Measuring Irish Inflation

Eurostat publishes inflation rates for the EU and the euro area each month and also issues a flash estimate for the EA , normally around two weeks before the final release. The flash figure now includes all EA member states, so an estimate for Ireland is available ahead of the official release here by the CSO.

The estimate is for the Harmonised Index of Consumer prices (HICP) , the official EU measure , which can differ from the domestic measure as used by the respective member states. For example, German inflation in April was 7.4% on their Consumer Price Index (CPI) against 7.8% on the HICP measure.

Most CPI are similar in terms of general components but differ in regard to measuring specific items, notably housing costs. The idea of the HICP is to use a standard methodology , so some items included in the CPI may be excluded from the HICP and this will also impact the component weights.

In Ireland’s case the CPI has a number of largely service items excluded from the HICP, amounting to over 6% of the CPI. These include the Local Property Tax, motor and dwelling insurance, motor tax and building materials. The most significant exclusion though is mortgage interest which has a weight of 2.76% and that component largely explains any significant difference in the two indices over time ,although that has not been a feature in recent years.

For example, the annual inflation rate in March on the CPI reading was 6.7% against 6.9% on the HICP measure. Two components,Housing and Transport, made a 5.2 percentage point contribution to the CPI (i.e. accounting for 78% of the total inflation figure) while the corresponding contribution to the HICP was 5.3 percentage points or 76%.

The difference can be sizeable though in periods when the ECB is changing its policy rates. For example, mortgage rates plunged through 2009 and Irish CPI inflation that year was -4.5%, against -1.7% on the HICP measure. As we now appear to be on the cusp of a tightening cycle from the ECB it is likely that CPI inflation will be higher than the HICP equivalent in the next few years as variable mortgage rates are still the dominant factor in outstanding mortgages here, despite the popularity of fixed rates in new mortgage loans.

The CPI is the ‘official measure of inflation for Ireland’ according to the CSO so in that context it is curious that rent controls last year were initially linked to the HICP and not the CPI, with the former not capturing any change in mortgage costs. The surge in inflation in 2021 prompted a change anyway, with the limit at a max of 2% or the HICP inflation rate if lower, which implies a significant fall in real rents given the inflation outlook, particularly if using the CPI as deflator.