November's 0.8% Producer Price Rise Aids the Deflation Fight

November wholesale prices rose
November wholesale prices rose

Led by a significant increase in energy costs, producer prices rose 0.8% in November -- a gain that suggests policymakers may be winning their battle to avoid deflation. It marked the fifth consecutive monthly producer price rise and the highest since March, and it may be just what the U.S. Federal Reserve wants.

Why is a little inflation at the wholesale level beneficial? It means deflation hasn't taken hold in the U.S., despite the substantially smaller workforce and globalization's cost-cutting impact.

Deflation -- a period of sustained price declines -- robs companies of revenue and can lead to a recession, or even worse. The Fed wants the economy to exhibit some inflation, as long as it remains low, because a little inflation helps maintain the price support companies need to reap the benefits from increased sales, while not cutting into purchasing power.

The core producer price index, which excludes often-volatile food and energy prices, rose 0.3% in November.

A Bloomberg survey had expected both top-line producer prices to increase 0.7% and the core rate to rise 0.3% in November, after an 0.4% rise and a 0.6% decline in October, respectively. Producers prices rose 0.4% and 0.5% in September and August, respectively.

Year-Over-Year Core Inflation Is Still Low

Still, although the economy is showing signs of a slight increase inflation at the producer level, much of it is concentrated in food and energy. During for the past 12 months, wholesale inflation has increased 3.5%, lower than the 4.3% year-over-year rate recorded in October. Wholesale prices rose 4.4% in 2009 and 0.9% in 2008.

However, take away the food and energy component, and much of the past 12 months' inflation disappears. Core producer prices -- closely monitored by the U.S. Federal Reserve -- have risen just 1.2% in the past year. That's lower than the 1.5% year-over-year core rate recorded in October and at the bottom end of the Fed's "comfort zone" for inflation.

In November, finished energy prices rose 2.1%, with much of that stemming from a 4.7% jump in gasoline. Food prices increased 1%, feed stuff rose 1.9%, finished goods (excluding food) were up 0.7%, intermediate goods rose 1.1% and materials for further processing increased 0.6%.

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November's producer price report is a partial victory for the Fed because wholesale prices have risen for five straight months, after declining for three consecutive months in the spring. And core prices have risen at a low level every month so far this year, except October. That suggests prices are stabilizing at the wholesale level and that the nation is experiencing disinflation -- or low inflation -- but not the dreaded deflation that robs companies of revenue.

That said, the struggle to prevent deflation is hardly over. Core producer prices are up just 1.2% in the past 12 months, and that's just about as low as the Fed wants this measure to go. Given the risk of further price declines, the central bank will likely have to maintain its quantitative easing program well into the winter.