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In the News

VAT cut - will firms lower prices for consumers?

Graham Watson

17th July 2020

The government temporarily cut VAT from 20% to 5% for the UK hospitality industry. But will this indirect tax reduction get passed on to consumers?

A number of leading chains - KFC, Nandos and Pret - have agreed to lower prices.

However, it's easy for large chains with substantial cash reserves to pass on VAT. Smaller chains aren't necessarily passing on the cut, but using it to shore up their finances.

It's interesting to see the distributional consequences of this - is the temporary VAT cut designed to support businesses or increase consumer demand. Or both.

It is worth keeping in mind of course that if VAT is cut from 20% to 5% and the saving is passed on in full to customers, prices would fall by 12.5%, not 15%...

Suppose the pre-tax price is £100. It's then £120 with VAT at 20%, reduced to £105 with VAT at 5%, saving £15. £15/120=12.5%.

Graham Watson

Graham Watson has taught Economics for over twenty years. He contributes to Tutor2U, reads voraciously and is interested in all aspects of Teaching and Learning.

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