The Consumer Price Index (CPI) has a major influence on forex trading. As an important economic indicator, CPI impacts not only forex, but also interest rates and stock and bond prices. The CPI is also used to make adjustments to cash flow mechanisms, such as pensions, health insurance and income. As a result, most traders and investors will find that the CPI affects their strategies in some way or the other. The CPI compares a household's cost of a specific basket of goods and services with the cost of the same basket during an earlier period.
The CPI is an important benchmark for inflation in any economy. Traders must have their eyes fixed on the CPI. Once investors start feeling the heat of inflation, they are bound to change their investing strategies and look for alternate avenues to invest their capital. An investor who receives about 20% on his/her dividends on an investment stands to lose the value of the investment when the inflationary adjustment on the currency is 20% or more.
Governments also keep a close eye on the CPI. There are several measures that a Central Bank or the Federal Reserve can take to ensure that CPI remains within acceptable levels. The CPI is also used to adjust payment disbursements to Social Security beneficiaries, military and federal service retirees. The CPI is also a guideline in adjusting the income tax structure to prevent inflation-induced increases in taxes. All these actions have a very direct impact on the forex market.
In China, for example, due to the economic boom in recent years, people are making more money than before. As a result, the purchasing power increased, and prices were raised to counter the difference. Such a cycle of increase in wage and purchasing ability is bound to send inflation through the roof. A CPI report can highlight this trend and encourage the government to take remedial steps.
The CPI can also sometimes be affected by a hike in price of a particular commodity. For example, a surge in oil prices can affect transportation, food, utilities and retail sales and, as a result, stretches the budgets of the working class. In this case, a major increase in the price of one commodity can trigger a domino affect, which would affect the strategies of investors and traders in the forex market.
by Kitz S