U.S. Producer Prices Unexpectedly Inch Upward in June

• Producer prices inched up a modest 0.1% (month over month) in June 2012, although this was still well above market expectations for a 0.5% decline following a sizeable 1.0% drop in May. With the small monthly gain, the year-over-year rate of increase held steady at 0.7% in June, which was unchanged from the prior month.
• Excluding the volatile food and energy components, core prices matched market expectations by rising 0.2% for a fourth consecutive month. The year-over-year rate of increase in core prices eased modestly to 2.6% in June from 2.7% in May.
• Even with the unexpected modest monthly gain in June prices, the annual pace of increase in producer prices has slowed steadily since the summer of 2011 with the rate in June holding at its lowest pace of increase since October 2009. Much of the moderation in prices overall has reflected a sharp slowing in the pace of food and energy price inflation; however, annual core price growth has eased as well after hitting a near-term peak of 3.1% in January. Our expectation remains that persistent excess capacity in labour markets is continuing to keep a lid on underlying inflation pressures.

Producer prices unexpectedly inched up 0.1% in June 2012 following an outsized 1.0% drop in May. Energy prices declined 0.9%; however, this was despite a larger than expected 1.9% rise in gasoline prices, on a seasonally adjusted basis, with offsetting declines provided by a 2.1% drop in the residential electric power index and an 8.3% drop in the price of heating oil. Food prices rose 0.5% in June marking the largest monthly increase since November 2011. The Bureau of Labor Statistics noted that “over 90% of the June increase” in the food component was accounted for by a 3.1% jump in the price of meat. Excluding the food and energy components, core producer prices rose 0.2% in June thereby matching the pace of increase posted in each of the previous three months. Most of the gain in core prices was accounted for by a 1.4% gain in the price of light motor trucks.

On a year-over-year basis, the pace of increase in the overall producer price index held steady at 0.7%, which was unchanged from May although still down sharply from the 6.9% pace recorded in June of last year. Much of this moderation reflects an easing in energy prices, which posted a year-over-year decline of 5.3% in June 2012, and which marks a sharp swing from a 19.6% annual pace of increase last year. With that said, annual core price growth has moderated as well in recent months by slipping to 2.6% in June from 2.7% in May to leave the measure further below the near-term peak of 3.1% in January.

Even with the unexpected modest monthly gain in June, the annual pace of increase in producer prices has slowed steadily since the summer of 2011 with the rate in June holding at its lowest pace of increase since October 2009. Much of the moderation in prices overall has reflected sharp slowing in the pace of food and energy price inflation; however, annual core price growth has eased as well after hitting a near-term peak 3.1% in January. Our expectation remains that persistent excess capacity in labour markets is continuing to keep a lid on underlying inflation pressures. We expect the easing in price pressure at the producer level to be evident in next week’s consumer price report as well where we expect a 0.1% dip in overall prices reflecting a decline in energy prices being only partially offset by modest gains in food and core prices. The combination of a benign inflation backdrop and large amount of slack in labour markets leaves the Fed free to maintain its highly stimulative policy stance with a move to further easing through additional asset purchases still possible should conditions deteriorate further.