Producer prices rose 0.3 percent on the month in August. This was somewhat firmer than the market consensus and the first increase since April. However, with base effects strongly negative, annual inflation slumped from minus 6.0 percent to minus 12.6 percent, a record low.

Energy prices were up 1.6 percent versus July but down some 31.9 percent on the year. Excluding this category the PPI fell 0.4 percent on the month, matching its drop at the start of the quarter and trimming the yearly core rate from 2.0 percent to just 1.2 percent. Elsewhere, capital goods and consumer durables showed no change on the month while intermediates fell 0.7 percent and non-durable consumer goods 0.3 percent.

The latest decline in core producer prices reinforces a clear downward trend in underlying pipeline inflation pressures in German manufacturing. Should prices in services begin to cool too, CPI inflation could yet surprise on the downside. More generally, the August report puts the German RPI at minus 17 and the RPI-P at minus 29, both measures showing overall economic activity still lagging market expectations.

After July's sharp 1.1 percent monthly decline, August's PPI is seen edging 0.1 percent higher. With base effects very negative, annual PPI inflation should fall from minus 6.0 percent to minus 12.8 percent.

The Producer Price Index (PPI) measures the price of industrial and commercial goods produced and sold domestically (excluding turnover tax). About 1,250 types of goods are used to calculate the index and prices are reported by a total of 5,000 enterprises under fixed contractual conditions. Changes in the index provide a guide to inflation from the point of view of the product's producer/manufacturer and, in contrast to the consumer price index (CPI), excludes VAT and other deductible taxed associated with turnover.

The PPI measures prices at the producer level before they are passed along to consumers. Since the producer price index measures prices of consumer goods and capital equipment, a portion of the inflation at the producer level gets passed through to the consumer price index (CPI).

Because the index of producer prices measures price changes at an early stage in the economic process, it can serve as an indicator of future inflation trends. The producer price index and its sub-indexes are often used in business contracts for the adjustment of recurring payments. They also are used to deflate other values of economic statistics like the production index. It should be noted that the PPI excludes construction. These price statistics cover both the sales of industrial products to domestic buyers at different stages in the economic process and the sales between industrial enterprises.

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

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.