Geographical disaggregation of sectoral inflation. Econometric modelling of the Euro area and Spanish economies

This article studies the performance of different modelling strategies for 969 and 600 monthly price indexes disaggregated by sectors and geographical areas in Spain, regions and in the Euro Area 12 (EA12) countries. We also provide, by means of spatial bi-dimensional vector equilibrium correction models for all pairs of prices between neighbours, a description of spatial cointegration restrictions that could be useful for understanding price setting within an economy. We study the relevance of the regional disaggregation by using the proposed models to forecast the corresponding headline inflation and testing whether it is more accurate than alternative forecasts based on aggregated models. The results for Spain show that this is the case. Country disaggregation forecasts are also reliable for the EA12, but only because derived headline inflation forecasting is not significantly worse than alternative forecasts. The models in this article can be used for competitive analysis and other macro and regional analysis.