20% VAT 'looming' as ministers face mounting debt crisis

A hike in VAT is ‘inevitable’ after the election as the government grapples with a mounting debt crisis, experts warned yesterday.

The Treasury will have to lift the tax from 17.5 per cent to 20 per cent to raise an extra £12 billion of revenue a year, according to analysts at consultancy Oxford Economics.

The next Government may also have to delay the state retirement age to 68 in order to cope with the biggest debt crisis since the Second World War, the report said.

The warning came as official figures revealed the UK government has borrowed almost £330 million a day so far in the current financial year - the most on record.

Figures from the International Monetary Fund show the UK has seen the sharpest increase in its debt burden of any Group of Seven nation since the start of the financial crisis.

Neil Blake of Oxford Economics said: ‘There appears to be a political consensus that spending cuts should form the bulk of the tightening but we can’t see how the necessary adjustments can be made without further tax rises too.

‘An increase in VAT to 20 per cent after the election and a rise in the state retirement age at some stage would appear inevitable.’

Chancellor Alistair Darling has pledged to halve the deficit in four years under a new Fiscal Responsibility Bill, but City analysts say he will have to do far more to restore investor faith in the UK public finances.

This week Bank of England Governor Mervyn King renewed his calls for more drastic steps to tackle the UK’s debt mountain, which has doubled to £870 billion in the past fives years alone.

Last year’s temporary reduction in VAT from 17.5 per cent to 15 per cent has now been reversed, which should bolster revenues in the coming months.

But both Labour and the Tories are believed to be weighing up further increases in VAT to prop up state revenues.

Luxembourg and Spain are the only European countries with lower VAT rates than Britain, so there is room for further hikes, according to Oxford Economics.

John Hawksworth, an economist at accountants PricewaterhouseCoopers, said: ‘Some sort of VAT rise is quite likely. Not necessarily immediately, but perhaps from 2011. But there would have to be a package of measures, not just one.’

Oxford Economics’s analysis showed that the Treasury will have to raise an additional £10 billion just to meet the terms of its Fiscal Responsibility Bill.

Few experts doubt that it will have to go much further beyond that.

The Treasury borrowed £15.7 billion in December alone, a record for the month. While that was lower than many City experts fear, it means the Treasury has added £120 billion to its debt mountain so far in the fiscal year that began in April.

Conservative Treasury spokesman Philip Hammond said: ‘This is a double dose of appalling economic news. We have the worst December borrowing figures on record and IMF figures showing that, since the financial crisis began, Britain’s public finances have deteriorated faster than those of any other G7 country.

‘No wonder the Governor of the Bank of England, credit rating agencies and international investors don’t think Gordon Brown has a credible plan to deal with our record budget deficit.’