What is PMI? (Key points/cheat sheet)

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Here are the key points from our video ‘What is PMI? (Purchasing Managers Index)[macroeconomics/Economic Data Releases]’ that you can use as a reference guide or ‘cheat sheet’. The video is available on our YouTube channel and at the bottom of this article.

  • PMI or Purchasing Managers Index is an economic indicator that is taken from monthly surveys of purchasing managers from specific companies.
  • The most followed PMI releases come from Markit and ISM (The Institute for Supply Management).
  • The questionnaires are sent out monthly to around 400 companies to find out month-on-month changes. They request factual information on variables such as new orders, output, employment and prices and whether they are above, below or the same as the previous month.
  • These questionnaires are as close as we get to monthly hard data on industries, which makes PMI one of the most reliable indicators on the economy.
  • When the results come in they are compared to the results of the previous month. In general a result of over 50 is seen as showing expansion and under 50 shows contraction.
  • Markit gives an overview of how their questions tie in with a classic boom-bust cycle in an economy: “During a period of economic expansion it is typical for employment to rise (and unemployment to fall) and the demand for raw materials to increase. If employment and demand for raw materials rise at suitably fast rates it is then common for skill shortages and supply-chain bottlenecks to develop. When demand exceeds supply, prices tend to rise. Wages and salaries and raw material prices will therefore begin to increase. Retail price inflation may then pick up as higher costs are passed on to the consumer.”
  • “The standard economic policy prescription for rising high street inflation is an increase in central bank base rates which, by raising borrowing costs to business and the consumer, restrains demand. Prices and economic growth then tend to grow at slower rates. When demand has slowed sufficiently, interest rates may be lowered again, thus stimulating economic growth.”
  • The diagram below shows the classic boom-bust cycle with Markit’s PMI questions included (Source: Markit).
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  • You can directly use PMI to estimate changes in GDP. PMI on a quarterly basis has an 85% correlation with GDP, whereas on a coincident basis, which means without any lags applied, it is an 83% correlation.
  • You can build a formula which allows you to estimate the implied growth in GDP from the PMI reading that month. Changes above and below a specific PMI reading means a specific growth or decline in GDP.
  • The importance of PMI is obvious in the markets after a PMI release, as you can see an increase in volatility and larger movements taking place. It’s one of the most important releases of the month for the respective economy and it will have a particular impact on currencies and bonds.
  • Companies use the information from the PMI to plan their business. This may include Human Resources, cash flow and annual budget. PMI also helps suppliers to estimate the quantity of future products they may need.
  • The results about supply and demand may affect the prices that suppliers choose to charge. If orders are increasing, they might increase prices and be more willing to pay more to their own suppliers, whereas if orders are decreasing they may put prices down.
  • The manufacturing industry is often where recessions begin and end so the PMI is very carefully watched.

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