What are Economic indicators?

Economic indicators such as GDP, the unemployment rate or interest rates are macroeconomic measurements used to understand economic activity. Keep reading to learn more about the different types of economic indicators, how to interpret them, their advantages and disadvantages, and more.

Key statistics and activities

Economic indicators are key as they provide insight into the health of an economy by assisting businesses and policymakers, including central banks and governments, to make informed decisions about monetary policies. They can influence financial markets by impacting investor and business sentiment.

Examples include, but aren’t limited to, Gross Domestic Product (GDP), unemployment figures or the Consumer Price Index (CPI). These help to determine whether the economy is growing, stagnating, or contracting, and the data is usually collected by non-profit organizations, government agencies or private business intelligence organizations.

Economic indicators also aid strategies to help forecast future economic performance, investment decisions, and business planning.

Types of economic indicators

Economic indicators are categorized into leading, coincident, and lagging indicators based on their predictive power relative to economic cycles. These categories enable investors to plan and prepare.

The three types of economic indicators include:

Leading indicators

These refer to measurable data points that help to predict the future economic trends. They are utilized by businesses, investors, and policymakers to predict changes in the economy before they happen but potentially lack accuracy. Leading indicators typically combine market information, such as stock market performance and changes in the yield curve and surveys that cover consumer expectations, new orders tangible goods, and employment.

Investors are generally interested in leading indicators, because, when accurately, identified, these indicators can forecast future trends effectively. However, due to their reliance on historical data and the volatility of real-time measures, they are not always right.

Coincident indicators

Economic indicators move in line with the current economy to show investors the most up to date insights into what is happening in a specific area or region. Examples include GDP, employment levels and retail sales.

Many policymakers and economists follow this real-time economic data to make informed decisions. On the other hand, they might not be as useful for investors, because coincident indicators inform of what is happening in the present. Therefore, unless they know how to predict future trends based on the present, these indicators will seem less helpful.

Lagging indicators

They confirm long-term trends after the economy has shifted, following events that have happened. The delayed nature of the data means that once it has been interpreted, it may be slightly outdated. Examples include CPI and unemployment .

Lagging indicators are used by many governments and institutions, but due to its delayed nature, they might not be optimal for certain types of investment strategies.

Advantages of economic indicators

Economic indicators help governments, investors, and businesses assess the economic landscape and plan for the future. Advantages of economic indicators include:

Investment possibilities

Economic indicators offer investment possibilities by signaling growth or downturns as they provide economy insights. For example, moderate inflation and low interest rates can stimulate economic growth, boosting consumer spending and investment possibilities.

Strategic planning

Businesses can leverage economic indicators to plan strategically and forecast demand by monitoring consumer spending and unemployment rates.

Publicly available

Economic indicators are publicly available for anyone interested in economic trends. They are published regularly by governments to provide a picture of current economic conditions.

Disadvantages of economic indicators

On the other hand, while valuable, economic indicators also have drawbacks and associated risks. Some disadvantages include:

Subject to revision

Economic indicators are often reliant on preliminary data, which can be updated as more accurate data is available, leading to uncertainty as initial reports may not be reflect the updated economic climate.

Lagging behind real-time events

Many indicators are reported with a time lag, so they reflect previous economic activity as opposed to current data.

Conflicting signals

Different economic indicators can provide varied information about the state of the economy, which can create uncertainty and make it difficult to provide a comprehensive analysis.

External factors

Economic indicators can be influenced by natural disasters or political instability as this can cause immediate and significant disruptions to the economy. These potential risks should always be taken into account when using economic indicators to take financial decisions.

What are the key economic indicators?

As we have mentioned above, some of the most important economic indicators include:

Gross Domestic Product (GDP)

Measures the total value of all goods and services produced in a country. It’s a primary indicator of economic performance.

Unemployment rate

A type of labor statistics which indicates the percentage of the labor force that is unemployed and actively seeking work. A lower rate suggests a healthier economy, and it is considered to be a lagging indicator.

Inflation rate

Measured by the Consumer Price Index (CPI), Producer Price Index (PPI), or Personal Consumption Expenditures (PCE), these measures show the rate at which prices for goods and services are rising. Moderate inflation is a sign of a growing economy.

Consumer Confidence Index

It gauges consumer sentiment about the economy. Higher confidence typically leads to increased spending and economic growth. The organisation for Economic Co-operation and Development (OECD) considers the CCI a leading indicator.

Policy rates

Set by central banks, they influence borrowing and spending. Lower rates generally stimulate economic activity, while higher rates can help control inflation.

Retail sales

Reflects consumer spending, which drives a significant portion of economic activity. Higher retail sales indicate strong consumer confidence and economic health. It is generally considered to be part of the coincident indicators.

How do you interpret an economic indicator?

In order to make the most out of an economic indicator, you have to interpret it correctly. Firstly, you need to identify if it's leading, coincident, or lagging. This will help you understand its timing relative to economic cycles. Leading indicators normally precede trends, lagging indicators confirm them and coincident provide data simultaneously to economic conditions.

Then, look at the historical data and trends. Compare current values to past values to identify patterns or anomalies. When doing this, it is important to consider the broader economic context. For example, a rise in unemployment might be less concerning if it’s accompanied by strong GDP growth.

It is also useful to consider multiple indicators to get a comprehensive view. For instance, if leading indicators are positive but lagging indicators are negative, the economy might be in a transition phase.

Always take into account external factors such as political events, global economic conditions, and technological changes that might impact the indicators and their predictive use.

The stock market as an economic indicator

The stock market can be viewed as a leading indicator as share prices typically react to investors’ expectations about the future economy. Stock indices like the S&P 500 often move ahead of other economic data, reflecting expectations for future growth or contraction.

However, stock market performance can be misleading as an indicator of the current economy, causing volatility. This can be due to sentiment where stock markets can be influenced by short-term events including political announcements. Speculation can also turn out to be deceptive, with stock prices rising due to investor speculation creating a false sense of economic growth.

Learn more about using economic indicators when assessing risk for your investments with us at StoneX Risk Management.

FAQs

What is the most important economic indicator?

The Gross Domestic Product (GDP) is considered the most important economic indicator as it provides a comprehensive measure of economic activity. GDP is vital as it measures the total value of goods or services produced within a country over a specific period, capturing the size and activity of the economy across all sectors.

By comparing GDP figures over time, economists can determine whether an economy is growing or contracting and policymakers and central banks use GDP data to make informed decisions about monetary and fiscal policies.

Investors also use GDP to gauge the economic environment, but its use is limited because it is only released every three months. Therefore, to make timely decisions, other indicators that are released more frequently can be used instead.

Is inflation an economic indicator?

Inflation is an economic indicator as it measures the rate at which the price level of goods and services in an economy increase over a specific period. Inflation is a critical economic indicator for policymakers to monitor inflation to set appropriate monetary policies.

Inflation is considered a lagging indicator due to its delayed nature of confirming trends after the economy has shifted.

What are the economic indicators of a strong economy?

There are key economic indicators that provide signs of a strong economy. Gross Domestic Product (GDP) signals a healthy economy, while unemployment rates indicate economic productivity with low rates indicating a more healthy economy.

Inflation rates are signs of an expanding economy, although too high or low can be troublesome.

Do traders use economic indicators?

Traders frequently use economic indicators to forecast market movements, predict market trends, and make informed decisions as economic indicators provide insights into the health of the economy. Understanding these indicators can aid traders with navigating financial markets.

This material is for informational purposes only and should not be considered as an investment recommendation or a personal recommendation.