An introduction to economic indicators

Last week I told you what this blog is about: economic indicators. This week, we’ll actual dive into what they are and why they matter. But before doing so, I want to take a step back and say a few words about the way South Africa’s economy actually works.

There are two things I can tell you about South Africa’s economy with absolute certainty. The first is that it has grown over time. The nation is wealthier today than it was 25 years ago and much richer than it was 50 years ago. The second thing I can tell you is that this growth has been erratic. Some years have been good, and some years have been bad.

The rainbow nation may be unique in many ways but in these two it is not. All modern industrialised economies have grown over time and all have done so in fits and starts. This pattern is referred to by economists as the business cycle.

We owe our understanding of these cycles to two professors called Arthur Burns and Wesley Mitchell. In their 1946 book, Measuring Business Cycles, Burns and Mitchell analysed hundreds of separate economic variables and found that many of them moved up or down at the same time. During an economic expansion, for example, industrial production, employment and wages all rose. During a downturn, the reverse happened.

This key insight allowed future generations of analysts to focus their collective attention on figuring out how different economic indicators performed in relation to the boom and bust, expansion and contraction cycle. Over the years, researchers have found that all variables perform in one of three ways. The first group of variables move in the same direction as the overall economy. These are called procyclical. A second group moves in the opposite direction. These are called countercyclical. The third group of variables has no relation to the overall economic cycle at all. These acyclical indicators may have a specialised usefulness, but don’t provide broader insights.

What are economic indicators?

Economic indicators come in many forms, from many sources and with varying frequency. Some tell us about the past (lagging indicators). Some tell us about the present (coincident indicators). Still others tell us about the future (leading indicators). Some are based on hard numbers. Others rely on gut feelings. Regardless of where they come from, what they look like and when they are released, each has something useful to tell us about the economic world in which we live.

Great, you might say. Just give me the list and let’s get on with it then! Unfortunately, it’s not that simple. There is no universal list of indicators. Some, like gross domestic product (GDP), are globally uniform and widely followed. Others, like men’s underwear sales, are not. Yes, I did just mention men’s underwear sales. Don’t worry. I’ll explain.

Alan Greenspan, the former chairman of the U.S. Federal Reserve – America’s central bank – used men’s underwear sales as an economic barometer. Men’s underwear sales remain relatively constant over time, you see. So a dip in sales, Greenspan claimed, indicated tough economic times.

This blog won’t focus on measures like these, informative though they may be. It will rather focus on the indicators that you are most likely to see discussed in the financial press, the broadly followed “market movers” that are freely available and widely discussed. I’ll also include a few others that, although more obscure, are still quite useful.

How are economic indicators useful?

Different economic indicators have different uses for different people. I know that sentence might not be the answer you’d hoped for, so bear with me. My point is that indicators have a wide range of uses.

Investors use leading indicators to make decisions on the timing of stock purchases, for example. Businesses use indicators to forecast demand. The South African Reserve Bank uses them to help guide interest rate decisions. Government uses them to make policy decisions. Savvy consumers use them to help guide purchases.

In future postings, I’ll discuss the specific uses of a variety of indicators using a standard format. After introducing each measure, I’ll answer three questions for you. How does the indicator work? How do I use this indicator? When and where do I find this indicator? In other words, all the information you’ll need.

So stay tuned! Next week we’ll look at how to use indicators.