The Chicago Purchasing Managers’ Index (PMI) is a key economic indicator that measures business activity in the manufacturing and services sectors in the Chicago area. As a regional indicator, it provides valuable insights into the broader US economic health, making it an important data point for traders and investors. The Chicago PMI can significantly influence the US dollar (USD) by affecting expectations around economic growth, inflation, and Federal Reserve policy.

In this article, we’ll explain what the Chicago PMI is, how it affects the US economy, and how forex traders can interpret its impact on the value of the US dollar.

Understanding the Chicago PMI

The Chicago PMI is a monthly report that surveys purchasing managers in the Chicago region across manufacturing and services sectors. It measures key areas of business activity, including new orders, production, employment, supplier deliveries, and inventories. The PMI is presented as a diffusion index, where a reading above 50 indicates expansion, and a reading below 50 signals contraction.

How is the Chicago PMI calculated?
The index is derived from surveys sent to purchasing managers, asking them to assess business conditions in their companies compared to the previous month. The responses are weighted, and the index value is calculated. The resulting number is used to gauge economic activity in the Chicago area, which often reflects broader trends in the US economy.

How the Chicago PMI Affects the US Dollar

The Chicago PMI is considered a leading indicator of US economic activity, and it can influence the US dollar by shaping market expectations around economic growth, inflation, and the Federal Reserve’s monetary policy decisions.

1. Impact on Economic Growth Expectations

The Chicago PMI provides an early glimpse into the health of the manufacturing and services sectors, which are crucial to overall US economic performance. A strong Chicago PMI reading suggests that business activity is expanding, indicating that the economy is on solid footing. This can boost confidence in the US economy, leading to an appreciation of the US dollar.

• High PMI Reading (>50): When the Chicago PMI reading is above 50, it signals expansion in business activity. This is generally viewed as a positive sign for the economy, leading to increased demand for the US dollar as investors expect stronger economic growth and higher interest rates.
• Low PMI Reading (<50): If the Chicago PMI falls below 50, it signals contraction, raising concerns about an economic slowdown. This can weaken confidence in the US economy and lead to a depreciation of the US dollar, as traders may anticipate slower growth and possible interest rate cuts.

2. Influence on Inflation Expectations

The Chicago PMI also includes data on input prices, which provides insight into inflationary pressures within the economy. Rising input prices indicate that businesses are facing higher costs, which could lead to higher consumer prices and overall inflation.

• Higher Input Prices: If the PMI report shows that input prices are rising, it may signal increased inflationary pressures. This could prompt the Federal Reserve to consider tightening monetary policy (e.g., raising interest rates) to control inflation, which is generally positive for the US dollar.
• Lower Input Prices: On the other hand, if input prices are falling or inflationary pressures are easing, the Federal Reserve may hold off on interest rate hikes or even consider cutting rates. This could lead to a weaker US dollar, as lower interest rates make the currency less attractive to investors.

3. Impact on Federal Reserve Policy

The Federal Reserve closely monitors economic data, including the Chicago PMI, to inform its monetary policy decisions. The PMI is considered a leading indicator of economic trends, and strong or weak readings can influence the Fed’s outlook on growth, inflation, and the need for policy adjustments.

• Hawkish Fed Response: If the Chicago PMI indicates robust economic activity and rising inflationary pressures, the Federal Reserve may adopt a more hawkish stance, signalling potential interest rate hikes. Higher interest rates tend to strengthen the US dollar by attracting foreign capital seeking higher yields.
• Dovish Fed Response: Conversely, if the Chicago PMI signals a slowdown in economic activity or weakening inflation, the Fed may take a more dovish approach, signalling a preference for lower interest rates or monetary easing. Lower interest rates can weaken the US dollar, as investors seek better returns in other currencies.

Examples of Chicago PMI Impact on the US Dollar

1. Strong PMI Reading and USD Appreciation
In October 2020, the Chicago PMI rose to 61.1, its highest reading in over two years, signalling strong business expansion in the region. The positive PMI data boosted investor confidence in the US economy, leading to a rally in the US dollar against other major currencies. Forex traders interpreted the strong reading as a sign that the economy was recovering quickly, and this strengthened the case for higher interest rates in the future.

2. Weak PMI Reading and USD Depreciation
In June 2019, the Chicago PMI dropped to 49.7, falling below the 50 threshold for the first time since January 2017. The reading signalled a contraction in business activity, raising concerns about a potential economic slowdown. As a result, the US dollar weakened against currencies like the euro and Japanese yen, as traders speculated that the Federal Reserve might cut interest rates to stimulate the economy.

Practical and Actionable Advice for Forex Traders

Here are some tips on how forex traders can use the Chicago PMI to inform their trading decisions:

• Monitor PMI Releases: The Chicago PMI is typically released on the last business day of the month, making it a key data point for traders to watch. Pay attention to the actual reading compared to market expectations, as surprises can lead to significant currency movements.
• Look for Trends in the PMI: A single PMI reading may not provide enough information to make long-term trading decisions, but a trend of increasing or decreasing PMI readings can offer valuable insights into the overall direction of the US economy. Sustained upward trends in the PMI suggest economic strength, while downward trends point to potential weakness.
• Trade Interest Rate Expectations: Use the Chicago PMI to gauge whether the Federal Reserve is more likely to raise or cut interest rates. Strong PMI data can signal potential rate hikes, which support the US dollar, while weak PMI readings may suggest rate cuts, which could lead to dollar depreciation.
• Combine PMI Data with Other Indicators: While the Chicago PMI is important, it should be used in conjunction with other key economic indicators, such as the US non-farm payrolls (NFP), inflation data (CPI), and GDP growth. This will give you a more complete picture of the economy and help confirm or challenge your trading strategy.

FAQ Section

1. What is the Chicago PMI?
   The Chicago PMI is a monthly economic indicator that measures business activity in the manufacturing and services sectors in the Chicago region. It is used to gauge economic expansion or contraction.
2. How does the Chicago PMI affect the US dollar?
   The Chicago PMI impacts the US dollar by influencing expectations around economic growth, inflation, and Federal Reserve policy. Strong PMI readings tend to support the US dollar, while weak readings can lead to depreciation.
3. What does a PMI reading above 50 mean?
   A PMI reading above 50 indicates expansion in business activity, signalling economic growth and supporting the US dollar.
4. What does a PMI reading below 50 mean?
   A PMI reading below 50 indicates contraction in business activity, which can signal an economic slowdown and lead to a weaker US dollar.
5. Why do forex traders care about the Chicago PMI?
   Forex traders watch the Chicago PMI because it provides an early signal of economic health, business activity, and inflationary pressures in the US economy. Changes in the PMI can influence expectations about future interest rates and currency movements.
6. How does the Chicago PMI impact inflation?
   The Chicago PMI includes data on input prices, which can provide insights into inflationary pressures. Rising input prices suggest inflation, which may lead the Federal Reserve to raise interest rates, supporting the US dollar.
7. How does the Chicago PMI influence Federal Reserve policy?
   The Federal Reserve monitors the Chicago PMI as a leading indicator of economic activity. Strong PMI readings can signal a need for tighter monetary policy (higher rates), while weak readings may prompt the Fed to ease policy (lower rates).
8. What happens to the US dollar when the Chicago PMI is stronger than expected?
   When the Chicago PMI exceeds expectations, it often leads to a stronger US dollar, as traders anticipate robust economic growth and potential interest rate hikes.
9. What happens to the US dollar when the Chicago PMI is weaker than expected?
   A weaker-than-expected PMI reading can lead to a depreciation of the US dollar, as it signals economic slowdown and raises the possibility of lower interest rates.
10. Where can I learn more about economic indicators and their impact on forex?
    You can learn more through accredited Mini MBA Trading Courses offered by Traders MBA, which cover economic indicators and their influence on forex markets.

Conclusion

The Chicago PMI is an important economic indicator that provides early insights into the health of the US economy. By measuring business activity in the manufacturing and services sectors, the PMI affects expectations around economic growth, inflation, and Federal Reserve policy. For forex traders, understanding how the Chicago PMI impacts the US dollar is key to making informed trading decisions. By monitoring PMI trends, interpreting interest rate expectations, and combining the PMI with other data, traders can gain valuable insights into potential currency movements.

Interested in learning more about how economic indicators like the Chicago PMI impact forex markets? Enrol in our accredited Mini MBA Trading Courses at Traders MBA to enhance your trading knowledge and strategies.