Started in 1948 by the US-based Institute of Supply Management, the Purchasing Managers’ Index, or PMI, has now become one of the most closely watched indicators of business activity across the world. this post explains how the index works and what it means:
What is a PMI?
PMI or a Purchasing Managers’ Index (PMI) is an indicator of business activity — both in the manufacturing and services sectors. It is a survey-based measures that asks the respondents about changes in their perception of some key business variables from the month before. It is calculated separately for the manufacturing and services sectors and then a composite index is constructed.
How is the PMI derived?
The PMI is derived from a series of qualitative questions. Executives from a reasonably big sample, running into hundreds of firms, are asked whether key indicators such as output, new orders, business expectations and employment were stronger than the month before and are asked to rate them.
How does one read the PMI?
A figure above 50 denotes expansion in business activity. Anything below 50 denotes contraction. Higher the difference from this mid-point greater the expansion or contraction. The rate of expansion can also be judged by comparing the PMI with that of the previous month data. If the figure is higher than the previous month’s then the econ-omy is expanding at a faster rate. If it is lower than the previous month then it is growing at a lower rate.
What are its implications for the economy?
The PMI is usually released at the start of the month, much before most of the official data on industrial output, manufacturing and GDP growth becomes available. It is, therefore, considered a good leading indicator of economic activity. Economists consider the manufacturing growth measured by the PMI as a good indicator of industrial output, for which official statistics are released later. Central banks of many countries also use the index to help make decisions on interest rates.
What does it mean for financial markets?
The PMI also gives an indication of corporate earnings and is closely watched by investors as well as the bond markets. A good reading enhances the attractiveness of an economy vis-a- vis another competing economy. For instance, India’s manufacturing activity as measured by the PMI expanded to 57.6 5 in July, while for China it dipped for the first time in over a year.