Inflation data

What is inflation data?

Inflation is an important part of a country’s economic picture. Fundamental traders
should always know what direction inflation data is moving and the pace of change
for the economies of the currencies they are trading.
There are two types of inflation to look out for: CPI (consumer price index) data and
also PPI (producer price index) data. The CPI data measures price changes paid by
the consumer at the supermarket, shopping centre, etc. The PPI data measures the
change in prices of items as they leave the factory gate.
There are also two components to the inflation picture to be aware of: headline and
core prices. Headline inflation includes the price of food and energy, while core
inflation strips food and energy prices out. Some central banks prefer to focus on the
core measure as it is considered more stable. This is because energy and food prices
can be extremely volatile – for example, the price of corn or vegetables can be
impacted by a freak weather pattern that causes their price to soar one month over
the next. This could cause a big spike in headline inflation, but it is likely to be a
temporary phenomenon (hence the volatility).
Central banks don’t want to change the direction of monetary policy based on a
single factor affecting the price of corn, or any lone item, so they look at the core
inflation rate instead, which is considered to be a smoother measure of price changes
and trends in the economy.

When is inflation data released?

Inflation data is usually released in the middle of each month, but it does depend on
the country. The euro zone, UK, US and China tend to release inflation data monthly,
while Australia and New Zealand release it quarterly.
Be sure to consult an economic data calendar so that you know the date and time of
these releases.

Why is inflation data significant?

Changes in price data are an important way to determine the state of the economy.
Usually falling prices mean that activity is slowing, which can be currency negative,
while rising prices can mean that the economy is expanding, which can be good
news for a currency.
Inflation data becomes interesting when it gets to extreme levels. So if a country’s
prices are deemed to be rising too fast it may cause the central bank of that country
to adapt its policy to try to get the prices back under control. Central banks like
steady increases in prices, and if prices rise or fall too quickly they usually react.
This can have implications for the direction of currencies (see the section on interest
rates to find out more).

FX market examples

Example 1: US inflation and USDJPY

While a single inflation data point may not be a major market moving event, its

change over time can have huge implications for monetary policy and thus the

direction of a currency. Figure 1.6 for the period late 2010 to summer 2012 shows

core inflation in the US and also USDJPY. As you can see, as inflation rises it tends

to mean a strong USDJPY rate. In contrast, when inflation started to fall in spring

2012 it dragged USDJPY down with it.

The trend in inflation does not follow the currency cross perfectly, as you can see in

this chart, so this data point is better for the long-term trader with a multi-month

view. If you are a short-term trader, make sure you keep up to speed with inflation

data and which direction it is going, but it will be harder (if not impossible) for you

to trade off inflation data alone.

Example 2: Chinese inflation and AUDUSD

From April 2012 to November 2012 the Chinese inflation rate started to decline.

This decline accelerated from July 2012. Declining inflation can be bad for a

currency as it can suggest that the economy is slowing down. China does not have a

free-floating exchange rate, so domestic economic data does not have a huge impact

on the renminbi. However, the Aussie dollar has close trade links with China, and

signs that growth and inflation were slowing in its important trade partner initially

weighed on the AUDUSD, as you can see in Figure 1.7.

The Aussie sold off sharply from April to the end of May as the market digested

signs of a Chinese slowdown. However, after that the Aussie recovered, but it didn’t

manage to break above a key resistance level of 1.06. Thus, although the relationship

between AUDUSD and Chinese data is not perfect, Aussie gains were capped while

Chinese data remained subdued.

Inflation data is also useful for trading other fundamental events including central

bank meetings and GDP releases. This means that even if I don’t want to trade the

inflation release itself I usually make a point of keeping an eye on the latest inflation

release for currencies I am interested in.