Forex and Central Banks

Central bankers control interest rates, so when forex trading we need to monitor their rhetoric and actions regarding lowering, raising and keeping interest rates unchanged. If you have read my other blogs about the forex market you will know that central banks conduct their rate policies based on inflation they continually study economic data for any signs of it. The good news is we also have access to this info.

These enables us to analyse the same data and think about what action we would take if we were head of a central bank? Combining this with forex technical analysis will help us develop our bias for that currency. Studying economic data is referred to as forex fundamental analysis

Forex economics

As the US Dollar is the most important currency, I’ll focus on the most popular inflation reports for the US economy:

• GDP: Gross Domestic Product
• PPI: Producer Price Index
• CPI: Consumer Price Index
• Retail Sales
• Housing
• ISM: Institute of Supply Management index
• NFP: Nonfarm payrolls

An individual announcement isn’t usually that important in the long term. When looking to implement our trading strategies we should pay more attention to the overall trend of each different announcement. If we notice inflation rising and each report confirms this over a 6 month period, we can develop a bias for that currency because we would be right to assume that the central bank could be considering a rate hike to deal with inflation. Remember this because it is important, higher interest rates attracts more investors this creates more demand for that currency this usually leads to the currency rising in value.

It is still important to use technical indicators in conjunction with fundamental analysis and it is also important to understand the role of central banks.

• They influence monetary and credit conditions so a healthy economy can develop
• They try to reduce the risk of boom and bust cycles (I use the word “try”)
• They regulate the banking system so we the consumers are protected

Each central banks role varies. the information above will give you a basic understanding of how they function. If you decide to take up forex day trading you will only use technical analysis however it is still important to know when key inflation data is being released and I strongly advise you not to intra-day trade just after the data is released as the forex markets can become extremely volatile and technical indicators lose their value.

Below is my video about currencies with higher interest rates