The rise in the standard rate of VAT, from 17.5 per cent to 20 per cent, is likely to hit retailers, a new study has suggested.
As from 4 January, VAT rose by 2.5 per cent.
But a study carried out by the Centre for Retail Research and the online shopping group Kelkoo has predicted that retail sales will decline by £2.2 billion in the first quarter of 2011 as a consequence.
Meanwhile, the British Retail Consortium (BRC) warned that the hike may well have concentrated the traditional January sales into a period around the New Year, ahead of the rise.
Jane Bevis of the BRC said: “We are expecting to see a very quiet period over the next few months”, adding that with transport costs, commodity prices, business rates and national insurance all rising, some businesses were feeling the pinch.
The VAT rose could have an adverse impact on inflation too.
The Consumer Price Index already stands at 3.3 per cent, and the VAT increase may push that number closer to 4 per cent during the course of the year.
A spokesman for the BRC added: “We’re not expecting the prices of retail to shoot up overnight. For quite a period the effect of the VAT rise will be lost amid the discounts and sales.
“The VAT rise is certainly being used as part of the promotion activity that retailers are involved in. Some are saying they will bear the cost of the rise for people. They are effectively holding prices at the pre-VAT rise level as a promotion.
“But over the next few months there is no question it will put up prices and retailers have been pointing that out as part of their efforts to make people buy.”
The Chancellor, George Osborne said that increasing VAT was the “least damaging” way to tackle the national deficit, arguing that raising VAT was fairer than raising taxes taken directly from income.
Mr Osborne told BBC radio that “higher income tax or higher national insurance … these two things I think would have a greater impact on work incentives, on competitiveness of the British economy. I think they would cost jobs”.
The Chancellor said that the evidence pointed to an increase in VAT as “the least damaging tax rise” and that lifting the level of income tax or national insurance “would have a more damaging impact on poorer people”.
Mr Osborne continued: “Most economies and certainly the best international evidence is that countries with big deficits should increase their indirect taxes.”
Although there are no plans to increase VAT further, the Chancellor confirmed that the latest rise is permanent: “It’s a structural tax change to deal with a structural deficit and a structural increase in expenditure that happened.”
According to a survey carried out by the Federation of Small Businesses (FSB), some two-thirds of small firms are expecting the rise to damage their businesses, with more than half planning to pass the increase on to customers.
The FSB said that bigger firms will be better able to absorb the 20 per cent VAT rate, while smaller businesses may have to cut back on recruitment to cope.