What is inflation, and how do inflation reports affect Forex?
What is inflation and the Consumer Price Index (CPI)? What are the causes of inflation? How do inflation reports affect Forex and the stock market? Where can I view reports on inflation and CPI?
Inflation in the world affects consumers, the economy and financial markets in different ways. In this article, you will learn what inflation and the consumer price index are, what are the causes of inflation, and how inflation reports affect the Forex and stock market.
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What is inflation?
Inflation is a general increase in prices in the economy over a certain period, leading to a decrease in the purchasing power per unit of money.
Inflation leads to a loss of the real value of goods. When the price level rises, each monetary unit buys less services and goods. This means that you will spend more to fill up the car with gasoline or buy groceries.
Economists argue that stable inflation occurs when the growth of a country's money supply outstrips economic growth. As the currency loses value, prices rise, and consumers buy fewer goods and services. This loss of purchasing power affects the total cost of living of the population, which leads to a decrease in economic growth.
Higher inflation may stimulate short-term spending. Consumers can buy goods before prices rise quickly. But in the end, savers see that the value of their savings decreases, which reduces their ability to spend or invest.
If inflation suddenly rises in the country, stock markets may fall. The domestic currency may also suffer if investors and traders believe that the central bank can raise interest rates and reduce the money supply to limit the growth of inflation.
What is the inflation rate?
The inflation rate measures the increase or decrease in inflation over a period, usually on an annualized basis. This metric is used by many government departmentsto make decisions on increasing wages and social benefits for pensioners.
Central banks use the inflation data they receive from statistical agencies to set interest rates and manage the money supply in the country's economy.
What is the CPI?
The consumer Price Index (CPI) shows when goods and services purchased by households rise or fall in price. This is the most widely used indicator of inflation.
Imagine a huge shopping basket containing many of the most popular goods and services purchased by households. Since the prices of different products in the basket change over time, the total cost of the basket also changes. The dynamics of the CPI reflects the change in the value of the basket.
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Is inflation a good thing or a bad thing?
As consumers, we are used to being wary of the latest news about rising inflation, but governments and central banks are trying to create a favorable zone for inflation. Core inflation of 2% is what the Federal Reserve and the Bank of England are trying to achieve.
Moderate inflation is a sign of a healthy economy, as the economy grows, demand increases. This demand pushes prices up as suppliers try to produce more goods bought by consumers and businesses.
Workers benefit from controlled and moderate inflation, because economic growth leads to an increase in demand for labor, so wages usually increase.
Workers with higher wages can buy more, and this favorable cycle supports moderate economic growthomiki. Inflation in this context is a sign of a growing economy.
If inflation is too high or too low, a destructive economic cycle can occur. If this process is not stopped, inflation may increase sharply, and unemployment may seriously increase as economic growth slows down. Stagflation is a term used to describe a combination of high inflation and unemployment.
The main causes of inflation
Inflation is caused by two main economic phenomena: demand inflation and cost inflation.
Demand inflation occurs when consumers have more disposable income. Having more free money allows people to buy more products and services.
Cost inflation occurs when the supply of goods and services is reduced, creating a deficit. Manufacturers then raise prices to meet the growing demand for their goods or services and cover additional costs.
Wage increases, changes in government fiscal policy, central bank monetary policy, and exchange rates often reduce supply compared to demand.
How do inflation reports affect stock markets?
Reports of rising inflation can affect stock markets, especially if the inflation rate goes beyond the targets set by the central bank, or if inflation suddenly increases sharply on a monthly or quarterly scale.
Investors are usually afraid of high inflation in the economy. This can cause a chain reaction leading to higher interest rates and a reduction in demand.
Any increase in interest rates by the central bank increases the cost of loans for corporations, and a decrease in demand for their goods and services negatively affects income growth. This affects the sentiment towards individual stocks, sectors and the stock market as a whole.
When inflation rises sharply, stock returns tend toin addition to the decline, this may affect the profit, and the dividends may decrease at some point in the future.
Raising interest rates to reduce the impact of higher inflation forces investors to focus on other potentially high-yield investments, such as bonds,commodities or Forex. These investments are considered less risky during periods of inflation.
When inflation falls, central banks can lower interest rates to stimulate the economy, adding liquidity to the markets. Lower interest rates also encourage investors to take their funds from high-interest-rate securities, such as bonds.
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How do inflation reports affect the Forex market?
News about the growth and fall of inflation in the economy can have a big impact on the value of the currency compared to its analogues.
Let's assume that core inflation in the US economy is growing rapidly. In this case, traders and investors may believe that the Federal Reserve System has the capacity and motivation to raise interest rates so that the US economy does not overheat.
The increase in interest rates has a positive effect on the value of the US dollar. Investors can earn income from dollar deposits in the event of an increase in interest rates by using the currencies of countries with lower interest rates to invest in currencies with higher interest rates.
Where can I view reports on inflation and CPI?
Thus, inflation, if carefully managed, can lead to a stablethese are the periods of healthy economic growth. Wages can rise, employment remains high, while investors and savings can make a decent profit. If inflation is rising rapidly, central banks have various levers at their disposal to bring it under control.
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