Understanding CPI data is important to forex traders because it is a strong measure of inflation, which in turn has a significant influence on central bank monetary policy.

So how does CPI affect the economy? Often, higher inflation will translate to higher benchmark interest rates being set by policymakers, to help dampen the economy and subdue the inflationary trend. In turn, the higher a country’s interest rate, the more likely its currency will strengthen. Conversely, countries with lower interest rates often mean weaker currencies.

The release and revision of CPI figures can produce swings in a currency’s value against other currencies, meaning potentially favorable volatility from which skilled traders can benefit.

Also, CPI data is often recognized as a useful gauge of the effectiveness of the economic policy of governments in response to the condition of their domestic economy, a factor that forex traders can consider when assessing the likelihood of currency movements.

The CPI can also be used in conjunction with other indicators, such as the Producer Price Index, for forex traders to get a clearer picture of inflationary pressures.

WHAT TO CONSIDER WHEN TRADING FOREX AGAINST CPI DATA

When using CPI data to influence forex trading decisions, traders should consider the market expectations for inflation and what is likely to happen to the currency if these expectations are met, or if they are missed.

Similar to any major release, it may be beneficial to avoid having an open position immediately before. Traders might consider waiting for several minutes after the release before looking for possible trades, since forex spreads could widen significantly right before and after the report.

Below is a chart displaying the monthly inflation rates for the US. For the latest month, expectations are set at 1.6% inflation compared to last year’s data. If CPI is released higher or lower than expectations this news event does have the ability to influence the market.

Chart to show US inflation levels in 2018/19. Source: TradingEconomics.com. US Bureau of Labor Statistics

One way the effects of CPI data can be interpreted is by monitoring the US Dollar Index, a 2018/19 example chart for which is below. If CPI is released away from expectations, it is reasonable to believe this may be the catalyst to drive the Index to fresh highs, or to rebound from resistance.

Since the Index is comprised of EUR/USD, USD/JPY, and GBP/USD, by watching the US Dollar we can get a full interpretation of the events outcome.