Deflation in 2010 mostly determined by changes in prices for services
The average rate of consumer prices in 2010 overall was 1.1% lower than a year ago. To a great extent, it resulted from the low domestic demand and drop in producer prices: as labour costs shrank, and productivity rose, businesses could respond to the drop in demand with lower prices.
Yet the active measures to revive the economy in the world's largest economies have been driving the global prices up ever since the beginning of last year and that, of course, has been reflected also in Latvia's consumer prices. The rise in global oil prices has had a significant effect on fuel prices: they exceeded the 2009 level, when the global oil prices were at their lowest in the last five years, by 14.6%. The tariffs of natural gas and heat rose as well. The global prices have been likewise pushed up by the prices of unprocessed food, particularly vegetables. Price drop has been steady for those groups of goods and services that have been affected by the drop in labour costs and demand in Latvia. Despite the rise in global food prices, the processed food prices were on average below the previous year's level at the end of the year. The low domestic demand has had the most significant effect on service prices, which dropped at the end of the year: prices of services in 2010 were on average 4.6% lower than the previous year.
In December 2010 prices continued to grow slightly, at 0.1%, month-on-month. Fuel prices rose 4.0% over a month, because they, as expected, were significantly impacted by the rapid rise in global oil prices compounded in Latvia by the rising U.S. dollar. Anticipating the rise in VAT rates, the prices of several kinds of goods were increased already in December. As a result of holiday sales, the prices of clothing and footwear have dropped. The annual inflation has risen to 2.5%, but mostly because of the low base effect, i.e. the fact that in the previous year a rapid drop in prices was observed.
Inflation is likely to be most significantly affected by the changes in VAT rates that have come into effect in January. "Latvijas Gāze" reduced the price of natural gas in January thereby reducing both gas and heating tariffs for households yet it is expected that the rapid rise in global oil prices will drive up the prices of energy resources in Latvia. Global food prices are still rising. The uncertainty regarding the development of the euro zone countries and the resulting drop in the value of the euro would have an additional increasing effect on the rise in goods and raw materials imported from outside the euro zone. Although as a result of supply-related factors price rises are expected, these rises are likely to continue to be limited by the low demand and in the second half of the year inflation will resume its downward trend.