What is the Producer Price Index (PPI)?
PPI or producer price index is a measure of inflation that tracks the changes in the production cost of goods. In simple terms, it records price fluctuations at the production level.
producer price index (PPI) is a family of indexes that tracks inflation by measuring the average changes in the selling price of goods received by domestic producers. It excludes transport, trading charges, and taxes that producers might need to pay.
With an increase in production cost, prices of final products, determined by the Consumer Price Index (CPI), also increase.
The Bureau of Labor Statistics (BLS) tracks and publishes PPIs every month. BLS collects data from domestic producers by systematic sampling. They calculate PPI for 10000+ different products each month. Plus, they ignore the volatile prices (prone to fluctuation) to get a more stable index reading.
Before 1978, PPI was known as Wholesale Price Index (WPI).
Classification of PPI
PPI is a family of indexes that tracks price changes in three major categories. These categories include:
-
Industry-Based PPIs
BLS calculates industry-based PPIs by tracking price change at the production level for each specific industry. Currently, BLS is publishing PPIs for 535+ industries, 4000+ sub-industries, and 500+ groups of industries.
-
Commodity Based PPIs
BLS calculates commodity-based PPIs by tracking fluctuations in prices solely based on products. Irrespective of industry or origin, it assembles products according to their similarity, overall usage, and composition. Currently, there are commodity price indexes for 3700+ goods and 800+ for services.
-
Final Demand-Intermediate Demand (FD-ID) Based PPIs
BLS calculates the FD-ID index by using commodity price indexes according to the type of buyers. They essentially track price changes of goods sold to either intermediate or final-demand customers.
Final demand customers are the class of buyers that obtain final products like a cycle, wheat flour, etc. In contrast, intermediate buyers obtain semi-finished products that are further used to produce final products. Examples include steel, wheat, etc.
More than 600 FD-ID PPIs are available.
How to Calculate PPI?
We have four different formulas for calculating PPI:
-
Basic Formula
Where,
Basket value refers to the price of a fixed set of goods at a given time.
-
Laspeyres Formula
Where,
Qo = Quantity in the base period
Po = Price in the base period
Pt = Price in the current period
-
Paasche Formula
Where,
Qo = Quantity in the base period
Qt = Quantity in the current period
Po = Price in the base period
Pt = Price in the current period
-
Fisher Formula
This formula calculates a mean PPI by using the Laspeyrees and Paasche formula.
PPI (Fisher) = √ (Laspeyres Calculation × Paasche Calculation)
Example of PPI Calculation
Suppose we have the following price change data alongside product prices for 2010 (base period) and the year (2020).
| Quantity
(Base Period) |
Quantity
(Current Period) |
Price
(Base Period) |
Price
(Current Period) |
| 10 | 15 | 18 | 10 |
| 30 | 35 | 20 | 25 |
| 25 | 27 | 35 | 40 |
Let’s calculate the PPI index by using the Laspeyres formula:
Next, let’s calculate it using the Paasche formula:
Now, it’s time to use Fisher’s formula:
BLS uses Laspeyres Index for the calculation of PPI.
Benefits of PPI
Here are some of the benefits of using PPI:
- Helps to calculate inflation by tracking price fluctuations at the production level.
- Is an important economic indicator as it helps the government to form fiscal and monetary policies by keeping in view the price changes.
- Is an effective tool for price adjustment; governments alongside businesses use it for price adjustments.
- It is used to measure the final GDP and separate the inflation-unadjusted nominal GDP.
- Helps with the adjustment of economic deflators.
- Helps to predict the subsequent changes in CPI, another economic indicator tracking changes at the consumer level.
Limitation of PPI
Some of the PPI limitations include:
- Needing a large set of data makes it difficult to perform accurate calculations. Also, it involves assigning the correct weight to the items which are difficult to standardize.
- Not including imports in calculations and ignoring the impact of a stable currency.
Frequently Asked Questions about PPI
Q: What is core PPI?
Ans: Core PPI measures the price changes at the production level after excluding volatile items such as food and energy.
Q: What is the difference between CPI and PPI?
Ans: Just like the consumer price index (CPI), PPI is also a measure of inflation but there are key differences between the two, including:
- CPI is a measure of the cost of living while PPI measures the prices change at the production level.
- CPI includes excise and sales taxes while PPI doesn’t.
- BLS collects price data throughout the month to calculate CPI. However, in the case of PPI, they collect data on a specific day i.e. Tuesday of the week that contains the 13th day of the month.
- CPI only revolves around consumer goods while PPI only includes capital and intermediate goods.
Q: Which industries are included in the calculation of the PPI?
Ans: PPIs are available for industries like mining, fishing, forestry, agriculture, construction, electricity, waste, and scrap material.
Other than this, it also covers output from 69% of the service sector industries including wholesale and retail trade, warehousing and transportation, finances and insurance, real estate (brokering, leasing, and rental), administrative support, waste management industry, healthcare, professional, scientific and technical services, etc.
