In these times when market forces appear increasingly complicated and more volatile, it is all the more important to understand the professional jargon and terminology in the market place in order to be able to better make our investment and business decisions. Understanding key economic indicators will assist in the decision making process, providing a snapshot of the current situation and an insight into the future.
(46) Each economic indicator tells us something about the economy or inflation. Gross Domestic Product (GDP) is probably the most important report as it is the whole framework where other economic indicators fall under.
There are also indicators that are broader tell us about the economy itself rather than the components, e. g. employment figures, leading indicators, money supply figures (M3). Inflation figures, Produce Price Index (PPI) and the Consumer Price Index (CPI) will, in short, inform us of the changes in wholesale prices, cost of consumer (retail) goods and services respectively.
An indicator that is useful must be accurate, timely and reliable. It depends entirely on the integrity of the national statistical system responsible. It is vital to know the accurate components of an indicator. We have to be mindful of the limitation of these statistical figures too.
Some indicators can be historic or extremely volatile, and therefore their values are reduced. It is better to compare the most recent data with earlier months, or take a moving average for the past 3, 6 or 12 months to smooth the data. It will tell us if there has been a significant change in trend and whether a new direction is under way.
Timeliness of an indicator is also significant. (47) Although the reported figures are important, it is crucial to recognize that markets react more to the variance to the consensus forecast than to the absolute change in the indicator. (48) Markets do not like surprises and can be frustrated with volatility upon subsequent revisions to the numbers published, even though significance of the absolute number diminishes with each passing month.
The Index of Leading Economic Indicators (L. E. I) in the US acts as an early warning system, telling us when the economy is about to change direction. (49) This composite index of 11 leading indicators has a good record of providing accurate forecasts. The total index performs better as a prediction tool than any of its parts. This monthly figure is available on the last business day of the month and has low volatility.
(50) As a general rule, turning points in the economy are signaled by three consecutive months of L. E. I changes in the same direction. This leading indicator is like a lighthouse, giving the rest of the world economies a glimpse of the direction of the’ world’s largest economy.