What a week. After a string of economic reports in recent days suggesting that the death of growth has been greatly exaggerated (at least for the time being), today’s release on the producer price index surprises with a higher-than-expected rise in wholesale prices for January. The consensus forecast called for a 0.2% rise in PPI last month, with the actual number coming in a bit higher at 0.3%, according to TheStreet.com.
No big deal, right? Maybe. Monthly numbers don’t mean much. Trends over time are something else. With that in mind, consider the following chart and the conspicuously rising rolling 12-month change in PPI. You don’t need to be an economist to see that wholesale prices are on the rise, advancing at an annual pace of 5.7% last month vs. falling in 2002.
But if such a vision sends you into paroxysms of despair, we have the perfect antidote for what ails you: wholesale prices less food and energy. This is the pick-me-up you’ve been waiting for to chase the inflation blues away. Core PPI, after making a run for higher elevations in 2004 and early 2005, has taken a turn for lower realms lately. As the following chart illustrates, core PPI rose by 1.5% in January over the year-earlier pace. That’s down from the 2.8% rate of increase posted last May, and a heck of a lot lower than the 5.7% in top-line PPI.

So, is inflation gathering a head of steam or isn’t it? For one economist’s perspective, we called up Mike Cosgrove of the Econoclast, a Dallas-based economic consultancy.
Mike, top-line PPI is taking wing these days while core-PPI is falling. What’s going on? Should we be worried about inflation?
The concern here is that the bigger increase in the top-line growth could spill over to the core number. That is, [the fear is that the increase] in energy prices in particular could spill over into packaging, processing, transportation, delivery–all the steps in the supply chain–and then into core PPI. Even though the Federal Reserve focuses on the core, they’re very concerned about the possibility of the spillover into the core and increased inflationary expectations.
What’s your view of top-line vs. core PPI trends?
The core probably gives the better indicator of inflation. Unless energy prices keep going up, the overall number is going to slow dramatically. If oil prices stabilize, there won’t be any additional increases [in core PPI]. So even if oil stays at high prices levels–if it stays at $60 a barrel for 12 months–you’ll see the overall PPI number come down. Therefore, the core numbers are probably better in general to look at, the general direction they’re moving in particular.
And that general direction in core PPI is down recently.
What’s driving core PPI down?
The bigger influence of the Chinese and world trade patterns. In the U.S., products exposed to foreign competition have to remain very price competitive. In addition, productivity gains in the U.S. are very strong, which helps hold down inflation increases. The combination of productivity increases and external competition hold down core prices.
On a related note, the new Fed chairman, Ben Bernanke, is on record last year as saying that the relatively low interest rates on the long end of the curve, which has created an inverted yield curve of late, are due to a global savings glut as opposed to a looming recession. What’s your view?
The global savings glut isn’t anything more than the opposite of the current account deficit that the U.S. has, i.e., it’s the flip side of the current account deficit. If they’re saving, then we’re spending. And when they spend, we’ll end up saving. But right now they’re saving, so we can spend. It’s a long-term process. If those economies grow faster, like the Japanese economy, then the savings glut will start to disappear, because they’ll be able to invest more domestically.
But doesn’t the notion of a savings glut sloshing around in the global economy raise the threat of inflation down the road?
No, not really. Whether they save it or spend it, it’s not new money. It’s simply part of what we spend in the U.S. in terms of imports exceeding exports. That’s part of the savings glut in the Far East. So it comes back and they buy U.S. bonds.
So if in fact there’s excess liquidity in the world, that’s unrelated to whether there’s a savings glut in, say, Asia? Whether Asians are spending more or saving more is immaterial to whether there’s excess liquidity in the world. Deciding whether there’s excess liquidity is a separate issue from a savings glut as it relates to inflation. Is that what you’re saying?
What about the inverted yield curve? What’s your take on that?
The 10-year Treasury yield has to invert relative to the 3-month T-bill and stay inverted for about two months. If that happens, about a year after that we’ll have a significant slowdown and/or a recession.
But an inversion of that extent hasn’t happened yet. The 10-year’s yield is lower than the two-year Treasury, but it’s not below the 3-month T-bill, at least not yet. You have a higher standard.
Do you think we’ll get a 10-year/3-month inversion?
Yes, I do.
What’s your outlook for the economy in 2006?
Growth will be good in 2006. 2007 is the problem–if we get the 10-year/3-month inversion.
Is that a possibility?