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Producer Prices Rise and Retail Sales Flag

Prof. Peter Morici - 6/15/2006

On Tuesday, the Labor Department reported the Producer Price Index increased 0.2 percent in May. Food prices dropped 0.5 percent and energy prices rose 0.4 percent. These components of both producer and consumer prices are quite erratic month to month, and Fed policymakers pay particular attention to movements in the core indexes. Core producer prices—producer prices less food and energy—rose 0.3 percent in May after rising 0.1 percent in April and March.

Gasoline prices surged in May. The average retail price of gasoline in May was $2.95 per gallon, up from $2.79 in April. Gas prices hit $2.99 per gallon on May 15 but then eased. Gas prices are likely to rise again as the July 4 weekend approaches.

Diesel prices surged in May too. Diesel prices rose from $2.73 per gallon in April to $2.89 in May. Diesel and gasoline prices are following a similar pattern. Diesel prices hit $2.92 a gallon on May 15 and then eased a bit.

Wholesale prices for finished consumer goods indicate where core consumer prices are headed. The up tick in core producer price inflation adds weight to Fed Chairman Ben Bernanke’s concerns that energy inflation is spreading to other sectors of the economy.

Separately, the Commerce Department reported retail sales advanced only 0.1 percent in May, after rising 0.8 percent in April. Less autos, retail sales increased 0.5 percent in May, and rose 0.8 percent in April. Retails sales indicate the economy is slowing. The economic expansion still has some legs but is fragile.

Although the housing market has eased, prices are still higher than a year ago. Home equities and household net worth continue to rise, and consumers continue to borrow to absorb higher energy prices and support their lifestyles. Not all of this spending supports U.S. growth, as imported petroleum and consumer goods from China and elsewhere in Asia takes a large chunk. Growth is moderating but not collapsing.

The bottom line is the wholesale price inflation is heating up, even as growth moderates. International oil and commodities markets continue to be the most important sources of inflation, but those are beyond the reach of Fed policy. If the Fed acts too vigorously to contain inflation, it risks derailing the economic expansion and pushing up unemployment.

Tomorrow’s consumer price data, which covers a broader range of goods and services, will further illuminate Fed options. However, today’s producer price and retail sales data indicate that another interest rate hike is likely and poses considerable risks to growth.