Qualitative guidance is when a central bank uses the ‘quality’ of data to measure the economy. This is different to the standard measure, which is generally ‘quantitative’.
We can demonstrate the difference with a hypothetical scenario.
Under quantitative guidance, a central bank might state that when inflation reaches 2.5% they will increase their interest rate. This is simple and allows the markets to follow clear guidance without confusion.
However, qualitative guidance is different and more open to interpretation. Under this guise, a central bank might state it would only hike its interest rate if low volatility factors cause inflation to hit 2.5%.
Let’s consider another example.
Oil prices are highly volatile and fluctuate up and down. In fact, large moves in oil prices can temporarily skew inflation data.
This can make inflation appear higher or lower than it actually is.
In this instance, a central bank would take the skewed data into account. Policymakers would expect inflation to ‘level out’ once oil prices stabilise.
As you can see, the quality of economic data is critical to timing monetary policy decisions.
The order of play
Central banks usually issue quantitative guidance first. This gives the markets a clear path to follow.
However, once an economy starts producing data that is close to the criteria outlined in the quantitative guidance, central banks will then switch to qualitative guidance to ensure the data is robust.
What is qualitative guidance?
Finding out whether a central bank is issuing qualitative guidance is easy. You just need to pay close attention to their statements.
Furthermore, monitoring analyst comments and opinions will help you determine the kind of guidance a bank has issued.
Remember, headline figures from data releases aren’t always what they seem. A variety of temporary factors can skew key metrics. That’s why it’s vital to understand the reasons behind data movements.
Having this level of understanding will help make you a profitable trader.