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Economic Indicators: Understanding The Consumer Price Index (CPI) Report

   

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There are plenty of people out there who have never heard of the Consumer Price Index (CPI) report. In short, it’s a weighted average of goods and services that consumers use. This can include a variety of things, such as food, transportation, and even medical care and medications. The CPI is determined by taking the changes in price for the “basket” items of goods and services, and then averaging them out. Any change in the CPI is used to assess the cost of living—therefore, the CPI is one of the statistics used most often for identifying times of deflation and inflation.

Looking at How the CPI Works

Two different types of CPI reports are published by the United States Bureau of Labor Statistics every month. The first, the CPI-U, is the Consumer Price Index for Urban Consumers, which covers 89 percent of the population of the US, and is therefore the main representation of the general public of consumers. The second type, CPI-W, is the Consumer Price Index for Urban Wage Earners and Clerical Workers, which covers just 28 percent of the population.

Fiscal policies created by the Federal Reserve Board, Congress, and the president use the CPI to see how much deflation or inflation is represented in the report. The rate of the CPI is typically expected to be under or at 2 percent, according to the US Department of Labor. If it goes above that level, lending rates will likely increase—but this isn’t always the case. For example, when the CPI rose above 2 percent back in 2014, alternate inflation gauges indicated that wasn’t enough to raise borrowing rates.

CPI statistics cover a variety of people, including self-employed professionals, generally employed professionals, retired consumers, and the unemployed. However, non-metro populations, such as armed forces, farm families, prison inmates, and those within mental health care, are not included in the CPI report. What the CPI represents is a “basket” of goods or services across the US every month, and the cost thereof, which are broken up into 8 major subsections: transportation, education and communication, recreation, medical care, housing, food and beverage, apparel, and general goods and services. 

The Importance of the CPI to Forex Traders

Ultimately, what the CPI or Consumer Price Index does for forex traders is provide them with a measurable insight into the current goods and services inflation in the US. This indicator is often used side-by-side with the PPI, or Producer Price Index, to give traders an idea of the pressures of inflation currently in the country.

Policymakers that deal in money—such as the Federal Reserve Bank or voting members of the Federal Open Market Committee—usually review the numbers of the CPI and associated trends when making decisions as to whether or not to adjust levels of interest rates of benchmarks, like the Federal Funds Rate or the Prime Rate.

Any changes in these interest rates, which are key to the function of the United States, then transmit to the rest of the United States economy, through changes in borrowing and lending rates of commercial banks. If these rates are lowered, they can stimulate the economy. On the other hand, if raised, they can stifle it.

How the CPI Can Impact the USD

There is a dual mandate in effect at the Federal Reserve, which affects how it takes action on monetary policies—ultimately, it wants to bring the economy up to full employment while ensuring a rate of healthy inflation as the expansion of the economy takes effect. Forex traders should view unemployment and inflation rates as rates that will ultimately inform the central bank’s decisions on whether to maintain the current rates of interest levels, raise them, or cut them altogether. Interest rates impact a currency’s strength or weakness, so traders can anticipate these impacts on the USD’s performance within the forex market.

Learning How to Trade the CPI Report Releases

Many forex traders view the CPI and its core figures to be a couple of the most important markers for how the economy performs. However, the Core CPI typically provides a better indication, because it doesn’t include the volatile price ranges of food and energy sectors. Should the number of the CPI and the Core CPI, released by the Labor Department, beat the expectations of the market, the dollar will see an increase when placed against other currencies. If it should fall behind expectations, however, then the currency will fall into a more relative range in pairings.

It should be noted that, like all government data findings, economists might revise the CPI in order to fuel volatility in a currency’s value when on the global market.

Conclusion

There are many experts that consider the CPI figure the best indicator of inflation currently available to traders. Inflation has a significant impact on rates of interest—that much is obvious. Therefore, many investing and business decisions are based upon it, thus directly impacting the economy. Measures must be taken accurately when the CPI report is released, especially as it can pull the USD in any direction. Overall, understanding the CPI is absolutely vital to anyone who currently trades on the forex market.

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Disclaimer:

The information provided herein is for general informational and educational purposes only. It is not intended and should not be construed to constitute advice. If such information is acted upon by you then this should be solely at your discretion and Valutrades will not be held accountable in any way.

This post was written by Graeme Watkins

CEO Valutrades Limited, Graeme Watkins is an FX and CFD market veteran with more than 10 years experience. Key roles include management, senior systems and controls, sales, project management and operations. Graeme has help significant roles for both brokerages and technology platforms.

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