In the last chapter I described the importance of central banks and the monetary policy they introduce in every country. Inflation and earnings levels are closely watched by central bank’s representatives in order to choose the right steps in the monetary policy. It has to be noted that not only the current inflation level is crucial. Very important are also expectations about what will be going on in the future since forecasts are often times compiled for the long-term. Taking this long-term approach comes from the fact that a more or less restrictive monetary policy will have its effect with at least a half-year delay. The reaction of investors to surprising interest rates hikes or cuts is similar to inflation data. Surprising interest rates hikes usually strengthen the currency of the country causing equities markets to fall.
The financial world does not end with publications regarding inflation. There is a bunch of reports describing the current condition of the economy. Let’s start with the most popular indicators describing the current economic condition of a country.
Gross Domestic Product (GDP)
A country’s gross domestic product, or GDP, is one of the ways for measuring the size of its economy. It measures the condition of the whole economy. The GDP of a country is defined as the market value of all final goods and services produced within a country in a given period of time. It is also considered the sum of value added at every stage of production of all final goods and services produced within a country in a given period of time. Until the 1980s the term GNP or gross national product was used in the United States. The two terms GDP and GNP are almost identical - and yet entirely different; GDP (or GDI - Gross Domestic Income) being concerned with the region in which income is generated and GNP (or GNI - Gross National Income) being a measure of the accrual of income to a region. The reaction of the market to this publication is not as nervous since most of the components of the GDP are already known way before. The most common way of measuring GDP is the representative formula:
GDP = C + I + G + + (E – IM) where
C = Consumption
I = Investments
G = Government Spending
E = Exports
IM = Imports
The formula above is to simplify the understanding of the GDP but it creates the most important elements of the economy. Readings better than expectaions usually strenghten the currency of the country and cause equities markets to rally.
Retail Sales
Retail Sales measure the value of sales at the retail level. It is the most popular indicator showing demand of households. A rising trend has a positive effect on the nation's currency because Retail Sales make up a large portion of consumer spending, which is a major driver of the economy and has a sizable impact on GDP. Investors pay close attention to Retail Sales because it is usually the first significant indicator of the month that relates to consumer behavior and is susceptible to surprises. Often times, the value of this indicator swings a lot and that is why investors focus on the Core Retail Sales publication.
Core Retail Sales
Core retail sales measures the value of sales at the retail level but excludes the automobile sales component. Automobile Sales make up almost 25% of Retail Sales, but they can be very volatile from month to month and can distort the picture. Retail Sales with the exclusion of this volatile component is thought to be a better indicator of the underlying trend in consumer spending. The higher the value of retail sales the better financial results investors can expect from companies. Such information usually is a positive impulse for stock indices lifting them up.
Personal Income
Publication compiled by the Commerce Department / Bureau of Economic Analysis. Personal Income measure the total amount of income received by individuals. A rising trend has a positive effect on the nation's currency because higher levels of income allow consumers to spend more. Personal spending of households will increase.
Personal Spending
Publication compiled by the Commerce Department / Bureau of Economic Analysis. Personal Spending measures the total amount spent by consumers on goods and services. A rising trend has a positive effect on the nation's currency because consumer spending is a major driver of the economy, accounting for about two-thirds of GDP.
Both reports, Personal Income and Spending, are published at 8:30 American time around the 21st of the month and the first day after the GDP publication.
The consumption indicator described in this chapter show investors what already happened. It is important to know, and what is more important, about the future trends of the economy. I will describe this kind of macroeconomic publications in the next chapter.
Adam Narczewski
X-Trade Brokers Dom Maklerski S.A.
adam.narczewski@xtb.pl