Oliver Mangan: Inflation proving tough to crack   

A tight labour market putting upward pressure on wages along with weak supply output in areas such as housing could make restoring price stability a tough challenge for central banks 

Tight labour markets are already putting upward pressure on wages in many economies, especially in services sectors, which could keep core inflation rates elevated.

Recent inflation data have been disappointing, especially in regard to core measures. It started in the US, with the latest data for core inflation, which excludes food and energy, posting unexpectedly large monthly increases, leaving the annual rate stuck around 4.7%.

Meantime, February inflation data for the eurozone were much poorer than expected, with the annual rate of 8.5% being well above the projected fall to 8.2%. 

More worryingly, the rate excluding energy jumped to 7.7%, while the main core rate moved up to 5.6%. 

The Irish inflation rate shot up to 8% in February, following a number of months of marked falls.

Big jumps in food and transport prices were the main culprits behind the acceleration in Irish inflation last month. The downtrend in headline inflation will resume in the months ahead on base effects as the surge in energy prices last year following the Russian invasion of Ukraine drops out of annual rates. 

We would not be surprised to see the Irish inflation rate fall to about 6.5% in March and close to 4% by June.

However, the recent upside surprises to inflation, especially core measures, validate the warnings from central banks that it will require keeping restrictive monetary policies in place for a considerable period of time to get inflation back down to 2%. 

Most notably, core inflation rates could take a long time to fall back. There are two factors in particular that could hinder the process of disinflation. Both are related to supply side constraints.

The first relates to the tightness of labour markets, with unemployment rates at multi-decade lows in many countries amid sluggish growth in labour forces. 

Even in Ireland, labour force growth in 2022 was wholly dependent on an influx of workers from outside the EU. 

The size of the indigenous labour force contracted last year due to a fall in the participation rate and net emigration by Irish citizens. Tight labour markets are already putting upward pressure on wages in many economies, especially in services sectors, which could keep core inflation rates elevated.

The second factor relates to ongoing deficiencies in the supply side of economies. The world economy remains characterised by weak output growth but strong demand, a recipe for higher prices. A rebound in the Chinese economy this year as it fully re-opens with the ending of the pandemic restrictions will only add to global demand. 

Countries are also struggling to make the much needed transition to green energy. Housing markets in numerous economies also remain characterised by a marked shortfall in supply. 

These supply side deficiencies at a time of strong demand could make restoring price stability a tough challenge for central banks, pointing to a prolonged period of high interest rates. 

• Oliver Mangan is chief economist at AIB