Producer Price Index (PPI) Guide to Contract Escalation

9/2/2015 ProducerPriceIndex(PPI)GuidetoContractEscalation

http://www.bls.gov/ppi/ppiescalation.htm 1/13

AtoZIndex|FAQs|AboutBLS|ContactUsSubscribetoEmailUpdates

FollowUs |What'sNew|ReleaseCalendar|SiteMap

SearchBLS.gov

SEARCHPPIGo

ProducerPriceIndexes FONTSIZE: PRINT:PPISHAREON: EscalationGuideforContractingPartiesBusinessfirmsinsearchofeffectivemethodsforcopingwithchangesinpricesoftenemploypriceadjustment(escalation)clausesinlongtermsalesandpurchasecontracts.BLSestimatesthatagreementswithalifetimeworthinthetrillionsofdollarsarecurrentlyescalatedusingtheProducerPriceIndex(PPI)familyofindexes,eitheraloneorinconjunctionwithothersourcesofeconomicdata.1

Becausetheymeasurepricechangesobjectively,bothattheaggregatedlevelandforparticularproducts,freefrompossiblemanipulationbyeitherofthecontractingparties,PPIscalculatedbytheBureauofLaborStatistics(BLS)arewidelyrecognizedamongbusinesspeople,economists,statisticians,andaccountantsasusefulinpriceadjustmentclauses.

ThisdocumentprovidesguidanceonthedevelopmentofescalationclausesincontractsthataretobetiedtoPPIdata.Suchclausesshouldbewrittenwithgreatcaretoavoidseriousproblemswhencontractadjustmentsareimplemented.TheinformationinthisGuideisbasedonBLSstaffexperienceinhandlingissuesthathavebeenbroughttotheirattentioninconnectionwithactualescalationclauses.

TheroleoftheBLSistoproviderequesteddataandtoexplaintheirunderlyingmethodologyandlimitations.TheBLSdoesnotencourageordiscouragetheuseofpriceadjustmentmeasuresinpurchaseagreements,salesagreements,andcontracts.TheBLSdoesnotdirectlyassistinwritingcontracts,nordoesitprovideadviceregardingdisputesarisingfromcontractinterpretation.Becauseindexmethodologyandpublicationconventionscouldbecrucialindevelopingescalationclauses,thisGuideisintendedtoalertuserstopotentialproblemsarisingintheseareas.2

ThisGuideisdividedintothreesections.First,anoverviewofthePPIsystemdescribesthemajorcategoriesandgroupingsoftheseveralthousandindexesthatarepublishedeachmonth.Then,guidelinesforassistinginthedevelopmentofescalationclausesareoutlined.Finally,apracticalexampleofprovisionsthatmightbeincorporatedintoacontractispresented,basedontheguidelinesdiscussed,alongwithanexampleofthepriceadjustmentcalculationsthatwouldbeneededtoimplementtheseprovisions.

ThisGuideprovidessummaryinformationonanumberofissuesrelatingtoPPI.ForamoredetailedreviewofPPIconceptsandmethods,seetheBLSHandbookofMethods,Chapter14:ProducerPrices.

TheStructureofProducerPriceIndexesProducerpriceindexesmeasuretheaveragechangeinpricesreceivedbydomesticproducersfortheiroutput.APPIisanoutputpriceindex.Thatis,itmeasurespricechangesreceivedbymining,manufacturing,services,andconstructionproviders.Itdoesnotmeasurethecostofproducingagood,providingaservice,orbuildingastructure,thoughcostsdofactorintothesellingprice.PPIdataarebasedonsellingpricesreportedbyestablishmentsofallsizesselectedbyprobabilitysampling,withtheprobabilityofselectionproportionatetosize.Individualitemsandtransactiontermsfromthesefirmsarealsochosenbyprobabilityproportionatetosizesamplingmethods.PPIsarebasedonamonthlysampleofover100,000prices.

PPIsareorganizedinthreemajorstructures:

(a)FinalDemandIntermediateDemand(FDID)System:ThefinaldemandportionoftheFDIDstructuremeasurespricechangesforgoods,services,andconstructionsoldaspersonalconsumption,capitalinvestment,togovernment,andasexports.TheintermediatedemandportionoftheFDIDsystemtrackspricechangeforgoods,services,andconstructionproductssoldtobusinessesasinputstoproduction,excludingcapitalinvestment.TheFDIDsystemreplacedtheStageofProcessingsysteminJanuary2014.

(b)Commoditytype:ThecommodityclassificationstructureofthePPIorganizesproductsbysimilarityofenduseormaterialcomposition,irrespectiveofindustryorigin.PriortoJanuary2009,thecommoditytypeclassificationsystemincludedonlygoodsbasedpriceindexes.WiththereleaseofdataforJanuary2009,PPIexpandedthecommodityclassificationstructuretoincludeservicesandconstructionproducts.

(c)Industriesandtheirproducts:Theindustrybasedclassificationstructuremeasureschangesinpricesreceived

BROWSEPPI

PPIHOME

PPIOVERVIEW

PPINEWSRELEASES

PPIDATA

PPITABLES

PPIPUBLICATIONS

PPINOTICES

PPIFAQS

CONTACTPPI

SubscribetothePPIUpdate

EmailAddress

GO

PPITOPICS

METHODOLOGY

POPULARTOPICS

INFORMATIONFORRESPONDENTS

U.S.CENSUSBUREAU

BUREAUOFECONOMICANALYSIS

NORTHAMERICANINDUSTRYCLASSIFICATIONSYSTEM(NAICS)

U.S.STANDARDINDUSTRIALCLASSIFICATION(SIC)

Home Subjects DataTools Publications EconomicReleases Students Beta



forindustryoutputs.Attheindustryandindustrygrouplevel,indexestrackpricechangesforproductsandservicessoldoutsidetheindustryoforigin.Theseindexesreflectthepricetrendsofaconstantsetofgoodsandservicesthattogetherrepresentthetotalnetoutputofindustries,asdefinedintheNorthAmericanIndustryClassificationSystem(NAICS).

Foramoredetaileddescriptionofthesethreeindexstructures,seetheAppendixtothisdocument.

Withineachofthethreemajorstructures,indexesareavailableatdifferentlevelsofaggregationanddetail.TherearebroadFDIDindexes(forexample,Materialsandcomponentsforconstruction,TransportationandwarehousingservicesforIntermediateDemand),broadindustryindexes(forexample,Totalmanufacturingindustries,Selectedhealthcareindustries),aswellasindexesforspecificindustryproductsandcommodities(forexample,dieselfuel,steelmillproducts,motorvehicleparts,trucktransportationoffreight,andbusinesswiredtelephoneservices).

GuidelinesforDevelopingEscalationClauses(1)Establishthebasesellingpricesubjecttoescalation.Theitempricesubjecttoescalationshouldbespecifiedaspreciselyaspossible.Statewhetherthebasepricereferstoaperunitquantityoracertainvolumeofunits.Givetheeffectivemonthandyearofthebasesellingpricethistimeperiodisoftencalledthebaseperiod.Indicatethelengthoftimethebasepricewillremainineffect.(NotethatBLSnolongerpublishesunitpricesforanyitemwithinthePPIsystem.FromtheProgram'sinceptionuntil1985,unitpriceswerepublishedforselectedindexcategories.)

(2)Selectanappropriateindexorindexes.AhighlevelFDIDindex,suchasFinaldemand,Finishedgoods,Processedgoodsforintermediatedemand,orServicesforintermediatedemandindicatethegeneraltrendofinflationatabroadlevelthatmaybeappropriatefortheescalationagreement.TherearedetailedFDIDindexesthatexcludefood,energy,andtrade,foruserswishingtoavoidtheeffectsofvolatilepricemovementsinthesegoodsandservices.DetailedIntermediateDemandindexesunderthecategoryforProcessedgoodsforintermediatedemand(formerlycalledtheindexforIntermediatematerials,supplies,andcomponents)maybestindicatepricetrendsforsemifinishedgoods,components,andsuppliesforbusinessdemand.Indexesforspecific4,6,or8digitcommodityindexes,orforindustrybasedindexesthatreflectproductorservicelinesorgroupingsofproductsorservices,maybetterindicatepricetrendsatamoredetailedlevel.(SeeAppendixformoreinformationaboutindexesandindexstructures.)

ContractingpartiesmaywanttoescalatethebasepricebyasinglePPIseries.Often,however,usersprefertoescalateonthebasisofseveraldataseries,includingdatafromotherGovernmentstatisticalprograms,toreflectchangesincostsofavarietyofinputs.Insomecontracts,forexample,costsofmajormaterialsandsuppliesareescalatedwithoneormorePPIs,whilecostsoflaborareescalatedwithotherBLSseriessuchastheEmploymentCostIndex.3Insuchcases,theescalationclauseshouldspecifythepercentageweightgiventoeachindexincalculatingthetotalescalationamount.(Seedetaileddiscussionunderguideline(9)(d).)

Contractingpartiesshouldchooseanindexorgroupofindexesrepresentingthecostsforprovidingaparticularproductorservice,ratherthananindexfortheproductitself.Forexample,ifanapparelmanufacturerwerecontractingforlongtermpurchaseswithaproduceroffinishedfabrics,itwouldbemoreadvisabletotietheescalationclausetoaPPIforsyntheticfibers,processedyarnsandthreads,orgreigefabrics(rawfabric),ratherthantoaPPIforatypeoffinishedfabric.Otherwise,thepartiescouldfindthemselvesinaseriouscontractingproblemthatwouldbedifficultfromwhichtoescape.4

Regardingthelevelofindexaggregationordetailthatmightbechosen,itshouldbeunderstoodthatwhiledetailedindexesmaytargetcostsmorespecifically,theyarealsomorelikelytobepermanentlydiscontinuedbyBLS,ortohaveoccasionalgapsindataavailability.Contractsshouldprovideforthesecontingencies.Thishazardcanbeminimizedifcontractingpartiesciteacommodityindexthatdoesnotgobelowthe4or6digitlevelofdetail,oranindustrybasedproductcodethatdoesnotgobelowthe7digitlevel.5

EvenwiththePPIprogram'snearlycompletecoverageoftheminingandmanufacturingsectors,notallproductsareincludeddirectlyinthePPIsampleorpublishedinthePPIsystem.Sometimesrelatedindexesorhigherlevelindexesmustbechosenasproxiestoestimatepricemovements.

(3)Clearlyidentifytheselectedindexandciteanappropriatesource.Theescalationclauseofacontractshouldidentifytheindexorgroupofindexesselectedbyprovidingcompletetitlesandidentifyingcodes.

Pleasenotethatthereisnosingleindextitled"TheProducerPriceIndex."Theterm"ProducerPriceIndex"referstoafamilyofindexescompiledbytheBureauofLaborStatistics.Eachindextobeusedshouldbecitedspecificallyinthe



contractbyreferringto"theProducerPriceIndexfor..."followedbytheexacttitleandanyidentifyingcodenumber.

Theclauseshouldalsociteanappropriatesourcefortheindexselected.TheprimaryofficialsourceofPPIdataistheBLSWebsite.FromthePPIhomepage,datamaybeobtainedusingvariousmethods:

(a)LinktothePPIdatabasetoaccessvariousmethodsfordownloadingdata.Foranexplanationofthesedatabasetools,linktothePPIDataRetrievalGuide.

(b)Themonthlyperiodical,PPIDetailedReportincludesallPPIscurrentlyinpublication,andisavailableonlineeachmonththedayPPIdataarereleased.Thispublicationprovidescurrentmonthindexvalues(firstissued),previousmonthindexvalues(firstissued),4monthpriorindexvalues(revised),aswellas1monthand12monthratesofchange.

(c)ThePPInewsrelease,publishedmonthly,providesindexdata,1month,and12monthpercentchangesforasubsetofmorewidelyusedPPIs.LinktoPPINewsReleaseandArchivedPPINewsReleasesforcurrentandarchivedPPInewsreleases.

Contractingpartiesshouldnotcitetablenumbersortabletitlesintheirescalationcontracts,sincetheyaresubjecttochange.BLSsourcesarepreferabletosecondarysources,suchasothergovernmentpublicationsorprivatefirms.IfcontractingpartiesagreetoobtainindexvaluesforescalationoverthetelephonefromBLSstaffmembers,theescalationclauseshouldspecifyappropriateproceduresandwhethersubsequentverificationfromapublishedsourceisnecessary.

(4)Specifywhetherseasonallyadjustedindexesorunadjustedindexesaretobeused.Ingeneral,seasonallyadjustedindexesarenotappropriateinescalationagreements.Becausepriceadjustmentclausesusuallyareintendedtocaptureactualpricechanges,contractingpartiesnormallywouldnotwanttoremoveseasonalpricemovementsfromtheiradjustmentcalculations.

(5)Statethefrequencyofpriceadjustment.Theescalationclauseshouldspecifywhenpriceadjustmentsaretobemade,suchasquarterly,semiannually,orannually,orsomeotherperiod.Toconformtotheproceduredescribedinguideline(9)below,priceadjustmentsshouldbecalculatedoveranintervalwhosebeginningpointisthecontract'sbaseperiod.Thisisthetimeperiodassociatedwiththechosenbaseprice.Foradiscussionofbaseprice,seeguideline(1).

Difficultiescanbeencounteredwiththosecontractsthatdonotdesignateaspecificfrequencyforpriceadjustment,butratherstatethatthelatestdataavailableasofacertaindateshouldbeusedforadjustment.Guideline(7)expandsuponthisissue.

NotethatPPIdataarepublishedasmonthlyindexesandasannualaveragesforcalendaryears.MonthlyPPIsarerepresentativeoftheentiremonthanddonotrefertoaspecificdayofthemonth.Avoidwordingsuchas"theindexforaluminummillshapes,PPIcommoditycode102501,asofSeptember30,"sinceseveraldifferentandequallyplausibleinterpretationsarepossibleforsuchlanguage.Forexample,"asofSeptember30"couldrefertotheindexthatwasavailableonSeptember30,whichwouldbetheAugustfigure.ThatphrasealsocouldrefertotheSeptemberindex.ItcouldevenmeantheOctoberindex,sincetheSeptemberindexwouldbebasedoninformationsuppliedtoBLSwellbeforeSeptember30.

(6)Provideformissingordiscontinueddata.Occasionally,aPPImaybeunavailableforaparticulartimeperiod,usuallybecausepriceinformationwasnotsuppliedbyasufficientnumberofsurveyrespondentstomeetBLSpublicationstandards.Highlydetailedindexesaremoresusceptibletothisproblemthanindexesforbroadergroupings.Forexample,thePPIforMetaltanksandvessels,customfabricatedandfielderected,code10720152,wastemporarilyunavailablefromJuly2011toSeptember2012.Duringthatperiod,contractingpartiesmighthaveusedcode107201,Metaltanks,orsomeotherseriesoftheirchoosing.EscalationclausesshouldprovideproceduresfortimeswhenPPIdatadonotpublish.

Sometimesanindexispermanentlydiscontinuedifaproductdeclinesinmarketimportance.Thismostcommonlyoccursatthetimeofperiodicresamplingofindustriesandtheiroutput.Asisthecasewhenanindexfailstomeetminimumpublicationstandards,escalationclausesshouldprovideguidanceforsuccessorindexesincaseswhenoriginalindexesarediscontinued.Adefaultprovisionthatcallsforusingthenexthigherlevelseriesmightbeincludedinthecontract.

NotethatifBLSmerelychangesthetitleorrecodesanindex,itisconsideredtobethesameseries,andtherefore,thissituationshouldnotnecessitateanycontractrenegotiation.TheonlinemonthlyperiodicalPPIDetailedReportroutinelyprovideslistsofrecodedindexeseachtimetherearesamplechanges.Normally,theselistsappearintheJanuaryandJulyissues.



(7)SpecifythatcalculationsofpriceadjustmentsshallalwaysusethelatestversionofthePPIdatapublishedasofthedatespecifiedforsuchcalculations.Thisrequirescontractingpartiestoexplicitlyagreeonthebaseandcomparisonmonthsemployedbytheescalation,aswellastheprecisemonthandtheapproximatedatethatthepriceadjustmentcalculationsaretobemade.Adherencetothisprincipleanditsimplicationswillpreventmanypotentialproblems.ContractsthatfailtoincorporatethisguidelinewillinsteadneedtospecifywhichversionofPPIdatashouldbeused,because:

(a)BLSroutinelyrevisesPPIdata4monthsafterinitialpublication

(b)PPIdataarerebasedatinfrequentintervalsand

(c)onrareoccasions,PPIdatamaybecorrected.

Amongotheradvantages,followingguideline(7)shouldresolveanyambiguitiesarisingduetothefactthatallPPInotseasonallyadjusteddataareroutinelysubjecttorevisiononce,4monthsafteroriginalpublication,toreflectlatereportsandcorrectionsbyrespondentsinthePPIsurvey.Revisionsareusuallysmallatthehigherlevelsofindexaggregation,butmayberelativelylargefordetailedindexes.TheversionofanyPPIpublished4monthsafteritsinitialpublicationisconsideredfinalandwillnotchangeagain,barringcorrectionsorrebasing,aseparatematteraddressedinguideline(8).6

Tofollowguideline(7)effectively,itisessentialtospecifynotonlyfrequency/intervalforescalation,butalsotheapproximatedateonwhichthepriceadjustmentistobemade.Currently,PPIdataareusuallypublishedbetweenthe10thandthe18thofthemonthfollowingthereferencemonthinquestion.(However,theJanuarydatareleaseinFebruarymightoccurafewdayslater.)Therefore,acontractmightstatethatpartiestoanescalationagreementshouldcontactthePPIpriortothe10thofthemonthfollowingthedesignatedmonthforescalationinordertoverifythedatethatdatawillbeavailabletoenactthepriceadjustment.Allfirstpublishedindexesforagivenmonth,aswellasfinalindexesforthefourthmonthearlier,areconsideredofficiallypublishedandareavailableonthedayofreleaseofthosedata.

Thecontractingparties'selectionofthedateforpriceadjustmentshouldbemadeonlyaftertheyhaveagreedon,(a)thebaseperiodreferencemonth,(b)intervalforpriceadjustment,and(c)whetherthecalculationistobebasedonthefirstpublishedorthefinalindexvaluesfortheescalationmonth.Itisvitaltoaddressthesemattersbeforeacontractissigned.Otherwise,disagreementsmayarisewhenthefirstpublishedandfinalversionsoftheselectedindexaredifferent.

Ifcontractingpartiesdonotspecifyanexactdateformakingpriceadjustments,thecontractshouldatleastspecifywhetherfirstpublishedorfinaldatashouldbeusedforcalculations.Thefinalversionofthedatafortheescalationmonthshouldbespecifiedwheneverfeasible,becauseonlyfinaldatawillberebasedretroactivelywheneverBLSupdatesthePPIreferencebase.Contractingpartiesmightchoosetousefirstissuedindexesforthecurrentperiodoftheescalationifcapturingmorerecentpricemovementsisvaluedbythepartiestotheagreement.

Anyprocedurethatdepartsfromguideline(7)byfailingtospecifytheversionofthedataorthedatewhenthepriceadjustmentistobemade,needstobeconstructedsothatitwillbeinharmonywiththefrequencyofpriceadjustment,asspecifiedelsewhereinthecontract.Thisisdiscussedinguideline(5).

Acontractshouldnotrefertoanindexvalueassociatedwithabaseprice,butinsteadtoitsmonthandyearalone.Forexample,thefollowingreferencecouldproveproblematic:

Dividethecurrentindexvalueby103.9(whichisthevalueoftheindexforthebaseperiodJanuary2010)andthen....

Rather,itshouldbewritten:

DividetheindexvaluewhichcorrespondswiththemonthassociatedwiththecontractescalationbytheindexvalueforJanuary2010,whichrepresentsthebaseperiodindexvalue,andthen....

(8)Avoidlockingindexesusedforescalationtoaparticularindexreferencebaseperiod.Contractingpartiesshouldfollowtheprincipleofguideline(7)bycalculatingpercentchangesusingindexesexpressedontheindexreferencebaseperiodinusewhenthecontractescalationisapplied.Forexample,ifacontractcalledforapriceadjustmenttobemadeusingdataforDecember1987publishedinJanuary1988(whichwasjustpriortotherebasingthatbecameeffectiveonFebruary12,1988),indexesexpressedontheoldreferencebaseof1967=100wouldhavebeenused.

ComprehensiveindexbaseperiodchangestothePPIsystemhavebeenroutine,althoughinfrequent.Themostrecentlargescaleconversionoccurredwhentheindexreferencebaseperiodwassetto1982=100inearly1988.Thiswas



thefirstsuchrebasingsinceBLSadopted1967asthestandardin1971,andthatinturnwasthefirstrebasingsincethe195759basewasadoptedin1962.Previously,thestandardreferencebaseperiodwasupdatedroughlyevery10years.7

RelyinguponacurrentindexreferencebaseperiodassetbyBLSwillnotaffectcalculations,exceptfordifferencesrelatedtorounding.However,roundingcouldmakeameaningfuldifferencewhenthedollaramountofacontractisverylarge,oriftheindexpriortorebasingstoodatarelativelyhighlevel.

OfficialPPIdatabasedonthecurrentreferencebasearenotavailableonpreviousindexreferencebaseperiods.Further,asageneralrule,estimatingaconversionofPPIdatatoanoldbaseforthepurposeofcontractualpriceadjustmentisinadvisablebecausesuchamethodcouldwellbechallengedforreferencingsomethingotherthanofficialgovernmentdata.

However,forpartieswantingtolookbacktothepriorindexreferencebase,rebasingfactorsareonlymadeavailablebyBLStoconvertdataonthecurrentstandardreferencebaseperiodtotheimmediatelyprecedingone.Forexample,therearenoofficialrebasingfactorstoconvertdataonthe1982=100basebacktothe195759=100indexbase.

Rebasingisnotconsidered"revising,"becausetherelativemovementsofanyseriesovertimearenotaffected,outsideofrounding.Theabsolutelevelofanyindexhasnointrinsicmeaningotherthanrelatingameasurementtothebaseyear,whichisitselfarbitrarytoadegree.

Oldercontractsmayspecifyuseoforiginallypublishedindexes,particularlysincethiswasrecommendedbyBLSintheSeptember1979versionofthisGuide(BLSReport570).BLSisnowstronglydiscouragingsuchlanguageinescalationcontracts,inaccordancewithguidelines(7)and(8),recommendingthatthelatestavailableversionofindexdatabeused.Inaddition,BLSdoesnotmaintaindatabaserecordsfororiginallypublishedindexes.Asaresult,noofficialversionsofsuchoriginallypublishedindexesarereadilyavailable.

(9)Definethemechanicsofpriceadjustment.(a)Simplepercentagemethod.OnemethodofpriceadjustmentistohavethebasepricechangedbythesamepercentageasthepercentchangeinaselectedPPI.Toillustrate,supposethatacontractescalationclausecalledforusingtheintermediatedemandPPItitledMaterialsandcomponentsformanufacturing,notseasonallyadjusted.Alsosupposethatthevalueofthisindexwas178.4forDecember2010,themonththatcorrespondswiththebasepriceforescalation,$1,000perunit.Twelvemonthslater,whenDecember2011datawerereleasedandthefirststipulatedpriceadjustmentwastobemade,theindexvalueforDecember2011,publishedmidJanuary2012,was187.7.Thepercentchangerepresentsanincreaseof5.2percentintheindexforMaterialsandcomponentsformanufacturinganda$52perunitincreaseinthepricefortheescalatedproduct.(Seebelow.)

Indexattimeofcalculation,December2011:....................187.7Dividedbyindexattimebasepricewasset,December2010:.....178.4Equals..........................................................1.052

Baseprice.....................................................$1,000Multipliedby..................................................1.052Equalsadjustedprice..........................................$1,052

Inlateryears,thisprocedurecouldbeappliedagainbytakingthenextyear'sDecemberindexvalue,dividingbytheindexvalueatthetimethebasepricewasset,andproceedingasdescribedabove.Forexample,letusassumethatthiscontractcontinuedthroughtheyear2013.InmidJanuary2013,theDecember2012indexwouldbereleasedbyPPI.TheratioofpricechangewouldbederivedbytakingtheDecember2012indexanddividingbytheDecember2010value,andmultiplyingthisresultbythebasepriceof$1,000toprovideanupdatedpricefor2013.

Indexattimeofsecondcalculation,December2012:.............187.2Dividedbyindexattimebasepricewasset,December2010:.....178.4Equals..........................................................1.049

Baseprice.....................................................$1,000Multipliedby..................................................1.049Equalsadjustedprice..........................................$1,049

Notethatinthisexample,becausepricesformaterialsandcomponentsformanufacturingdeclinedin2012,theescalatedpricein2013wouldbeslightlylowerthanitwasin2012.

(b)Escalationofaportionofthebaseprice.AnotherproceduresometimesemployedidentifiesaportionofthebasepricetobeescalatedbyaselectedPPI,whilethebalanceremainsfixed.Toillustrate,supposethatanitemhasabasepriceof$1,000,ofwhich$700istobeescalatedbytheindex,whiletheother$300remainsunchanged.Todeterminethe"certaindollaramount"thatisneededforcitationinthecontract,dividethedesignatedvariableportionofthebaseprice($700)by100,inthiscaseyielding$7foreach1.0percentmovementintheindex.BasedonthepriorexampleusingthePPIforMaterialsand



ComponentsforManufacturing,thebasepricewouldbeescalatedto$1,036.40afteroneyear.

Baseprice......................................................$1,000

Indexattimeofcalculation,December2011:.....................187.7Indexattimebasepricewasset,December2010:.................178.4Equalspercentchangefor2011:....................................5.2

Escalationadjustment:...................................5.2$7=$36.40Equalsadjustedprice:$1,000.00(baseprice)+$36.40(adjustment)=$1,036.40(escalatedprice)

(c)Indexpoints.Relativelyfewescalationclausesadjustcontractpricesonthebasisofchangesinindexpoints.TheBLSstronglydiscouragesthispractice,becausechangesinindexlevelsdonotreflectpercentchangesinpriceswhenthevaluesmoveawayfromtheirbaselevelof100.Forinstance,intheearlierexample,anindexpointchangeof9.3reflectedthe5.2percentincreaseinpricesformaterialandcomponentsformanufacturingfromDecember2010toDecember2011.Escalatingbyindexpointchangeshastheeffectofoverestimatingthepercentagechangeinpriceswhentheindexisabove100andunderestimatingthepercentagechangeinpriceswhentheindexlevelisbelow100.Inaddition,contractsemployingtheindexpointmethodaresubjecttocomplicationsrelatingtoindexbasedatechanges.

(d)Compositeindexes.Somecontractsprovidefortheconstructionofacompositeindexbasedonseveralseries.Theadvantageofacompositeindexisthatitmaymoreaccuratelyidentifytheappropriatechangeforabaseprice(seeguideline(2)),sinceitwouldrefertoseveralofthecostsinvolvedinproducingtheproductorserviceinquestion.However,acompositeindexentailsmorecalculationsatthetimeofadjustmentthanthesimplerproceduresdescribedearlier.ThoughthesecompositecalculationsoftenemployofficialBLSdata,thesecompositeindexesconstructedbythecontractingpartiesarenotofficialBLSdata.

Theproceduresforspecifyingacompositeindextobeusedinanescalationagreementareillustratedbythefollowingsteps:

(i)Choosetheindexesthatwillrepresentthedifferentcostsinvolvedinproducingthegoodorservice.Forexample,indexesforenergy,machineryandequipment,services,andlabormightprovideanappropriatemix.

(ii)Choosetheappropriateweightsfortheseindexes,inaccordancewiththeproportionoftheproductionbudgetwhichmaybedevotedtothesevariouscategories.Theweightsshouldbeassignedasproportionsandsumto1.0,theequivalentof100percentcoverage.Forexample,aproducermightdecidethatforaspecificescalationcalculation,theappropriateweightingsforenergy,machineryandequipment,services,andlabormightbe0.15,0.25,0.25,and0.35,respectively.

(iii)Theweightsshouldberepresentativeofthetimeperiodassociatedwiththebaseprice,whichwouldbethebaseperiodforanycalculations.

(iv)Onceindexeshavebeenchosenandrelativeproportionsassigned,itisnecessarytorebasealloftheoriginalindexdatatothecontract'sbaseperiod.Thisisdoneforeachseriesbydividingtheindexesthatcorrespondtotheescalationmonthandyearbytheirindexvaluesinthebaseperiod,andthenmultiplyingtheresultby100.Forthisandfollowingsteps,notethedetailedexampleinTable1thatfollowsintheExampleofEscalationProceduressection.

(v)Derivethevalueforthecompositeindexbymultiplyingtherelativeweightsforeachcostcategorybytherebasedindexvaluesforeachindexseries.Then,sumtheresults.

(vi)Usingthecompositeindexvaluescreatedinstep(v),calculatethecurrentadjustmentinstandardfashionthatis,usingtheproceduredescribedinguideline(9)(a).

(e)Limitsforpriceadjustment.Escalationclausessometimesreferenceafloor,aceiling,orboth,tolimitthetotalpriceadjustmentduringthelifeofthecontract.Contractstypicallyprovidethatanescalationistoapplyinbothanupwardanddownwarddirection.Onoccasion,however,contractsstipulatethatthebasepriceisapricefloorandthatpricescanonlyrise.Inaddition,somecontractsspecifythatnopriceadjustmentsaretobemadeuntilaminimumpricechangetothecontractescalatorhasoccurred.

ExampleofEscalationProceduresSupposeamanufacturerofwidgetsentersintoalongtermsalescontractwithacustomer.Thebuyerandtheselleragreetoincludeanescalationclausethatadjuststhesellingpriceyearly,upordown,toaccountforchangesinenergy,machineryandequipment,businessservice,andlaborcosts.Thefollowingisanexampleofthetermsthatmightbeincorporatedintosuchanescalationclause.Theexampleassumestheuseofthecompositeindexmethod,



discussedinsection(d)ofguideline(9).

(a)ThebasesellingpricefortypeAwidgetissetat$1,000perunitasofDecember2010,toremainineffectfor1year.December2010ishereaftercalledthebaseperiod.

(b)Thebasesellingpriceshallbeadjustedinaccordancewiththepercentchangesofthecompositeindexdescribedin(D)below.Theindexshallbederivedfromthefollowingcomponentindexes:

(i)Energy:PPIcodeID69113,Processedenergygoods,databasecodeWPUID69113,

(ii)Machineryandequipment:PPIcode114,Generalpurposemachineryandequipment,databasecodeWPU114,

(iii)Services:PPIcodeID63,Servicesforintermediatedemand,databasecodeWPUID63,

(iv)Labor:EmploymentCostIndex(ECI)forTotalCompensation(wagesandbenefits),privateindustry,goodsproducingindustries,databasecodeCIU201G000000000I.NotethatthisBLSindexispublishedonaquarterlybasis,andassuch,4thquartervalueswillbeusedfortheescalationcalculation.

PPIdatacanbeobtainedfromtheBLSWebsite,[email protected],orbycalling(202)6917705.ToaccessdatafromtheECI,visittheECIwebsite,submitaquestionviatheonlineform,orcall(202)6916199.

(c)ThesellingpriceshallbeadjustedonorafterFebruary1ofeachyear,beginning12monthsafterthecontractisinitiated,forallyearsthatthecontractremainsactive,basedonthepercentchange(upordown)inthecompositeindexdescribedbelow.Thecalculationwillcomparethebaseperiod(December2010)withDecemberofthemostrecentyear.PPIdataforDecemberaretypicallyreleasedmidJanuary,andEmploymentCostIndexdataforthefourthquarteraretypicallyreleasedbytheendofJanuary.ContactthePPIandtheECIeachJanuarytoidentifywhenDecemberPPIsandthefourthquarterECIdataarescheduledforpublication.AllcalculationsshallbebasedonthelatestversionsofthePPIandtheECIavailableonorafterFebruary1whentheDecemberPPIsandthefourthquarterECIarepublished.Allindexesforthiscalculationarenotseasonallyadjusted.

(d)Thecompositeindexshallbederivedinthefollowingmanner:

(i)Thevaluesforthecurrentperiodforeachofthe4BLSindexseriesspecifiedin(b)aboveshallberebasedtothereferencebaseperiodDecember2010.ThisshallbedonebydividingthecurrentDecembervalueofeachindexbyitsvalueforthebaseperiod,andthenmultiplyingtheresultby100.

(ii)Therebasedenergyindexshallbeassignedaproportionof0.15,representing15%.Therebasedmachineryandequipmentindexshallbeassignedaproportionof0.25(25%).Therebasedservicesindexshallbeassignedaproportionof0.25(25%).Therebasedlaborindexshallbeassignedaproportionof0.35(35%).Theseproportionssumto1.00(100%),andcorrespondwiththebaseperiodofDecember2010.

(iii)Multiplytherebasedcurrentindexforeachcomponentbyitsrelativeproportion.

(iv)Thesumofthese4valuesshallresultinthecompositeindexforthecurrenttimeperiod.

(v)Dividethecomponentindexby100andmultiplythatresultbytheoriginalbaseprice.Thisfinalfigureshallbetheadjustedpriceforthecurrenttimeperiod.

(e)IfDecemberECIdataarenotavailableforanyyear,theECIfortheimmediatelyprecedingSeptembershallbeusedasthebasisforadjustmentofthelaborindex.IfDecemberPPIdataarenotavailableforanyyear,thePPIdataforthemostrecentimmediatelyprecedingmonthshallbeusedasthebasisforadjustment.IfnoECIorPPIdatahavebeenpublishedforthosemonths,thenthecontractingpartiesshallagreeuponsubstituteseries.

Withthesetermsineffect,table1belowisanexampleofthedataandcalculationswhichwouldhavebeenmadeonFebruary1,2012todeterminethenewperunitsellingpricefortypeAwidgetsbasedonchangesinspecifiedBLSindexesfromDecember2010toDecember2011.

Table1.SampleCalculationProceduresforaCompositeIndexCalculationEnergy Machineryandequipment Services Labor

Compositeindex

Baseprice=$1,000perunitsold

Escalationperiodindex(Dec.2011/4thqtr.2011) 217.0 210.5 103.4 113.8

Dividebybaseperiodindex(Dec.2010/4thqtr.2010) 195.7 202.1 101.4 111.1

Equals: 1.109 1.042 1.020 1.024 Multiplyby100toyieldtherebasedindex 110.9 104.2 102.0 102.4



Assignedproportion 0.15 0.25 0.25 0.35 Multiplyrebasedindexbyassignedproportion 16.6 26.1 25.5 35.8 Addcomponentstoobtainthecompositeindex 104.0

Dividecompositeindexby100 104.0Multiplytheresultbythebasepricetoyieldadjustedprice $1,040

OnorafterFebruary1,2013,ifthisescalationagreementremainedineffect,anotheradjustmentwouldresult.WiththereleaseofPPIdataforDecember2012inmidJanuary2013andthereleaseofECIdataforthefourthquarterof2012inlateJanuary2013,replacingtheDecember2011/fourthquarter2011valuesinthetablewithDecember2012/fourthquarter2012valueswouldyieldtheupdatedescalationamount.

PitfallstoavoidVaguecitationof"theProducerPriceIndex"ratherthanareferencetoaspecificindexbyitstitleandidentifyingcode.Seeguideline(3).CitationoftheAllCommoditiesindexortheIndustrialCommoditiesindexratherthananindexthatmitigatesordoesnotincludemultiplecounting.SeethediscussionofcommodityindexesintheAppendix.UseofunofficialestimatesderivedusingrebasingfactorsratherthanrelyingonofficialBLSdata.Seeguideline(8).Ambiguousreferencestodates.Seeguideline(5).LackofaprovisionforasuccessorindexshouldthedesignatedindexbedroppedfromthePPIprogram,orbecometemporarilyunavailable.Seeguideline(6).Lockingindexestoaspecificbaseperiod.Seeguideline(8).Usingambiguousterms.Forexample,referringto"actual"indexes.Seeguideline(7).

Appendix:AnOverviewofPPIClassificationFinalDemandIntermediateDemand(FDID)IndexesThePPIFDIDstructuremeasurespricechangeforgoods,services,andconstructionsoldtofinaldemandandtointermediatedemand.TheFDIDsystemreplacedthePPIstageofprocessing(SOP)systemasPPI'sprimaryaggregationmodelwiththereleaseofdataforJanuary2014.TheFDIDsystemexpandscoverageinitsaggregatemeasuresbeyondthatoftheSOPsystemthroughtheadditionofservices,construction,exports,andgovernmentpurchases.

FDIDindexesareconstructedfromcommoditybasedproduceroutputpriceindexes.Thesecommoditybasedoutputpriceindexesareallocatedtoaggregatecategoriesbasedonproportionsofusebytypeofbuyer.ThemainsourceofdatausedtodeterminebuyertypeisthetabletitledUseofcommoditiesbyindustries,beforeredefinitionfromtheBenchmarkInputOutputDataTablesoftheUnitedStates,producedbytheU.S.BureauofEconomicAnalysis(BEA).ThetwoprimaryclassesofbuyersincludedintheFDIDsystemarefinaldemand(personalconsumption,capitalinvestment,government,export)andintermediatedemand(businesspurchases,excludingcapitalinvestment).Inmanycases,thesamecommodityispurchasedbydifferentbuyertypes,socommoditiesareoftenincludedinseveralFDIDindexes.Forexample,regulargasolineispurchasedforpersonalconsumption,export,governmentuse,andbusinessuse.ThePPIprogrampublishesonlyonecommodityindexforregulargasoline,reflectingsalestoalltypesofbuyers.ItisthisindexthatisusedinallFDIDaggregations,regardlessofwhetherthegasolineissoldforpersonalconsumption,asanexport,togovernment,ortobusinesses,withdifferencesaccountedforintheapplicableweightstoeachaggregateFDorIDindex.Insomecases,buyertypeisanimportantpricedeterminingcharacteristic,andresultsincommodityindexesbeingcreatedonthatbasis.Forexample,withinthePPIcategoryforloanservices,separateindexesforconsumerloansandbusinessloanswereconstructed.Inthiscase,thecommodityindexforconsumerloanswouldbeincludedinthefinaldemandindexandthecommodityindexforbusinessloanswouldfallunderintermediatedemand.

FormoreinformationrelatingtotheconstructionoftheFDIDsystem,see"Anew,experimentalsystemofindexesfromthePPIprogram"intheFebruary2011MonthlyLaborReview,orvisitthewebpagedocumentingtheFDIDAggregationSystem.MoreinformationaboutoverallPPImethodologyisavailablefromthePPIchapteroftheBLSHandbookofMethods.

FinaldemandThefinaldemandportionoftheFDIDsystemmeasurespricechangeforcommoditiessoldaspersonalconsumption,capitalinvestment,governmentpurchases,andexports.Thesystemiscomposedofsixmainpriceindexes:finaldemandgoodsfinaldemandtradeservicesfinaldemandtransportationandwarehousingservicesfinaldemand



servicesexcludingtrade,transportation,andwarehousingfinaldemandconstructionandoverallfinaldemand.

Thefinaldemandgoodsindexmeasurespricechangeforbothunprocessedandprocessedgoodssoldtofinaldemand.Freshfruitsoldtoconsumersandcomputerssoldascapitalinvestmentareexamplesoftransactionsincludedinthefinaldemandgoodspriceindex.Thefinaldemandtradeservicesindexmeasureschangesinmarginsreceivedfortheretailingandwholesalingofmerchandisesoldtofinaldemand,generallywithouttransformation.(Tradeindexesmeasurechangesinmarginsreceivedbywholesalersandretailers.)Thefinaldemandtransportationandwarehousingservicesindextrackspricechangefortransportationofpassengers,aswellas,transportationofcargosoldtofinaldemand,andalsoincludespricesforwarehousingandstorageofgoodssoldtofinaldemand.Thefinaldemandserviceslesstrade,transportation,andwarehousingindexmeasurespricechangeforallservicesotherthantradeandtransportationsoldtofinaldemand.Publishing,banking,lodging,andhealthcareareexamplesoftheseservices.Thefinaldemandconstructionindextrackspricechangefornewconstructionandmaintenanceandrepairconstructionsoldtofinaldemand.Constructionofofficebuildingsisanexampleofacommoditythatwouldbeincludedinthefinaldemandconstructionindex.Lastly,theoverallfinaldemandindextrackspricechangeforalltypesofcommoditiessoldtofinaldemandbycombiningthefivefinaldemandcomponentindexesdescribedabove.

IntermediatedemandTheintermediatedemandportionoftheFDIDsystemtrackspricechangeforgoods,services,andconstructionproductssoldtobusinessesasinputstoproduction,excludingcapitalinvestment.Thesystemincludestwoparalleltreatmentsofintermediatedemand.Thefirsttreatmentorganizesintermediatedemandcommoditiesbytype.Thesecondorganizesintermediatedemandcommoditiesintoproductionstages,withtheexplicitgoalofdevelopingaforwardflowmodelofproductionandpricechange.

INTERMEDIATEDEMANDBYCOMMODITYTYPE

TheintermediatedemandbycommoditytypetreatmentwithintheFDIDsystemorganizescommoditiesbysimilarityofproduct.Thesystemiscomposedofsixmainpriceindexes:unprocessedgoodsforintermediatedemandprocessedgoodsforintermediatedemandintermediatedemandtradeservicesintermediatedemandtransportationandwarehousingservicesintermediatedemandserviceslesstrade,transportation,andwarehousingandintermediatedemandconstruction.ThegroupingforprocessedgoodsforintermediatedemandisequivalenttotheSOPgroupingforintermediatematerials,supplies,andcomponents,andthegroupingforunprocessedgoodsforintermediatedemandcorrespondswiththeSOPgroupingforcrudematerialsforfurtherprocessing.

Theunprocessedgoodsforintermediatedemandindexmeasurespricechangeforgoodsthathaveundergonenofabricationandaresoldtobusinessesasinputstoproduction.Crudepetroleumsoldtorefineriesisanexampleofanunprocessedgoodsoldtointermediatedemand.Theprocessedgoodsforintermediatedemandindextrackspricechangeforfabricatedgoodssoldasbusinessinputs.Examplesincludecarpartssoldtocarmanufacturersandgasolinesoldtotruckingcompanies.Theindexfortradeservicesforintermediatedemandmeasureschangesinmarginsreceivedfortheservicesofretailingandwholesalinggoodspurchasedbybusinessesasinputstoproduction.Theintermediatedemandtransportationandwarehousingindexmeasurespricechangeforbusinesstravel,aswellas,transportationandwarehousingofcargosoldtointermediatedemand.Theintermediatedemandserviceslesstrade,transportation,andwarehousingindextrackspricechangefornontradeandnontransportationservicespurchasedbyfirmsasinputstoproduction.Legalandaccountingservicespurchasedbybusinessesareexamplesofintermediatedemandservicesexcludingtrade,transportation,andwarehousing.Finally,theconstructionforintermediatedemandindexmeasurespricechangeforconstructionpurchasedbyfirmsasinputstoproduction.Sincenewconstructioniscategorizedinthefinaldemandportionoftheeconomyascapitalinvestment,theconstructionforintermediatedemandindextrackspricechangeformaintenanceandrepairconstructionpurchasedbyfirms.

INTERMEDIATEDEMANDBYPRODUCTIONFLOW

Theproductionflowtreatmentofintermediatedemandisastagebasedsystemofpriceindexes.Theseindexescanbeusedtostudypricetransmissionacrossstagesofproductionandfinaldemand.Thissystemisconstructedinamannerthatmaximizesforwardflowofproductionbetweenstages,whileminimizingbackflowofproduction.Theproductionflowtreatmentcontainsfourmainindexes:intermediatedemandstage1,intermediatedemandstage2,intermediatedemandstage3,andintermediatedemandstage4.

Indexesforthefourstagesweredevelopedbyfirstassigningeachindustryintheeconomytooneoffourstagesofproduction,whereindustriesassignedtothefourthstageprimarilyproduceoutputconsumedasfinaldemand,industriesinthethirdstageprimarilyproduceoutputconsumedbystage4industries,industriesassignedtothesecondstageprimarilyproduceoutputconsumedbystage3industries,andindustriesassignedtothefirststageproduceoutputprimarilyconsumedbystage2industries.Indexesforthestagestrackpricesforthenetinputsconsumedbyindustriesineachofthefourstagesofproduction.Forexample,thestage4intermediatedemandindextrackspricechangeforinputsconsumed,butnotproduced,byindustriesincludedinthefourthstageofproduction.Hence,theindexmeasurespricechangeintheinputstoproductionofindustriesthatprimarilyproducefinaldemandcommodities.ThemainsourcesofdatausedtodeveloptheseindexesweretheBEAtablestitledUseofcommoditiesbyindustries,beforeredefinitionandMakeofcommoditiesbyindustries,beforeredefinition.



Examplesofheavilyweightedgoodsproducingindustriesinstage4includethemanufactureoflighttrucksandutilityvehicles,automobiles,andpharmaceuticals.Retailtrade,foodserviceanddrinkingplaces,andhospitalsareexamplesofheavilyweightedserviceindustriesincludedinstage4.Stage4alsoincludesallnewconstructionindustries.Examplesofgoodsconsumedbystage4industriesincludemotorvehicleparts,commercialelectricpower,plasticconstructionproducts,biologicalproducts,andbeefandveal.Engineeringservices,machineryandequipmentwholesaling,longdistancemotorcarrying,andlegalservicesconstituteexamplesofservicesconsumedbystage4industries.

Examplesofhighlyweightedgoodsproducingindustriesincludedinstage3aremotorvehiclepartsmanufacturing,animal(exceptpoultry)slaughteringandprocessing,andsemiconductormanufacturing.Servicesindustriesclassifiedinstage3includewholesaletradeinsurancecarriersarchitecture,engineering,andrelatedservicesandhotelsandmotels.Examplesofgoodsconsumedbystage3industriesincludeslaughtersteersandheifers,industrialelectricpower,andhotrolledsteelbars,plates,andstructuralshapes.Servicescommonlyconsumedbystage3industriesincludecommissionsfromsalesofpropertyandcasualtyinsurance,businessloans,temporaryhelpservices,andadministrativeandgeneralmanagementconsultingservices.

Petroleumrefinerieselectricitygeneration,transmission,anddistributionnaturalgasdistributioncattleranchingandfarmingandplasticmaterialsandresinmanufacturingareamongthegoodsbasedindustriesassignedtostage2.Servicesindustriesthatareheavilyweightedinstage2includemanagementofcompaniesandenterprisesnondepositorycreditintermediationandrelatedactivitiesinsuranceagencies,brokerages,andrelatedactivitiesandservicestobuildingsanddwellings.Goodscommonlypurchasedbystage2industriesincludecrudepetroleum,naturalgas,formulafeeds,andprimarybasicorganicchemicals.Servicesthatareheavilyweightedintheintermediatedemandstage2indexarelegalservices,businessloans,andcellularphoneandotherwirelesstelecommunication.

Goodsproducingindustriesinstage1includeoilandgasextraction,papermills,andgrainfarming.Realestate,legalservices,andadvertisingservicesareexamplesofhighlyweightedservicesindustriesincludedinstage1.Examplesofgoodsconsumedbystage1industriesarecommercialandindustrialelectricpowerandgasoline.Servicescommonlyconsumedbystage1industriesincludesolidwastecollection,chemicalsandalliedproductswholesaling,andguestroomorunitrental.Allinputspurchasedbystage1industriesarebydefinitionproducedeitherwithinstage1orbylatterstagesofprocessing,leavingstage1lessusefulforpricetransmissionanalysis.

Seeindustrystageassignmentsformoreinformation.

SpecialgroupingsInadditiontotheFDIDstructuresdescribedinthepriorsections,anumberofsupplementalindexeshavebeendevelopedinordertoprovidedatauserswithindexgroupingsnotavailablethroughtheprimaryFDIDstructures.Someexamplesofthesespecialgroupingindexesinclude:

FinaldemandFinaldemandlessfoods,energy,andtradeservicesFinaldemandgoodsplusfinaldemanddistributiveservicesFinaldemanddistributiveservicesTotalfinished(thepersonalconsumptionandprivatecapitalinvestmentportionoffinaldemand)FinishedgoodsTotalexportsGovernmentpurchasedgoodsGovernmentpurchasedservicesPersonalconsumptionPersonalconsumptiongoodspluspersonalconsumptiondistributiveservices

IntermediatedemandProcessedenergygoodsProcessedfoodsandfeedsProcessedmaterialslessfoodsandenergyProcessedgoodsplusintermediatedistributiveservicesUnprocessedfoodstuffsandfeedstuffsUnprocessedenergymaterialsUnprocessednonfoodmaterialslessenergyTotalgoodsinputstostage4intermediatedemandTotalservicesinputstostage4intermediatedemandTotalgoodsinputstostage3intermediatedemandTotalservicesinputstostage3intermediatedemandTotalgoodsinputstostage2intermediatedemandTotalservicesinputstostage2intermediatedemand



ToviewthecompletesetofindexesincludedintheFDIDsystem,seetables1,2,and3ofthePPINewsRelease.

CommodityIndexesThecommodityclassificationstructureofthePPIorganizesproductsbysimilarityofenduseormaterialcomposition,regardlessoftheirindustryoforigin.ThissystemisuniquetothePPIanddoesnotmatchanyotherstandardcodingstructure,suchastheNAICSortheU.N.StandardInternationalTradeClassification(SITC).Thehistoricalcontinuityofindexseries,theneedsofindexusers,andavarietyofadhocfactorswereimportantindevelopingthePPIcommodityclassification.PriortoJanuary2009,thecommodityclassificationsystemincludedonlygoodsbasedpriceindexes.WiththereleaseofdataforJanuary2009,PPIexpandedthecommodityclassificationstructuretoincludeservicesandconstructionproducts.Table9ofthePPIDetailedReportincludesdataforcommodityindexes,organizedinahierarchalstructure,includingmajorgroupings,subgroups,productclasses,subproductclasses,andindividualitems.

Thecommodityclassificationsystemisorganizedasahierarchicalstructurethatstartswithmajorcommoditygroupings(2digitlevelofaggregation).Majorgroupings01through15encompasscommoditybasedgoodsindexes.Majorgroupings30though61includeservicesbasedcommodityindexes,andmajorgroup80encompassesconstructionbasedcommodityindexes.Eachmajorcommoditygroupingincludes(indescendingorderofaggregation)subgroups(3digitlevel),productclasses(4digitlevel),subproductclasses(5and6digitlevel),itemgroupings(7digitlevel),andindividualitems(8,9,and10digitlevels).

UnlikemanyFDIDindexes,someofthetraditionalcommoditygroupingindexes,suchastheAllCommoditiesindex,theIndustrialCommoditiesindex,and2and3digitcommoditygroupingindexes,exhibitamultiplecountingbiasinreflectingpricechanges.Inbrief,multiplecountingbiasmeansthatpricechangesforcomponentsthatgothroughmanystagesofprocessinghaveanexcessiveinfluenceonaggregateindexseries.ThisproblemiscommonamonghighlyaggregatedPPIcommoditygroupingsbecausetheyarecalculatedfrompricechangesofcommoditiesatseveralstagesoftheproductionprocess,whereeachindividualpricechangeisweightedbyitstotalgrossvalueofshipmentsintheweightbaseyear.Thisproblemoccursbecausemanyproductsgothroughsuccessivestagesoffabricationorprocessingandhavetheirpricechangescountedseparatelyateachstage.Theindexesforfinaldemand,intermediatedemandbyproductionflow,andthenetoutputofindustriesandindustrygroupseliminatethedefectofmultiplecountingofpricechanges,whiletheintermediatedemandbycommoditytypeindexesmitigate,butdonoteliminate,thisdefect.

Toillustratethemultiplecountingproblem,supposethatthepriceofcottonrisessharply.Ifthepriceincreaseispassedthroughbyspinnersofcottonyarnandthread,thenbyweaversofgraycottonfabric,thenbyproducersoffinishedcottonfabric,and,finally,byshirtmanufacturers,thesinglepriceincreasefortherawmaterialcottonwouldhavebeenincludedfivetimesintheAllCommoditiesindexandfourtimesinboththeIndustrialCommoditiesindexandthemajorcommoditygroupingindexfortextileproductsandapparel.Inasmuchaspricesthroughouttheeconomyarealwayschangingatdifferentrates,multiplecountingcanresultinratesofchangeforaggregatedpriceindexesthatarehighlymisleading,becausepricesofrawmaterialstendtobemorevolatilethanpricesoffinaldemandgoodsandbecausegrossoutputvaluesareusedasweightsformajorcommoditygroups.Specific,detailedcommodityindexes,suchas6and8digitcommoditybasedPPIs,andmany4digitcommoditycodes,areeffectivelyfreeofthismultiplecountingdefect.

IndustryIndexesAProducerPriceIndexforanindustryisameasureofchangesinpricesreceivedfortheindustrysoutputsoldoutsidetheindustry(thatis,itsnetoutput).MeasuresofpricechangeclassifiedbyindustryformthebasisofsamplinganddatacollectionwithinthePPI.Theseindexesreflectthepricetrendsofaconstantsetofgoodsandservicesthattogetherrepresentthetotaloutputofanindustry.Standardizedindustrybasedindexcodesprovidecomparabilitywithawideassortmentofindustrybaseddataforothereconomicphenomena,includingproductivity,production,employment,wages,andearnings.

Forabout25years(fromthelate1970sthrough2003),thePPIprogrammadeuseoftheStandardIndustrialClassification(SIC)systemasthestructureforthecollectionandpresentationofindustrybasedpricedata.However,theSICsystemreceivedincreasingcriticismaboutitsinabilitytohandlerapidchangesintheU.S.economy.Developmentsininformationservices,newformsofhealthcare,expansioninservices,andhightechmanufacturingareexamplesofindustrialchangesthatcouldnotbestudiedadequatelyundertheSICsystem.

ThePPIprogrambeganpublishingindustrybasedpricedataorganizedinaccordancewiththeNorthAmericanIndustryClassificationSystem(NAICS)withthereleaseofdataforJanuary2004.DevelopedincooperationwithCanadaandMexico,NAICSrepresentsoneofthemostprofoundchangesinstatisticalprogramsfocusingonemergingeconomicactivities.NAICSusesaproductionorientedconceptualframeworktogroupestablishmentsintoindustriesonthebasisoftheprimaryactivityinwhichtheyareengaged.Establishmentsusingsimilarrawmaterialinputs,similarcapitalequipment,andsimilarlaborareclassifiedunderthesameindustry.Theindustrywithinwhichanestablishmentisclassifiedisdeterminedbythoseproductswhichaccountforthelargestshareoftheestablishments



totalvalueofshipments.

Inadditiontoaggregateindexestrackingpricechangesforgroupsofindustriesandindustriesasawhole,ingeneral,theremaybeasmanyasthreekindsofproductlevelindexesforcategorieswithinagivenindustry.Everyindustryhasprimaryproductindexesthatshowchangesinpricesreceivedbyestablishmentsintheindustryforthevariousproductsmadeprimarily,butnotnecessarilyexclusively,bythatindustry.ForcontractingpartieslookingtouseindustrybasedPPIsforescalationpurposes,theseindexes,whichdirectlyrelatetothevarioustypesofprimaryproductionofanindustry,aremoreappropriateforuseincontracts.Twoexamplesofprimaryproductionarecranesproducedbyconstructionmachinerymanufacturers(NAICS333120),andfinancialauditingdonebyofficesofcertifiedpublicaccountants(NAICS521211).Inadditiontoindexesforprimaryproductsofindustries,mostindustrieshavesecondaryproductindexesthatshowchangesinpricesreceivedbyestablishmentswithinanindustryforproductsmadechieflybyotherindustries.Someexamplesincludeminingmachineryproductionandthesellingofscrapdonebyconstructionmachinerymanufacturers,aswellasmanagementconsultingservicesperformedbyaccountingfirms.Finally,someindustrieshavemiscellaneousreceiptsindexesthatshowpricechangesforothersourcesofrevenue,suchasresalesofpurchasedproductsorcollectionofrents.Indexesforsecondaryproductsandmiscellaneousreceiptsgenerallyarenotconsideredappropriateforcontractescalation,sincetheyreflectanundefinedbasketofgoodsorservices.Itissuggestedthatcontractingpartieslookingforahighlevelindexforaspecificindustryconsiderusingtheindustrysprimaryproductsaggregateindex,whichbringstogetherthevariousproductsthatconstitutetheprimaryproductionofthatindustryintoasingleaggregateindex.

Footnotes1See,Highlightsofthe2013PPIUserSurvey,BureauofLaborStatistics,BeyondtheNumbers,August2013,Volume2,No.20,JosephKelleyandAntonioLombardozzi.

2DatarequestsandtechnicalquestionsconcerningthePPImaybeaddressedtothePPISectionofIndexAnalysisandPublicInformation.Theycanbereachedattelephonenumber2026917705,orbyemailat([email protected]).Pleaserefertothedesiredseriesbytitleandcode,exactlyascitedinthecontract.

3TheEmploymentCostIndex(ECI)isbasedonaquarterlysurveytypicallypublishedinthemonththatfollowsthecompletionofthecalendarquarter.BecausetheECIhasrelativelylittleindustrydetail,datausersmayhavetouseahigherlevelofaggregationthantheydowithPPIdata.However,theEmploymentCostIndexisahighlyusefulmeasureoflaborcostsbecauseitcoversallworkers(notjustproductionandnonsupervisoryworkers)andbecauseitincludesnotonlywagesandsalariesbutalsoemployercostsforemployeebenefits.LikethePPI,theECIisafixedweightindexandisnotinfluencedbyemploymentshiftsamongindustriesandoccupationswithdifferentwageandbenefitlevels.ButunlikethePPI,ECIdataarefinalwhentheyarefirstpublishedandarenotsubjecttorevision(exceptonaseasonallyadjustedbasis).TheECIWebsiteislocatedathttp://www.bls.gov/ncs/ect/,andtheycanbereachedoverthephoneat2026916199.

4Fromtheseller'spointofview,acontractwhichescalatesthepriceofaproductbasedonthechangeinthePPIforthatsameproductmightnotprovideanappropriatebasisforchangingthebaseprice.Ifmostcompaniesreportingaproduct'spricetoBLSemployedescalationclausesusingthePPIforthatsameproduct,thesefirmswouldbeunabletoraisetheirpricesuntilthePPIadvancedhowever,therecouldbenoadvanceinthePPIuntilthecompanieswereabletoraisetheirprices.Fromthebuyer'spointofview,areversecircularityisevidentwhenthepriceofaproductpurchasedisescalatedbythePPIforthesameproduct.AriseinthecontractpricemaybereflectedinariseinthePPI,whichwouldtriggeryetanotherrise.Insummary,contractescalatorsgenerallyareputinplacetocopewithinputcostvolatilityfromthesellerssideofthetransaction.Undercertainconditions,sellersmaynotbeabletoprovidetheagreedtoproductorserviceiflargeincreasesininputcostsarenotmitigated.Similarly,buyersmayfeellittleincentivetolockinapriceovertimeoftheyperceivethatadropininputcostsaccruesonlytothesellerasawindfall.

5Sometimes,however,governmentagencies,laws,orregulationsstipulatewhichindexorlevelofdetailmustbecited.

6AsanexampleofPPIpractices,firstpublishedPPIdataforDecember2012,aswellasfinaldataforAugust2012,werereleasedonJanuary15,2013.FinaldataforDecember2012werereleasedonMay15,2013withthefirstreleaseofdataforApril2013.FinaldataforallindexesappearintherecalculatedindexcolumnofeachtableineachissueofthePPIDetailedReport,andareavailableonlinethroughLABSTAT.ContractingpartieswhowanttouseotherBLSseriesforescalationinadditiontoPPIsshouldbeawarethateachBLSprogramhasitsownrevisionandcorrectionpolicies.

7MostofthenewFDIDindexeshaveanindexbaseofNovember2009=100orApril2010=100.However,thegoodsbasedindexesoftheFDIDsystemthatcorrespondwiththepreviousSOPmodelhaveanindexbaseof1982=100.Somecommoditytypeindexesalsohaveanindexbaseof1982=100,butothercommoditytypeindexes,



aswellasalloftheindustrybasedindexes,havetheirbaseperiodsetequaltothemonthandyearoftheirintroduction.

LastModifiedDate:June5,2015

RECOMMENDTHISPAGEUSING: Facebook Twitter LinkedIn

FreedomofInformationAct|Privacy&SecurityStatement|Disclaimers|CustomerSurvey|ImportantWebSiteNotices

U.S.BureauofLaborStatistics|ProducerPriceIndex,PSBSuite3840,2MassachusettsAvenue,NEWashington,DC202120001www.bls.gov/PPI|Telephone:12026917705|ContactPPI

TOOLSAreasataGlanceIndustriesataGlanceEconomicReleasesDatabases&TablesMaps

CALCULATORSInflationLocationQuotientInjuryAndIllness

HELPHelp&TutorialsFAQsGlossaryAboutBLSContactUs

INFOWhat'sNewCareers@BLSFindIt!DOLJoinourMailingListsLinking&CopyrightInfo

RESOURCESInspectorGeneral(OIG)BudgetandPerformanceNoFearActUSA.govBenefits.govDisability.gov

Documents

Producer Price Index (PPI) Guide to Contract Escalation