The Relationship Between Lebanon PMI’s Output Prices Subindex and the CPI – A Quantitative Study

• Introduction

Many economists studied the relationship between the Purchasing Managers’ Index (PMI) and other macroeconomic indicators such as GDP and general inflation. We decided to go down a narrower path and take the “output prices”, a subindex of the PMI, and study its relationship with the Consumer Price Index (CPI). Output prices measure the average prices that private sector companies charge for their finished goods and services. Like the PMI, they are expressed by a diffusion index that ranges between 0 and 100, with the same standard 50 baseline. A reading above 50 indicates that prices are increasing on average while a reading below 50 indicates prices are decreasing on average. On the other hand, the CPI is an economic indicator that measures the average change over time of a reference “basket” of consumer goods and services. Both series are generally considered to be positively correlated along with time lags, given that the PMI – and thus the output prices – is considered a leading indicator. We decided to study the effect of the percentage point change in last month’s PMI on this month’s log change in CPI, therefore we initially used a simple linear regression model with a distributed 1-month lag. Later on, we built upon this model and added a dummy variable and finally an autoregressive term to arrive at an Autoregressive Distributed Lag (ARDL) model along with diagnostic tests to assess the impact and validity of the change in output prices more comprehensively.

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