Insights: What Drives Inflation In CEE-EU Countries? | RBI Insights

Recently we took a look at the inflation in CEE-EU countries: Poland, Czechia, Slovakia, Slovenia, Hungary, Bulgaria, Romania, and Croatia. We present the structure of the HICP inflation in the mentioned countries, as the Eurostat measure of inflation allows a better comparison given the unified approach to calculating price changes. However, it should be noted that cross-country and historical comparisons remain strongly distorted by the wide anti-inflationary measures applied by the respective governments, mostly to energy and food prices. This will be a topic of one of our next notes, as we will provide an update on the measures used vs 2022 (CE/SEE Watch: Governments intensify interventions to limit price increases).

In CEE-EU countries, the key driver of inflation is no longer energy. This is only to some extent the result of government measures, but mostly of an increase in inflation in other categories – food and services in particular.

A look at the contributions to HICP inflation in CEE-EU countries (data for December) reveals that despite all the energy disruption caused by the war in Ukraine and sanctions with Russia, the energy contribution to inflation is no longer the key driver. In fact, it has been replaced by food, while service inflation in some countries is becoming an even more significant driver of price growth. More importantly, it is not purely a result of energy inflation receding or government interventions but is also affected by an increase in price dynamics in the remaining categories (food, core inflation, and services in particular).

For CEE-EU countries, government measures which were implemented last year and regulated energy markets have largely driven the development of the energy sector, resulting in limited price spikes compared to Western Europe (Slovakia). In Hungary, the contribution has increased, as observable in the dynamics (chart below). This upward tick was caused by the easing of energy price caps in Q3’22, leading to an increase in prices after reaching a preset limit of use. However, despite these factors, food prices currently have the greatest impact on inflation in all countries.

Despite measures that have been applied to food categories, the contribution of food to inflation remains high. Such measures have mostly been implemented via price caps on basic items, which unfortunately triggered unintended effects. For instance, in Hungary, these measures have resulted in an increase in prices of other food items. On the other hand, Poland has reduced food VAT for most items.

All in all, the large-scale increases in food prices result in a high contribution of this category to the
headline HICP. This is the result of varied food prices spiking in the last months and while some have been reversed in the last months (as observed for example in the FAO statistics) a more pronounced decline in food inflation is still awaited for the next months.

The rise in service prices and core inflation over the past months in the CEE-EU region is of significant
importance and indicates the broadening of inflation. Service prices have become the second-highest contributor to HICP and in Poland, it has even surpassed food to become the highest contributor.

On the positive side, the decline in global food prices from peaks reached in 2022, and the ongoing easing in supply-side pressures will lead to downside price pressures on the goods side in particular. Also, the unfolding slowdown will ease the demand-side-driven inflation.

The scope of inflation, as visible in the charts, along with the persistent challenges faced by the energy sector and the inevitable reversal of government measures, are expected to impede a swift return to lower inflation levels that are closer to the targets of central banks. Additionally, if the recent positive economic outlook results in a slight slowdown and subsequent recovery post-Q1, it will further restrict the reduction of demand-side price pressures.

All in all, while downside surprises in December in (local) inflation prints provided some relief (Poland, Romania, Czechia, Hungary, Croatia), with selected countries possibly already having seen peaks in inflation, it is still too soon to announce a victory in fighting inflation, and it will remain the topic in focus also this year.