Producer prices were lower than expected in May, with the headline index edging down 0.3 percent, below Econoday's consensus of a 0.1 percent decline. The 12-month rate also showed sign of easing inflation pressures, as it came down to 1.1 percent from 2.3 percent, below expectations and the lowest rate since December 2020.

The index excluding food and energy increased at a steady pace of 0.2 percent, as expected, but the 12-month rate decreased to 2.8 percent, the lowest since February 2021, below Econoday's consensus of 2.9 percent. When excluding trade services as well, data also reflected easing inflation pressures, with the index unchanged on the month after edging up 0.1 percent in April, bringing down the year-over-year rate to 2.8 percent from 3.3 percent.

April's headline PPI decline was led by goods prices, which contracted 1.6 percent from April, when they rose 0.2 percent on the month. The decrease was driven by a 6.8 percent monthly drop in energy. Goods prices fell 2.4 percent year-over-year after increasing 0.7 percent in April. Food prices fell further in May, by 1.3 percent, after declining 0.4 percent in April, bringing down the 12-month gain to 0.3 percent from 2.4 percent.

Services price growth slowed to 0.2 percent from 0.3 percent on the month. Year-over-year rates came down to 2.7 percent from 2.8 percent.

Today's data showing inflation is easing more than expected came on the back of a CPI report also providing some signs of relief just ahead of the FOMC's decision later today. Meanwhile, Econoday Consensus Divergence Index, at minus 16, indicates a slight underperformance of the economy. However, May's stronger-than-expected employment report released at the beginning of the month might call for an insurance hike by the central bank.

After rising 0.2 percent in April, producer prices in May are expected to fall 0.1 percent. The annual rate in May is seen at 1.6 percent versus April's plus 2.3 percent. May's ex-food ex-energy rate is seen up 0.2 percent on the month and up 2.9 percent on the year matching April's 0.2 percent monthly rise and just below the month's 3.2 percent yearly rate.

The Producer Price Index (PPI) of the Bureau of Labor Statistics (BLS) is a family of indexes that measures the average change over time in the prices received by domestic producers of goods and services. PPIs measure price change from the perspective of the seller. Effective with the January 2014 PPI data release in February 2014, BLS transitioned from the Stage of Processing (SOP) to the Final Demand-Intermediate Demand (FD-ID) aggregation system. The headline PPI (for Final Demand) measures price changes for goods, services, and construction sold to final demand: personal consumption, capital investment, government purchases, and exports.

The PPI measures prices at the producer level before they are passed along to final consumers. A portion of the inflation at the producer level gets passed through to the consumer price index (CPI). By tracking price pressures in the pipeline, investors can anticipate inflationary consequences in coming months.

While the CPI is the price index with the most impact in setting interest rates, the PPI provides significant information earlier in the production process. As a starting point, interest rates have an"inflation premium" and components for risk factors. A lender will want the money paid back from a loan to at least have the same purchasing power as when loaned. The interest rate at a minimum equals the inflation rate to maintain purchasing power and this generally is based on the CPI. Changes in inflation lead to changes in interest rates and, in turn, in equity prices.

The PPI comes in two key main versions: final demand (FD) and intermediate demand (ID). The final demand portion is composed of six main price indexes: final demand goods; final demand trade services; final demand transportation and warehousing services; final demand services less trade, transportation, and warehousing; final demand construction; and overall final demand.

The intermediate demand portion of the FD-ID system tracks price changes for goods, services, and construction products sold to businesses as inputs to production, excluding capital investment. There are two parallel treatments of intermediate demand, each constructed from the identical set of commodity price indexes. The first treatment organizes commodities according to commodity type, and the second organizes commodities using a stage-based, production flow model.

The PPI is considered a precursor of both consumer price inflation and profits. If the prices paid to producers increase, businesses are faced with either charging higher prices or taking a cut in profits. The ability to pass along price increases depends on the strength and competitiveness of the marketplace.

Under the prior PPI system, the producer price index was substantially more volatile than the consumer price index because the CPI included services while the PPI did not. Volatility has been reduced substantially in the PPI-FD due to the inclusion of services but the PPI still is more volatile than the CPI. Wages are a bigger share of the costs at the retail level than at the producer level and this plays a role in the CPI’s lower volatility. Also, the PPI does not include owners’ equivalent rent—a large and slow moving component in the CPI. Food and energy prices are major sources of volatility in the PPI, hence, the greater focus on the"core PPI" which excludes these two components.

The bond market rallies when the PPI decreases or posts only small increases, but bond prices fall when the PPI posts larger-than-expected gains. The equity market rallies with the bond market because low inflation promises low interest rates and is good for profits.