Outlook: Cappuccino society looks set to drive interest rates higher

Safeway bid battle; Lastminute.com

The Office for National Statistics insists that it takes great care in making sure that the Retail Price Index is kept up to date with modern lifestyle changes. I don't doubt it, but the RPI has never had much relevance to me. I first noticed that the official rate of inflation was seriously out of sync with my own lifestyle, and I suspect a great many others, on discovering that the price of a cappuccino at Canary Wharf had been jacked up 20 per cent overnight.

Yesterday, the ONS said that brown ale, tinned spaghetti and women's slips would be replaced by flat pack bookcases, designer specs and, yes, caffe latte, in the official rate of inflation. Puzzlingly, the ONS has also decided to include in its annual changes to the "shopping basket" used to compile the RPI, horseracing admissions, complete dry dogfood (yummie), and takeaway kebabs, all of which ceased to be part of my lifestyle some years ago. The addition of "air fares" for the first time in the RPI confirms to me beyond all reasonable doubt that the ONS has failed to keep pace with the times.

The ONS is adamant that the RPI is as good a measure of the cost of living as you could find. Huge efforts are made to ensure it represents what people actually spend their money on. But for me and a growing number of others, it bears no relation to reality whatsoever. For many, the cost of living is inflating away like there's no tomorrow. Learned economists warn of the dangers of deflation, but it's hard to recognise it in the soaring cost of council taxes, housing, insurance, calling in a plumber, eating out, overseas travel, and so on and so forth.

The Bank of England has only succeeded in keeping inflation under control because product price deflation is being imported from abroad. Higher oil prices and council taxes will push even the targeted rate of inflation through 3 per cent in the months ahead. Some forecasters believe it might top 3.5 per cent, a level at which the Governor of the Bank of England is required to write to the Chancellor detailing what measures he's proposing to deal with it.

With the economy slowing to a standstill, the situation would seem to demand lower interest rates still, but that's not what the inflation numbers point to. The Monetary Policy Committee targets inflation two years out and its economic model shows that slowing growth means lower inflation. But I bet you that two years back the model failed to predict anything like the present situation. Inflation is close to target, sure enough, but only because rampant service price inflation has been kept in abeyance by imported goods price deflation.

The now imminent Iraqi war has put a dampener on everything and I would still put money on interest rates going lower still before they go higher. But looking further out, it is easily possible to see rates returning to 6 per cent and very possibly higher still. Household debt in Britain is on average now higher than anywhere else in the world other than Japan, and even 6 per cent will for many make the pips squeak, particularly when taken in conjunction with higher levels of taxation.

The stock market has experienced a remarkable rebound since this column described shares fallen to a seven and a half year low as at bargain basement prices, but it is still at a level which points to exceptionally difficult economic circumstances ahead. The skies will clear a bit once Iraq is out of the way, but don't bet on a return to economic normality any time soon.

Safeway bid battle

If Sir Ken Morrison had been hoping that industry beating figures yesterday from his William Morrison supermarkets chain might have given a fillip to his all shares bid for Safeway, he would have been sadly disappointed. Wm Morrrison added just 1p, which on a glorious day for share prices, made it one of the smallest gainers in the FTSE 100 index.

With all eyes focused on the decision by Patricia Hewitt, Secretary of State for Trade, on whether to refer all or any of the five outstanding bids for Safeway to the Competition, Morrison's figures were always going to be largely of academic interest. Morrison's only real hope of success lies in the possibility that other trade buyers will be referred and that Philip Green won't bid, giving Sir Ken a clear field, at least for a while.

Much more interesting than Sir Ken's figures was in any case the suggestion from Cheuvreux, the stock broking arm of Credit Agricole, that Safeway is about to inflate its figures by clawing back six years of supplier funding. The new fact Cheuvreux seems to have ferreted out is that Safeway has been using the Profit Recovery Group to pursue past rebates from suppliers.

Such rebates, whereby a supplier agrees to fund a particular promotion, or pays for prominent shelf space, are legal and common place in the grocery trade. It would none the less, be highly unusual both for it to occur on the scale suggested by Cheuvreux and for six years worth of it to be lumped into a single year's profit. For the record, Safeway says it's rubbish.

As it happens, the broker responsible for the circular, Mike Dennis, met with one of the bidders, Philip Green, shortly before penning his note, which makes his views more intriguing still. Safeway cannot justify an exit price of above 250p a share, says Mr Dennis, a comment he insists is entirely his own but which will find Mr Green nodding in agreement. Doubtless coincidence, but Safeway suspects mischief.

The trade buyers will be able to justify prices well in excess of 250p a share, depending on what degree of monopoly they are eventually allowed to have. With none of the cost cutting and synergy benefits of the others, Mr Green has to make the deal work as a pure private equity transaction. In the meantime, Sir Ken must just keep his fingers crossed and hope that Ms Hewitt gives him the advantage he needs. If she refers the rest, Sir Ken could yet find himself head to head with Mr Green.

Lastminute.com

It is almost exactly three years to the day that lastminute.com was floated on the stock market, an IPO which for Britain at least came to symbolise the mania of the dot.com boom better than any other, as well as mark its final demise. Within days, technology stocks were on the slide, and lastminute shares fell as precipitously as any.

With its eclectic sales proposition - anything lastminute, from travel to hotels, through to gifts and even takeaway meals - lastminute makes an unlikely dot.com survivor, but not only has it survived, it has also thrived, and in terms of its advancement is now way ahead of anything its two founders, Brent Hoberman and Martha Lane Fox thought possible at the time of its flotation.

In an industry which has become depressingly dominated by the big league names of the US, lastminute is a rare standard bearer for European dot.coms. It seems to be one of few recognisable names left standing. Where are the others from all the young hopefuls of the e-commerce world? It's hard to think of any other which is not American other than e-bookers, which is also in travel. The biggest and most successful, Tesco, just piggie backs off an established retail format.

Now cash positive, and with more than £40m from the float still left in the bank, lastminute has established both the brand awareness and the critical mass to prosper. Barriers to entry have meanwhile become formidable, with no investor or banker willing to fund any dot.com of size. Lastminute was incredibly lucky with its timing, but it has also played its hand well, and is today uniquely placed as a consolidator of European internet travel operators.

Martha Lane Fox aims one day to emulate Expedia, the US based big daddy of online travel with $5bn of revenues annually. There's a long way to go, but Europe may one day produce a dot.com to match the US giants, and who's to say lastminute won't be it?

jeremy.warner@independent.co.uk