I have had my iphone 4 for three weeks and love it however yesterday I noticed a small chip on the screen, devastated! Took it to apple store and arranged appointment with genius, he said I have to pay £139  for a cosmetic fault, I have not dropped it!

I keep it in a leather case,  and have never let it come into contact with anything,

There's not much anyone here can offer, since none of us work for Apple and have no power to intervene in this issue. The Apple technician can only go by what he or she sees, not by what you claim since not everyone is honest about what has happened. In addition, Apple's warranty does not cover defects that are strictly cosmetic:
This warranty does not apply: (a) [removed for brevity]; (b) to cosmetic damage, including but not limited to scratches, dents, and broken plastic on ports;
You can try pleading your case with the manager of the store, or with Apple Customer Relations (call Apple tech support and ask to speak with a customer relations agent), but they may not be able to do anything to help you.
Good luck, and regards.

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