Spanish inflation drops sharply

On 30 March 2023 it emerged that Spanish inflation for March had fallen to around 3%, when compared with the March 2022 peak. It was a much lower figure than in previous months and, at first sight, excellent news for households and companies that had spent months watching the cost of living rise.

However, a detailed reading of the figure called for some nuance. Core inflation, which excludes energy and fresh food, remained high, and a good part of the improvement in the headline was due to the comparison with an exceptional month. Understanding this difference helps avoid taking pricing, purchasing or financing decisions based on an overly optimistic impression. This distinction between the headline and the substance of the figure is especially useful for anyone setting prices: cutting tariffs because headline inflation is easing can be a mistake if one’s own costs have not followed the same path.

What the base effect is

Inflation is calculated by comparing prices with those of twelve months earlier. When the base of comparison is a peak, like March 2022, the year-on-year figure falls sharply even though prices have not become cheaper: they are simply no longer being compared with such an exceptional month. This is the so-called base effect.

This explains why a rate can fall a lot from one month to the next without any real fall in prices. What happens is that the step of the earlier rise drops out of the calculation. And the same mechanism works in reverse: when a comparison month was very low, the rate can rise without prices having surged. Statistical institutes publish both measures, the headline and the core, precisely so that those reading the figures can distinguish between passing variations and trends that are becoming established in the economy.

The inflation that does not ease

Core inflation deserves a separate reading, because it remained high. It is the best indicator of whether price rises have spread through the whole economy, because it sets aside the most volatile components. When this measure stays high, it shows that price pressure has settled into services, processed goods and wages.

The overall figure was improving, but the shopping basket was still expensive. For households, the everyday feeling does not change because the rate falls: prices that have already risen do not go back. And for central banks, high core inflation is an argument for keeping rates high for longer. It is worth remembering, finally, that each household has its own shopping basket. The average rate may differ from the one a particular family experiences, depending on the weight food, housing or transport carry in its spending.

What it means for shops and restaurants

For shops and restaurants, product costs were not falling at the pace of the headline. It is worth looking at the real costs of each recipe or product line, not the general figure, and renegotiating with suppliers with data in hand. Raw materials, energy and wages move differently, and the average hides those differences.

And before deciding on a price cut or rise, check how demand behaves for each customer. A price cut at a time when costs are still high can squeeze a margin that is hard to rebuild afterwards, while a badly calibrated rise can drive away customers who are already watching every expense.

An encouraging headline does not always reach the business’s till.

This article is general information. It is not legal, tax or investment advice, and it does not take anyone’s particular circumstances into account.