This morning the Department of Labor released its June report on the Producer Price Indexes for Finished Goods, Intermediate Goods, and Crude Goods.

The finished goods PPI is the one that gets all the media coverage. It measures the selling price of goods when they are first ready for sale to the ultimate consumer.

Changes in the finished goods PPI provide an indication of the rate of inflation (price increases) at the time the goods go out the factory door. The Consumer Price Index (CPI) measures inflation later, after purchases by the public are rung up at the retail cash register. So, all other things being equal, the finished goods PPI should give an earlier warning of inflation than the CPI.

Bond market participants watch both of these indexes, along with any other information that might give clues about inflation. Rising inflation breeds higher interest rates and lower bond prices. Stock investors closely monitor what's happening to bond yields because historically the stock market has performed well in an environment of falling interest rates.

Today's report showed that the finished goods PPI rose by 0.2 percent. This followed a drop of 0.1 percent in May and a 0.4 percent rise in April. The so-called core PPI for June also rose by 0.2 percent. The core rate is derived by excluding the contributions of the highly-variable energy and food price components from the PPI calculation. In the past 7 months the core PPI rose by 0.1 percent on four occasions, fell by 0.1 percent once, was unchanged once and, in the most-recent month rose by 0.2 percent. This works out to a compounded annualized growth rate of 0.86 percent -- hardly anything to become excited about.

If we examine the change in the PPI over a longer period, say a year, the month-to-month food and energy variations tend to average out. For the twelve-month period ending in May, the finished goods PPI rose by 2.7 percent -- up from last month's year-over-year change of 2.3 percent.

From May to June the Intermediate goods PPI decreased by 0.5 percent and the crude goods PPI declined by 2.3 percent. Based on this, there seems to be no immediate danger of "in-the-pipeline" price rises.

The core rate for the intermediate goods PPI declined by 0.1 percent in June, marking the eighth decline in the last nine months. Altogether, this indicator has been declining for 10 months. Slifer and Carnes, in their book "By The Numbers" identify the intermediate core rate as an excellent leading indicator of the core rate of the finished goods PPI. Changes in direction of the intermediate core rate precede changes in direction of the finished goods core rate by about a year. So, the intermediate goods core PPI is predicting lower finished-goods price growth during the period two to twelve months from now.

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In another report today, the Commerce Department's Census Bureau announced that its advance estimate of U.S retail sales for June was down 0.2 (+/-1.4) percent from May. The advance estimate is based on a small subsample of the Bureau's full retail sales sample, and is subject to revisions in subsequent months. Note that the magnitude of the monthly change for June is much smaller than the uncertainty associated with the number. What's more, when the uncertainty limits are added to the indicator number, the resulting range of values straddles zero. This means that the stated value of -0.2 is not statistically significant.

When advance estimates of monthly indicator changes are insignificant, we can look at the year-over-year changes to get a handle on what's happening. Between June of 1995 and June of 1996 retail sales rose by 4.6 (+/-2) percent. Thus, we know that retail sales rose by at least 2.6 percent and possibly as much as 6.6 percent during the past twelve months. This compares with a year-to-year rise of 5.8 (+/-2) percent in May.

The year-to-year change in retail sales bottomed out at around +3 percent last December, then trended upward to a reading of +6 percent in April. The indicator then declined as described in the preceding paragraph. Sales by automotive dealers made by far the largest contribution to the June year-over-year drop, declining from +8.6 percent to +4.7 percent. It looks like the rise in interest rates since the first of the year is taking its toll on auto sales and on retail sales as a whole.

Summing up: The finished goods PPI is at a modest level, and various analyses of the PPI data indicate that this level will be maintained or possibly even fall. Short-term and longer term changes in retail sales show a slowdown in this indicator. Combine this with the recent falloff in the growth of consumer installment credit, the recent uptrend in new claims for unemployment insurance, and last month's reported decrease in new home starts and building permits, and we might conclude that we're seeing the beginning of the third-quarter economic slowdown that some economists have been predicting.

Transmitted: 7/12/96

Byline: Lafferty (MF Merlin)