Supply shocks drove two thirds of peak Italian inflation
A Banca d’Italia study shows supply shocks drove nearly two thirds of Italy’s headline inflation at its late-2022 peak. Demand pressures expanded from 2023, while rigid spending on essential goods persistently elevated their nominal budget share.
Two thirds of the peak
Analyzing monthly data across 52 expenditure categories from 2014 to 2024, the researchers find that supply-side shocks initially dominated Italy’s inflation surge.
Driven by global supply chain bottlenecks and soaring gas and electricity prices following the Russia-Ukraine conflict, supply factors peaked in late 2022, explaining almost two thirds of headline inflation.
Demand-side factors progressively strengthened from the end of 2022 as economic recovery took hold.
By late 2024, core inflation reflected an even split between demand and supply.
Services inflation reacted with a lag due to staggered wage renegotiations and lower price revision frequency, with demand pressures spreading first through high-contact travel and catering before reaching late-moving components.
Low elasticity locks in spending
Using an Almost Ideal Demand System, the authors estimate price and expenditure elasticities across household spending.
Necessary goods like food (price elasticity -0.20, expenditure elasticity 0.67) and energy (-0.90 and 0.88) exhibited highly inelastic demand compared to discretionary services (-5.48 and 1.80).
Because substitution was constrained, consumers absorbed relative price surges by raising the nominal budget share of essentials, leaving real consumption of necessary goods only slightly below pre-pandemic averages.
Granular proof beats aggregate models
Contrasting granular sectoral data with aggregate models that mislabel energy shocks as demand delivers a crucial methodological lesson.
The findings show that standard aggregate frameworks risk severe policy misdiagnoses during supply crises.
Central banks must account for these structural consumption rigidities.