Saturday, 21 of October of 2017

Economics. Explained.  

Category » Reference Charts (By Category)

Existing Home Sales

October 20, 2017

Existing home sale rose 0.7% in September to 5,390 thousand after having fallen 1.7% in August.  The August and September data reflect the combined effect of Hurricanes Harvey and Irma.  In fact sales in the South are currently 150 thousand below where they were in July.  Add that back in and existing home sales are less troublesome.  While these sales bounce around a bit from month to month they have  clearly fallen off in recent months.  The March sales pace of 5,700 thousand was the fastest since February 2007. We believe that the recent slide represents a supply constraint rather than a lack of demand.

Lawrence Yun, NAR chief economist  says,  “Home sales in recent months remain at their lowest level of the year and are unable to break through, despite considerable buyer interest in most parts of the country.  Realtors continue to say the primary impediments stifling sales growth are the same as they have been all year: not enough listings – especially at the lower end of the market – and fast-rising prices that are straining the budgets of prospective buyers.”

The months’ supply of unsold homes was unchanged at 4.2 months.  Realtors consider a 6.0 month supply as  being the point at which demand for and supply of homes are roughly in balance.  Thus, housing remains in short supply.  If sales were not being constrained by the limited supply it would almost certainly be at a 6,000 thousand pace.

Keep in mind that properties typically stayed on the market 34 days in September which is down 13% from 39 days a year ago.  This is essentially the shortest length of time on the market since the NAR began tracking these data in May 2011.

The National Association of Realtors series on affordability now stands at about 150.0.  At that level  it means that a household earning the median income has 48.0% more income than is necessary to get a mortgage for a median priced house.  Going into the recession consumers had only 14% more money than was required to purchase that median priced home.  Thus, housing remains quite affordable despite the backup in mortgage rates.  That is because sizable job gains are boosting income almost as fast as mortgage rates are rising.

The housing sector will continue to expand in the quarters ahead.   Jobs growth is expected to remain solid which should boost  income.  Builders are trying hard to boost production to increase the supply of available homes which should slow the pace of price appreciation. Finally, mortgage lenders should become slightly less restrictive as the economy remains healthy and default rates decline.
Existing home prices declined 3.2% in September to $245,100 after having fallen 1.9% in August.  Because this is a relatively volatile series we tend to focus on the 3-month average of prices which now stands at $255,800..00.  Over the course of the past year existing home prices have risen 4.2% and have generally been bouncing around in a 4.5-8.0% range.
 Stephen Slifer


Charleston, SC

Initial Unemployment Claims

October 19, 2017

Initial unemployment claims fell 22 thousand to 222 thousand in the week ending October 14 after having fallen 14 thousand in the previous week.  While this happens to be the lowest level of claims since March 31, 1973, the Labor Department said that “Claims taking procedures continue to be severely disrupted in Puerto Rico and the Virgin Islands as a result of power outages and infrastructure damage caused by Hurricanes Irma and Maria.”  Hence, we should not read to much into the recent declines.   Claims had been averaging about 240 thousand prior to the hurricanes and should return to something close to that level.  The 4-week moving average is at 248 thousand.

Ordinarily, with initial unemployment claims (the red line on the chart below, using the inverted scale on the right) at 240 thousand  we would expect monthly  payroll employment gains to exceed 300 thousand.  However, employers today are having difficulty finding qualified workers.  As a result, job gains are significantly smaller than this long-term relationship suggests and are currently about 190 thousand.  For October we look for an increase of about 350 thousand as a snapback from the decline in employment reported for September.

With the economy essentially at full employment, employers will have steadily increasing difficulty getting the number of workers that they need.  As a result, they will be forced to offer some of their part time workers full time positions.  This series is still a bit high relative to where it was going into the recession.

They will also have to think about hiring  some of our youth (ages 16-24 years) .  But the youth unemployment rate today is the lowest it has been in 17 years so there are not many younger workers available for hire.

Finally, employers may also consider some workers who have been unemployed for an extended period of time.  But these workers do not seem to have the skills necessary for today’s work place.  Employers may have to offer some on-the-job training programs for  those whose skills may have gotten a bit rusty.  But even if they do, the reality is that the number of discouraged workers today is quite low — roughly in line with where it was going into the recession.

The number of people receiving unemployment benefits fell 16 thousand in the week ending October 7 to 1,888 thousand.  This is the lowest level for insured unemployment since December 29, 1973 when it was 1,805 thousand.  The four week moving average fell 23 thousand to 1,906 thousand which was the lowest level for this 4-week average since January 12, 1974 when it was 1,881.   The only way the unemployment rate can decline is if actual GDP growth exceeds potential.  Right now the economy is climbing by about 2.0%; potential growth is  projected to be about 1.8%.  Thus, going forward  the unemployment rate will continue to decline quite slowly.

Stephen Slifer


Charleston, SC

Gasoline Prices

October 18, 2017

Gasoline prices at the retail level fell $0.01 in the week ending October 16 to $2.49.  Gas prices jumped about $0.30 per gallon in early September  as Hurricane Harvey temporarily shuttered about 20% of the country’s refining capacity.   However, those plants have largely re-opened.  In the low country of South Carolina gasoline prices tend to about $0.25 below the national average or about $2.24. The Department of Energy expects national gasoline prices to average $2.39 this year.

Crude oil prices are currently about $52.00.  The Energy Information Agency predicts that crude prices will average $49.69 in 2017.  As crude oil and gas prices have leveled off .underlying inflationary pressures have become more apparent.  While subdued at the moment, wages pressures are apparently beginning to escalate.  At the same time producers — both manufacturing and non-manufacturing firms — are having to pay considerably higher prices for their inputs.  It appears that upward pressure on the inflation rate has finally begin to emerge.

The number of oil rigs in service dropped 79% to 404 thousand  after reaching a peak of 1,931 wells in September 2014.  However, the number of rigs in operation has actually rebounded in recent months to 936 thousand.  Thus,  higher crude oil prices are encouraging some drillers to step up slightly the pace of production.

While the number of oil rigs in production has been cut by 79% between late 2015 and the middle of last year, oil production has declined much less than that.  Since that time the rebound in oil prices has encouraged oil firms to step up the pace of production.  Production had been at a 9,530 million barrels per day prior to Hurricanes Harvey and Irma  The storm caused production to temporarily drop to 8,400 thousand barrels.  It should rebound quickly.  We should match the record pace of production of 9.610 barrels per day by early next year.  The Department of Energy expects production to average 9.2 million barrels per day in 2017 and 10.0 million barrels next year.

How can the number of rigs go down but production be relatively steady?  Easy.  Technology in the oil sector is increasing rapidly which allows producers to boost production while simultaneously shutting down wells.  For example, output per oil rig has increased by 25% in the past twelve months.  Put another way, a year ago some frackers could not drill profitably unless crude oil prices were about $65 per barrel.  Today that number has declined to about about $48 per barrel.  Six months from now that number will be lower still.  Recent productivity numbers for September aand October have been distorted by the drop-off in production associated with Hurricanes Harvey and Irma but they will rebound in the next month or two.

While oil inventories gradually declined for most of 2016 the increase in production earlier this year caused inventory levels to climb to a record high level in February.  Since that time inventory levels have been steadily shrinking.  We know that OPEC output has been reduced, and that its cutback has been partially offset by a pickup in U.S. production.  But inventories keep falling.  The conclusion is that global demand has picked up sharply.  That is consistent with the upward revisions to GDP growth recently released by the IMF which shows projected growth in 2011 of 3.6% and 3.7% growth in 2018 which would be the fasted growth rate since 2011.

The International Energy Agency produces some estimates of global demand and supply.  Note how demand picked up sharply in the second quarter (the blue line) and is projected to rise further in the second half of the year.  Note also that global demand currently exceeds supply (the blue line compared to the bars). That has not been the case for the past several years.  Furthermore, demand and is projected to continue to exceed supply through the end of this year.  Hence, the recent upward pressure on oil prices.  If they persist, U.S. producers will re-open closed well and, at some point, OPEC will begin to boost its output.  Hence, oil prices are unlikely to rise too much farther.

Stephen Slifer


Charleston, SC

Housing Starts

October 18, 2017

Housing starts fell 4.7% in September to 1,127 thousand after having declined  0.2% in August  This drop obviously reflects the impact of Hurricane Harvey.   The slowdown occurred largely in the South which fell 54 thousand or 9.9.  Because these data are particularly volatile on a month-to-month basis, it is best to look at a 3-month moving average of starts (which is the series shown in blue above).   That 3-month average now stands at 1,165 thousand which has fallen off from the 1,264 thousand peak pace in the cycle which was registered back in February.    It will rebound in coming months as the hurricane effect wears off, but it will still be lower than it was earlier in the year.  So what is happening?  Is it a drop in demand?  Or a constraint on the part of builders?  We  believe it is the latter.

Both new and existing home sales continue to trend upward but they are being constrained by a lack of supply.   Thus, the demand for housing remains robust.

Builders remain enthusiastic in part because they see traffic through the model homes quite steady at a rapid rate.

Mortgage rates are at 3.9% which is quite low by any historical standard.

At the same time employment gains are about 170 thousand per month which is boosting income.  As a result, real disposable income (what is left after inflation and taxes) is growing at a 1.2% pace.  That is not particularly robust, but disposable income does hit slack periods from time to time and then rebounds.

Housing remains affordable for the median-price home buyer.  Mortgage rates may have risen, but income has been rising almost as quickly, hence affordability has not dropped much.  At 150.0 the index  indicates that a median-income buyer has 50.0% more income than is necessary to purchase a median-priced house.

The problem in housing is not a lack of demand.  Rather it is a constraint on the production side.  Builders have had difficulty finding an adequate supply of skilled labor.  Construction employment is growing by about 15 thousand per month.  Slow, but steady.

As one might expect there is a fairly tight correlation between home builder confidence and the starts data which probably makes a great deal of sense.   Judging by the homebuilder confidence data we should expect starts to eventually climb to 1.5 million or so from about 1.2 million currently.  However,  as noted above, many home builders  report an inability to get the skilled workers they require.   Overcoming the labor shortage on a long-term basis will be challenging.  Employment in the construction industry will continue to climb, but slowly, which will limit the speed with which starts rise in the months ahead.

Another thing worth noting is that about 1.3 million new households are being formed every year.  Those families all need a place to live, either a single-family home or an apartment.  Thus, we need to see housing starts rise by 1.3 million just to keep pace with growth in households.  And because housing starts were substantially below the growth in households for so long, there is pent-up demand.  We expect starts to reach 1.2 million by the end of 2017 and 1.4 million in 2018.

What is interesting is that beginning late last year single family starts have begun to climb while multi-family buildings such as apartments have been slowing down.  It appears that many of the millennials who chose to rent for the last decade are getting older, perhaps starting families, and are now choosing to purchase a single family house.  In the past year single family starts have risen 12.2% while multi-family units have declined by 19.4%.

As a result, multi-family construction as a percent of the total has slipped from 36.2% in July of last year to 25%.

Building permits fell 4.5% in September to 1,215 thousand after having jumped 3.5% in August.  Because  permits are another volatile  indicator it is best to look at a 3-month average (which is shown below).  That 3-month moving average now stands at 1,239 thousand which continues to point towards slow but steady improvement in housing.   The reason people look at permits is because a builder must first attain a permit before beginning construction.  Thus, it is a leading indicator of what is likely to happen to starts several months down the road.  If permits are currently at 1,239 thousand, housing starts will soon approach the 1.3 million mark.

Stephen Slifer

Charleston, SC

Homebuilder Confidence

October 17, 2017

Homebuilder confidence rose 4 points in October to 68 after having declined 3 points in September.  Confidence is bouncing around from month to month at a very high level.    The moderate drop in September appears to reflect builder concerns following Hurricane Harvey and the 4-point jump in October the first step in the recovery process.

NAHB Chairman Granger MacDonald, a home builder and developer from Kerrville, Texas said, ““This month’s report shows that home builders are rebounding from the initial shock of the hurricanes.  However, builders need to be mindful of long-term repercussions from the storms, such as intensified material price increases and labor shortages.”

NAHB Chief Economist Robert Dietz said “It is encouraging to see builder confidence return to the high 60’s levels we saw in the spring and summer.  With a tight inventory of existing homes and promising growth in household formation, we can expect the new home market continue to strengthen at a modest rate in the months ahead.”

Traffic through the model homes rose 1 point in October to 48 after having declined by 1 point in August.  The March reading of 53 was the highest reading thus far in the business cycle.

Not surprisingly there is a close correlation between builder confidence and housing starts.  Right now starts are lagging considerably because builders are having some difficulty finding financing, building materials, an adequate supply of finished lots, and skilled labor.  Starts  currently are at a 1.2 million pace.  They should continue to climb gradually in the months ahead and reach 1.35 million by the end of 2018.

Stephen Slifer


Charleston, SC

Industrial Production

October 17, 2017

Industrial production rose 0.3% in September after having declined 0.7% in August.  Clearly, Hurricane Harvey, which devastated Texas from August 25-29 crushed overall production in that month  followed by Irma in mid-September.  It will take another couple of months to determine exactly where the production sector stands after the hurricanes.  Over the past year this series has risen 1.6%.

Breaking industrial production down into its three major sub-components,  the Fed indicated that manufacturing production (which represents 75% of the index) rose 0.1% in September after having declined 0.2% in August. During the past year  factory output has risen 1.o% (red line, right scale).  It has clearly hit bottom, but its rebound has been muted.

The manufacturing category has been dragged down by recent cuts in the production of motor vehicles.  However, car and truck sales surged in October because all those vehicles lost during the two hurricanes have to be replaced.  A pickup in production will not be far behind.

Auto output rose 0.1% in September after having jumped 3.6% in August but it has declined 3.2% during the past year.  Industrial production ex motor vehicles has risen 1.9% in the past year.  Thus, factory output has been climbing, but its rate of increase has been curtailed by the first  half of the year  slowdown in the sales and production of motor vehicles.

Mining (14%) output rose 0.4% in September after having fallen 0.2% in August.   Over the past year mining output has risen 9.8%.  Most of the recent upturn in mining has been concentrated in oil and gas drilling activity , however, oil and gas drilling fell 2.8% in  September after having declined 3.8% in August much of which undoubtedly reflects the impact of Hurricane Harvey on the Gulf Coast.   Output in this category rose in every month from June 2016 through June 2017 — thirteen consecutive months.  Over the course of the past year oil and gas well drilling has risen 76.4%.  The number of  oil rigs in operation continues to climb.

Utilities output  climbed by 1.5% in September after having plunged by 4.9% in August.  The August drop also seems to reflect the inability of utility companies to keep the lights on during Hurricane Harvey  During the past year utility output has fallen 4.1%.

Production of high tech equipment rose 1.7% in September after having climbed by 0.4% in August.  Over the past year high tech has risen 2.3%.   The high tech sector sector appears to have gathered some momentum in recent months. This may be an early indication that the long slide in nonresidential investment may be coming to an end which would, in turn, signal some upturn in productivity growth.

Capacity utilization in the manufacturing sector was unchanged in September at 75.1%.  It is still below the 77.5% that is generally regarded as effective peak capacity.

Stephen Slifer


Charleston, SC

Consumer Sentiment

October 13, 2017

Consumer sentiment for October surged 6.0 points in October after having declined 1.7 points in September.  The September drop clearly reflects a drop-off in consumer expectations following the combination of Hurricanes Harvey and Irma, but sentiment came roaring back in October to the highest level since the start of 2004!

Richard Curtin, the chief economist for the Surveys of Consumers, said “This “as good as it gets” outlook is supported by a moderation in the expected pace of growth in both personal finances and the overall economy, accompanied by a growing sense that, even with this moderation, it would still mean the continuation of good economic times.”  He added that “The data indicate a robust outlook for consumer spending that extends the current expansion to at least mid 2018, which would mark the 2nd longest expansion since the mid 1800’s.”

Given that rebuilding effort combined with an expectation of major changes in policy likely to be implemented between now and yearend, we expect GDP growth for 2017 to be 2.3% and 2.8% in 2018.  We expect the economic speed limit to be raised from 1.8% to 2.8% within a few years.  That will accelerate growth in our standard of living.We expect worker compensation to increase 4.0% in 2017 vs. 3.0% last year. The core inflation rate should be reasonably steady this year at 1.8% thanks to a price war in the cell phone industry and falling prescription good prices caused by intimidation from President Trump.   However prices should rise by 2.3% in 2018.  Such a scenario would keep the Fed on track for the very gradual increases in interest rates that it has noted previously.  Specifically, we expect the funds rate to be 1.25% by the end of 2017 and 2.0% by the end of 2018.

The jump in sentiment was in both the current conditions and expectations components.

Consumer expectations for six months from now rose from 84.4 to 91.3.

Consumers’ assessment of current conditions rose in October from 111.7 to 116.4.

Trends in the Conference Board measure of consumer confidence and the University of Michigan series on sentiment move in tandem, but there are often month-to-month fluctuations.  Both series remain at levels that are consistent with steady growth in consumer spending at a reasonable clip of  about 2.5% in the quarters ahead.

Stephen Slifer


Charleston, SC

Retail Sales

October 13, 2017

Retail sales jumped 1.6% in September after having fallen 0.1% in August.  The August drop reflects the downward bias to sales in the wake of Hurricane Harvey which clobbered Texas between August 25 and August 29.  The September surge in sales reflects the beginning of the rebuilding effort in both Texas and Florida.  During the course of the past year sales have risen a solid 4.3%.  Consumer spending continues to chug along despite the hurricane-induced distortions.

Sometimes sales can be distorted by changes in autos which tend to be quite volatile.  In this particular instance the unit selling rate for car sales surged in September as cars lost during the two hurricanes must be replaced.

Fluctuations in gasoline prices can also distort the underlying pace of retail sales.  If gas prices rise, consumer spending on gasoline can increase even if the amount of gasoline purchased does not change.  Gasoline sales rose 5.8% in September after  having risen 4.1% in August.  Clearly, higher gas prices are boosting the overall increase in sales, but do not reflect an actual increase in the volume of gasoline sold.

Perhaps the best indicator of the trend in sales is retail sales excluding the volatile motor vehicles and gasoline categories.  Such sales rose  0.1% in August and then 0.5% in September.   In the last year retail sales excluding cars and gasoline have risen 3.8%.  No slowdown evident from looking at these sales data despite the hurricane-affected August and September distortions.

While there has been a lot of disappointment about earnings in the traditional brick and mortar establishments (like Macy’s, Sears, K-Mart, and Limited) the reality is that they need to develop a better business model.  The action these days is in non-store sales which have been growing rapidly. Consumers like the ease of purchasing items on line.  While sales at traditional brick and mortar general merchandise sales have risen 3.4% in the past year, on-line sales have risen a steamy 9.6%.  As a result, their share of total sales has been rising steadily and now stands at 10.8% of all retail sales.  That percentage has risen from 10.3% at this time last year.

We believe that retail sales will continue to chug along at a 2.5% pace for some time to come..  First of all,  existing home sales are selling at a rapid clip and would be selling at a faster pace if there were more homes available for sales.  Consumers do not purchase homes and cars — the two biggest ticket items in their budget — unless they are feeling confident about their job and the future pace of economic activity.  If home sales are holding up well, car sales should  remain solid in the months ahead.

Second, the stock market is at a record high level.  That increase in stock prices boosts consumer net worth.

Third, all measures of consumer confidence are close to their highest level thus far in the business cycle, and consumer sentiment from the University of Michigan is at its highest level since the early part of 2004.


Fourth, cuts in individual income tax rates are likely later this  year or in 2018.

Finally, the economy is cranking out 170 new jobs every month which boosts consumer income.  Consumers have paid down a ton of debt and debt to income ratios are the lowest they have been in 20 years.  That means that consumers have the ability to spend more freely and boost their debt levels if they so choose.

Thus, the pace of consumer spending seems steady.  We continue to expect GDP growth to quicken to 2.3% in 2017 and 2.8% next year.

Stephen Slifer


Charleston, SC

Consumer Price Index

October 13, 2017

The CPI rose 0.5% in September after having climbed by 0.4% in August.  During the past year the CPI has risen 2.2%.  The year-over-year increase climbed to 2.8% in February before settling back in the past six months. .  Excluding food and energy the CPI rose 0.1% in September after having risen 0.2% in August.  Over the past year this so-called core rate of inflation has risen 1.7%.

Food prices rose 0.1% in both August and September.  Food prices have risen 1.2% in the past twelve months.

Energy prices jumped 6.1% in September after having gained 2.8% in August .  These prices are always volatile on a month-to-month basis.   Over the past year energy prices have risen 10.2%.  The recent run-up in energy prices seems to reflect strengthening GDP growth around the world which is bolstering the demand for both crude oil and gasoline.  Hence, it is unlikely that energy prices will retreat by any significant amount in the months ahead.  On the flip side, should prices rise much beyond $50 per barrel, U.S. producers was well as oil exporters around the globe will boost production which should cap the increase in prices.

Excluding the volatile food and energy components, the so-called “core” CPI rose 0.1% in September after having risen 0.2% in August.  The year-over-year increase now stands at 1.7%.  The year-over-year increase in the core CPI had risen to as high as 2.3% in January before retreating.  But a lot of this softening reflects a price war amongst telecommunications firms and thereby distorts the overall run-up.  But that exaggerated price drop appears to have run its course as phone prices fell only 0.1% in August and then rose 0.4% in September.  The CPI will lose this downward  bias from this component in the months ahead.

The core CPI has also benefited from a sharp slowdown in the rate of increase of prescription drug prices.  That appears to reflect President Trump’s threat to the pharmaceutical industry that he intends to cut the prices of prescription drugs by allowing consumers to purchase such drugs overseas, and by having Medicare negotiate prices directly with the insurance companies.  That caused prescription drug prices to slow markedly late last year and in the first five months of this year.  But one wonders the extent to which price increases associated with the yearend increase in health care premiums will boost medical care prices in the months ahead.

While the CPI, both overall and the core rate, have been very well contained in the first half of this year we believe that as the year progresses the core rate of inflation will have an upward bias  because of what has been happening to both shelter prices and gradually rising labor costs which reflects the tightness in the labor market as well as rebounding prescription drugs prices and a leveling off of wireless communications services.  And now, for the first time, producer prices are beginning to rise.

Shelter costs rose 0.3% in September after having jumped 0.5% in August.  In the  past year they have climbed 3.2%.  This undoubtedly reflects the shortages of both rental properties and homeowner occupied housing. Indeed, the vacancy rate for rental property is at a 30-year low. This steady rise in the cost of shelter  will continue for some time to come and, unlike monthly blips in food or energy, it is unlikely to reverse itself any time soon.


The Fed’s preferred measure of inflation is not the CPI, but rather the personal consumption expenditures deflator, specifically the PCE deflator excluding the volatile food and energy components which is currently expanding at a 1.3% rate but is poised to head higher.  The Fed has a 2.0% inflation target.  However, going forward we have to watch out for the steady increases in shelter which, as noted above, is being pushed higher by the shortage of both rental properties and homeowner-occupied housing.   Shelter is a long-lasting problem and given its 33% weighting in the CPI it will introduce an upward bias to inflation for some time to come.  We also have to watch rising medical costs(prescription drug prices in particular) and the impact of higher wages triggered by the shortages of available workers in the labor market.

Why the difference between the CPI and the personal consumption expenditures deflator?  The CPI is a pure measure of inflation.  It measures changes in prices of a fixed basket of goods and services each month.

The personal consumption expenditures deflator is a weighted measure of inflation.  If consumers feel less wealthy in some month and decide to purchase inexpensive margarine instead of pricy butter, a weighted measure of inflation will give more weight to the lower priced good and, all other things being unchanged, will actually register a decline in that month.  Thus, what the deflator measures is a combination of both changes in prices and changes in consumer behavior.

As we see it, inflation is a measure of price change (the CPI).  It is not a mixture of price changes and changes in consumer behavior (the PCE deflator).  The core CPI currently is at 1.7%.  However, with the economy growing steadily, rents rising, and the unemployment rate falling, the core inflation rate should pick up during 2017 and rise by 1.9% in 2017 and 2.5% in 2018.  And because the core PCE increases at a rate roughly 0.5% slower than the core CPI, the core PCE should increase  1.6% in 2017 and  1.9% in 2018.  Both rates are trending higher.

Keep in mind that real short-term interest rates are negative.  With the funds rate today at 1.1% and the year-over-year increase in the CPI at 1.7% the “real” or inflation-adjusted funds rate is negative 0.6%.  Over the past 57 years that “real” rate has averaged about 1.0% which should be regarded as a “neutral” real rate.  Given a likely pickup in GDP growth this year and next and a gradual increase in the inflation rate, we regard a negative real interest rate inappropriate in today’s world.  The Fed should continue to push rates higher and gradually run off some of its longer term securities.

Stephen Slifer


Charleston, SC

Producer Price Index

October 12, 2017

The Producer Price Index for final demand – intermediate demand  includes producer prices for goods, as well as prices for construction, services, government purchases, and exports and covers over 75% of domestic production.

Producer prices for final demand rose 0.4% in September after having risen 0.2% in August.  During the past year this inflation measure has risen 2.5%.  It has been bouncing around in a range from 2.0-2.5% for the past six months but appears to be breaking out of that range to the upside.

Excluding food and energy producer final demand prices jumped 0.4% in September after having risen 0.1% in August.  They have risen 2.2% since July of last year.  This is the largest year-over-year increase since May 2012 .  This series has been quietly accelerating for the past two years.  Inflationary pressures are re-surfacing.

This overall index can be split apart between goods prices and prices for services.

The PPI for final demand of goods jumped 0.7% in September after having risen 0.5% in August. These prices have now risen 3.3% in the past year (left scale).  Excluding the volatile food and energy categories the PPI for goods rose 0.3% in September after having climbed 0.2% in August.  During the past year the core PPI for goods has risen 2.2% (right scale).  It steadily accelerated for more than a year but has leveled off in recent months.

Food prices were unchanged in September after having declined 1.3% in August.  Food prices are always volatile.  They can fall sharply for a few months, but then reverse direction quickly.  Over the past year food prices have risen 1.2%.

Energy prices jumped 3.4% in September after having risen 3.3% in August.  Energy prices have risen 10.6% in the past year.  These prices are also very volatile but the recent upswing seems to reflect a significant quickening of GDP growth around the globe.  Hence, we should not expect energy prices to fall substantially any time soon.  But by the same token they should not rise too much further.  Should they do so, U.S. producers as well as oil exporting nations around the world will begin to open the spigots and thereby cap the increase.

The PPI for final demand of services rose 0.4% in September after having risen 0.1% in August.  This series has risen 2.1% over the course of the past year (left scale).  With the sole exception of May of this year the 2.1% year-over-year increase is the largest 12-month increase in this services index since January 2015.  Changes in this component largely reflect a change in margins received by wholesalers and retailers (apparel, jewelry, and footwear in particular).  The PPI for final demand of services excluding trade and transportation rose 0.1% in both August and September.  It has climbed 1.9% during the past year.  The 2.2% year-over-year increase for June was the largest 12-month increase thus far in the business cycle.

The recent increases in producer prices was foreshadowed by the results of the Institute for Supply Management’s series on prices paid by both manufacturing and non-manufacturing firms.  In the case of manufacturing firms the chart looks like this:

And for non-manufacturing firms it looks like this:

In both cases, the run-up in prices was widespread.  It was not just energy prices.  Once again, we believe this escalation in theprices that producers are having to pay reflects stronger GDP growth around the globe.

Because the PPI measures the cost of materials for manufacturers, it is frequently believed to be a leading indicator of what might happen to consumer prices at a somewhat later date.   However, that connection is very loose.

It is important to remember that labor costs represent about two-thirds of the price of a product while materials account for the remaining one-third.  So, a far more important variable in determining what happens to the CPI is labor costs.  With the unemployment rate currently at 4.2%, the labor market is beyond full employment.  As a result, wages pressures are sure to rise, and once that happens firms are almost certain to pass that along to the consumer in the form of higher prices.

Some upward pressure on labor costs, rents, and medicare care will further increase the upward pressure on inflation.  We expect the core CPI to increase 1.9% in  2017 and 2.5% in 2018.

Stephen Slifer


Charleston, SC