Many currency traders and other types of investors are always looking for ways to get clear insight regarding the condition of an economy so that they may better position their investment capital for bigger profits. One way to gain those insights is to monitor the amount of domestic spending and consumption that occurs.
Domestic spending and consumption of goods and services has an influential role in determining the vibrancy, resiliency and general health of an economy. Economic reports that contains information regarding domestic consumption and consumer spending are typically called retail sales or retail trade.
What is Retail Sales
Retail sales (or retail trade) is an economic report usually provided by a government statistical office or private agency that disclosures information pertaining to domestic consumer spending and consumption. Each country may calculate consumer spending and consumption differently, but the idea is to give an accurate representation on the amount of money spent on goods and services by people in an economy within a given time frame.
Now that you have an understanding as to what retail sales are, I want to discuss what it means when the economic report is good and what it means when the economic report is bad. I also want to discuss how monetary policymakers may interpret the good and bad news and what monetary policy actions they may take in order to maintain an optimistic outlook or alter a pessimistic one.
A Good & Bad Retail Sales Report
A good retail sales report would show strong, consistent growth in domestic consumption and spending relative to an economy’s output over a given time frame. Strong retail sales is an economic indication that people are spending and consuming more goods and services. Increased spending and consumption means more demand. With demand for domestic goods and services mounting, producers will be prompted to increase supply. It is when the supply of goods and services increases due to an increase in demand, that economy truly grows.
When an economy grows, more people gain employment and make money. With more people making money, demand for domestic goods and services will increase even more. Demand will continue to increase and producers will once again be prompted to up production. As long as supply and demand continues to head upward at an comparable rate, prices for goods and services should stay relatively stagnate. If supply of goods and services increases too quickly, relative to demand, deflationary pressures will increase and prices will fall.
If the opposite were to happen and demand were to increase too quickly relative to supply, inflationary pressures will increase and prices will rise. Supply and demand 101. If a retail sales report is bad, then that is an economic indication that demand in waning. With demand waning, there would be no need to increase the supply of goods and services in an economy. In fact, it would make more sense to cut production because there isn’t demand for it. When demand declines and supply declines as a result, the labor market suffers as well. Pretty soon an economy will fall into a contractionary spiral, resulting in job loss, fewer goods and services and a deteriorating standard of living.
But how will monetary policymakers at central banks react to each of these scenarios. Central bankers do want to see the economy grow, but they all have a stipulation. A great majority of central banks have an inflation target. They want to see some level of inflation in their economy because it is believed that a modest level of inflation will support demand. Many central banks have inflation targets of 1-3 percent year over year. Any thing below or above that target will give a case for monetary policy action.
Retail Sales Scenarios
Let’s go over each of the three scenarios: weak retail sales, strong retail sales, mediocre retail sales. When an economy experiences very poor retail sales, supply will start to outpace demand greatly and disinflation will occur. If allowed to persist for too long, deflation will become a reality. A negative inflation rate is not on the agenda of any central bank that I know of. If a deflationary scenario presents itself, central bankers will enact expansionary monetary policies. Expansionary monetary policies will result in money and credit becoming more accessible to consumers and thus prompting them to consume more goods and services. When a central bank becomes more accommodative toward economic growth by making credit cheaply available, consumers can spend more money in order to consume more stuff. Increasing the pace of spending and consumption, or demand, so that it is more comparable to the pace of supply will result in an increase of inflation (price increases). More demand equals higher prices.
If the opposite situation were to happen and an economy experiences a spur of very strong retail sales and demand were to outpace supply too greatly, high inflation will become a threat. If the demand for goods and services becomes too great, hyperinflation is also possible. A central bank’s monetary policy body would most likely respond to a scenario like that by implementing contractionary monetary policies. By making credit and money harder to obtain, consumers will have less money to spend on goods and services. That will result in a decline in production. Only when the pace of consumption is moving toward a level that is comparable with production, will prices fall.
When supply and demand are perfectly in sync with one another, inflation should be at zero; prices won’t rise nor fall. Though stable prices may seems like a good thing, central banks don’t think so. To increase inflation so that it is in line with their objectives, monetary policymakers will enact expansionary monetary polices so that more consumers can consume more and thus upping demand. Higher demand will result in higher prices until production is increased.
Why is Retail Sales Important to Investors
Ok, so I shared a lot of information with you. But as an currency futures investor, why the heck do I care about retail sales? The answer is very simple. It’s because I care about what’s going on in the heads of the monetary policy authorities at central banks. The policies they enact have a direct impact on the valuation of their respective currencies relative to everything.
Retail sales in just one economic report that gives some insight on what actions those central bankers may take in the future. All investors really should care about retail sales reports because fluctuating currency trading prices impacts you if you trade currencies on the Forex, stocks on the stock market, bonds, commodities…whatever. Retail sales gives an investor a feel on domestic demand for goods and services. Domestic demand gives a monetary policymaker a feel on where monetary policy should be at…and that’s very important.