Producer Inflation Jumped to 5.4%. The Core Did Not Move at All.

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Updated 1115 ET

The August producer price index came out at 8:30 this morning. Read both numbers, because they say different things and only one of them will be in the headlines.

Final demand producer prices rose 0.4% in August and 5.4% over twelve months, up from 4.7% in July. That is an acceleration of seven tenths of a percentage point in a single month, and it is the number every outlet is leading with.

Now the other one. The index for final demand less foods, energy and trade services rose 0.3% in August and 4.7% over twelve months. In July that same measure ran at 4.7%. Not approximately. The identical figure, two months running.

So the whole of the acceleration sits outside the core. The Bureau of Labor Statistics reported the increase, and the wires attribute it to energy costs driven by the war with Iran. Brent crude is at $105.57 this morning, up almost 5% on the day, after crossing $100 yesterday for the first time since July.

Against that, put what consumers are paying. July consumer prices ran at 3.4% headline and 2.5% core. Producer prices at 5.4% sit two full percentage points above the consumer headline. The August consumer figures arrive tomorrow morning, six days before the Federal Reserve votes.

Markets priced roughly a 59% chance of a rate increase on September 16 as of yesterday, before this release.

A spike and a plateau are not the same problem. If the headline jump is oil, it unwinds when oil unwinds, and central bankers are trained to look through it. A core rate that has parked at 4.7% for two consecutive months does not unwind, because nothing in it is cyclical enough to reverse on its own. The market will trade the 5.4%. The committee should be more troubled by the number that did not move.

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THE OPERATION

Who is absorbing the difference

Two honest caveats before anyone builds a thesis on that core reading. First, this core is a narrow one. Stripping trade services removes wholesale and retail margins, which is exactly where a cost shock shows up first when firms decide whether to absorb it. Second, energy does eventually reach the core with a lag, through freight, packaging, chemicals and utilities. “Core did not move” is a statement about August, not a forecast about November.

With those in place, the useful question is who is currently absorbing the difference. Producer prices measure what firms receive. Consumer prices measure what households pay. When the first runs at 5.4% and the second at 3.4%, the two-point gap is not a statistical curiosity. It is sitting in somebody’s margin, and tomorrow’s consumer print is the first read on whether it stays there.

There are only three exits. Firms pass the cost on, and consumer inflation rises toward the producer rate. Firms absorb it, and earnings take the hit while the consumer index stays quiet. Or the input cost reverses, which for oil means the Iran situation de-escalating. The Fed can influence the first two and has no say at all over the third.

The timing compounds it. Brent moving to $105 this week cannot appear in tomorrow’s August consumer index. It enters the September data, published in October, which is after this meeting and after the one that follows. The committee is being asked to judge an energy shock using numbers collected before the shock got large.

Meanwhile the bond market gave a verdict on something else. Yesterday Treasury tripled its long-end buyback, to up to $6 billion from the “at least $4 billion” announced on August 19, and ran the first operation the same day, with six more bond-sector operations scheduled through November 4. The stated aim was to curb rising yields. Yields rose anyway: the ten-year went to 4.85% from 4.80% and the two-year to 4.42% from 4.39%, the highest since October 2023.

Mike O’Rourke: “Instead, we are tinkering on the periphery of the market, and that’s not a real solution,” pointing at a national debt that passed $40 trillion in August as the actual driver. Guy LeBas was blunter: “The simplest version here is that market interventions have a long history of not working very well.”

And yet the debt itself sold well. Yesterday’s ten-year auction cleared at 4.834%, up from 4.683% in August and the highest of the year’s sequence, but the bid-to-cover reportedly improved to 2.71 from 2.53 and indirect bidders took 79.2% against 76.7%. Demand is not the problem. The price is.

Hold those two results together. The government spent triple the money trying to lower long yields and long yields went up. On the same afternoon, private investors bid more aggressively than the month before for the same government’s ten-year debt, at a yield fifteen basis points higher. Both facts point the same way. The market is not refusing to fund the United States. It is repricing what funding the United States costs, and an intervention worth a single-digit percentage of one refunding week does not change that arithmetic.

RULES OF ENGAGEMENT

Tomorrow morning, then Wednesday

Tomorrow, 8:30 Eastern. August consumer prices. Two benchmarks: headline against July’s 3.4% and core against July’s 2.5%. The margin read is the one worth having. Core consumer prices holding near 2.5% while core producer prices hold at 4.7% means firms are eating the difference, which is an earnings story before it is an inflation story.

One o’clock today, the thirty-year bond reopening. Judge it against August’s 5.216% stop and 2.39 bid-to-cover. As with yesterday, results post after this reaches you.

Do not price the buyback as a floor under long bonds. It has gone from $2 billion to at least $4 billion to up to $6 billion in three weeks, roughly 9% of a single refunding week’s long-end issuance, and the day it tripled the ten-year rose five basis points. Six more operations run through November 4, and the honest expectation for each is liquidity support, not price control.

Watch the two-year rather than the ten-year for the Fed itself. At 4.42% it sits well above a policy rate of 3.50% to 3.75%, which is the front end telling you it expects the gap to close upward.

September 16. The decision, with a Summary of Economic Projections, and with the committee’s own target index last updated for July. The August reading of core personal consumption expenditures does not publish until September 30, fourteen days after the vote.

The exposure is an energy shock arriving on top of a core rate that will not fall. Producer prices are running at 5.4% and the core measure has held at exactly 4.7% for two consecutive months. Consumers are paying 3.4%, and the two-point difference is currently somebody’s margin. Brent is at $105 and this week’s move will not show up in official data until October. The Treasury tripled its long-end intervention yesterday and long yields rose the same day, while private bidders queued up for the ten-year at 4.834%. The Federal Reserve votes in six days on a rate it has not changed since December, using a target index it cannot see updated until two weeks after the meeting.

END OF TRANSMISSION.

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