Inflation and Interest Rate Relationship

Mooney

It is no secret that the world is in economic turmoil right now. Lockdown and other Covid – 19
restrictions destroyed a lot of businesses and even wiped-out industries. The pushback from
lockdown stimulus cheques and equivalents around the world is beginning to bite, with the
cost of living rising due to rising inflation.

Forex, stocks, shares, and trading generally are seeing bearish markets right now and this,
though somewhat expected, has left many traders in turmoil.
If you’re a trader, then this is a time when you have to trade shrewdly and with care. It is vital
to understand the Consumer Price Index (CPI) and how it impacts the forex market in order to
trade currencies successfully.

Staying Ahead of the CPI Curve

CPI is a snapshot of inflation and how it is impacting everyday life. From a forex perspective,
understanding CPI will give you a trade advantage. The basis of CPI is tracking the costs of
everyday essentials such as food, medical care, energy, and so on and so forth. This is placed
into a ‘basket of goods.’
CPI tracks the basket of goods prices every month and represents the average price changes
from month to month, together with purchasing power.
From a trading perspective, it influences monetary policy, and interest rates, both of which
impact the currency. Different countries release their CPI either monthly, twice monthly, quarterly,
or yearly.

US Economy

The US economy is particularly significant as the dollar is the world’s reserve currency and so
underpins world currency. CPI is released monthly in the U.S and traders from all different fields
watch it for opportunities, especially in the forex world.
Typically, when inflation is on the high side, benchmark interest rates are often raised. The
thinking is this will subdue the economy and the inflation trend. The high rates tend to make
currencies stronger.

Conversely, lower interest rates typically equate to a weaker currency.
When the rates are released by individual countries, real volatility in currency value can occur.
Through tracking CPI skilled forex traders can leverage this volatility for profit.

Touch Points for CPI Data and Forex Trading

If you are planning to use CPI to your advantage, consider the following:
• Are market expectations for CPI likely to be met or missed? What happens in either
scenario?
• As with major releases open positions should be avoided unless you feel this is the right
thing to do.
• Forex currency traders tend to wait a few minutes after CPI release before looking at
possible trades. Forex spreads often widen significantly just before the report is released,
and just after release.
• Remember that most western world countries release their own CPI. Pay attention to GBP
and the EUR as opportunities to profit will arise.

US Dollar Price Drop

It is difficult to predict what would happen should the value of the dollar fall significantly.
This subject is debated in academic circles, and some predict it would lose its world reserve status.
That means as current US inflation is 9.1% and if normal patterns are followed, the value of the dollar should be high for the foreseeable future.

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