The Role of Economic Indicators in Forex Trading

If you’re a casual trader looking to develop your skills to create a broader understanding of the forex market and boost your output with better strategies, you have come to the right place. There are lots of valuable resources posted each year that can help your forex trading efforts, but detrimental news and events are also a battle to fight with. In this guide, we shall discuss the leading economic indicators and all the information on why they impact the forex market.

Lagging Economic Indicators

The main lagging economic indicators surround inflation, trade balance, and unemployment rates. These indicators are signs of how the economy is sitting in the current climate. Due to the nature of a lagging indicator, it can sometimes be challenging to predict their exact movement. A good rule of thumb is to follow the idea that past returns are never a guarantee for future returns. These indicators are great in the forex market as they give a strong signal about the particular currencies you should invest in.

Inflation

The Consumer Price Index or inflation rate is released monthly for most G10 countries and could be the most crucial indicator in the forex market. The definition of inflation is the steady rise in the price level for goods.

If there is a high rate of inflation, it usually leads to a decline in monetary value, as the average income levels do not correspond with this increased consumer price rise. Inflation can often lead to a decrease in consumer spending ability which overall will create a detriment to the quality of living for the economy. Inflation affects other areas, such as job growth, trade balance, and GDP. A stable low level of inflation is perfect as it encourages people to put back into the economy as there is more inclination to spend and invest.

Unemployment Rate

Unemployment rates are a lagging indicator and are released monthly from most G10 currency countries. The unemployment rate is the overall percentage of how many people do not have jobs at that current moment. This does not include people who are looking for work. This indicator can sometimes be inaccurate as it does not account for people who have been advised to put their job search on hold.

Trade Balance

The trade balance is the difference between the total value of imports plus the total value of exports. This indicator reveals if money is coming in or going out when world trades are completed. A trade surplus generally helps the economy of countries as it gives nations the opportunity to take out loans at a much lower interest rate. The lower interest rates result in a faster pace of growth compared to the domestic economy. When a higher amount of money is leaving a country, trade deficits will result in higher domestic debt as money is required to pay for the incurred debts. This type of borrowing can result in the strength of a currency declining and borrowing costs being much higher.

Leading Economic Indicators

Leading economic indicators feature Business Confidence, Consumer Confidence , and Purchasing Managers’ Index. Indicators like this are most important when creating forecasts for currency movements and show how economies are likely to be fair.

Purchasing Managers’ Index

If you want to know how purchase managers view market conditions, the best process is using a purchase managers’ index. You will be able to see whether a purchase manager believes that a company is expanding, contracting, or stagnating. These surveys are completed each month and represent a headline number between 0 and 100. Any number above 50 shows that the activity of a business is expanding, while a number below 50 represents a declining business.

A purchase managers index has two key elements; Manufacturing PMI and Services PMI. These are one of the leading indicators and usually forego changes in an economic activity like industrial production, GDP, and employment.

Business Confidence

If you want an opinion-based survey, business confidence is the perfect choice for a business condition assessment. While the methods change depending on the country you’re in, they all give current and expected information on business conditions. Some of the more popular business confidence indicators are BCI (US), Ifo Business Climate (Germany), CBI Business Optimism (UK), and NAB Business Confidence (Australia).

Consumer Confidence

Consumer confidence is one of the leading economic indicators to offer insight into the expected spending of the future. If consumers feel positive and safe, they are likely to spend more, creating a better economic climate. Retrospectively, if the consumer doesn’t feel as secure, they are less likely to spend and invest.

Coincident Economic Indicators

These particular indicators feature GDP, Personal consumption, Retail Sales, and expenditure (PCE). They give a great insight into how the economy is currently fairing, making it a very important factor when confirming what leading indicators are being forecast.

Retail sales

Retail sales indicate the sales and purchase of non-durable goods over a certain amount of time. These figures track the spending habits of consumers and also provide a key insight if economic activity is improving the country or damaging. However, this type of data should be monitored regularly as it has a tendency to move and change easily.

Personal consumption and expenditure (PCE)

Personal spending and expenditure is another coincident measure of the economy and the spending habits within it. That said, it also shows a broader base than retail sales. This indicator shows close to two-thirds of all final spending. PCE indicates how much each household is spending on the current requirements and how much money is being saved for future endeavors. This is the most comprehensive collection of data to show how the economy currently is.

Martin Woolridge

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