What are Economic Indicators?

Q: I'm constantly hearing about economic indicators in the news, but I'm never sure what they're talking about. What are economic indicators and why are they important?
A: An economic indicator is simply any economic statistic, such as the unemployment rate, GDP, or the inflation rate, which indicate how well the economy is doing and how well the economy is going to do in the future. As shown in the article "How Markets Use Information To Set Prices" investors use all the information at their disposal to make decisions. If a set of economic indicators suggest that the economy is going to do better or worse in the future than they had previously expected, they may decide to change their investing strategy.

To understand economic indicators, we must understand the ways in which economic indicators differ. There are three major attributes each economic indicator has:


Relation to the Business Cycle / Economy
Economic Indicators can have one of three different relationships to the economy:


Procyclic: A procyclic (or procyclical) economic indicator is one that moves in the same direction as the economy. So if the economy is doing well, this number is usually increasing, whereas if we're in a recession this indicator is decreasing. The Gross Domestic Product (GDP) is an example of a procyclic economic indicator.

Countercyclic: A countercyclic (or countercyclical) economic indicator is one that moves in the opposite direction as the economy. The unemployment rate gets larger as the economy gets worse so it is a countercyclic economic indicator.

Acyclic: An acyclic economic indicator is one that has no relation to the health of the economy and is generally of little use. The number of home runs the Montreal Expos hit in a year generally has no relationship to the health of the economy, so we could say it is an acyclic economic indicator.

Frequency of the Data
In most countries GDP figures are released quarterly (every three months) while the unemployment rate is released monthly. Some economic indicators, such as the Dow Jones Index, are available immediately and change every minute.


Timing
Economic Indicators can be leading, lagging, or coincident which indicates the timing of their changes relative to how the economy as a whole changes.


Leading: Leading economic indicators are indicators which change before the economy changes. Stock market returns are a leading indicator, as the stock market usually begins to decline before the economy declines and they improve before the economy begins to pull out of a recession. Leading economic indicators are the most important type for investors as they help predict what the economy will be like in the future.

Lagged: A lagged economic indicator is one that does not change direction until a few quarters after the economy does. The unemployment rate is a lagged economic indicator as unemployment tends to increase for 2 or 3 quarters after the economy starts to improve.

Coincident: A coincident economic indicator is one that simply moves at the same time the economy does. The Gross Domestic Product is a coincident indicator.

Many different groups collect and publish economic indicators, but the most important American collection of economic indicators is published by The United States Congress. Their Economic Indicators are published monthly and are available for download in PDF and TEXT formats. The indicators fall into seven broad categories:

Total Output, Income, and Spending
Employment, Unemployment, and Wages
Production and Business Activity
Prices
Money, Credit, and Security Markets
Federal Finance
International Statistics
Each of the statistics in these categories helps create a picture of the performance of the economy and how the economy is likely to do in the future.

Total Output, Income, and Spending
These tend to be the most broad measures of economic performance and include such statistics as:

Gross Domestic Product (GDP) [quarterly]
Real GDP [quarterly]
Implicit Price Deflator for GDP [quarterly]
Business Output [quarterly]
National Income [quarterly]
Consumption Expenditure [quarterly]
Corporate Profits[quarterly]
Real Gross Private Domestic Investment[quarterly]
The Gross Domestic Product is used to measure economic activity and thus is both procyclical and a coincident economic indicator. The Implicit Price Deflator is a measure of inflation. Inflation is procyclical as it tends to rise during booms and falls during periods of economic weakness. Measures of inflation are also coincident indicators. Consumption and consumer spending are also procyclical and coincident.

Employment, Unemployment, and Wages
These statistics cover how strong the labor market is and they include the following:
The Unemployment Rate [monthly]
Level of Civilian Employment[monthly]
Average Weekly Hours, Hourly Earnings, and Weekly Earnings[monthly]
Labor Productivity [quarterly]
The unemployment rate is a lagged, countercyclical statistic. The level of civilian employment measures how many people are working so it is procyclic. Unlike the unemployment rate it is a coincident economic indicator.
Production and Business Activity
These statistics cover how much businesses are producing and the level of new construction in the economy:
Industrial Production and Capacity Utilization [monthly]
New Construction [monthly]
New Private Housing and Vacancy Rates [monthly]
Business Sales and Inventories [monthly]
Manufacturers' Shipments, Inventories, and Orders [monthly]
Changes in business inventories is an important leading economic indicator as they indicate changes in consumer demand. New construction including new home construction is another procyclical leading indicator which is watched closely by investors. A slowdown in the housing market during a boom often indicates that a recession is coming, whereas a rise in the new housing market during a recession usually means that there are better times ahead.

Prices
This category includes both the prices consumers pay as well as the prices businesses pay for raw materials and include:

Producer Prices [monthly]
Consumer Prices [monthly]
Prices Received And Paid By Farmers [monthly]
These measures are all measures of changes in the price level and thus measure inflation. Inflation is procyclical and a coincident economic indicator.

Money, Credit, and Security Markets
These statistics measure the amount of money in the economy as well as interest rates and include:
Money Stock (M1, M2, and M3) [monthly]
Bank Credit at All Commercial Banks [monthly]
Consumer Credit [monthly]
Interest Rates and Bond Yields [weekly and monthly]
Stock Prices and Yields [weekly and monthly]
Nominal interest rates are influenced by inflation, so like inflation they tend to be procyclical and a coincident economic indicator. Stock market returns are also procyclical but they are a leading indicator of economic performance.

Federal Finance
These are measures of government spending and government deficits and debts:
Federal Receipts (Revenue)[yearly]
Federal Outlays (Expenses) [yearly]
Federal Debt [yearly]
Governments generally try to stimulate the economy during recessions and to do so they increase spending without raising taxes. This causes both government spending and government debt to rise during a recession, so they are countercyclical economic indicators. They tend to be coincident to the business cycle.

International Trade
These are measure of how much the country is exporting and how much they are importing:
Industrial Production and Consumer Prices of Major Industrial Countries
U.S. International Trade In Goods and Services
U.S. International Transactions
When times are good people tend to spend more money on both domestic and imported goods. The level of exports tends not to change much during the business cycle. So the balance of trade (or net exports) is countercyclical as imports outweigh exports during boom periods. Measures of international trade tend to be coincident economic indicators.

While we cannot predict the future perfectly, economic indicators help us understand where we are and where we are going. In the upcoming weeks I will be looking at individual economic indicators to show how they interact with the economy and why they move in the direction they do.