Yet another sign of inflation ahead

In a worrisome sign, inflation is starting to ripple through the US economy in the form of higher prices for products that businesses use to make things.

Prices for aluminum, steel, paper, plywood, and plastic resins are now ticking upward. Although it's not definite that consumers will ultimately pay more for final products containing such materials, at least some of these price hikes are likely to end up on price tags in the months ahead, primarily because the economy is running closer to capacity and because manufacturers appear to have more leeway to raise prices.

In the latest sign that inflation is becoming more embedded in the economy, the government reported Tuesday that the Producer Price Index (PPI), a measurement of wholesale prices, leaped by 1.9 percent in September. Although much of this increase is attributed to hurricanes and rising energy prices, the report also showed that prices rose 1.2 percent for core intermediate goods, a key measurement watched by the Federal Reserve. Often, price increases at this level get passed on to consumers.

The pop in wholesale prices follows a jump in the September Consumer Price Index of 1.2 percent. Together, the numbers confirm that the Fed is correct to be worried about inflation, some economists say. The latest report will help to persuade the Fed to continue raising interest rates through next spring, possibly by as much as a full percentage point above the current level, they add.

"The inflation number ensures [that] the Fed will keep tightening and implies slower growth next year," says Scott Brown, chief economist at Raymond James & Associates in St. Petersburg, Fla. "These are pretty scary numbers."

In recent weeks, Fed officials have been blunt about their concern. In speeches, they indicated that the central bank needs to ward off any surges in the cost of living. Fed Chairman Alan Greenspan, in Tokyo on Tuesday, said the higher energy prices "will undoubtedly be a drag from now on."

Although the inflation numbers are the highest since 1974, economists say some factors that contributed to the rise may not be repeated. For example, a big jump in prices of passenger cars and trucks is a result of Detroit automakers ending many of their large discounts.

At the same time, gasoline prices have backed off from the record highs set after hurricane Katrina roared through the Gulf Coast. In September, gasoline prices peaked above $3 a gallon. Today, according to GasPriceWatch.com, the national average is $2.66 a gallon. "We may see energy prices level off," says Mark Zandi, chief economist at Economy.com, an economic website.

Energy prices may continue to fall. Tuesday morning, the price of gasoline on the futures market fell more than 6 cents a gallon, and the price of home heating oil dropped 3.8 cents a gallon. Energy traders were relieved weather forecasters are predicting that hurricane Wilma may not be another threat to the Gulf Coast.

Some of the price increases coursing through the economy may be related to rebuilding in the Gulf. Huge amounts of building materials are reported to be heading to the region. Manufacturers of RVs and mobile homes are soaking up supplies of plywood, screws, and aluminum. As a result, it's no surprise that prices are rising for such goods, economists say. "We've heard the reconstruction effort is putting pressure on prices of basic materials," says Lyle Gramley, a consulting economist at the Schwab Washington Research Group and a former Fed governor.

The hurricanes may also be responsible for a record 49.3 percent jump in the price of eggs. This surge contributed to a 1.4 percent increase in the wholesale price of food last month. Katrina and Rita tore through areas of the Gulf that are major poultry producers. Higher egg costs are likely to be passed on to consumers, at least to some extent, at the grocery store.

Though prices of many goods are rising, wage increases are still modest, economists note. In fact, this week, the United Automobile Workers agreed to reduce their healthcare benefits from General Motors by $1 billion.

"There would be real concern if wage growth accelerates to make up for higher costs," says Economy.com's Mr. Zandi. "Then inflation would broaden out to the service side of the economy. But so far that has not happened."

In months ahead, economists will also be watching US trade numbers. There are signs that the trade deficit has flattened out. If the United States imports fewer goods, that may allow businesses to start to recoup their higher costs. "The environment for passing on higher expenses may be improving," says Mr. Gramley.

Evidence is mounting that inflation may also be spreading overseas. Germany's PPI rose 4.9 percent year-over-year, the fastest pace in four years. Oil costs there are 47 percent higher so far this year. In the United Kingdom, inflation rose 2.5 percent in September on a year-over-year basis.

"There has been a global pick-up in inflation due to the surge in energy prices, and that gives cover for US manufacturers to lift their prices more aggressively," says Zandi. "Central banks across the globe are tightening policy in fears that the surge in energy prices will infect inflation more broadly."