Gas price shocks and euro area inflation

This paper develops a Bayesian VAR model to identify three structural shocks driving the European gas market: demand, supply, and inventory shocks. We document how gas price fluctuations have a heterogeneous pass-through to euro area prices depending on the underlying shock driving them. The pass-through is stronger and more persistent when gas prices are driven by aggregate demand or supply pressures, while inventory shocks have a weaker impact. Supply shocks, moreover, are found to pass through to all components of euro area inflation-producer prices, wages, and core inflation-which has implications for monetary policy. Finally, we document how the response of gas prices to shocks is non-linear and is significantly magnified in periods when the economy operates at capacity and, therefore, unemployment is low.