The Producer Price Index (PPI) and Consumer Price Index (CPI) are both crucial metrics that help inform us about the state of the economy. It is essential for any participant in the market to have a solid grasp of information pertaining to PPI vs CPI, before proceeding to make an investment decision.

Although both metrics reflect similar information, knowing the difference between PPI vs CPI could significantly aid one’s investment decisions, by pointing out which sectors of the economy are presently ideal to invest in.

The financial performance of a company, and thus the intrinsic value of its stock is typically not immune to macroeconomic conditions, therefore, this domain cannot go ignored.

The world of finance and economics are interlinked, with both PPI and CPI standing as solid proof of this dynamic relationship.

If you are in search of some insight into these economic terms, and their importance in both economics and finance, look no further. In this article, we shed light on each of these price indices, their purpose, differences, and their intricate relationship.

What Is PPI?

To begin, we address the first part of our investigation, and precisely answer the question, “what is PPI?” PPI, which stands for the producer price index, is one of the main indicators of inflation, and looks at the average change in selling price, from the perspective of domestic producers.

Due to its focus on the producer, PPI is the go-to measure for economists attempting to assess the increases in production costs.

It is calculated by a weighted average of a specific set of goods and services produced by manufacturers across an economy.

When an analyst or an economist is looking to determine the health of manufacturing sectors, there is hardly a better tool than the PPI. This is essential because the state of a large number of sectors rests upon the strength of manufacturers.

What Is The Purpose Of The PPI?

Now that we have a general understanding of what exactly PPI is, one might wonder, what is the purpose of PPI?

Well, to keep it simple, one of the most important goals of this measure is to inform us of the inflationary pressures impacting the production of goods and services.

It is used by a wide range of specialists such as economists, financial analysts, investors, companies, and even policymakers to understand production dynamics and their impacts on the pricing.

Many even adjust pricing strategies based on the PPI, to remain economically efficient.

Due to the information that PPI delivers on inflation, it is also widely used to analyze industrial and sector-wide trends over time. This is especially useful to predict boom and bust cycles.

PPI Examples

PPI brings together a range of sub-indices and is calculated for specific goods and industries, as opposed to a general PPI for the entire economy. The examples of some of the most widely followed PPIs are as follows:

• • Oil and Gas PPI

    The PPI for oil and gas tracks price shifts in crude oil, natural gas, and other petroleum-based products, and is especially insightful in determining energy prices.
    Energy cost rises exacerbate inflationary pressures, and can potentially slow down economic growth.

  • Food PPI

    The PPI for food is critical, as it focuses on a basic necessity of individuals, and is thus directly tied to the costs and quality of living.

  • Chemicals PPI

    Looking into PPI from a chemical-specific angle is quite useful, as the chemical industry produces the inputs for a range of products of immense volumes. These include fertilizers, plastics, and medication, among others.

  • Motor vehicles PPI

    Tracking pricing dynamic shifts in the automotive industry is crucial as it represents a significant portion of the wider economy.

    Many liken the health of the automotive sector to that of the general economy, as it sheds light on consumer behavior.

  • Electronics PPI

    Electronics make up the bulk of modern, day-to-day living able to function, and have thus become an essential part of civilization.

    As a result, changes in electronics PPI can be highly impactful for everyday consumer activity, and for the tech sector in particular.

What Is CPI?

Just as PPI looks into the production side of inflation, its counterpart, the CPI measures inflation from the perspective of the consumer.

CPI stands for Consumer Price Index and focuses on the price movement of a typical basket of goods by urban consumers.

In the context of CPI, the ‘basket of goods’ is the core basis of measurement, which consists of a specific number of goods and services, such as food, beverages, clothing, housing, medical services, transportation, and recreation.

The pricing of specific domains within the basket of goods is collected on a monthly basis by economic bodies and is reported as an indicator of inflation. It is the most direct way of measuring the increase in costs felt by typical consumers.

What Is The Purpose Of The CPI?

The ultimate purpose of CPI, as a consumer-oriented metric, is to measure and track inflation. Because of this, it helps bring value to a number of important economic concerns, which are as follows:

• Determining wage and salary levels

  When policymakers set the minimum wage, or when labor unions negotiate pay and other benefits, the CPI is often used as a standard reference.

  It is highly useful in this regard as it acts as a direct proxy for costs of living and other basic consumption.

• Adjusting government benefits

  In countries with social security programs and other government benefits, the CPI is regularly turned to when governments decide the degree to enhance benefit programs. This is to remain consistent with spending costs on average.

• Setting monetary policy

  State banks and federal reserves are especially concerned with CPI, as it dictates whether to raise or lower interest rates, with respect to current inflation.
  This is done to encourage either spending or saving, to keep inflation levels sustainable.

• Measuring real economic growth

  When nominal GDP factors in CPI levels, it tells economists the real growth the economy experienced, after accounting for inflation.

  Therefore, the CPI is crucial for determining the health of an economy, in a reliable manner.

• Guiding financial decisions

  Giant consumer businesses like Walmart Inc. (NYSE: WMT) consult the CPI figures to evaluate their investments, cost management, and pricing policies. All this helps with the achievement of short and long-term financial objectives.

CPI Examples

Because economic policies and industrial dynamics differ vastly from country to country, it is no surprise that CPI could be largely different across economies.

Listed below are several CPI examples from various countries and regions where the measure is periodically calculated:

• • • USA CPI – The CPI in the United States is measured by the Bureau of Labor Statistics, and for the month of January 2023 increased slightly to 299.2 from 296.8 points.
    • Japan CPI – The ministry of internal affairs and communication calculates the CPI within Japan, with the figure remaining unchanged in the prior two months at 104 points.
    • UK CPI – In the United Kingdom, the Office for National Statistics reports on CPI updates. For the month of January, this measurement increased ever so slightly from 121 to 122 points.

What Is the Relationship Between PPI and CPI?

When assessing the dynamics between PPI vs CPI, it is important to point out that the relationship between the two is a sophisticated one.

Although both are important inflation measures, they each shed light on opposite dimensions, that are equally critical.

Because PPI is producer-centric, and CPI is consumer-centric, the figures they each report are used for distinct purposes.

PPI is more relevant to the manufacturing sectors of an economy, whereas CPI deals with household income and spending.

To gain a complete picture of the inflationary environment of a given economy,

PPI and CPI are both assessed to draw a wider and more holistic picture that can assist analysts in their outlook. Together, they represent the strongest measures of inflation available to economists.

What does It mean when PPI is higher than CPI?

Often economists find that PPI figures stand as being higher than that of CPI. This scenario indicates that inflationary pressures have been impacting producers, but have not been completely passed on to consumers.

Whenever the PPI is higher than CPI, it is usually an indication of a transition period, where inflation is in the process of being passed over from producers to consumers.

Producers generally absorb cost increases initially in order to remain competitive in the market.

This phenomenon is usually temporary, and both PPI vs CPI align together over the long term. This is because it is unsustainable for producers to not pass over the cost burden to consumers, in order to remain profitable.

PPI Vs CPI – Key Differences

When drawing a comparison between PPI vs CPI the following key differences are the most fundamental when assessing both inflationary metrics:

• Measurement basis

  PPI measures price change based on the cost exposure of producers, whereas CPI does so through a weighted average basket of goods that are paid for by consumers.

• Nature of information

  PPI typically sheds light on changes that relate to the production process, such as operating costs, energy, raw materials, and labor.

  Alternatively, CPI delivers insight that is more relevant to the average cost of living for households.

• Scope of assessment

  PPI assesses price shifts at a producer or wholesale level, whereas CPI takes consumer prices as its starting point. These two are distinct scopes, and reflect different points in the value chain of goods and services.

PPI Vs CPI – What Is Their Impact On An Economy?

In the whole PPI vs CPI discussion, one of the most important points of discussion is the respective impact of each metric on the wider economy.

PPI relates to producers and thus talks about the cost burdens at the production level. If these inflationary pressures are not passed over to consumers, margins could be impacted, resulting in the slowdown of industrial growth.

This, therefore, has a bearing on overall economic growth.

CPI is equally critical and sheds light on the consumption side of the economy. It informs economists about measures like purchasing power, saving, spending, and household expenditure.

Like PPI, it too is an essential indicator for gauging the health of the economy.

Conclusion

The relationship between PPI vs CPI is a dynamic one with many similarities and some key differences.

Both measures reflect different stages in the production and consumption processes and involve different economic actors, namely producers, and households.

PPI and CPI are essential economic tools that deliver insight into one of the most important macroeconomic concepts: inflation.

Both metrics are extremely powerful and help determine the direction policymakers, central banks, industries, and investors take.

FAQs

• Can PPI be used to predict CPI?

  Yes, PPI can be used to predict CPI, because inflation at the producer level is almost always passed over to the consumer for producers to remain profitable.

• Why is PPI more volatile than CPI?

  PPI is generally more volatile than CPI because costs are unstable at the production level and directly fluctuate with changes in labor costs, raw material costs, and other factors.
  CPI is a lot more stable because it is tied to wider economic factors.

• Is high PPI good for economy?

  Typically, a high PPI figure is perceived negatively by economists, because it indicates incoming inflation at the consumer level. This could result in reduced spending, which goes on to cause a slowdown of the wider economy.

• Does Fed look at PPI or CPI?

  Given the Fed’s function and mandate, it more closely tracks the CPI rather than the PPI. This is because consumer-level inflation allows it to better evaluate dimensions related to spending, saving, and employment.

• Does PPI indicate inflation?

  Yes, PPI generally is used to indicate inflation because it points out increases in production costs over time. Normally, these are eventually transferred over to consumers, bringing about inflation at the consumer level.