Latest / The Federal Reserve Podcast with Fexingo: Interest Rates, FOMC Meetings, and Monetary Policy / What the Fed Makes of Surging Wholesale Prices
Transcript
- Lucas: The May CPI number landed yesterday — 4.2 percent annual headline inflation, highest in three years. Big number. Big headline. But the number I keep coming back to actually dropped this afternoon. Luna: You mean the PPI? Because wholesale prices rose 1.1 percent in May, which is a decent jump. Lucas: Exactly. The producer price index for May came out today, and it's the one I think the Fed is actually more worried about right now. CPI is backward looking, consumer facing. PPI tells you what businesses are paying before those costs hit the shelf. Luna: And when wholesale prices surge like this — 1.1 percent in a single month — it's basically a leading indicator for future consumer inflation. Lucas: Right. The CPI number got the headlines, but the PPI is the signal about where inflation is going. And the composition is key. The Bureau of Labor Statistics said the jump was driven by a surge in energy costs. That's the Iran war supply chain effect we've been tracking for months. Luna: So the Fed sees this, and they're thinking: does this get passed through to consumers? Or do businesses eat the margin hit? Lucas: And the answer depends on demand. Look at the retail sales data — consumer spending has been resilient, not booming, but resilient. If companies have pricing power, they pass it through. If not, margins compress. The Fed's concern is that if pass-through happens, we get another leg of consumer inflation. Luna: And we already have sticky core services inflation. So the PPI adds a new layer of risk on top of that. Lucas: Exactly. The core PCE — the Fed's preferred gauge — has been hovering around 2.8 percent. That's above the 2 percent target. Now add potential pass-through from wholesale energy. You can see why the Fed is in a holding pattern, not cutting rates. Luna: And the ten-year breakeven inflation rate ticked up to 2.34 percent. That's the market's expectation for average inflation over the next decade. It's not alarming, but it's creeping higher. Lucas: Yeah. And that's a number the Fed watches closely. If breakevens start drifting toward 2.5 or higher, they lose the narrative that inflation expectations are anchored. So this afternoon's PPI number is a real data point for the June FOMC meeting. Luna: Speaking of central banks — the ECB hiked rates today for the first time since 2023. Also citing energy costs from the Iran war. So it's not just a Fed story. Lucas: That's an important parallel. The ECB had been on hold, but they saw the same wholesale energy surge. It confirms that this is a global supply shock, not a domestic quirk. And it puts the Fed in a tougher spot because if the ECB is tightening, the dollar strengthens, which can tighten financial conditions further. Luna: Yeah, a stronger dollar acts like a de facto rate hike. It reduces import prices, but it also hurts exports. Lucas: Right. So the Fed is juggling multiple channels. The PPI is the new variable that wasn't in their baseline a few months ago. The question is whether this is a one-month blip or a trend. We'll get the June PPI in July. Luna: I want to go back to the composition of the PPI. The energy component surged. But what about food? Core goods ex food and energy? Lucas: That's the part that might offer some relief. Core goods PPI was actually flat. So the inflation is narrowly concentrated in energy. If energy prices stabilize — and that's a big if — the PPI could moderate quickly. But if the war escalates, all bets are off. Luna: And in the meantime, the Fed Funds rate is at 3.63 percent. The effective rate hasn't moved. The Fed is data dependent, and this PPI print gives them reason to stay on hold. Lucas: You know, this show is a daily deep dive into exactly this kind of data. And it's ad-free because our listeners support it directly. If walking through the economy with us has made something click, you can support the show at buy me a coffee dot com slash fexingo. Luna: Yeah, it's a simple way to keep this independent and free of sponsor influence. We appreciate everyone who chips in. Lucas: Absolutely. So back to the PPI — one more layer. The May CPI report showed core CPI rising 0.3 percent month over month. That's not terrible, but combined with the PPI, it suggests pipeline pressures are building. Luna: And the Fed's next meeting is in two weeks. Do you think this PPI number changes the dot plot? Lucas: It might. Back in March, the median projection was for two cuts this year. If wholesale costs keep rising, that could get revised down to one cut, or even zero. The hawks on the FOMC will point to this PPI as evidence that inflation isn't vanquished. Luna: And the doves will say it's just energy, and if oil pulls back, the pressure eases. Lucas: Exactly. So the debate will be about the persistence of the shock. Is it transitory or structural? The market is pricing in a first cut in December, but that could shift if we get another hot PPI in June. Luna: It's interesting that the bond market isn't panicking. The ten-year yield is at 4.53 percent, down slightly on the week. So the PPI didn't trigger a selloff. Lucas: Because the market sees it as an energy story, not a demand-driven inflation story. If core PPI had jumped, yields would have spiked. But the market is giving the Fed benefit of the doubt for now. Luna: One other data point: the May jobs report showed solid job growth but with long-term unemployment ticking up. That's a sign of labor market slack, which could offset some inflation pressure. Lucas: Right. So the Fed's dual mandate is pulling in opposite directions. Inflation is above target, but the labor market is not overheating. That argues for patience. The PPI adds a hawkish twist, but it doesn't force their hand. Luna: So the bottom line: the Fed is likely to hold steady at the June meeting, and the PPI is a key data point they'll cite in the statement. Lucas: I think so. And the language will probably emphasize that they are monitoring producer prices closely. We might even see a line about 'elevated wholesale costs transmitting to consumer prices.' That would be a subtle shift from the previous statement. Luna: And then the question is whether the ECB's rate hike puts pressure on the Fed to follow suit, even if their domestic data doesn't warrant it. Lucas: That's the risk of global policy divergence. If the ECB tightens, the dollar strengthens, and that can tighten U.S. financial conditions without the Fed lifting a finger. But it also means U.S. exports become less competitive, which is a drag on GDP. So it's not a straightforward trade-off. Luna: The Fed has to navigate all these crosscurrents. No wonder they're in wait and see mode. Lucas: Yeah. And for listeners, the key takeaway from today's data is: watch the PPI next month. If it comes in hot again, the rate cut timeline gets pushed back. If it moderates, the path to a cut in December stays alive. Luna: And keep an eye on the breakeven rate. If it breaks above 2.5 percent, that's a real warning sign. Lucas: Good note to end on. We'll be back tomorrow with more data, more context, and no ads.