Lagging indicator example: Inflation
Inflation is a lagging indicator that's often covered by the financial media. Inflation is measured by annual changes in the monthly CPI. Monthly CPI data are published two weeks after the end of a month.
The Federal Reserve uses CPI trends to set monetary policy going forward. When inflation is high, for example, the Fed usually tightens the money supply with higher interest rates to slow rising prices. These adjustments cannot change previous inflation; they can only address the future.
In 2022 and 2023, higher interest rates had the desired effect on inflation, but the process was slow. Two factors contribute to the long timeline. Both highlight lagging indicator limitations.
- The delay between the problem and the solution can be lengthy. Data is measured, released, and analyzed before the Fed acts.
- Although inflation is a simple percentage value, it arises from complex factors within the U.S. economy. Any action to manage inflation must be methodical to avoid unintended consequences, such as a recession.
Lagging indicators measure results after the fact. They can be used to highlight trends and confirm the consequences of strategic actions. A robust measurement process combines the retrospective power of lagging indicators with the predictive ability of leading indicators.
