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What Drives Inflation? Disentangling Demand and Supply Factors

Author

Listed:
  • Sandra Eickmeier

    (Deutsche Bundesbank, CAMA and CEPR)

  • Boris Hofmann

    (Bank for International Settlements)

Abstract

We estimate indicators of aggregate demand and supply conditions based on a factor model for U.S. inflation and real activity. We identify demand and supply factors by imposing theoretically motivated sign restrictions on factor loadings. The results provide a narrative of stance of demand and supply in the United States over the past five decades. The most recent factor estimates indicate that the inflation surge in 2021/22 was driven by a combination of extraordinarily expansionary demand conditions and tight supply conditions. We obtain similar results for the euro area, but with a somewhat greater role for tight supply consistent with the greater exposure of the region to recent adverse global energy price shocks. We further find that tighter monetary policy and tighter financial conditions dampen both demand and supply.

Suggested Citation

  • Sandra Eickmeier & Boris Hofmann, 2025. "What Drives Inflation? Disentangling Demand and Supply Factors," International Journal of Central Banking, International Journal of Central Banking, vol. 21(3), pages 111-154, July.
    • Handle: RePEc:ijc:ijcjou:y:2025:q:3:a:3
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