<p>Inflation differentials in the euro area widened in 2022 to historically high levels in the context of a surge in energy and other commodity prices. On the one hand, some degree of inflation differentials within the euro area may be seen as a natural part of an adjustment process, rather than a problem per se for economic policy. On the other hand, persistent inflation differentials can adversely affect competitiveness in higher inflation countries. This paper uses principal component and panel regression models to investigate the drivers of inflation differentials. Our empirical estimates suggest the impact of a common shock – asymmetric across Member States and mostly related to the increase in energy and food prices – can explain up to two thirds of the increase in headline inflation in 2022. The estimated responses to the common factor increase with energy intensity, reflecting the important role of energy prices in driving global shocks to inflation, and decline with the share of services in Gross Value Added (GVA), suggesting that countries with a larger manufacturing sector have been more sensitive to common factors. The common factor is also found more prominent in 2020–22 than in previous periods. The remainder of inflation developments can be explained by more local and crisis related factors. Results are robust to including a lagged dependent variable in the model, instead of accounting for the autocorrelation in the residuals with GLS estimates. The lagged dependent variable captures some of the effect of the common factor, suggesting that persistence may be associated with a relatively long pass-through for the energy shock, related to the staggered nature of supply contracts and price setting in the euro area.</p>