Deflation? or Inflation?

This is the crucial argument for the foreseeable future and one of the key reasons why we believe that we are in a low return environment and will be for some time.

For most central banks, their monetary policy is mandated to maintain "price stability". In the US, the Federal Reserve has a dual mandate which adds "full employment" to the equation.

The going rate for most central bank's targets for "core" inflation (excluding the more volatile food and energy components) is 2%.

Currently, core inflation is running well below targets on a global scale.

However, it is not just the current status of inflation that we need to be concerned with. We also need to think about what the future holds.

Traditional economic theory instructs us that economic growth breeds the demand for goods and services that push prices higher (and hence consumers demand higher wages to continue to be able to afford those higher costing goods and services).

With that in mind, the US Federal Reserve expects growth in the US economy to pick up steam in the 2nd half of 2015, which in turn would (according traditional economic theory) infer higher rates of inflation in the future.

That would justify their desire to raise the Fed Funds rate in September by 1/4%.

However, their are other forces at work:

If we look at the global economic picture, it is not so rosy:

Today's data show that Europe continued to struggle in the 2nd quarter of 2015:

however, Euro Area core inflation picked up slightly in July:

New data on US Producer Prices released this morning also show continued low inflation:

Meanwhile commodity prices continue to decline and historically, commodity prices have been a strong indicator of future inflation (or deflation):

We can say that there is certainly a likelihood of continued low inflation.

However, US manufacturing data released this morning showed better than expected growth :

This may add to the Fed's expectations of improved economic growth.

All the new economic evidence/data continues to balance the argument:

Inflation is currently low, likely will remain so in the near future and economic growth, while improving slightly in the US, remains subdued globally.

We continue to monitor developments.

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