Producer Price Index

What It Means

The Producer Price Index (PPI) is used to measure the average change in wholesale prices in the United States. Wholesaling refers to the sale of large quantities of goods from a major manufacturer or importer to another industry, commercial organization, professional user, or retailer. Thus, the PPI tracks price change from the perspective of the large seller and distributor. Often the PPI is compared with another important economic indicator, the Consumer Price Index (CPI), which is used to measure the average change in retail prices. Retailing is the sale of smaller quantities of goods, as well as services, to consumers, whether they are individuals or other businesses.

Analysts use the PPI to predict the future condition of the economy. Prices that companies are paying in their transactions with other companies affect the prices that consumers ultimately pay for goods and services. For example, if businesses in the frozen-desserts industry were required to pay higher prices for milk, those businesses would likely charge the consumer more for a gallon of ice cream. Depending on the sector of the economy, increases in the PPI might take as little as a few weeks or as long as a year or more to show up as increases in consumer prices.

Because the prices of supplies vary, businesses and industries use PPI data when negotiating long-term contracts for these supplies. For instance, a bread manufacturer will purchase wheat to make bread and then sell that bread to a supermarket. Over the course of the contract, wheat prices will vary, depending on the quality of the crop and a number of other factors. The bread manufacturer and the representatives from the supermarket will therefore agree to consult the PPI for wheat to adjust the price of the bread throughout the life of the contract. The U.S. government also uses PPI data in formulating long-term economic policies.

When Did It Begin

The origins of the PPI date back to 1891, when a U.S. Senate resolution authorized the Senate Committee on Finance to examine how laws regarding tariffs (taxes on goods imported from other countries) affected the U.S. economy. One of the many things the study sought to discern was the relationship between tariff laws and wholesale prices. Roland P. Falkner, a professor of statistics at the University of Pennsylvania, led the study, which collected data on wholesale prices from 1840 to 1891. In 1900 Falkner updated the report, covering the years 1891 to 1899. Two years later the U.S. Department of Labor (the federal agency responsible for regulating issues pertaining to the U.S. workforce) began publishing the report as the Index of Wholesale Prices. The document was published under this title until 1978, when it was renamed the Producer Price Index.

More Detailed Information

The PPI is published monthly by the Bureau of Labor Statistics (BLS), an agency within the U.S. Department of Labor. The BLS is responsible for gathering and analyzing statistics related to the nation’s workforce and the economy. In order to calculate the PPI, each month the agency collects price quotations by distributing surveys to producers in the manufacturing, mining, and service industries. Nearly every type of industry is invited to participate in these surveys. Response is voluntary, and the BLS keeps all of the data confidential.

The PPI is divided into three major categories: industry-to-industry sales, commodity-based sales, and stage-of-processing sales. An example of an industry-to-industry sale would be an oil company selling large quantities of gas to an airline. The second category of the PPI, commodity-based sales, charts the prices that manufacturers and wholesalers receive for their finished products. The stage-of-processing PPI measures sales of goods that are going to be treated or transformed into more-refined goods before finally being sold to consumers. For example, a mining company will retrieve iron ore (rocks and minerals that contain iron) from the ground and sell it to a smelting company, which will extract the iron from its ore so that steel can be produced. A manufacturer will then purchase the steel and fashion its steel products. The sales along this chain of buyers are examples of stage-of-processing sales.

The Bureau of Labor Statistics continually adds pricing statistics for new industries to the PPI in order to ensure that the index reflects buying and selling patterns among all relevant domestic producers and suppliers in an ever-changing economy. For example, in January 2007 the BLS introduced new price indexes for management-consulting services (management consultants provide companies with expert advice on running their businesses) and blood and organ banks. Both are included in the category of industry-to-industry sales.

Recent Trends

The PPI tracks changes in prices for food and energy (coal, natural gas, and crude oil [petroleum]) more closely than prices for other products. In fact, most of the graphs in the monthly document, especially those at the beginning of the report that give a more general overview of the month’s price changes, contain separate columns for food and energy products. One wholesale price that significantly affects both the average consumer and the daily operation of large businesses is the price of a barrel of standard crude oil. The price of oil determines how much people pay to put fuel in their cars, and because so many industries and businesses use gasoline in their daily operations, it also has a wide impact on the economy. Thus, increases in the wholesale price of crude oil raise the cost of airline tickets as well as the costs of the many goods, such as farm produce, that need to be transported by truck. Fluctuations in crude-oil prices can be extreme. In 2003 it was priced at $25 per barrel, but by 2005 that figure had increased to $60 per barrel, and by July 2006 a barrel of crude oil cost $78.40. Although these prices were high, they still did not exceed the records set in 1980, when, factoring in the rate of inflation (the percentage by which prices in general have gone up), crude oil was selling for $90 per barrel.

Rising crude-oil prices had a significant impact on the American automobile industry. Before the price hikes many American consumers purchased large automobiles such as sport-utility vehicles (SUVs) and full-size pickup trucks, which used more gas than smaller cars. In reaction to the higher oil prices, sales of these vehicles began declining in 2005, while sales of hybrid vehicles (those that use gasoline and rechargeable electric batteries) increased. The effects of rising crude-oil prices were also felt in the delivery industry (which includes the companies UPS and FedEx); some delivery companies began adding a fuel surcharge and scaling back the scope of their deliveries.