Lesson 3: How a Central Bank Makes its Decision

So a Central Bank’s objectives are to  maintain 1. High Employment, 2. Steady Growth and 3. Low Inflation. So obviously it needs a way to measure each of these areas. To measure employment it uses the monthly/yearly unemployment figures. In the US they are confusingly called NFP’s (non farm payrolls) which records all those employed, but not at a farm, so the entire service sector of the US (80% of its economy!). Thankfully the rest of us manage to call them unemployment figures. To measure growth they view the monthly/yearly GDP figures (gross domestic product), which is the gross income from a country's goods and services. Finally to measure inflation it uses the monthly/yearly CPI figures (consumer price index), which is an index that records price increases/decreases from a set basket of consumer products. Are there other ways to measure these figures? Absolutely, dozens but none are as respected as the ones mentioned. Do you really need to know this stuff? Well, you don’t need to be a mechanic to drive a car, but it’s not a bad idea to know how to fill up your radiator fluid. Having said that, it’s important to remember that you’re a trader not a central banker. Some will swear you should monitor these figures religiously but I would argue that they’re non of our business. We don’t trade employment, growth, or inflation figures, We trade money. The only thing that can affect the supply of money is it’s central bank, so ultimately I only follow their decisions. CPI can go up warning of inflation and possible IR hikes but until the central bank does something, the supply of money hasn’t changed. The decision is always based on the 3 objectives of the central bank, never one factor. This is why predicting what a central bank may do should be avoided.