Key economic indicators in fundamental analysis
Fundamental analysis is the process of trying to determine the underlying value by making predictions based on available data and statistics. In this article we will discuss several key economic indicators that are important for fundamental analysis.
Gross national product (GNP)
GDP is the total value added of a country or an economic zone. The value added is determined by adding the total market value of all goods and services created within a particular region. The GDP provides a pretty clear image of a country’s economic health.
GDP indicates what happened within a certain economic zone in the previous period. It is therefore advisable to focus primarily on the preliminary predictions which are usually broadcast one month before the definitive figures. If subsequently the definitive figures significantly differ from the preliminary reports it could provoke a strong price movement.
Consumer Price Index (CPI)
The CPI shows the development of prices on goods and services within a particular country. The consumer price index is determined by studying the price movements of a basket of goods and services purchased by an average household within the country or zone.
The CPI can be used to make predictions about interest rates. Because a high CPI is an indication for high inflation with rising interest rates as a result. Because a higher yield can be earned on a currency with high interest rates, the demand for that currency will increase resulting in a price increase.
Employment is extremely important for the stability within an economic zone. People with jobs have more money to spend and if they do spend it, it will maintain production levels. High unemployment causes too many people to spend too little money, resulting in a decline of overall production: this economic zone will eventually experience economic downturn. A high unemployment rate obviously has a negative effect on the price of the respective currency.
The retail sales figures are broadcast each month. Because seasonal adjustment is applied, this is a very strong indicator of the height of consumer spending. By correctly interpreting the retail sales figures it is possible to predict other delayed indicators such as GDP and CPI. This indicator can therefore be very useful to predict the future direction of the economy.
Balance of payments
The balance of payments provides an overview of all import and export to and from other countries. There is a surplus when exports are higher than imports, in that case the demand for the currency will increase causing a rise in price. However, if there is a shortfall import were higher than exports causing a drop in price because the demand for the other currency increases while the demand for the own currency decreases.
Fiscal and monetary policies of the government
By manipulating various economic instruments (tax laws, interest rates and import tariffs), the government may try to maintain stability within their own zone. Many measures taken by the government have a major impact on the price of the currency. For example, when borrowing money is made fiscally unattractive by the government, foreign companies will invest less in the country leading to a lower demand for the currency after which the price of the currency will drop.
The interest rate set by the central bank within a zone (for example, ECB, FED) has a major impact on the demand for certain currencies. Rising interest rates implicates higher yields which leads to growing demand for that currency. By taking into account the different economic indicators, it is possible to predict what the central bank will do. At high inflation the central bank will raise interest rates for example to curb spending.
Applying fundamental analysis
When you are going to trader Forex based on fundamental analysis it is important to understand how the global economy works and functions. If you understand how the different indicators are related you can make well thought predictions and thus be a more successful trader.