Today’s VAT increase means that, for the first time in Britain, the rate of VAT is the same as the basic rate of income tax. As the graph below shows, while the basic rate has fallen from 30 per cent to 20 per cent, VAT has risen from 10 per cent to 20 per cent.
VAT was introduced in April 1973 as a result of Britain joining the European Union (as Evan Davies noted on the Today programme this morning, it’s a rare example of an EU policy that the Tories like) and has been raised three times since, each time by a Conservative chancellor.
In the 1979 Budget, Geoffrey Howe, who, like David Cameron, had insisted that he had “no plans” to raise VAT, increased the tax from 8 per cent to 15 per cent. Eleven years later, Norman Lamont raised VAT to 17.5 per cent in order to pay for a poll tax cut of £140 a head. VAT then remained at this rate for 18 years, until Alistair Darling reduced it to 15 per cent as part of the Brown government’s fiscal stimulus. The 17.5 per cent rate returned at the start of 2010.
With George Osborne confirming again today that the rise to 20 per cent is “permanent” (unlike the 50p tax rate), Britain’s tax system has been tilted in an unprecedented direction. Opinion remains divided on whether VAT is “regressive”. As Osborne pointed out this morning on the Today programme, the Institute for Fiscal Studies has suggested that the tax is “mildly progressive” on the basis that the poor spend more of their income on VAT-exempt goods than the rich. To my mind, this analysis falsely assumes that the poor have the same powers of saving and borrowing as the rich. Richard Murphy of Tax Research UK has a detailed rebuttal here.
With the coalition pinning its hopes on a robust recovery before the next election, however, it’s likely to be the economics of the VAT rise that dominate the debate.