Last Updated on Thursday, 25 January, 2024 at 11:00 am by Andre Camilleri
Alexander Demarco is deputy governor of the Central Bank of Malta
Inflation is on a downward path both in Malta and the euro area. This does not mean to say that prices of goods and services are falling, but the rate of increase has been subsiding, which is good news. Although there is still some way to go to achieve the inflation target of 2%, the aggressive monetary policy stance of central banks in developed countries is clearly leaving its mark on demand and prices.
Inflation in Malta has been declining and is projected to continue to do so. In December 2023, HICP inflation eased further to 3.7%, half of its peak of 7.4% in September 2022. While this is 0.8ppts higher than that of the euro area, this difference is down to the drop in energy prices experienced in most euro area countries after the steep increases in 2022. In the case of Malta, energy prices have been kept stable and despite the fall in energy prices in recent months in Europe, the price level of fuel and electricity in Malta remains still cheaper than in the euro area.
A useful gauge of inflationary pressures widely used by central banks is that which excludes items that usually exhibit a high degree of volatility in their price, such as energy and food, as well as alcohol and tobacco. This measure of underlying or core inflation shows that in Malta it dipped to 2.7% in December 2023 from its peak of 7.2% in September 2022, and is lower than that for the euro area (3.4%). In this regard, inflation in Malta for both components comprising the measure of core inflation, namely Services and Non-Energy Industrial Goods (NEIG), eased to 3% and 2.2% respectively, and have both fallen below those of the euro area which correspondingly stood at 4% and 2.5% in December 2023.
By contrast, food price inflation in Malta has since the end of the third quarter of 2023 started to deviate in behaviour not only with respect to good and services, but also with food inflation in the euro area, Italy – an important source market for Malta’s food imports, and Cyprus, with the latter being an island state like Malta, and hence similarly impacted by developments in transportation costs. Indeed, until the third quarter of 2023 food inflation in Malta broadly shadowed that of Italy as shown in the chart.
However, in December 2023, food price inflation in Malta picked up to 8.3% remaining just 0.5ppt lower than the September reading, while in the euro area it eased further to 6.1% and stood 2.7ppts lower than in September, with Italy and Cyprus registering drops of 2.5ppts and 4.9ppts respectively in the same period. This diverging behaviour in food price inflation in Malta cannot seem to be explained by international factors, including transportation.
Transportation factors directly affect the prices of both imported goods (NEIG) and food, and indirectly of services, that contain imported inputs. Given the diverging trends in inflation of food from goods and services, this would again suggest that transportation does not appear to be the factor determining such divergence in price behaviour.
A possible explanation is the difference in the sensitivity of demand to changes in prices of food relative to those of NEIG and services. Being a necessity, food demand tends to exhibit much less sensitivity to price changes than other goods and services, so that food producers and distributors are better placed to protect or even increase profit mark-ups.
The degree of price sensitivity is also impacted by the extent of competition in the domestic market. In a small island economy, the degree of competition is typically lower across all goods and services. However, with the rapid emergence of e-commerce over the past decade, providers of goods and several services are encountering a much higher degree of competition that has significantly impacted their market power. This is not the case for food, where purchases by consumers continue to be exclusively local.
While in theory increasing competition in food suppliers remains the ideal avenue to reduce market power, nevertheless, in practice, given the small size of the market, there could be limits in achieving this. Given this inherent market structure weakness, increased pressure through moral suasion by public authorities and heightened vigilance on mark-ups by the domestic competition authority appear needed in view of such recent developments in food inflation.
* The opinions expressed in this article do not necessarily reflect those of the Central Bank of Malta. All data has been sourced from Eurostat.