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U.S. producer prices plunge
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November 9, 2001: 12:38 p.m. ET
Measure of wholesale prices off 1.6 percent, biggest drop in 54 years.
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NEW YORK (CNNmoney) - Wholesale prices posted the biggest drop on record in the United States last month, the government said Friday, another sign of the severe weakness afflicting the world's largest economy, even as consumer confidence appeared to begin to stabilize.
The Labor Department reported that its Producer Price Index (PPI), which measures inflation at the wholesale level, fell 1.6 percent last month after September's 0.4 percent gain. It was the biggest drop since the department started keeping records in 1947, and much steeper than the 0.3 percent decline analysts had forecast.
Excluding volatile food and energy prices, the "core" PPI fell 0.5 percent after rising 0.3 percent in September. That was the sharpest drop since a 1.2 percent decline in August 1983. Economists surveyed by Briefing.com expected the core rate to dip 0.1 percent.
"These are big declines. It shows you how weak the economy is," Robert Brusca, chief economist at Ecobest Consulting, told CNNfn's Before Hours program. "Prices don't decline like this unless you've got slack demand conditions."
But big gains or drops in wholesale prices often don't mean similar moves for retail prices, and October's plunge will not likely have as large an effect on American consumers or broader measures of inflation, analysts said.
Meanwhile, the University of Michigan's preliminary consumer sentiment index for November rose, beating economists' expectations for a decline and hinting that consumer behavior may have returned to normal weeks after the Sept. 11 terror attacks.
"Immediately after the terror attacks, we were shell-shocked and stopped doing everything but watching television," said Sung Won Sohn, chief economist for Wells Fargo & Co.
"But give people more information, and we can incorporate it into our thinking process," Sohn said. "We can attach and assign probabilities and then more or less go on with our normal lives. I think that's exactly what's unfolding."
On Wall Street, stocks moved in and out of negative territory after the sentiment news, while Treasury bond prices were mixed.
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The year-long slowdown in the United States is likely to turn into a full-blown recession after the Sept. 11 terror attacks, analysts say, and that has kept the risk of inflation low. That gives the Federal Reserve more room to cut interest rates, if the central bank's policy makers deem that prudent.
The Fed has cut rates 10 times this year, taking its target for the federal funds rate, an overnight bank lending rate, to the lowest level since 1962. Most economists expect the Fed to cut again this year, in a bid to boost consumer and business confidence in the face of a weakening global economy, the war abroad and mounting job losses at home.
Though the low level of inflation suits the Fed's purposes right now, economists point out that a little inflation is sometimes a good thing. For one thing, putting the fed funds rate below the rate of inflation is one way the Fed can spur growth during a recession.
"If you really want to stimulate the economy, you put interest rates down below the inflation rate," Ecobest Consulting's Brusca said. "The lower the inflation rate goes, the harder it is to get the federal funds rate down below that."
Plunging prices also raise the specter of "deflation," in which companies can't charge enough for goods and services to cover their costs. That leads to cutbacks in production and jobs and could fuel a downward economic spiral.
"Because pricing power has disappeared, profit margins will remain under significant pressure," said Steven Wood, economist with FinancialOxygen.
Click here for more on the Fed and rates
Fortunately, most economists think the risk of a deflationary spiral is still remote, as producer prices are especially volatile and don't always cause dramatic changes in retail prices.
"I don't think we should jump the gun and start arguing about the risk of deflation yet," said economist Anthony Karydakis of Banc One Capital Markets. "I think it is important to realize that PPI in particular is a lot more volatile than the CPI (consumer price index) of the inflation measures and is a lot more prone to producing these surprises."
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For consumers and the broader economy, it is good news. The clear absence of inflation gives the Fed more room to move and puts additional money in consumers' pockets.
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Oscar Gonzalez
John Hancock Financial Services economist |
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The Labor Department is scheduled to release October CPI figures, the broadest measure of inflation, next Friday.
In the PPI report, nearly every category of goods was cheaper at the wholesale level in October, but the fall in energy prices was striking. Gasoline prices plunged 21.2 percent last month, more than offsetting the strong gains of 6.3 percent in September and 8.7 percent in August.
That was the biggest drop in gasoline prices since a 22.1 percent decline in March 1986, and came as cheaper imported crude oil has forced overseas producers to slash prices. Crude oil prices have fallen because of slowing demand from weak economies in the United States, Europe and much of Asia.
New-car prices dropped 4.7 percent in October after rising 1.3 percent in September - the biggest decline since October 1972 - as automakers offered zero-percent financing to woo shocked consumers after the Sept. 11 attacks.
Click here for more on the U. of Michigan sentiment index
And falling prices, for the time being at least, could give a boost to consumer confidence, which had fallen in the past two months, according to closely watched data from another research firm, the Conference Board.
"This (PPI) report will not make producers happy; they have no pricing power at all," said Oscar Gonzalez, economist with John Hancock Financial Services. "For consumers and the broader economy, however, it is good news. The clear absence of inflation gives the Fed more room to move and puts additional money in consumers' pockets."
On the other hand, pricing pressures could force companies to scale back production and cut jobs, adding to the hundreds of thousands of job cuts in the past year and an unemployment rate economists think is creeping to 6.0 percent and possibly beyond. People usually don't feel like spending money if they think they're about to lose their job.
"I place more emphasis on jobs numbers than on confidence surveys in estimating consumers' attitudes," said Avery Shenfeld, senior economist with CIBC World Markets. "And that has not looked promising." 
- from staff and wire reports
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