Outlook: Steady as she goes as Bank reverses gear on interest rates

Music mania; Boots

Jean-Claude Trichet, the new president of the European Central Bank, is leaving eurozone interest rates on hold for the foreseeable future. Alan Greenspan, chairman of the US Federal Reserve, has indicated he's minded to do something similar, despite third-quarter growth in the US of an astonishing 7 per cent. Only in Britain of the major developed economies are short term interest rates unambiguously heading higher, this despite the fact that the economy will be lucky to achieve trend growth either this year or next.

You'd have to have been on a different planet not to know the reason for this apparent dichotomy of policy making. In a statement, the Bank of England cited the global economic recovery and the need to keep prospective inflation in line with target to explain yesterday's quarter-point hike in rates, yet that's only the big picture. The real reason lies with the continued housing and consumer credit booms, which the Monetary Policy Committee (MPC) thought by now would have subsided. Instead, they've carried on growing. In France and Germany, by contrast, there are no such booms, while in the States, lack of a specific inflation target allows the Fed to be more overtly pro-growth in its policy making than the Bank's mandate allows.

In itself, a quarter-point rise in rates is going to be neither here nor there in checking the credit boom, but then the last thing the MPC wants to do is to bring it to an abrupt halt while the business recovery is still so fragile. So the strategy looks like being a series of quarter-point rises over a period of time in the hope that the tearaway housing and credit markets can be tamed.

There's as yet no reason to suppose rates will have to rise anywhere near as high as they've been in previous cycles to deal with the problem. The City consensus is still just for 4 to 4.5 per cent by the end of next year. On the other hand, if the Bank had allowed the credit boom to continue unabated, it would eventually have required much more severe action, which by creating a demand shock might in turn have led to a full blown economic bust.

The hope is that the Bank has moved early enough to prevent such a calamity - a gentle application of the brakes now might save the Bank from having to slam them full on at a later stage. On the whole, there's reason to be optimistic about the state of the economy. Growth has proved more robust than many of us thought likely, and the outlook is for more of the same.

Yet this has been achieved by creating a consumer and mortgage credit boom of unprecedented proportions. The long-term consequences of this exercise in economic manipulation - some might call it a leap in the dark - are still far from clear. Cheered on from sidelines by the Chancellor, the Bank has succeeded in keeping the economy growing but only at the cost of creating a nation of debtors. Most will learn to live with permanently higher levels of credit, but, for a significant minority, the coming squeeze spells disaster. And for everyone with debt, it will mean a period of belt tightening.

For four years now, rates have been falling, adding to disposable income and reinforcing the appetite for credit. With rising interest rates, that process now goes into reverse.

Music mania

It is just about possible that competition regulators would allow one further merger among the five music majors, but are they going to allow two? Five into four might be a runner. Five into three looks a lot more challenging. Yet that's what the music industry is about to attempt. Bertelsmann and Sony yesterday signed a letter of intent to combine their recorded music interests into a jointly owned single company. Britain's EMI is meanwhile poised to acquire Warner Music from Time Warner for a combination of shares and cash.

It's taken the four players an awfully long time to get to this particular end game. EMI originally agreed to merge with Warner Music more than three years ago but the deal was derailed by regulators. The same considerations holed a later attempt to merge with Bertelsmann. Bertelsmann then started talking to Warner Music instead but couldn't find the cash component Time Warner was demanding. So now EMI is returning to plan A while Bertelsmann is trying its hand at the only alternative combination left.

Agreeing which dance partner best suits has proved difficult enough, but actually that's just the easy bit. Now comes the really tough part: getting these combinations through the competition authorities in Europe and the US. Given the history of regulatory obstruction, what makes the music industry so confident this time? The simple answer is that all four companies are very far from confident. On the other hand, they are also desperate, so it seems worth a try. Rampant piracy, both physical and digital, and a general dearth of new musical talent, has reduced profits to rubble while sales continue to fall off a cliff.

Nobuyuki Idei, chairman of Sony Corporation, has predicted that the music majors will be dead within 10 years if things carry on as they are. The only one of them still doing remotely well is Universal Music, which managed to engineer a merger before the regulatory crack-down began and, with more than 25 per cent of the global market, is now reaping the benefits. It's also cutting prices aggressively in an attempt to address the problem of piracy and kickstart sales growth. With some justification, the others argue that it's only fair to cut them similar slack. Prospects without it, they insist, are grim.

Still, mergers born out of market weakness are rarely a formula for success. Both proposed combinations will deliver decent sized cost cuts, but a return to top line growth will require something a good deal more creative. The music majors have made some headway in convincing the capital markets that they are finally winning the war on music piracy, but the truth of the matter is that the various initiatives launched so far are like spitting against the wind. It requires visionary thinking to return these companies to former glories. As things stand, there's not much sign of it.

Boots

The new man at Boots, Richard Baker, plainly means business. Just five weeks into the job, and the one time protege of Allan Leighton (yes, him again) is already kicking ass. We're confusing the customers, he fumes, we are too slow, we are often asleep at the wheel and we haven't reacted aggressively or imaginatively enough.

Boots is not used to self flagellation, but Mr Baker seems determined to introduce it. The 5 per cent slide in interim pre-tax profits he unveiled yesterday - this in the midst of one of the biggest consumer booms of all time - demonstrates just how much work there is to do. Still one of the most powerful and trusted brands on the high street, Boots shows unnerving signs of slipping into the sea.

Mr Baker is understandably silent on what he plans to do about it, though he does warn that margins will have to be sacrificed in order to be more competitive on price. Some £40m is to be invested in price promotion during the second half. Too radical a shake-up and Mr Baker risks throwing the baby out with the bath water, but too cautious an approach won't halt the ever more aggressive encroachment of the big supermarket groups.

The Government's cowardice on deregulation of the pharmacies market has bought Boots more time, but it's probably no more than that. Mr Baker must use the breathing space to update, reform and breathe new energy into the format. It's amazing how often you cannot get precisely what it is you are after when you go into Boots the Chemist, yet astonishingly you still have to queue to pay for the wrong type of toothpaste. Mr Baker means business. Let's hope he can deliver it.

jeremy.warner@independent.co.uk