What Is the Producer Price Index (PPI)?
The producer price index (PPI) is a family of indexes that measures the average change in selling prices received by domestic producers of goods and services over time. The PPI measures price changes from the perspective of the seller and differs from the consumer price index (CPI), which measures cost changes from the perspective of purchasers. The PPI considers three areas of production: industry-based, commodity-based and commodity-based final demand-intermediate demand. It was known as the wholesale price index, or WPI, until 1978.
Producer Price Index (PPI)
Producer Price Index Explained
There are roughly 10,000 PPI measures released each month for individual products and groups of products. These PPIs track the output of nearly all goods-producing industries in the U.S., which include mining, manufacturing, agriculture, natural gas, construction, and others within producing sectors.
The PPI is interpreted in a way similar to most indexes. Each product or group of products starts with a base number of 100 in a base period. All future movements in producer prices are then measured against the prior period. Therefore, if a product has a base PPI of 100 and in the following month it has a PPI of 110, this indicates that the cost of that product has increased by 10% compared to the previous period. Current PPIs have the base year set at 100 in 1982. These are the three areas of production that make up the PPI:
The industry-based classification applies measures at the industry level and tracks the changes in prices received for an industry's output outside the industry itself. The PPI measures industry net output. The PPI publishes more than 535 industry price indexes as well as more than 4,000 product-related indexes and approximately 600 indexes that group industries together.
The commodity classification organizes products and services by similarity and product composition and completely ignores the industry classification of the product being classified. There are more than 3,700 commodity price indexes published for goods and roughly 800 commodity price indexes published for services. These classifications are organized by product, service, and end use.
Commodity-Based Final Demand-Intermediate Demand (FD-ID)
The commodity-based final demand-intermediate demand (FD-ID) system replaces the older stage-of-processing (SOP) system. The FD-ID system regroups commodity indexes for goods, services, and construction into subproduct classes, which takes into account the specific buyer of the products and the amount of physical processing or assembly that the products already have undergone. The PPI publishes more than 600 FD-ID indexes that measure price changes for goods, services, and construction provided to intermediate demand and final demand end-users. Some are adjusted for seasonality.
- The PPI is different from the CPI in that it measures prices from the perspective of industries that are selling products. The CPI measure prices from the perspective of consumers.
- The PPI focuses on three main areas of classification: industry-based, commodity-based, and commodity-based final demand-intermediate demand.
- The PPI is considered an objective tool for adjusting prices in long-term purchasing agreements.
Real-World Example of Producer Price Indexes
Businesses often enter into long-term contracts with suppliers. Because prices fluctuate over time, such long-term deals would be difficult with only a single, fixed price for the goods or supplies. Instead, the purchasing business and the supplier typically include a clause in the contract that adjusts the cost by external indicators, such as the PPI.
For example, Company A might get a key component for its widgets from Industry Z. At the outset of the deal, the cost of that component is $1, but they include a provision in the contract that the price will be adjusted quarterly, according to the PPI. So, three months after the contract is signed, the cost of the component could be $1.02 each or $0.99 each, depending on whether or not the PPI went up or down and how much it changed.