For forex traders that pay attention to fundamentals, particularly in coming up with longer-term trade setups, monetary policy statements and central bank interest rate decisions are huge factors in predicting future price action. This is because central banks ultimately determine interest rates, which dictate the return on the country's assets and its currency, and the level of liquidity in the markets. This is the core reason behind the idea of watching economic reports in order to figure out whether a currency is set to appreciate or depreciate.
Upbeat economic data or figures that show consistent improvement across time periods reflect improving economic performance, which eventually translates to an interest rate hike or a tightening of monetary supply by the central bank. This is because good economic data means that the economy can survive even without additional stimulus from the central bank. By the Law of Supply and Demand, the lower amount of currency in circulation in the economy increases its value. At the same time, the hike in interest rates means that there's a higher return in holding the country's assets and currency, leading it to appreciate.
On the other hand, weak economy data reflects poor economic performance. This can push the central bank to cut interest rates or increase the amount of cash circulating in the economy. In turn, the increased supply of the currency in circulation lowers its value while the cut in interest rates results in lower returns in holding the currency. When combined, these factors result to a decrease in demand for the currency, thereby decreasing its value.
This is why forex traders pay close attention to monetary policy announcements and actual central bank rate decisions. Aside from containing the decision on money supply and interest rates, policymakers also include their assessment and outlook for the economy. Central bank announcements are typically followed by a press conference, wherein the central bank governor usually talks about future monetary policy plans. As an example, some central bank heads can specify that their future monetary policy decision is hinged on the outcome of labor reports or inflation figures.
Aside from that, interviews and speeches of important central bank officials are also treated as clues on future monetary policy decisions. For instance, a monetary policy committee member can talk about the likelihood of more bond purchases, which in turn could fuel speculations among market participants and lead to a drop in the respective currency. With that, central bank officials' testimonies are also listed as economic events on the forex calendar.
Upbeat economic data or figures that show consistent improvement across time periods reflect improving economic performance, which eventually translates to an interest rate hike or a tightening of monetary supply by the central bank. This is because good economic data means that the economy can survive even without additional stimulus from the central bank. By the Law of Supply and Demand, the lower amount of currency in circulation in the economy increases its value. At the same time, the hike in interest rates means that there's a higher return in holding the country's assets and currency, leading it to appreciate.
On the other hand, weak economy data reflects poor economic performance. This can push the central bank to cut interest rates or increase the amount of cash circulating in the economy. In turn, the increased supply of the currency in circulation lowers its value while the cut in interest rates results in lower returns in holding the currency. When combined, these factors result to a decrease in demand for the currency, thereby decreasing its value.
This is why forex traders pay close attention to monetary policy announcements and actual central bank rate decisions. Aside from containing the decision on money supply and interest rates, policymakers also include their assessment and outlook for the economy. Central bank announcements are typically followed by a press conference, wherein the central bank governor usually talks about future monetary policy plans. As an example, some central bank heads can specify that their future monetary policy decision is hinged on the outcome of labor reports or inflation figures.
Aside from that, interviews and speeches of important central bank officials are also treated as clues on future monetary policy decisions. For instance, a monetary policy committee member can talk about the likelihood of more bond purchases, which in turn could fuel speculations among market participants and lead to a drop in the respective currency. With that, central bank officials' testimonies are also listed as economic events on the forex calendar.
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How exactly does monetary policy drive price action in the forex market? Read this article to learn about the role of interest rate decisions in trading additional info.
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