Jeremy Warner's Outlook: The Bank's been asleep on the job. Surprise of yesterday's rise shows it is awake again

Upmarket retailing wins all the prizes; HSBC looks a good bet on dollar revival

Simon Ward, chief economist at New Star Asset Management, was justifiably feeling pleased with himself yesterday. He was the only economist of 50 surveyed by Reuters last week correctly to predict yesterday's rise in interest rates. The biggest mystery, however, is just how everyone else managed to be so wrong-footed.

It's been as plain as a pikestaff for some months now that the Bank of England's approach to policy is far too lax. The economy is bounding ahead, consumption and retail spending has remained robust, the housing market is once more inflating away like topsy, wage demands are rising, and to most of us it has long seemed like general price inflation is out of control.

Yet the Bank has allowed itself to become sidetracked by a somewhat arcane debate about whether globalisation and immigrant labour has permanently expanded the capacity of the UK economy, and therefore its ability to sustain low-inflation growth. We now know the Monetary Policy Committee's belated verdict on this question. The Bank admitted yesterday that domestic demand has grown steadily while credit and broad money growth remain rapid. As a consequence, the margin of spare capacity in the economy "appears limited", adding to domestic pricing pressures.

Perhaps it was the surprise nature of yesterday's rate hike, but I'm not sure a British rate change has ever had as much international impact as this one. Markets around the world were unsettled by a move widely seen as a harbinger of things to come across the globe. Might it not signal a generalised "get tough" stance by central bankers keen to stifle excess liquidity and overexuberance?

Well maybe, but actually the Bank was responding more to local conditions than international ones. In real terms, British rates are not particularly high by international standards, even after yesterday's rise. It is also now clear that the Bank has been wrong in some of its forecasting of both inflation and growth. This is only partially explained by factors outside the Bank's control - such as tuition fees and rising energy bills.

The reason why so few saw the rate rise coming was not really because they had missed the inflationary story. It was more to do with the fact that in the interests of predictability the Bank has carefully tutored markets into thinking that any change in policy would be reserved for the MPC meeting immediately prior to publication of the Quarterly Inflation Report.

The coming rate rise had therefore been pencilled in for February. Nobody raises rates in the dead month of January, when in any case economic activity abates after the Christmas and new year binge. If the Bank has strayed from this routine, that can only mean that things must have become really serious.

Indeed they have. We don't yet know whether last month's inflation rate exceeded the one percentage point above target that obliges Mervyn King, Governor of the Bank of England, to write a formal letter of explanation to the Chancellor, but at its meeting yesterday, the MPC certainly will have done. It was given the yet-to-be-published figures to help instruct its decision.

Back in the summer, Mr King said there was a 50-50 chance he would be forced to write that letter. No sooner did the threat seem to abate than it came roaring back. If the letter has to be penned, Mr King at least now has an answer as to what he's doing about it.

Rightly or wrongly, there was a feeling that the Bank was becoming a little fuzzy around the edges in its commitment to low inflation. Yesterday's surprise goes some way towards re-establishing the Bank's credibility. If today's relatively high inflation rate does spill over into second-round effects, with higher wage settlements, the Bank stands ready to tackle them.

Upmarket retailing wins all the prizes

The big picture story in this season's clutch of retail trading updates is of a rush to quality. Nowhere was this more apparent than in yesterday's figures from J Sainsbury, showing a 5 per cent rise in like-for-like sales in the 12 weeks to 30 December. Yet it was the make-up of that increase which was the really interesting part of the statement. The company's premium, own-label range, "Taste the Difference", grew by 20 per cent. There was an equally impressive surge in sales of organic foods. Champagne too was popping as never before.

Never mind what David Milliband, the Environment Secretary, thinks about organic food. The nation plainly thinks it is healthier and better even if in his bid to ingratiate himself with the non-organic farming community, Mr Milliband does not. Sainsbury's experience fits into a pattern now being widely reported by retailers. Consumers seem to be going progressively upmarket. As we get wealthier, our tastes become classier and we buy more expensive things. In foods, the trend is supported by the culture of celebrity chefs. Jamie Oliver, Nigella Lawson, Gordon Ramsay - they all invite us to explore new tastes and culinary experiences. Nearly all of what they recommend is more expensive than what we've been used to.

The position is similar in other product categories, from clothing to televisions, computers and furniture. The retailers that have been doing well are the ones with the more upmarket profiles. Aspirational lifestyles are taking the consumer further up the value chain. What may once have been considered a luxury confined largely to the rich is progressively being made accessible to the mass market.

Yet retailers must be careful not to lose sight of reality. Consumers are never going to become oblivious to value. Marks & Spencers' recent success has been in rediscovering its reputation for the classy at an affordable price. The retailer that gets these things right will flourish. The rest are toast. There's no reinvention of the wheel in this business.

HSBC looks a good bet on dollar revival

Everyone has been very rude about HSBC in recent weeks, so rude in fact that the shares are starting to look reasonably good value. Thanks to the bashing that Stephen Green, the chairman, has been getting, the stock now yields a lively 4.3 per cent, making it one of the biggest income earners in both the FTSE 100 and the banking sector.

Not that the yield at present exchange rates can be expected to rise by very much. HSBC is an international bank which makes the bulk of its revenues in dollars or dollar-related currencies. It reports in dollars and it pays its dividends in dollars. The dollar's relative weakness against the pound means that though the dollar dividend has been rising in line with earnings, it falls when converted back into sterling.

One of the reasons why HSBC shares have underperformed is because of the acquisition of Household, a big sub-prime lender in the US. With the benefit of hindsight, this was plainly the wrong acquisition at the wrong time. Both the value of the dollar and the quality of Household's lending has deteriorated significantly since. Yet the primary reason for the underperformance of the shares is the dollar itself.

A rough rule of thumb which has served me well throughout my adult years is that when the pound gets as low as round about the $1.45 mark, you sell dollars and buy pounds. By the same token, when it gets as high as $2 to the pound, you sell pounds and buy dollars. Though it has come off a little over the past two weeks, the pound has been flirting with the $2 barrier for some months now.

To be a bull of HSBC, you must also be a bull of the dollar. Whatever people say about the burgeoning current account deficit and the threat to the economy posed by a weak housing market, the greenback at these levels looks a pretty good bet to me. The pasting they've received in recent weeks has also shocked and galvanised the management. Mr Green was accused of being asleep on the job. If ever he was, he's been given a rude awakening. That can only be positive.

j.warner@independent.co.uk