John Bridgeman, director-general of the Office of Fair Trading, said he was concerned that consumers were unaware that the largest travel agents were owned by tour operators. He believed this vertical integration allowed the tour companies unfairly to push their own holidays to unwitting customers.
The wide-ranging monopolies probe will also investigate the OFT's concerns that tour operators are only offering discounts to holidaymakers who take out specific travel insurance deals from which they profit and which may be too expensive or unsuitable for the consumer.
The Monopolies & Mergers Commission, which will conduct the probe on behalf of the OFT, will also look into the way travel agents commonly use a dispute over commission terms as a pretext for taking their competitors brochures off their racks during prime selling periods.
Mr Bridgeman said: "The two leading travel companies with whom I have had discussions have argued that such practices are a reflection of the competition that prevails in the travel trade. My view is that they can distort the competition process."
He added that he had failed in a bid to get the travel trade's two biggest companies, Thomson and Airtours, to agree to undertakings to make the industry more transparent: "I need to have acceptable undertakings from all parties involved. It has become clear after many weeks of discussions with Thomson and Airtours that this is not going to be possible."
Airtours said yesterday it had been prepared to give undertakings: that it would make its ownership of travel agent Going Places clear; that it would not take rivals brochures off its shelves; and that it would not abuse its market power to impose unfair terms on small independent travel agents or tour operators.
The OFT's bid to avoid a monopolies reference failed, however, because Thomson, the market leader and owner of the Lunn Poly chain of travel agents, refused to give any ground - claiming the undertakings represented an unacceptable infringement of its commercial freedom.
Both Airtours and Thomson put a brave face on the inquiry yesterday. Thomson, which sells 30 per cent of the UK's 8.5 million package holidays a year and runs 800 Lunn Poly agents, said there were now more high-street travel agents than there were five years ago, and said the market share of the top five tour operators had declined over the past seven years.
Airtours finance director Harry Coe added: "We welcome the investigation. We are confident that any detailed investigation will be unable to find evidence of anything other than a highly competitive industry that has given good value to consumers." Airtours is number two to Thomson in package holidays and has 700 Going Places outlets.
Mr Coe said the price of holidays had fallen by between 15 and 20 per cent in inflation-adjusted terms over the past 10 years and as a result the size of the holiday market had grown enormously. "It is just not an anti-competitive industry."
Despite the companies' confidence in the outcome of the inquiry, which could take 12 months, shares in the publicly-quoted holiday groups fell sharply yesterday in the City. Airtours' shares tumbled from 713p to 644p while Inspirations ended 16p lower at 82.5p.
Independent travel agents and Labour, however, were delighted by the decision.
Nigel Griffiths, shadow consumer minister, said: "This is long overdue and vindicates all our complaints. It could finally mean the end of the stranglehold imposed by the giants of the industry. We need to stop compulsory add-ons like insurance agreements that customers have to take out when they book a holiday. If the big firms have been so reluctant to concede on this issue it indicates that they are making a killing out of them."