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Britain's VAT rises to 20%

Hike raises cost of goods ranging from a pint of beer to a cell phone call. Politicians argue over whether it will hurt economic recovery.

By Teresa Mears Jan 4, 2011 2:53PM

This article is by Jane Wardell of The Associated Press.


Britons are being slugged with a sales tax hike that is increasing the price of everything from beer to clothing from Tuesday -- a downbeat start to a year that many economists warn could feel rougher than the recent recession.


Prime Minister David Cameron's government said the rise in so-called value added tax is "tough but necessary" to bring down Britain's massive deficit.


But the opposition argues it puts the economic recovery at risk just as the country is struggling to get back on its feet.


The center-right Conservative-led coalition government lifted VAT from 17.5% to 20% in a bid to raise an extra 13 billion pounds ($20.25 billion) for the country's coffers this year. The increase spearheads a raft of painful measures to tackle the runaway deficit, including widespread government spending cuts on services like welfare and a rise in the retirement age.


Unemployment is forecast to soar, house prices to fall further and inflation to rise -- a sour New Year's cocktail for Britons who have barely had time to celebrate the end of a deep recession a year ago.


The increase in VAT affects a vast swath of goods and services from fuel to mobile phone calls. The British Beer & Pub Association said it will push the average cost of a pint of beer through the 3 pound barrier ($4.70) for the first time.


There are exemptions to the tax, including most food, children's clothing and footwear and books. Other goods and services, including domestic heating fuel, electricity and children's car seats have VAT applied at a lower rate.


Many shoppers are also believed to have beaten the rise by buying big-ticket items in the New Year sales over the past few days before the new rate came into effect.


The VAT rise will cost each household around 520 pounds ($810) a year, according to price comparison website Kelkoo.


"Economic activity is seen slowing appreciably in the first half of 2011," said IHS Global Insight economist Howard Archer. "Some temporary growth drivers will wane while the economy faces the fiscal squeeze increasingly kicking in as well as an uncertain global growth outlook."


Treasury chief George Osborne said the VAT rise was "the least damaging way" to tackle the budget deficit, which reached a record 23.3 billion pounds in November, the latest data available. At that pace, the deficit could total 155 billion pounds by the end of the financial year, more than 7 billion pounds above government forecasts.


"I think it is a reasonable rate to set, given the very difficult situation we find ourselves in," Osborne told BBC radio. "The VAT rise is a tough but necessary step towards Britain's economic recovery. If you don't want to raise VAT, you have got to do something else."


But retailers and have warned the move will likely depress consumer spending. The Centre for Retail Research estimates that retail sales will be cut by as much as 2.2 billion pounds in the first quarter of 2011 alone and a survey by the Federation of Small Businesses found that more than two-thirds of small firms are expecting the rise to damage their businesses. There are also fears it will fuel inflation and put upward pressure on wage negotiations.


All this comes at a time when the coalition is imposing public spending cuts of up to 80 billion pounds.


Ed Miliband, the leader of the opposition Labour Party, said the VAT rise was "the wrong tax at the wrong time" and the start of the coalition's "squeeze" on families.


"They will be taxing you with higher VAT when you fill up your car," he said, tapping into Britons' fears at the start of campaigning for a special election for a House of Commons district next week that marks the first major political test of 2011.


"They will be taxing you when you phone home on your mobile. They will be taxing you higher when you go out and get a cup of coffee, and when you pick up a DVD for the kids on the way home they will be taxing you."


The Labour Party estimates the hike will lead to the loss of 250,000 private sector jobs, compared to a loss of 75,000 jobs under the rise in national insurance payments it preferred.


But Osborne maintained that an alternative like a rise in national insurance levies, paid by employees and employers on earnings, would have hit poorer families even harder.


Copyright 2011 The Associated Press. All rights reserved. This material may not be published, broadcast, rewritten or redistributed.


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