Inflationary measures

Posted by Scriptaty | 9:06 PM

The third most important set of economic statistics, according to Gain’s Dolan, is inflation data, including that reflected in the Institute for Supply Management (ISM) report, inventory data, and consumer prices.

The ISM report provides one of the first glimpses inside the economy every month. It surveys purchasing managers in the manufacturing and non-manufacturing (i.e., service) industries, the latter in a separate report later in the month. Although the report sounds rather dry, it is closely monitored because the activity of manufacturing purchasing agents reflects the pickup in demand for manufactured products, which in turn is a barometer for manufacturing activity in general.

Some lagging indicators may indicate the economy is supposedly expanding or contracting when it really is not. For example, a gross domestic product (GDP) report can affect a few months of consumer confidence reports, Dolan says, as the nation spends and consumes according to what the GDP reveals.

The GDP’s effect on the FX market is determined by how strong or weak the report is. A strong report tends to spur corporate profits and firm up interest rates, making the dollar more attractive to foreign investors.

As the economy grows stronger, eventually the focus shifts to inflationary indicators such as the Consumer Price Index (CPI), Dolan says. The CPI reflects price inflation in retail goods and services by measuring the average change in retail prices over time in a basket of 200 assorted goods and services. It does not have as much of an effect as some other reports on the FX markets, but can still have an impact because of its relevance to interest rates. If rates surge on growing inflation concerns, it can hurt the U.S. dollar. High U.S. inflation erodes the value of dollar based investments held by foreigners.

A related measure is the Producer Price Index (PPI), which measures the change in prices paid by businesses for raw and semi-finished goods (as opposed to what consumers pay for finished products). A fast-rising PPI can hurt the dollar because the Fed can respond so aggressively as to jeopardize U.S. economic growth altogether.

However, a gradual rise in inflation accompanied by well-timed tightening of interest rates can lead to a steady or rising dollar.

“Inflationary indicators are not as much of a concern right now,” says Dolan.