The stickiness of services inflation in the euro area

The disinflation process in the euro area has been swift but uneven across the main components of the consumer basket. Services inflation has been particularly persistent, becoming the main driver of inflation in the euro area. Its stickiness has raised concerns about self-sustained interactions between the prices of services and wages, which could derail the disinflation process during the ‘last mile’ towards the inflation target. This article argues that the observed persistence in services inflation is primarily an adjustment to the interplay between two major shocks that hit the economy, namely shifts in service consumption patterns due to the COVID-19 pandemic and the energy shock, which raised input costs and wages. This pattern, if scaled up to the magnitude of the current shocks, appears in many ways to be consistent with how services inflation has played out in the past. Indeed, given the growth in wages, the level of services inflation appears broadly justified. However, the pass-through from wages to the price of services appears to have been particularly swift, with more frequent price resets than in low-inflation periods. In addition, services inflation is still driven by ongoing consumption-rebalancing from goods to services and by delayed price adjustments in service sectors where regulated and administered price setting is common. Services inflation is expected to gradually decline thanks to the projected slowdown in wage growth and the weakening of transitory factors that are currently pushing up prices