Economics

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VAT Changes (Chain of Analysis)

Level:: AS, A Level, IB

Board:: AQA, Edexcel, OCR, IB, Eduqas, WJEC

Last updated 21 Mar 2021

In this short revision video we build a chain of reasoning on this question. Explain how a fall in the rate of VAT might affect businesses and consumers.

Chains of Reasoning: A Fall in VAT

Key notes

VAT is an indirect tax on suppliers in a market. The standard rate of VAT in the UK is currently 20% although there are lower rates. A cut in VAT is an expansionary fiscal policy.
A fall in the standard rate of VAT to say 15% would effectively mean a fall in costs for many suppliers. They might choose to pass this on in reduced retail prices.
If prices of goods and services fall, then the real income of consumers will increase - people will have more discretionary income to spend and therefore AD will rise.
Some retailers might choose to take advantage of a lower % rate of VAT by keeping their prices constant and making higher profits.