Yesterday, we spilled quite a few pixels discussing the various ways inflation has been impacting the economy. Not only did we see Core Producer Prices spike 0.4% for April, but Crude Oil broke $129 (now over $130). This leaves manufacturers facing the unpleasant choice of raising prices, or squeezing margins.
But it has been the BLS seasonal adjustments that caused the most angst lately. April PPI and CPI have built in expectations of a seasonal rise in energy prices. BLS’ goal is to report actual changes, not temporary ones. But problems can arise in this methodology, especially when you have runaway prices — like we have in Crude Oil — that impact the usual seasonal variations.
For example, crude energy materials "only" advanced 4.1% in April, with crude petroleum gaining 4.5 % and natural gas prices rising 4.3%. After the seasonal adjustments, these prices appeared rather odd: They showed energy prices falling by 0.2%, while gasoline costs dropping 4.6%.
Why so odd an outcome? Seasonally adjusted gasoline prices looked
much better than they actually were because the price of gas climbed
more sharply in percentage terms in April 2006 and April 2007. For
April 2008, this led to a more favorable number. (Note: BLS seasonal
adjustment formulas look back five years).
There may be a second factor at play. Take a closer look at the prior month’s data, March 2008: Crude energy
materials advanced 13.4%, crude petroleum surged 17.5%, and natural gas
prices increased 11.4%. This leaves us to consider other possibilities:
It may be that the expected seasonal increases have already taken
place. Or, we may be looking at a secular shift in energy prices,
making seasonal adjustments a bit of a distraction.
Regardless, there is no free lunch, and that even applies to seasonal adjustments. John Crudele of the NY Post notes that what the BLS taketh away in SA, they must eventually return. Remember, seasonal adjustments must zero out over 12 months. Crudele was referring to CPI, but its just as applicable for PPI.
Let’s go to the Uh-oh moment:
"Beginning in June," [BLS economist Pat] Jackman said, the seasonal adjustments "will start adding in" inflation, which will be reflected in July’s CPI.
That doesn’t necessarily mean that the whole CPI figure – which includes many other prices – will necessarily be staggeringly high. But unless prices begin to come down for other products, it could have a substantial effect.
If you don’t seasonally adjust the figure, inflation would be running at a 7 percent annual rate.
Here’s the one thing you need to know about seasonal adjustments: what goes in, must come out. But at the end of the 12th month, the adjustments need to be neutral. The payback time, according to Jackman, will begin with the June figure and continue for the rest of the year, and the timing of that isn’t particularly good."
This means we should expect some ugly data runs in July. Yet again, another reason to always consider the Year-over-year data also.
Hypocrite watch: In terms of punditry, watch who ignored the SA for the April release, but emphasizes them for the July one…
Producer Price Index: Crude Energy Materials
chart via Federal Reserve Bank of St. Louis
JULY FIREWORKS: INFLATION RATE WILL REFLECT GAS COSTS
NYPost, May 20, 2008 http://www.nypost.com/seven/05202008/business/july_fireworks__inflation_rate_will_refl_111665.htm
Producer Price Index (PPI)
Producer Price Indexes – April 2008 pdf