Inflation recorded a drop in December as the VAT cut and stores slashing prices up to Christmas tempered the rate of rising prices – but less than expected.

Data today from the Office for National Statistics (ONS) showed the consumer prices index (CPI) was at 3.1 per cent – compared to 4.1 per cent in November.

The retail price index (RPI) rose by 0.9 per cent, compared to 3.0 per cent in November – raising speculation the index could turn negative in the coming months.

There was widespread expectation inflation would fall further.

Inflation has been falling from peaks last year fuelled by high oil prices – but the drop in the price of oil and the threat of recession has pushed down prices.

The ONS figures showed the biggest downward push on inflation came from clothes – following heavy discounting – so the price of clothing and footwear was over ten per cent cheaper than a year ago.

Average petrol prices fell by 6p.

Transport costs were only 0.1 per cent higher than December 2007. Food costs were 10.4 per cent higher than a year ago.

RPI fell so sharply largely because in the fall of housing costs – as interest rate cuts from the Bank of England lowered mortgage repayments.

The inflation figures are key to the Bank of England when setting interest rates.

The Bank’s monetary policy committee (MPC) aims to keep CPI at two per cent.

With the fall in inflation less than expected, further interest rates cuts may not come so swiftly.

However, further reductions are expected to the base rate as the UK heads into recession.