Jeremy Warner's Outlook: Outlook benign as rates head higher. Time to worry, or are prospects really that good?

Dixons/FCUK: a tale of two retailers; Tesco: every little helps win customers

The bad news is that interest rates are heading higher. The good news is not by much. Yesterday's Quarterly Inflation Report from the Bank of England painted a picture of such benign stability for the UK economy that it's no wonder the Governor, Mervyn King, is so keen to stress the many risks. If it looks this good, then surely something is about to go wrong.

According to the Inflation Report's trademark fan charts, inflation is set to remain a little bit above target for the remainder of this year - thanks largely to higher energy prices - before returning to the assigned rate and then broadly staying there for the next two years. No need to worry about interest rates, then. However, this forecast assumes that market expectations of interest rates, which point to another quarter point rise at some stage this year, are met. A separate fan chart based on unchanged rates of 4.5 per cent during this period shows inflation remaining above target long into the future, albeit not by much.

What's more, the Governor admits to concerns about a recent survey showing rising inflationary expectations. If that trend were to continue, then plainly he would need to act.

All the same, the variables as currently foreseen look pretty insignificant by past standards. Present projections imply that another quarter point rise in interest rates might be necessary to keep inflation on track. Yet the Bank also forecasts slightly slower growth going forward than it did at the time of the last Inflation Report in February. This may make members of the Monetary Policy Committee less worried about above target inflation than otherwise.

The differences are too marginal for reliable predictions one way or the other and, in any case, events are bound to intervene in the meantime in a way which might fundamentally change the outlook. The greatest threats remain the external ones, and in particular the connected fates of the US economy and the dollar. By common consent, global imbalances in trade and capital flows have to unwind at some stage. Yet it is still not clear how.

Mr King said yesterday that the UK trade deficit at 4 per cent of GDP was unsustainable, so goodness knows what he thinks about the US deficit at about 7 per cent, or indeed Spain with a current account deficit approaching 10 per cent of GDP. Globalisation may make these deficits easier to maintain than the more traditional economic textbooks would suggest. Particularly in so far as the US is concerned, the numbers in any case overstate the seriousness of the problem. Factor in the licensing, service and software industries where America maintains a world lead, and the position looks less alarming.

What's more, as long as America remains the dominant global power, people will want to continue to invest there. Most dominant empires have played this game, from the Romans onwards. Perhaps unfortunately, reliable statistics don't run that far back, but the evidence suggests that Rome managed to sustain a massive trade deficit over hundreds of years. It was maintained in customary fashion - because foreigners wanted or were obliged to invest there.

Some of the same effect is rubbing off on Britain and other English speaking nations. As once again soaring London house prices confirm, rich foreigners like to invest here. These inflows of foreign capital help pay for our profligate ways. It might seem morally wrong for capital to be flowing from some of the poorest nations in the world to some of the richest, but as these countries develop, the first thing the aspirational new rich does is to invest in overseas assets. It was ever thus.

None of this is to belittle the nature of the problem. Since the dollar cannot, as things stand, fall against the Chinese renmimbi, which is pegged against the greenback, the main adjustment is felt through the euro, and to a lesser extent the pound. If this persists, it poses a major threat to the health of the European and UK economies. In the US, meanwhile, interest rates continue to rise, in part to head off the possibility of a dollar rout. You don't need a weatherman to see the storm clouds are building, yet it still seems more likely they'll hold off than that the storm will break.

Dixons/FCUK: a tale of two retailers

While Stephen Marks at French Connection was busy admitting that he hadn't a clue what would happen to his profits this year - all he could say was that they would be materially below expectations - a very different story was being told by John Clare, the chief executive of DSG International, or Dixons as was. Booming sales of flat screen TVs ahead of the World Cup have put a rocket under the company's fortunes, enabling profits for the year to the end of April to come in materially above market expectations.

Two more different retailers would be hard to imagine, yet there are some generalisations that can be made about this stark divergence in performance, none the less. FCUK has essentially lost its position in the fashion market. Though it would consider itself more in the upmarket, "boutique" corner of the fashion clothing market, the reality is that these days it competes more with the likes of New Look, Marks & Spencer and Topshop, against which it looks uncompetitive on price.

The cache of the FCUK label has gone. Today the brand doesn't even have the power to shock: it just looks old hat. As it happens, Mr Marks has worked wonders in improving the range over the past year, yet the customers haven't noticed. In growing numbers, they prefer to shop at a resurgent Marks & Spencer. Worryingly, French Connection seems to have next to no internet strategy. Indeed, it is hard to see how the brand is going to make the leap into online shopping at all.

As for DSG, there seems no end to the wave upon wave of new, must-have electrical products to keep the sales surging ahead. The latest craze is for flat screen TVs, which Britons are gobbling up at the rate of one every 15 seconds regardless of price and already mountainous debts. When it comes to the World Cup, the live today, pay tomorrow culture of the consumer boom is still very much alive and well.

Despite his success, Mr Clare is as grumpy as ever about the outlook. Yet DSG remains a retailer which is getting it largely right. The decision to make Dixons exclusively into an online brand is a bold and inventive approach to the problem of internet competition. Dixons is the market leader by a long way on the high street, but as an online electrical retailer, it trails badly. If Mr Clare gets his way, that's about to change.

Tesco: every little helps win customers

The most successful companies are those that put customers first. This truism in business cannot be repeated often enough. Those that take their customers for granted, or worse, as sheep to be fleeced, will always ultimately fail.

Tesco's success as a company is no doubt based on a cocktail of different ingredients, but there is also a clear philosophy there which has instructed its climb from also-ran to market leader: know your customer, listen to his needs, and serve them. It would be easy to dismiss yesterday's package of "Tesco in the Community" measures as just a cynical PR exercise designed to head off the public backlash against its growing market power. Many already have. Yet the difference is that this is more than just lip service. Tesco actually means it. Those that doubt the execution don't know the company. Tesco will do exactly what it says it is going to do.

It is this ability to respond to customer demands that gives the company its edge, and paradoxically leads to the phenomenon its critics most complain of - that more people shop at Tesco than is healthy for a diverse and competitive economy. On packaging, recycling and other spheres of growing interest to UK consumers, Sir Terry Leahy, the chief executive, is matching words with actions. And in so doing, he's keeping his company ahead of the game.

j.warner@independent.co.uk