Is It Time for The Croatian National Bank to React to Inflation?

By 20 November 2022
Is It Time for The Croatian National Bank to React to Inflation?
Goran Kovacic/PIXSELL

November the 20th, 2022 - Is it time the Croatian National Bank (CNB) reacted to the ongoing inflationary pressures we're all continuing to face? What could happen as costs spiral over the coming months?

As Poslovni Dnevnik/Ana Blaskovic writes, October 2022's inflation of 13.2 percent at the annual level exceeded expectations and broke records yet again. Economists continue to struggle with predictions, people are increasingly angry because they can afford less and less, and the window for companies to elegantly pass on the impact of costs to customers is constantly narrowing.

That said, long-term inflation, which has remained rather stubbornly in double digits for the past six months, has begun to erode demand and slow down the flywheel. Cumulatively, inflation increased by 10.2% in a mere 10 months, and after a slight summer break, it has been increasing on a monthly basis for two months now. In October, prices increased (on average) by 1.3% compared to September.

Clothing and footwear took the lead by 6.9%, followed by the category that includes housing, water, electricity, gas and other fuels by 2.8%, while food and non-alcoholic beverages rose in price by 1 percent. October is the first month this year in which one category stuck out like a sore thumb with a drop in prices – the segment of recreation and culture (-0.8%).

Although the reduction in prices at least in one area may seem like a bit of good news at first glance, it is a concrete indication that the standard has been undermined to the extent that non-essential consumption has begun being firmly squeezed out.

"Despite the Croatian Government's measures to cap prices in certain product categories, inflation is evidently spilling over to other product groups and is beginning to exert pressure on the demand side as well. This is partly a consequence of the previous increase in costs (which is especially visible in the continued strong growth of producer prices), so with still solid demand, consumer prices in other categories are also rising," RBA analysts point out.

The governor of the Croatian National Bank, Boris Vujcic, recently said that the latest data shows that the spread of inflation started to decrease for the first time in October. He said that this is good news and that it may indicate that we're "closer to the peak of inflation".

The engine of annual inflation (so far) has been the acceleration of prices in categories that are driven by cost shocks, although other categories are also suffering. Looking from the perspective of the month of October alone, food has risen in price by almost a fifth in a year, restaurants and hotels need people to allocate 17.8% more, while the costs of housing, water, electricity, gas and other fuels are 16.1 percent higher. The category of furniture, home equipment and regular maintenance has seen an average price increase of 15.8 percent. Transportation is also 11.5 percent more expensive today.

"It is slowly becoming more and more clear that the European Central Bank is lagging behind the curve of expectations. Here in Croatian conditions, we also have the element of introducing the euro, which will release enormous liquidity with inflationary potential. Therefore, it would be good for the Croatian National Bank to resort to the macroprudential measures it has as an instrument at its disposal, such as limiting the dynamics of lending, setting stricter requirements for collaterals, and the like," explained Zeljko Lovrincevic from the Institute of Economics.

Most recently when it comes to inflation, Lovrincevic sees two phenomena. "It's important to read that inflation has accelerated significantly since we met the nominal criteria for the introduction of the euro, and it keeps on surprising us. In other words, today we wouldn't manage to meet the inflation condition even with exceptions (countries that are excluded from the calculation for certain reasons) for its introduction,'' he stated.

"The figures show that what we're seeing is very widespread inflation, spanning all categories. If initially it came from energy sources, now inflation is radically spreading to all other groups, with food and non-alcoholic beverages taking the lead. In short, today inflation is fed by demand, which enters the zone of responsibility of central banks,'' explained Lovrincevic.

The months-long debate about inflation raises the question of where it comes from and, consequently, who is responsible for it all. Central banks, including the Croatian National Bank are responsible for ensuring things like price stability, but the economic profession has emphasised the limited capacity of monetary policy when inflationary pressures come from the cost side, in this case the explosion of energy prices across Europe.

People and companies are most interested in what will happen with inflation in the coming months. Roughly, a third of inflation is made up of administratively determined energy and utility prices, that part will directly depend on the government's decisions. The freezing of certain products, which "polished" the inflation statistics, resulted in shortages, but also compensations in the prices of other products.

"The real standard indicates that the burden of rising prices has been transferred to labour. The state will protect itself through the growth of the tax base, and employers through the growth of production and trade margins," the analyst points out.

The latest polls reflect exactly these trends; consumer optimism lags significantly behind that of the corporate sector, indicating the transfer of costs to the end customer. For this reason, this year in the triangle 'labour-capital-state', which depicts the contribution of individual components to GDP, Croatia will have the largest deviation in the share of labour of 2.5 percentage points (44.5 percent instead of the previous 47 percent), whereby the difference to be divided by the state and employers, concluded Lovrincevic.

Over more recent months, RBA expects a continuation of double-digit inflation with a slight tendency to decrease, 10.6% at the level of the whole of 2022, i.e. above 6% in the next year. They warn of the likely continuation of increased energy prices due to the war in Ukraine, but also of the necessary delimitation of administrative prices, which would bring a new inflationary blow with it.

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