While headline producer prices rose 0.4% in August, most of the increase came from rising energy prices rather than the core measure, which matters much more to the Fed ahead of its upcoming meeting.
The core measure, which excludes food and energy, rose by 0.2%, a tenth below expectations. That was an encouraging sign at a time when pressure on the Fed to raise interest rates continues to mount.
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But part of that softness reflects squeezed margins rather than cooler prices. Trade services, a proxy for wholesale and retail margins, fell by 0.2% as businesses absorbed higher costs, particularly fuel retailers facing a surge in wholesale diesel and gasoline prices.
If those margins rebuild in the coming months, more of the energy shock should pass through to consumers.
But with energy prices up and no clear resolution to the energy shock in sight over the coming months, we don’t think that is enough to keep the Fed from hiking. Adding to that, the Fed’s other mandate, full employment, has not been a real concern after the most recent jobs report, which showed very strong gains.
With core producer prices up by 4.6% from a year ago, compared with 4.2% in July, we also expect the consumer price index, to be released Friday, to come in well above target. That should translate into a firmer reading for the Fed’s preferred inflation gauge, the personal consumption expenditures price index, due at the end of the month.
We expect headline PCE to rise by 0.4% month over month, while core PCE should edge higher to 0.3%; both would be well above a pace consistent with the 2% target.
Even though the PCE data will not be released until after the Fed meeting, with both PPI and CPI in hand, the Fed will more likely than not have enough evidence to act on inflation in September.
The odds are now skewed more toward a hike than a hold.
