Why is inflation in Bulgaria still above the average for the Eurozone?

It is already clear that Bulgaria will not be able to meet the price stability criterion for eurozone membership until the summer. For the purposes of the evaluation, the average annual inflation is taken into account, which implies taking into account the accumulated price dynamics during twelve consecutive months – a huge inertial load that cannot be compensated for in a month or two. But the annual inflation – i.e. the change in prices from March 2023 to March 2024 in Bulgaria continues to exceed the average for the Eurozone, writes in his analysis Lachezar Bogdanov, Chief Economist at the Institute for Market Economy.

So, according to the harmonized index of consumer prices, annual inflation in our country is 3.1%, and in the Eurozone – 2.4%; in France also 2.4%, in Germany – 2.3%, in Italy 1.2%. Visibly, the difference is shrinking, but it still remains. We must also say that if we consider only the last three months – ie. from December to March – the increase in prices in Bulgaria was 0.7%, while the average for the Eurozone was 1%. Are there differences and why is inflation in the Bulgarian market so persistent?

Even a cursory glance at the data reveals some glaring discrepancies in trends. While for food in general the price increase is similar and is already weaker than the general index, in Bulgaria pork meat increased in price by 6.4%, while in the Eurozone – by an average of 2.5%. Overhead expenses for the home – water, electricity, heating – in the euro area increased by 0.6%, in our country by 3.1%. In the Eurozone, telecommunications prices are falling, in Bulgaria they are rising. In the case of education and health care, the prices in the euro area increased by 4.1% and 2.9%, respectively, in our country – by 7.4% and 5.5%. For hotels, the year-on-year increase in prices in Bulgaria is 11.3%, or almost twice as high, and for restaurants it is 7.5% compared to 5.2% in the Eurozone.

Perhaps it is time to move beyond childish, sixth-grade level arguments about index comparisons when discussing the adoption of the euro, and to think more deeply about what the price stability criterion means and what it tells us about the state of politics, institutions and structure on the national market its failure. In short – why do we have a different rate of inflation and, even more – why do we have the opposite movement for some goods and services?

For part of the prices, we have to look for the explanation in the competition, the productivity of the market participants and the government regulations. Above, we mentioned a significant increase in the price of pork, but for years, for example, the average prices of the categories of dairy products and eggs and vegetable and animal fats in Bulgaria have been higher than the average for the entire EU by more than 20-30%. On paper – a single market, free trade without tariffs, harmonized requirements for goods, open access to the commercial sector; in reality – significant differences in final prices for consumers.

The other difference is observed in the highly regulated services in education and health care – there the state seemingly and according to political slogans “protects” the citizens, but in reality legitimizes price increases at the insistence of influential professional guilds or pharmaceutical companies. In a period of steep electricity and natural gas prices in Europe over the past year, in many other countries, household consumers have felt bills drop or hold up; in Bulgaria, “Bulgargaz” sells more expensively than prices on the European exchanges, heating and electricity for households are more expensive than the previous year, and separately, the regulator allowed a significant increase in the price of water.

These comparisons should be a signal of a problem and need for analysis, and in some cases – an argument for a change in policy.

There are also macro factors, of course. The most obvious is continued high wage growth with record low unemployment. Job security combined with sustained income growth – doubling the average wage in six years – inevitably influences consumer behavior and supports growth in domestic demand. If average labor costs in Bulgaria grew by nearly 12% over the last 12 months, in the Eurozone the growth averaged 3.1%, barely compensating for inflation.

Separately, international tourism is fully recovering from the pandemic. With rising rent and labor costs and increased disposable income, it shouldn’t surprise us that hotels and restaurants are increasing in price at an average rate of nearly double digits, and that’s after more than a 20% increase in prices for the previous year.

Perhaps most underestimated is the contribution of commercial banks. Credit expansion, instead of cooling off – as it is happening across Europe as a result of the tightening of monetary policy by major central banks in the developed world – is breaking new records. At the end of March, the growth of housing loans to households reached 22.7% on an annual basis, and of consumer loans – 13.2%. The net increase in credit for the last 12 months is BGN 5.9 billion, BGN 3.9 billion of which for the purchase of a home – this scales the additional costs financed through debt.

In March alone, newly granted housing loans without refinancing reached BGN 630 million, for the first three months from the beginning of 2024 – a total of over BGN 1.6 billion. The Bulgarian National Bank monitors this dynamic in its analysis and indicates the accumulation of imbalances and risks, but somehow it is too hesitant to take additional measures to restrict credit.

In addition to inflating real estate prices, credit expansion increases demand for related economic activities—from construction and brokerage, to furniture, bathroom tile, and joinery manufacturers, to notaries and landscapers—and further accelerates the growth of incomes and profits of participants. This resource then enters the market and supports higher prices, especially in services.