profit margins or raise prices for customers.

Miskin said the ability to pass on costs depends partly on whether consumers can tolerate higher prices. He pointed to staples such as groceries and toothpaste, where low margins can leave sellers with less room to absorb cost increases.

Why PPI and CPI differ

The producer price index is not a single measure. The BLS publishes multiple PPIs across commodities and stages of production. The index most often cited is final demand PPI, with separate readings for total and core prices.

The consumer price index and the producer price index measure different transactions. CPI tracks prices paid by consumers. PPI measures prices received by domestic producers. That distinction affects interpretation because imported goods are excluded from PPI, while shelter is a major part of CPI and is not part of PPI.

Those coverage differences mean a simple comparison between the level of PPI and CPI can be misleading. A narrower comparison, such as core CPI excluding shelter against core PPI, brings the measures closer in scope, although the match remains imperfect.

BLS data via FRED show that core PPI has trended higher faster than core CPI excluding shelter over an extended period. On a three-month annualized basis, core PPI is also rising faster than core CPI excluding shelter, according to the same data cited in the analysis.

Margin pressure and pass-through

Royal Bank of Canada, in a recent memo on the U.S. producer price index, said faster growth in PPI than CPI suggests producer prices are rising more quickly than consumer prices. RBC said that if the pattern persists, end-stage sellers are likely to raise prices or face pressure on corporate profit margins.

The mechanism is straightforward. If a producer receives higher prices for inputs or intermediate goods, the next seller in the chain must decide how much of that increase to reflect in retail prices. If retail prices do not rise at the same pace, the seller’s price-cost margin can narrow, subject to other factors such as import prices and labor costs.

The PPI also includes a final demand trade services measure that compares retailer selling prices with acquisition prices for domestic producer prices. That measure can serve as an indicator related to trading margins, though it is not a full measure of corporate profits.

The cited analysis found a rough inverse correlation between final demand trade services and the ratio of core CPI excluding shelter to core PPI, using BLS data, National Bureau of Economic Research recession dates and author calculations. The relationship was described as loose, particularly over the past year.

This story draws on original reporting from Econbrowser.