Energy price shocks in the European Union: Macroeconomic impacts, distributional effects and policy responses

The macroeconomic consequences of energy shocks, their distributional effects, and the potential remedies have recently scaled up the EU policy agenda. In this paper, we employ an agent-based, stock-flow consistent model empirically calibrated to the EU27 economy to evaluate the macroeconomic effects of an energy price shock akin to that which took place in 2022. Our focus is on a scenario in which the economy experiences a sudden, sharp increase in the price of imported fossil fuels, which affects the price of energy and thereby firms’ production costs and output prices. We show that the magnitude and persistence of the resulting inflationary episode, as well as the effects on functional income distribution, employment and economic activity, strongly depend on government intervention, the sensitivity of nominal wage claims to inflation, and the extent to which increases (and subsequent decreases) in the price of energy inputs are passed on into final output prices. We find that an empirically calibrated mix of transfer payments can be very effective in mitigating the macroeconomic impacts of the energy price shock. However, such policy interventions are never able to fully countervail the shift towards profits of the income distribution. Additional price-targeting measures to ensure the full pass-through of energy price decreases once the shock recedes offer a solution to this issue.