MercoPress. South Atlantic News Agency

Return of 17.5% VAT in January pushes UK inflation to an annual 3.5%

Bank of England Governor Mervyn King said the spike was temporary

United Kingdom price rises caused by the return of 17.5% VAT in January saw inflation reach 3.5%, the Office for National Statistics (ONS) has said. The Consumer Prices Index (CPI) rose to 3.5% last month from 2.9% in December as goods and services became more expensive.

As it is more than 1% above the 2% target, the Bank of England Governor Mervyn King has written to the Chancellor explaining why and outlining what will be done about it.

In his letter, the Governor said the inflation spike was “temporary” but that the rate was likely to remain high for the next few months.

Writing in response, Alistair Darling said the inflation outlook was “subject to some uncertainty” as the world emerges from the “deepest downturn in modern times”.

Meanwhile, the headline rate of Retail Prices Index (RPI) inflation, which includes the cost of mortgages and housing, went from 2.4% to 3.7%. The underlying rate of Retail Prices Index (RPI) inflation rose to 4.6% in January from 3.8% in December.

Commenting on the figures, economist Howard Archer of IHS Global Insight said they were in line with expectations - and were not “one of the recent nasty upward surprises”.

“Inflation was always going to spike in January due to the VAT hike and unfavourable base effects resulting from sharply falling oil and food prices a year ago,” he said.

”In addition, it appears that retailers engaged in significantly less discounting in the post-Christmas clearance sales this January compared to January 2009 when they had higher stock levels and were especially worried about the prospects for consumer spending.

The UK government reduced VAT to 15% on a temporary basis until last month in an attempt to boost consumer spending. Its reversal back to 17.5% was always expected to have an impact on inflation.

The ONS said that, as a result of VAT, the monthly change in the all-item CPI index fell by just 0.2% between December and January - traditionally a time when prices fall.