Harsh weather and higher inflation combined to give British retailers their worst December on record, data showed on Friday, reinforcing signs that UK growth slowed sharply in the last three months of 2010.
Sterling fell to a day low on the data, which left the country's retail sector at a weak starting point ahead of a year in which consumer demand is likely to struggle in the face of a rise in sales tax and large-scale public sector job cuts.
"These are hugely disappointing figures," said Daiwa economist Hetal Mehta. "It appears that the belt-tightening started a little earlier than expected."
The Office for National Statistics said December retail sales were flat on the year after 1.0 percent volume growth in November, the weakest change since January 2010 and the worst annual performance for any December since 1998. Economists had forecast a 0.9 percent rise on the year.
Overall retail sales fell 0.8 percent on the month after a 0.4 percent rise in November, again weaker than forecast and the biggest decline for a month of December since records began in 1996.
But stripping out the drop in fuel sales due to disrupted travel, the decline was less steep than economists had predicted.
The mixed message on underlying consumer demand makes it hard for the Bank of England to assess domestic price pressures at a time when higher food and petrol costs have pushed headline inflation to an 8-month high of 3.7 percent, well above the bank's 2 percent target.
"December's figures tell us relatively little about demand. It will take a couple of months of data to tell us where households are in the early 2011 environment," said Investec economist Philip Shaw.
Some economists had expected consumers to bring forward planned spending on expensive goods to December to avoid a January rise in value-added tax, but there was little sign of this in the data.
Retail sales account for only around 5 percent of British economic activity, so December's poor data is unlikely to markedly shift economists' average forecast that UK GDP growth slowed to 0.4 percent in the fourth quarter from 0.7 percent in the third.
But it increases the downside risk to that forecast and reinforced economists' views that consumers will keep a lid on spending in 2011. Unemployment is expected to rise due to public sector job cuts, while high inflation and slow wage growth are also likely to focus spending on essentials, they say.
"Consumers will have less money in their pocket this year and it is very difficult to see how retail can escape unscathed from this. I do not expect retail sales to grow at all in 2011, with a fall still very possible," said Richard Hyman, a retail advisor at accountants Deloitte.
A CBI survey last month had suggested that retail sales were rising at their fastest pace since 2002 in the first part of December, before the worst of the snow. Subsequent surveys and sales figures from individual retailers suggested this was not sustained in the final weeks before Christmas.
Heavy snow made it hard for shoppers to visit out-of-town stores and for online retailers to make last-minute deliveries, the ONS said, as well as reducing sales of petrol as drivers were cautious about venturing out.
Sales at food stores dropped by 3.4 percent compared to December 2009, their biggest annual fall for any month since the series began in 1988. Anecdotal evidence suggested that consumers avoided big supermarkets in favour of smaller local specialist shops.
Prices rose sharply at food stores, clothes and petrol stations, mirroring the pattern shown in Tuesday's consumer price inflation data. Other retailers cut prices, despite a looming increase in sales tax that took effect in January.
This pattern poses a dilemma for the BoE, as higher interest rates have no direct effect on oil and food prices predicated on international commodity prices. Instead, a rise in interest rates would primarily tame inflation by sapping consumer demand, encouraging other retailers to reduce prices further.
Moreover, the broader economy is expected to weaken in the first half of 2011, due to the rise in VAT and cuts in public spending as the government seeks to reduce a large budget deficit.
Separate data released by the BoE on Friday showed that net mortgage lending -- historically a driver of retail spending linked to property refurbishment -- dropped to a nine-year low.