Understanding Euro Area Inflation Dynamics: Why so Low for so Long?

Abstract

Despite closing output gaps and tightening labor markets, inflation has remained low inthe euro area. Based on an augmented Phillips Curve framework, we find that thisphenomenon-sometimes attributed to low global inflation-has been primarily causedby a remarkable persistence of inflation, keeping it low despite the reduction in slack. Thisfeature is shown to be specific to the euro area (in comparison with the United States).Monetary policy needs to stay accommodative to help guide inflation back to target.

Keywords: Inflation, Inflation expectations, Inflation persistence, Monetary policy, Econometric models, Euro Area, Phillips curve, inflation persistence and expectations, General, Forecasting and Simulation, Monetary Policy (Targets, Instruments, and Effects)

JEL Classification: E10, E31, E32, E37, E52, C22, C50