Why is inflation so high in Europe and what can be done to slow it down?

Price increases in the euro zone have reached their highest level in 13 years, but they should start to subside in the second half of the year.

The sharp rise in inflation – which shows an increase in the price level of goods and services purchased by households – grabbed headlines around the world, raising concerns as January set a new record high.

Consumer prices in the euro zone rose by a record 5.1% last month according to the latest data from the European Central Bank (ECB), defying expectations of a slowdown.

But what are the reasons behind this and what can be done to slow it down?

What are the causes ?

High prices were mainly driven by soaring energy prices and then by food.

Eurozone energy prices in January were 28.6% higher than the same month last year, a record rise, while growth in the cost of unprocessed food accelerated to 5 .2%.

Services prices continued to rise 2.4%, while goods price growth slowed to 2.3%.

Changes related to the pandemic mainly explain these increases.

European economies slowly reopened in 2021 as more restrictions were lifted. People started traveling and eating out again, thus buying more, spending some of the money they hadn’t spent during the shutdowns.

But the logistics are not advancing at the same pace.

Businesses are struggling to keep up with rapidly rising demand as they rebuild supply chains that have been hit hard by the pandemic.

Challenges, such as the shortage of shipping containers, mean that transporting goods has become more difficult and more expensive. The longer these difficulties persist, the more likely it is that companies will pass these costs on to their customers in the form of higher prices.

Oil, gas and electricity have also become more expensive around the world.

Energy prices rose as oil and gas production lagged the return of consumer demand following the pandemic.

According to the ECB, since a large part of the costs of businesses and people are energy-related, the price of oil, gas and electricity has a large impact on headline inflation: half of the recent increase in inflation is due to rising energy prices.

How long could this last?

The European Commission said Thursday that inflationary pressures are expected to ease next year.

“After hitting a record high of 4.6% in the fourth quarter of last year, euro area inflation is expected to peak at 4.8% in the first quarter of 2022 and remain above 3% through the third quarter. of the year,” he added. the commission said in a statement.

“As the pressures from supply constraints and high energy prices fade, inflation is expected to decline to 2.1% in the final quarter of the year, before falling below the European Central Bank’s 2% target throughout 2023,” he added.

But uncertainty remains high as the overall European economic outlook depends on geopolitical tensions between Ukraine and Russia but also on the evolution of the pandemic across the world.

Thomas Wieser, an Austrian-American economist who served as chairman of the Eurogroup task force during the difficult years of the financial crisis, told Euronews that it is really difficult to predict when inflation will really fall below the ECB’s objective.

” We do not know. Our situation is better than in the United Kingdom or the United States, where, in particular, the American sources of inflation are partially different from what we have in the euro zone, in particular because the fiscal stimulus in addition to an already growing economy there was much, much higher than what is in Europe,” he said.

“Secondly, we have no idea when the supply chain issues will start to resolve. There is reason to hope that in the second half of the year it will be much better.

“And third, the rebalancing of demand between goods and services in our economy will only begin to accelerate once the vast majority of restrictions, including travel restrictions, are lifted. Again, we can be optimistic for the second half, but no one knows.”

What can be done to stop the rise in inflation?

Earlier this month, ECB President Christine Lagarde said she could not clearly rule out an interest rate hike later in 2022 and said a March 10 meeting would be crucial to decide how quickly the central bank would end its long-dated bond buying program. as pandemic crisis support for the economy.

“If inflation were to continue, I think there is reason to withdraw the stimulus quite early in 2022,” Wieser told Euronews. “Inflation is bad for those who save. Inflation is bad for those with fixed or fairly stable nominal incomes, and that includes many people with pensions and therefore a high degree of inflation is always bad.

“And it’s not just the central bank whose job it is to contain or prevent a tightening in the data around current inflation levels, it’s also part of the corporate sector looking at price increases, as part of the trade unions in wage negotiations. And that is part of the composition of European policies from trade and other policies,” added Wieser.

But with the poorest households most affected, Guntram Wolff, director of the Brussels think tank Bruegel, told Euronews that braver action was needed from policymakers.

“What policy makers can do is of course provide support to these households. I would say the support shouldn’t be a reduction in value added tax on energy, but rather an outright transfer so they have a bit more purchasing power,” Wolff said.

“But we still want the price signal to work, so we want households, in a sense, to try to be aware of their energy use and react to the price signal. But I think transfers for households poor are needed.”

As experts monitor the situation in Europe and around the world, it’s pretty clear that just as the pandemic hasn’t hit all countries equally, so has inflation.

And the debate on how to move forward in the post-pandemic era will not be easy and has been launched with a shadow of geopolitical and financial threats floating around.

Mary I. Bruner