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U.K. retail sales rose less than economics forecast in December as price increases squeezed spending during the holiday season, casting doubt on the strength of a domestic recovery.

The volume of sales rose 0.3 percent from November after dropping by the same margin the previous month, the Office for National Statistics said today in London. The median forecast was for a 1.1 percent gain, according to a Bloomberg News survey of 27 economists. Retailers raised prices by 1.2 percent in December, the biggest gain for the month since 1998.

The report suggests consumers reined in spending at the peak of the Christmas shopping period as the economy struggled to shake off the longest recession on record. That may dent Prime Minister Gordon Brown’s prospects as he tries to attract voters and win an election by June.

“This puts downward pressure on expectations for next week’s gross domestic product release,” said David Tinsley, an economist at National Australia Bank in London and a former central bank official. “In 2010, consumers’ backs will be up against the wall.”

The U.K. will be the first G-7 nation to report fourth- quarter GDP figures on Jan. 26, with economists forecasting a return to growth. The economy probably expanded 0.4 percent in the period, a Bloomberg survey showed.

‘Sorely Tried’

The pound dropped immediately after today’s release, before rebounding. It traded at $1.6219 at 9:57 a.m. in London after earlier falling 0.2 percent. The yield on the benchmark two-year government bond declined 5 basis points to 1.157 percent today.

By value, retail sales rose 3.6 percent from a year earlier, the biggest December increase since 2006.

Non-store retailing, which includes Internet and mail order, led the increase in sales with a 2.8 percent gain on the month, the statistics office said. Food sales gained 0.3 percent. Sales at department stores dropped 1 percent on the month.

Bank of England Governor Mervyn King said this week U.K. households’ patience may be “sorely tried” in the coming years as pay growth stays weak online cash advance. Though quarterly economic growth rates “may soon turn positive,” he said, “unemployment is likely to remain high.”

William Morrison Supermarkets Plc, the U.K.’s fourth- largest supermarket chain, said yesterday its market will probably remain “challenging” this year. Marks & Spencer Group Plc, the U.K.’s largest clothing retailer, reported on Jan. 6 a holiday sales gain that some analysts said missed estimates.

‘Double Dip?’

There are some signs of optimism for consumers. While six consecutive quarters of economic contraction have destroyed more than half a million jobs, unemployment fell in December at the fastest pace since April 2007.

“There’s still the concern the economy might go in to a double dip, and that the improvement in unemployment may be a temporary blip,” George Buckley, an economist at Deutsche Bank AG in London, said. “The spike in inflation last month is also a risk to spending.”

Brown whose Labour Party trails the Conservatives by about 10 percentage points in polls, has vowed to delay cutting spending to reduce the budget deficit until the recovery is established. The election must be held by June.

Consumers will have to battle headwinds from faster inflation. The U.K. consumer price index jumped in December by 1 percentage point to 2.9 percent from a year earlier, the biggest increase since records began in 1997, as oil prices rose and a 2008 cut in sales tax wasn’t repeated.

Faster price gains present a challenge to Bank of England policy makers, who must decide next month whether to extend their 200 billion pound ($325 billion) bond-purchase plan as they assess new quarterly forecasts on growth and inflation. The panel will have spent the maximum allowed by the Chancellor before their Feb. 4 meeting.

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