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Debunking 8 common misconceptions about the Producer Price Index

By Deanna Bathgate and Jonathan Weinhagen

The Producer Price Index (PPI) program is a broad measurement tool that comprises around 10,000 indexes that track the average changes in selling prices for goods, services, and construction. It aims to reflect sales to all types of buyers while measuring price movements from the perspective of producers. The belief that the PPI is a single index is a common misconception, implying that there is a single, topline index covering the whole producing economy. Misconceptions such as this can contribute to other misunderstandings about the PPI and its role in tracking inflation. By addressing this common misconception, along with several others, this article will lead to greater understanding of the PPI and clarify the valuable information it provides.

This Beyond the Numbers article addresses common misconceptions about the PPI. It will cover the scope of PPI coverage, the types of price information used to construct PPIs, differences between the PPI and the Consumer Price Index (CPI), how changes in product quality affect PPIs, and how transportation costs are integrated into the PPI.

Misconception: The PPI is a single price index

Data users often encounter references to “the Producer Price Index,” which implies that there is a single index calculated by PPI that covers the entire economy. In practice, these citations typically are in reference to the headline PPI for Final Demand. While it does not cover the entire economy, the PPI for final demand is a high-level aggregate index that measures price changes for products (goods, services, and construction) sold for personal consumption, capital investment, government purchase, and export. It is constructed from about 800 detailed, product-based PPIs that, by revenue, represent well over half of PPI coverage of producers and their products.¹

While the PPI for final demand is the topline index for the program, it is just one of thousands of PPIs measuring price change for a vast array of goods and services from differing perspectives. In total, PPI publishes approximately 10,000 price indexes measuring price change for a wide variety of goods, services, and construction products. There are four different types of PPIs: industry net-output indexes, commodity indexes, final demand-intermediate demand (FD-ID) indexes, and industry input indexes.

Industry net-output indexes measure price change for the net output of a given industry (or grouping of industries) and are classified according to the North American Industry Classification System (NAICS). An industry consists of a group of establishments that use similar production methods to create similar outputs. For example, the industry for iron and steel pipe manufacturing from purchased steel (NAICS 331210) comprises establishments that are primarily engaged in manufacturing pipe and tube from purchased iron or steel. In contrast, steel mills that manufacture iron and steel pipe from raw materials such as ferrous ore, ferrous scrap, or pig iron use different production methods and are classified in NAICS 331110.

In addition, while iron and steel pipe are the primary output of this industry, these establishments may produce secondary products. For example, an establishment could produce a limited amount of steel wire—the product of yet another metals industry—or sell leftover scrap. The industry net output index for the iron and steel pipe manufacturing from purchased steel industry measures price change for the total net output of this industry, including primary production, secondary production, and miscellaneous receipts for any services provided.

The term net output means that the value of products consumed within an industry or grouping of industries is excluded from calculation of the index. This is done to eliminate multiple counting of price change. For example, the value of semi-finished steel produced by a steel mill (NAICS 331110) and sold to a NAICS 331210 producer would be excluded in the calculation of the industry group index for NAICS 331. Otherwise, the value of the semi-finished steel would be counted twice in the calculation of the aggregated PPI for NAICS 331.

Commodity indexes measure the price change for a product regardless of its industry of origin. Returning to the example of iron and steel pipe, the PPI commodity index for this product measures price change for iron and steel pipe regardless of which industry made the product, including iron and steel mills (NAICS 331110), iron and steel pipe manufacturing from purchased steel (NAICS 331210), and any other industry that produces iron and steel pipe and tube.

The term commodity, a legacy reference used by PPI for over a century, has occasionally led to confusion. When the term commodity is used, data users sometimes believe that PPI is referencing only basic-level goods such as wheat, crude oil, or metal ores. However, PPI commodity-based indexes include goods irrespective of level of fabrication, as well as services and construction. Over time PPI has attempted to familiarize and transition users to a more appropriate term, product.

Final demand-intermediate demand (FD-ID) indexes encompass a system of price indexes that measure broad levels of inflation. The final demand portion of the FD-ID structure measures price change for commodities sold as personal consumption, capital investment, government purchase, and export. The index for overall final demand is the most commonly used PPI and often considered the PPI topline number.²

Unlike final demand, there is no overall index for intermediate demand. Instead, there are three main intermediate demand indexes: unprocessed goods, processed goods, and services. The unprocessed goods index measures price change for goods that have undergone no fabrication that businesses purchase; for example, crude petroleum and wheat. The processed goods index measures price change for goods that have undergone fabrication that businesses purchase, such as automobile parts or concrete. The services for intermediate demand index measures price change for services that businesses purchase, such as legal and accounting services.

FD-ID indexes are constructed by combining PPI commodity indexes for the products consumed by a final demand or intermediate demand category. The component indexes are weighted to reflect the relative consumption of each product within the category of demand. For example, the final demand index includes products consumed by final demand, such as gasoline, cars, fruits and vegetables, communication services, and entertainment services.

Inputs to industry indexes measure price change for inputs typically purchased by an industry or group of industries during the course of their operations. PPI input indexes are constructed by combining PPI commodity indexes for products consumed by a specific industry. For example, the PPI for inputs to automobile manufacturing measures price change for the goods and services inputs consumed by manufacturers of automobiles, including materials such as tires, semiconductors, engines, glass, speakers; and administrative inputs such as legal services, office building rents and long-distance trucking. These inputs are weighted against each other to reflect the relative consumption of each input by the industry.

Currently, PPI official inputs to industry indexes are limited in scope to construction industries and a small set of mining, manufacturing, and services industries. The official input indexes also exclude imported inputs consumed by industries.³ However, in addition to the official indexes, BLS publishes satellite inputs to industry price indexes for most three-digit NAICS industry groups. Beyond its expanded coverage, this satellite series also improves upon the official input index series through the inclusion of imported input prices (measured using BLS import price indexes), in addition to prices for domestically produced inputs (measured using PPI commodity indexes).⁴

Misconception: The PPI measures only wholesale prices

From its inception in the early 1900s through 1978, the Producer Price Index (PPI) was known as the Wholesale Price Index (WPI). During that period, the WPI measured changes in prices for goods sold in primary markets. The WPI focused on the price received by domestic producers or importers for the first commercial transaction of these goods. Often this first transaction would be to a wholesaler, which likely is the origin of the prior, WPI nomenclature. In 1978, the program underwent significant changes by implementing scientific sampling techniques, increasing its sample of producers, collecting data on all types of transactions, and discontinuing data collection of imports. The program name was changed to Producer Price Index to emphasize that the program is based on all prices received by producers of goods and services, regardless of the purchaser.

Despite the name change occurring more than 40 years ago, the PPI still is often referred to as a measure of wholesale prices, which leads some data users to conclude that the PPI is a measure of prices for wholesale trade. While PPI does measure margins for wholesale trade, the scope of the PPI is much more substantial. It includes the mining, manufacturing, agriculture, utilities, construction, retail, transportation, and other services sectors. Table 1 shows the percentage of industry value of shipments by sector relative to total PPI coverage. The sectors for goods (mining, manufacturing, utilities, and agriculture) comprise 33.8 percent of PPI industry coverage, services comprise 64.8 percent, and construction accounts for 1.3 percent. PPI coverage of the wholesale trade sector accounts for less than 8 percent of total PPI coverage.

Table 1. PPI coverage of NAICS sectors

NAICS Sector	Coverage as a percentage of total PPI coverage (based on 2017 revenue)
11 - Agriculture, Forestry, Fishing, and Hunting	1.8
21 – Mining	2.0
22 – Utilities	2.8
23 – Construction	1.3
31-33 – Manufacturing	27.2
42 - Wholesale Trade	7.9
44-45 - Retail Trade	5.7
48-49 - Transportation and Warehousing	5.5
51 – Information	6.9
52 - Finance and Insurance	15.0
53 - Real Estate and Rental and Leasing	3.5
54 - Professional, Scientific, and Technical Services	5.5
56 - Administrative and Support and Waste Management and Remediation Services	2.8
62 - Healthcare and Social Assistance	10.1
71 - Arts, Entertainment, and Recreation	0.4
72 - Accommodation and Food Services	1.3
81 - Other Services (except Public Administration)	0.2

Misconception: PPIs only measure prices for goods

PPI began publishing indexes for the services sector in 1985 with the introduction of the railroad line haul services index, which was soon followed by indexes for air and water transportation services. Over the next 25 years, PPI expanded services sector coverage to include areas such as healthcare, finance, insurance, real estate, telecommunications, and retail and wholesale trade. During this time, the PPI also introduced selected indexes for the non-residential building construction sector. Over time, the services sector has continued to evolve and grow, representing an increasing share of the U.S. domestic economy. By 2009, the PPI expanded coverage of services sector industries to over 70 percent of the sector. Also in 2009, the program expanded the PPI commodity index system to include services and construction price indexes.

Despite their growing importance, services and construction price indexes were not included in the topline measure of the PPI until the transition from the Stage of Processing (SOP) system to the Final Demand–Intermediate Demand (FD-ID) system in 2014. While the SOP system only included prices for goods consumed as personal consumption, capital investment, and as inputs to production, the FD-ID system expanded upon the SOP system by adding price indexes for services and construction, as well as exports and government purchases. In December 2023, services accounted for approximately 67.2 percent of the PPI for Final Demand, indicating their importance within the topline PPI measure of producer inflation.

Misconception: The PPI only measures price change for business-to-business transactions

The assumption that the PPI only measures price changes for business-to-business transactions (intermediate demand) likely is a holdover from the time prior to 1978 when the WPI concentrated on obtaining prices for the first commercial transaction for goods. Today, this likely also reflects a general misunderstanding of what PPI measures. PPI industry and commodity indexes measure price change for domestic producers' total output, including sales to all buyer types. Sales can be to other businesses as inputs to production; to businesses for use as capital investment; to the retail or wholesale sectors for resale; or directly to consumers, government, or export. Types of buyers vary widely depending on the product being sold. For example, coal is sold mostly to other producers to be used as an input to energy production, while jewelry is sold mostly to consumers or to the trade sectors for eventual sale to consumers. Other products, such as legal services, are sold to all types of buyers.

Only in rare instances do PPIs specify a type of buyer, reflecting the changes in prices faced by distinct groups. In these cases, an aggregated index encompasses the full spectrum of buyers, while the detailed indexes break down buyer type individually. For example, PPI publishes specific indexes for electric power and natural gas sold to residential users, commercial (including government) users, and industrial (including export) users.

Taken as a whole, PPI commodity and industry indexes reflect sales to all types of buyers. In contrast, the FD-ID system breaks down and measures price change by specific buyer type. Within the FD-ID system, sales to final demand measure price change for end users of products. End users include personal consumption (households), capital investment, government purchase, and export. The intermediate demand portion of the FD-ID system measures price change for business-to-business sales of inputs to production, excluding capital investment. Importantly, for the FD-ID system, the sector of the economy where the product is ultimately consumed determines the buyer type. For example, a product sold to a retail or wholesale trade establishment and intended for eventual sale to a household is deemed personal consumption within final demand. Conversely, when the same product is sold to a trade-sector establishment and intended for eventual sale to another business, it is deemed an intermediate demand transaction.

PPI publishes an index for overall final demand, which measures price change for all types of final demand buyers. However, within final demand, PPI publishes a further breakdown for specific types of final demand buyers based on gross domestic product (GDP) categories, including personal consumption, private capital investment, government purchases, and exports. Notably, import prices are excluded from the FD-ID indexes as they are not in the scope of PPI (the output of domestic producers). Organizing overall final demand by type of buyer provides a useful alternative view of final demand. This approach can be used to identify cases when different categories of buyers experience differing rates of inflation.

Misconception: The PPIs for retail trade measure changes in prices paid to retailers (similar to the CPI)

Both the PPI and the CPI capture changes in prices for retail trade activities, but the pricing methods are substantially different for each program. The CPI typically tracks changes in out-of-pocket prices consumers pay for goods and services. In contrast, PPIs for retail (and wholesale) trade reflect changes in gross margins received by producers; that is, the difference between the selling price for a good and the acquisition price to replace that same item. From the PPI perspective, gross margins provide an appropriate measure of price change for the distribution services that wholesalers and retailers provide. For retail trade, this margin represents the value added from the distribution, marketing, display, storage of merchandise, and customer service. For wholesale trade, the margin is the value of the transfer of goods to other businesses, which includes selling and promoting, bulk breaking, warehousing, and providing market information. Out-of-pocket selling prices for physical goods would therefore be an inappropriate measure of price change for this sector, from the perspective of PPI.⁵

Changes in margins are not as easily observable as changes in selling prices. However, PPIs for trade services provide valuable information on changes in margins that generally are unavailable from other sources. For example, consumers can directly observe the price a filling station charges for a gallon of gasoline. However, changes in gross margins received by filling stations for selling gasoline--the differences between selling prices and acquisition prices—are not readily observable. The PPI for fuel retailing can provide data users with information on how these margins, or spreads, are changing over time.

The PPI currently produces trade indexes for approximately 46 wholesale and retail trade industries and 34 6-digit commodity indexes.⁶ In addition, FD-ID margin indexes are available, which provide data on how trade margins are changing at the aggregate level. For example, the index for final demand trade services indicates how margins are changing for all goods sold to final demand. As of December 2023, final demand trade services accounted for approximately 19.2 percent of overall final demand.

Misconception: PPIs exclude transportation costs

Data users sometimes assume that PPIs measure price change for goods but not the costs associated with their transportation. The PPI does capture changes in transportation costs. The methodology for measuring these costs depends on how they are incurred; specifically, it depends on whether the transportation is provided by the producer of the goods or by a third party. If the producer is transporting the goods sold, the transportation cost will be captured in the product price reported to the PPI, since the preferred price for the PPI is one that reflects the actual revenue received by the producer. This is called a net transaction price, and it reflects any discounts, surcharges, and other price adjustments applied. One such adjustment can be delivery costs.

In contrast, when goods are delivered using the services of a third-party transportation company, shipping costs are excluded from the price of the good. Third-party distribution services form the basis of the PPIs for transportation services, which include indexes for rail, truck, water, and air transportation of freight. FD-ID transportation and warehousing indexes provide data that explain how freight transportation and storage prices are changing. As of December 2023, transportation and warehousing services of goods accounted for approximately 3.7 percent of overall final demand.

PPI also calculates a special index that combines final demand goods, final demand transportation and warehousing of goods, and final demand trade services. Evaluating the final demand transportation and warehousing services index in combination with the PPIs for final demand goods and final demand trade services provides an end-to-end perspective of goods inflation from the producer perspective, one that includes both changes in factory-gate prices for domestically produced goods for final demand combined with changes in prices for the distribution of goods.⁷ 

Misconception: Changes in product quality affect PPIs

A primary objective of the PPI is to measure changes in constant-quality prices. Measurement of constant-quality prices ensures that PPI measures what is commonly referred to as “pure” price change. Pure price change can be defined as price change based on market factors, not change in item quality such as physical changes to the item or changes in the way the item is sold.

To report an item's price accurately, it is necessary for PPI to establish a continuous pricing system. This entails first identifying a unique product or service, along with associated terms of the transaction. While the PPI attempts to track the price for the exact same product sold under the same transaction terms over time, some changes to price basis are inevitable. These changes in quality can occur when a product is discontinued and replaced, a product physically changes (e.g., a change in unit size), or when the terms of transaction change (e.g., a change to type of buyer or size of shipment).

When one of these changes occurs, PPI has a range of methods available to separate any pure price change from the price change due to the change in product or transaction characteristics. The most appropriate method depends on the type of change and the information available from the PPI survey respondent. The PPI goal is to adjust for the quality change so that it is not reflected in the price change used in index calculation. For example, if a dairy manufacturer reduces the size of the container of ice cream but the price remains unchanged, an adjustment would be made for this change in unit size, resulting in an implicit price increase that would be reflected in the index.⁸

Misconception: PPI methodology for measuring price movements is always similar for services and goods

In the early years of the services expansion in PPI, the industries being introduced generally were methodologically straightforward, with significant similarities to manufacturing industries. Therefore, this expansion typically utilized price collection and tracking approaches that were similar to those used for collecting and tracking prices from goods producers. Over time, PPI began development of services indexes for more complex industries, such as those in the finance and insurance sector.⁹ Obtaining information for these industries required new and innovative price concepts, including:

Finance: PPIs for this industry do not measure the performance of financial assets, but rather, the net return to the financial-services firm for sale or management services they provide. The net return to financial-services providers often is tied to either commissions or fees that are based on a percentage of either asset values or transaction values.

Insurance: In addition to collecting prices for insurance premiums, the PPI price also includes the interest earned on the portion of the premiums that are invested.

Conclusion

Most of the common misconceptions about producer price indexes result from its broad scope. The PPI is not a single index but a set of approximately 10,000 indexes that cover goods, services, and construction, reflecting sales to all buyer types with the objective of measuring pure price change. PPI methodologies are driven by the measurement objective of the program as a producer-based, voluntary, respondent survey collecting prices from over 500 individual industries. For many of these industries, especially service-providing industries, methods are not straightforward. Issues such as quality adjustment, and differences between the PPI and the CPI, also contribute to misconceptions about PPI.

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• Notes