LOWER than expected British retail sales figures for July, released yesterday, raised the possibility of a tax and rate cut pre election budget by the Chancellor of the Exchequer, Mr Kenneth Clarke, this autumn.

City houses, expecting a modest increase in retail spending on the month, were surprised by the 0.6 per cent drop in retail spending, which took the annual growth rate down from 3.4 per cent in June to 2.2 per cent.

June's figures were boosted by the European Championship Finals as consumers stocked up on football shirts and cans of lager. However, July's figures saw a slowdown in both clothing and foodstuffs, with the largest month on month growth occurring in household goods.

While the overall trend is clear - sales for the past three months still remain 2.7 per cent higher than a year ago - the surprise fall off in consumer demand has reduced the fear of inflationary pressures in the economy.

It will bolster Mr Clarke's tough stand for lower interest rates in the face of opposition from the Bank of England. Undoubtedly the figures will give the Chancellor mare room to manufacture a tax cut as the spectre of a runaway retail spending boom and consequent high inflation fades away.

Economists said the data showed British shoppers were clearly feeling the benefit of cheaper borrowing costs, tax cuts and rising incomes after years of tough pay restraint. The Treasury said sales were "on an upward trend". but the figures confounded City economists who had expected a small rise.

The government is eager to restore a strong sense of national wellbeing, or the "feel good factor", and knows one more rate cut will give the economy an extra push.

However, some analysts said a rate cut on the back of one month's fall in shop sales would be a risky strategy and Mr Clarke could come under pressure for a politically unpopular rate rise before the election.