It seems like a perfect (or is it imperfect?) financial storm is battering U.S. economy. One way you can seek shelter? Understanding how to read economic indicators.
Many Americans are under the mistaken impression that they have no business reviewing financial indicators; that such information is the domain of pointy-headed economists buried in spreadsheets, charts and graphs.
You can’t figure out important financial decisions if you don’t understand where the economy is, and where it might be going. Economic indicators are key bellwethers and benchmarks that give us the lay of the land, financially speaking.
Here are seven key terms it pays to become familiar with:
Gross Domestic Product: The GDP is the financial barometer of the U.S. economy’s health, making it the most critical economic indicator on the financial landscape. GDP is comprised of four key economic criteria: consumption, investment, government purchases and net exports. With GDP down, we can expect both consumers and companies to continue to hunker down and be more conservative with resources.
Business Inventories: This monthly number shows how strong the market is for goods and products. The business inventory number is created via data accumulated from the manufacturing, merchant wholesalers and retail sectors. Economists often read the business inventory two ways: a decline in inventories may indicate consumers are in a buying mood again and the economic skies may be brightening. But a decline may also signal declining demand and continued cloudy economic skies. The U.S. Commerce Department said inventories fell by 1.1% in January, dropping for the fifth month in a row. Hello, cloudy skies.
Consumer Price Index (CPI): The threat of rampant inflation is real. The CPI measures the direction of prices in a fixed basket of goods and services over a fixed period of time (i.e. monthly). Most economic indicators measure only U.S. produced goods. But the CPI also measures the price of goods produced overseas. The U.S. Bureau of Labor Statistics reports that on a seasonally adjusted basis, the CPI increased 0.4% in February and 0.3% in January. This change suggests that inflation is being kept in check for now.
Unemployment: The unemployment, or jobs number, measures the relative health of the American workforce, telling us the percentage of U.S. workers unemployed as measured by a household survey of 60,000 U.S. households. This number also measures demographic changes in the jobs picture, such as how many men and how many women are unemployed, or how many jobs were lost in various parts of the country. The jobs number also measures the average work week, hourly earnings and jobless data on skilled and unskilled workers.
Economists use payroll jobs data to predict other economic indicators. For example, there is a strong correlation between construction payroll figures and housing starts, manufacturing and industrial production activity, total payroll and personal income.
Consumer Confidence: Can you measure consumer optimism? Economists attempt to do so via the consumer confidence index. Consumer spending comprises about two thirds of the gross domestic product, so the direction of the consumer confidence index is crucial in painting an accurate picture of consumer sentiment. The consumer confidence index comprises consumer sentiment on both current conditions (40% of the index) and future expectations (60% of the index).The government arrives at the consumer confidence number by conducting monthly interviews with 5,000 American households.
Housing Starts: With the U.S. real estate market in the tank, economists study the housing numbers with a magnifying glass. One path back to a strong economy, financial gurus say, is through a rebound in the housing market. Hence the housing starts number, which monitors the number of new single-family homes or buildings built in a given month. The number is flexible: One new house is credited as one housing start, but a new apartment building with 150 units is credited with 150 housing starts. Interestingly, mobile homes don’t count. An increase in housing starts indicates the economy is on the rebound. A dearth of housing starts suggests that the economy is still in the ditch.
Index of Leading Economic Indicators: The index of leading economic indicators (LEI) calculates future economic activity. Economists have a rule of thumb that three straight months of LEI growth means the economy is on the uptick. Conversely, three straight months of decline means a recession.
Aside from the economic indicators listed above, economists also like to study other benchmarks of economic health, including retail sales, current home sales, new auto sales and factory orders.
Knowing and understanding the key economic indicators is an important exercise. It provides insight into how our economy is measured, and acts as a good barometer in making personal financial decisions, like buying a home, having a big wedding or starting a new business.
In other words, the kind of financial decisions that can make or break your financial future.