In September, the Producer Price Index rose by 0.3%. While this is an acceleration from the 0.6% decline in September, it is well below consensus expectations of a 0.5% increase.

All of the price pressures were coming from food and energy. If they are stripped out to get the Core Producer Price Index, prices fell by 0.6% for the month — a much faster decline than the 0.1% decline last month, and even farther below the consensus expectations of a 0.1% increase for the month. Both food and energy rose by 1.6% at the finished level in September.

For energy, though, it was just a partial reversal of the 2.4% decline in September. In September, finished food prices fell only 0.1%. On a year-over-year basis, the total Producer Price Index is down 1.9%. However, last month the year-over-year decline was 4.8%. Thus on a year-over-year basis, the deflationary pressures are abating — but just think about where we were a year ago!

The finished goods producer price index is the one that gets all the headlines. The core producer price index at the finished level also gets a fair amount of attention. However, the Bureau of Labor Statistics also provides data on what is happening further up the food chain, with data on intermediate and crude goods. To keep the three levels straight in your mind, think Wheat (crude), Flour (intermediate) and Bread (finished).

At those levels, there is some evidence of minor inflationary pressures, but again it is all driven by food and energy costs. At the intermediate level, prices rose 0.3% following a 0.2% increase in September. On a year-over-year basis, prices are down 7.5% at the intermediate level. The huge price declines of a year ago are rolling off.

In September, the year-over-year decline in the intermediate producer price index was 11.7%. Intermediate food prices were down 0.2%, following a 0.5% decline in September. Energy prices rose by 2.3% at the intermediate level — more than reversing a 2.1% decline in September. Core prices at the intermediate level dropped by 0.2%, following a 0.9% increase in September. Keep in mind price swings tend to be more extreme at the intermediate level than they are at the finished goods level.

Far more extreme, though, are the swings in the crude level producer price index. After all, there is another name for crude goods — commodities. Overall crude goods rose by 5.4% in October, more than making up for the 2.1% decline in September. Over the last year, prices for crude goods have dropped by 14.1%.

The bulk of that decline, however, came last year as the price of all commodities absolutely collapsed. In October of last year, the crude goods index plunged 16.1% and it was followed by a further 13.1% decline in November. Those will roll off soon, so the year-over-year numbers are going to show much smaller declines. Core crude prices rose by 0.5% in October, on top of a 0.5% rise in September. Crude energy prices rose by 8.3% — more than offsetting a 5.4% decline in September. Similarly, crude food prices were up 5.2% for the month after having fallen by 1.9% in September.

This report shows that aside from food, and especially energy, there is no real inflation pressure in the economic system. Even looking far up the production chain, price pressures for core goods are very moderate. Thus the Fed should continue to hold down interest rates and be as accommodative as possible. After all, the Fed has two mandates — price stability and full employment.

With core producer prices falling for two months in a row, and in four of the last six months, price stability would argue for MORE inflation, since we are facing deflation. Yes, the deflationary pressures are less than a year old, but year-over-year declines — even throwing in food and energy prices of 1.9% — are a far cry from Weimar Germany, or even the U.S. experience of the 1970’s.

The enemy right now is unemployment, not inflation. It also means that people should just shut the heck up about the decline of the dollar and stop treating it like it’s some type of disaster. Yeah, it is sort of bad that a ski trip vacation to Davos, Switzerland  will cost a lot more, but hey, maybe it will cause some folks to decide to ski Aspen, instead. Perhaps a few Europeans or Japanese will decide to come vacation in the U.S. since with the low dollar, vacations here are very cheap for them.  That would actually create a few jobs in restaurants and hotels here.

More importantly, perhaps companies will decide to buy products made by General Electric (GE) instead of the competing products made by Siemens (SI). We might just start to shrink the yawning trade deficit that is an absolute cancer on the economy.

Talk of the Fed tightening is probably premature by at least a year. Yes, a weaker dollar will mean higher prices for internationally traded goods, most importantly for oil. That, however, would help stimulate more drilling activity, greatly helping the bottom lines for companies like Pride International (PDE) and making the existing reserves of companies like Anadarko (APC) much more valuable. It might just help keep demand for oil down, and accelerate the shift to alternative energy sources, such as wind and solar.

Don’t overlook natural gas as a potential alternative energy source, since we have vast supplies of it here in North America. That would be good news for firms like EnCana (ECA). Yeah, nobody really wants to pay more at the pump, but with other price pressures being kept well at bay, we can afford it — especially if it leads to more jobs.

Look for the gap between headline and core producer prices to continue to widen, but overall, price pressures are very well contained. This gives the Fed free reign to keep interest rates at extraordinarily low levels for a very extended period of time. And not doing so would be extremely irresponsible.
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Read the full analyst report on “PDE”
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Read the full analyst report on “ECA”
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