Albanian economy is approaching potential growth rates and this partly explains the upward trend of inflation.

The latest monetary policy report of the Bank of Albania points out that the negative output gap, or the distance between potential and real output, has narrowed significantly in recent quarters.

Bringing economic growth closer to potential translates into stronger inflationary pressures in the economy. The analysis of the Bank of Albania shows that starting from the third quarter of 2021 there is an increasing tendency of core inflation or inflation that excludes those components with high volatility, such as food or energy products.

This analysis proves that price increases and the inflation wave are not exclusively related to supply shocks and the rise in prices of vital consumer goods, such as basic foodstuffs, oil or electricity. According to INSTAT, in December 2021 and January 2022, annual inflation marked 3.7%, the highest level in a decade.

The Bank of Albania expects inflation to continue to rise in the first half of this year. The increase in inflation in recent months has translated into an increase in inflation expectations, especially among consumers, while, according to the Bank of Albania, inflation expectations are more limited for businesses.

The Bank of Albania expects inflation to start normalizing in the second half of this year and to fall below its 3% target next year. However, in its projections, the Bank of Albania emphasizes that inflationary risks remain on the upward side and the main factor is a continuation of price increases in international markets, even beyond those that are current expectations.

As the Governor, Gent Sejko, said last week, the monetary policy report suggests that, most likely, the reference interest rates of the Bank of Albania will start to increase this year, in response to the increase in inflation, which has been even higher than the central bank's previous expectations.

While the risks associated with the pandemic are fading, inflation is already the main risk to the sustainability of the economy recovery. The Bank of Albania expects that this year, the growth will be significantly lower than the levels of 2021, which were heavily influenced by the unusual comparative base caused by the pandemic in 2020.

However, the central bank remains optimistic about positive growth in the medium term. The analysis of the Bank of Albania underlines that the earthquake and the pandemic have not caused lasting damage to the growth potentials of the Albanian economy and that during the next 2-3 years, the growth rates will return to the levels that were in the period before these events.

(Source: Monitor)