Economics of Independence Scotland's Economy

Why Westminster doesn’t want Scotland to have full fiscal responsibility

Is a deal on FFR even possible?

Is a deal on FFR even possible?

A lot people are confused by full fiscal responsibility (FFR), what it means, how long it would take to implement and how it would impact on Scotland’s fiscal deficit. I want FFR largely as I think that the more localised the decision making within an economy and society, the more beneficial the decisions made will be. These benefits will “trickle up” to a more advantaged national economic performance. The best way to run the UK is to move towards increased devolution and federalism; each region and nation reaching the optimum level of devolution and independence for their region’s wellbeing. If Scotland then chose independence, then the UK currency zone and common market becomes a confederation, like the best bits of the European common market.

However, it seems that everyone has a different definition of FFR and most describe full fiscal independence – something you can’t actually have within a union. We know what national independence is, it’s a pretty simple concept.That is why a national independence settlement could be arrived at in two years, but maximum devolution will take much longer to work out and requires a staged implementation.

There is no example of full fiscal independence and differing economic approaches within a national union that would be unworkable. A federal system would involve maintaining a system of fiscal stabilisation between regions, for example, if the North East of England suffered significant economic problems that required increased spending and an increased deficit as shown in the regional accounts. No one would describe that fiscal transfer as a subsidy, it would just be part of the natural UK fiscal stabilisation required. Scotland is still part of the UK so if it generates a surplus, that surplus is not Scottish and any deficit is not the sole responsibility of the Scottish tax base. This makes fiscal devolution more complex, firstly as FFR should allow Scotland to try out localised bespoke policies to increase economic and revenue growth and over time improve the deficit as a percentage of GDP. In the first few years under FFR it is likely that the Scottish deficit in cash terms will grow (that’s a good thing, as we would be investing in growth) but in the medium term increased growth and tax revenues would mean the deficit equalises (possibly 3-5 years dependent on policies) with the UK deficit and then in the longer term, 5-10 years, disappears far more quickly than the rest of the UK. Having in this scenario reached a fiscal surplus more quickly than the rest of the UK through FFR, Scotland still being part of the UK will have to, at least in part, make fiscal transfers to the rest of the UK and in the meantime the UK would, in part have had to make fiscal transfers to Scotland.

Westminster doesn’t want Scotland to have a sensibly defined system of maximum fiscal devolution to the point of no detriment to Scotland or the rUK. With an austerity committed Westminster majority and an invest for growth committed Holyrood majority, we would create an A-B test between two mutually exclusive economic belief systems. If invest for growth worked in Scotland and austerity slowed the rUK economy so that the UK’s deficit began to deepen again, then not only would the union be dead but so would the whole neo-classical economic approach, an end to trickle down economics and the near religious belief private sector hegemony in economic thinking.

Smith Commission - Dead in the water

Smith Commission – Dead in the water

The unionist / austerity camp have two choices: try to rush through Smith and draw a line under more powers hoping that the Scottish people don’t realise it’s fundamentally flawed (Cameron and Mundell) or declare Smith not fit for purpose because of the SNP landslide, set up a Royal Commission and hope that either kicks more powers into the long grass or buys them a year or so to figure out the constitutional mess they have gotten themselves into (Darling and Rifkind).

When it was published I called Smith “an unworkable constitutional fudge, the worst of both worlds”. Common sense was held hostage to a pre-referendum timescale promise made to win votes with no thought given to practicality. A progressive alliance dragging Labour away from its austerity stance could (possibly) have allowed FFR to work to alleviate the worst effects of austerity on Scotland’s economy and its people. However, Tory austerity now has a majority mandate and it is hard to see any common ground being found on devolving meaningful powers that would effectively allow Scotland to follow such a different path, even if it were possible to have such divergent economic mantras in play within one nation.

So what we will get are some minor powers and a lot of cuts to our block grant that will slow Scotland’s economy which, given Holtham’s indexed deduction formula associated with Smith, would further erode our block grant and negate any real good we could do with the minor powers we have. Don’t blame me, I voted Yes.

A clash of mandates but is there a political solution?

A clash of mandates but is there a political solution?

There is a way though – if the two tribes agree not to go to war but to work together to agree a no detriment solution. 1) We need business and welfare powers to be devolved as soon as possible, a Smith+ solution but with a new fairer block grant indexing formula. This would include devolution of corporation tax and R&D tax credits, oil and gas regulation and policy, welfare and employment law, so we can start to implement bespoke growth investment policies. 2) GERS (Scotland’s national accounts) requires re-engineered to become accurate and not full of guess work on VAT and corporation tax. Right now GERS is interesting for base level statistical comparisons, but you couldn’t use it to run a country or calculate the impact of FFR. 3) We also need an independent Scottish economic forecasting unit to create accurate projections on various policy scenarios without the Westminster overlord culture that skews the work of the OBR and IFS. 4) Finally a one or two year long constitutional convention for whole UK to draw up a workable timetable to move towards FFR, and with it a federal UK and even subregional localisation of decision making.

There may be an economics based answer to the clash of mandates but it would take unseen levels of co-operation. There is, however, no politically acceptable solution for the unionist MPs. If they fail to deliver on more powers the union is dead, if they offer more powers but undermine them through austerity budgets then the union dead, if they move towards federal UK then the union might last a generation but no longer. Westminster is looking at a heads they lose / tails they lose situation.

Further reading: 5 ways full fiscal autonomy can create jobs & grow Scotland’s economy

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About the author

Gordon MacIntyre-Kemp

Gordon MacIntyre-Kemp is the Founder and Chief Executive of Business for Scotland. Before becoming CEO of Business for Scotland he ran a small social media and sales & marketing consultancy.

With a degree in business, marketing and economics, Gordon has worked as an economic development planning professional, and in marketing roles specialising in pricing modelling and promotional evaluation for global companies (including P&G).

Gordon benefits (not suffers) from dyslexia, and is a proponent of the emerging New Economics School. Gordon contributes articles to Business for Scotland, The National and The Huffington Post.

16 Comments

  • Really glad to see an article tackle and outline the fiscal transfers required, there seems to be a belief within Labour and the Conservatives that tax intake should cover all spending in Scotland, I don’t think any country apart from Norway / China could operate on that model!

    Really needs pushed home how fiscal transfers would work, plus raising the issue of the UK’s 70 billion “black hole” everytime Scotland’s deficit is mentioned.

  • I find these really interesting, and wish I understood it..

    In layman’s terms. I would like a Bank of Lender for Scotland (if that’s right)
    I would like us to have our own pound.
    I would like independence.
    I would also like Westminster’s paws off our money.
    Thank you Santa.

  • A lot of the article makes a lot of sense to me. I suspect the choice is between Devo Max and Independence.

    A concern I have is the elephant in the room – Debt. I don’t think the last coalition was wedded to austerity for ideological reasons, although I suspect the new Tory government might be more so. Currently the UK debt is around 90% of GDP and the interest bill is around 7% of Government spending – a bit more than is spent on defence and around half what is spent on education. The figure I found for 2014 was £47bn – spent on interest.

    From my (limited) understanding, the UK debt is being refinanced at historically low interest rates and predominantly fixed interest – as opposed to index linked. It’s a steady process – debt matures and is re-issued, plus is topped up as we continue to run a deficit. So any change up/down works in steadily.

    Under FFR, whether by Independence or Devo Max, presumably :
    a) Scotland would assume a “fair” share of UK debt / debt servicing
    b) Scotland would be able to raise debt of its own

    What do you see as the discount / load that the bond markets will apply to the UK as a whole and Scotland in particular under such scenarios?

    Under the Independence scenario, clearly the debt would be guaranteed by the Scottish Govt. Under the Devo Max scenario, who do you see as guaranteeing the debt? And how would the bond markets factor in the potential for Devo Max to move to Independence.

    My underlying concern is that policies that currently appear feasible, could be dramatically derailed by a significant uplift in interest payable on debt.

  • Thoughtful, substantive article. We need to have such information and ideas more widely disseminated and discussed. I can’t pretend to have much economic knowledge but surely only a numptie or a dyed-in-the-wool Unionist, if that’s not a tautology, could think it makes any sense to hand Scotland some powers without the control of the economic levers (if I may use that cant phrase) to make those powers work. In fact only three scenarios make any economic sense, it seems to me: 1, continue as we are, part of the Union and subject always to the voters preferences of people far away and with utterly different political values, 2. devo-max, with only foreign policy and defence left as reserved matters, which still leaves us at risk of being dragged into conflicts against our will and, presumably, possibly dragged out of the EU against our will, and 3. Full independence. Anything else, such as the current and proposed situation, is just a muddled lash-up which does no-one any good, least of all industry and commerce which, presumably, still has to try to anticipate, but not be able properly to plan for, a further referendum with a Yes vote winning next time. I’m glad I’m retired now!

  • What do you think of proposals such as those from Positive Money or American Monetary Institute that could only be developed with FFR? That is – take the power to create money away from unelected commercial banks so that they are subject to business principles (profit loss etc.)just as any other business is. Should the power to the create money be used only when it is of benefit to the people of a localized region identifiable by those people’s mandate to vote?

    • Thats is one of the great questions of our time should money be sovereign or should banks be able to product it out of thin air and charge interest on it as long as someone has an asset to offer as security? The Only argument for maintaining the system is that it would be impossible to change. I am a one bite at a time sort of guy.

  • I m curious to hear if either of the options for full independence or FFR would feasibly permit circumstances in the short term for the Scottish government to create a new bank which people like myself would like to invest in, for capital to be used to invest in social housing and infrastructure development? Currently, the primary cause of cost of living crisis and lack of funding to SME s seems to be the flawed assumption to let banks just create 90% of money via lending to mortgage holders. Those banks also are creating asset bubble crises. I want to see how we can quickly enable Scottish government to set up a nationally owned bank with purposes described. Plus I m wondering how we can best start creation of a separate Scottish pound currency?

  • Full fiscal autonomy would be ‘tantamount to economic suicide’ not my words, the words of George Kerevan MP.

    In what way is BfS ‘political party neutral’? You are nothing more than an SNP front organisation.

    • I have seen this said so many times and sometimes people even attribute the quote to the SNP Manifesto. How strange that it is completely untrue – do you know this and post it knowing it to be a misrepresentation or did you just believe the unionist press when they misquoted him? There is a further option that you lack the ability to understand the whole quote and the words omitted were left out as you thought them unnecessary.

      Here is what he said “For Scotland to accept fiscal autonomy without inbuilt UK-wide fiscal balancing would be tantamount to economic suicide”. As I point out in my article “inbuilt UK-wide fiscal balancing” would be required and fiscal flows may go both ways. If you share a currency and a common market there must be fiscal balancing, shared regulation and freedom of movement of labour – otherwise it doesn’t work. If you want not to have fiscal balancing then you require full independence.

      Smith contains a preference future block grant indexed deduction (ID): The initial deduction is indexed to an external variable such as the relevant UK tax base by the Welsh economist Holtham which if spending on reserved issues is raised simultaneous to a Westminster Tax rise and the spend had little of no positive GDP impact in Scotland that could strip millions out of the Scottish block grant despite the spend having nothing to do with Scotland. In other words Smith in its present form is a trap and inbuilt UK-wide fiscal balancing would be required to negate that.

      Calling BFS an SNP front organisation is a little bizarre we are 100% self funded from memberships and donations where as the often referred to as independent IFS are funded by a UK Government Department. You might say the CBI is a Tory front but they criticised the Tories over Europe quite strongly. Look at what BFS says about HS2, it isn’t the same as the SNP, and during the GE we supported only policies and not parties. The only candidate we allowed to write for us during the election was the Green candidate who ironically stood against George Kerevan. Finally the tack taken on twitter right now by countless trolls that matches your suggestion that George doesn’t want FFR seems to be that the SNP don’t want FFR but BFS does!

      Well if they are right and BFS disagrees so fundamentally with the SNP on this issue how would that make us a front?

      • Misquoted ? – kerevans quote was from your favourite paper “The National”

        SNP / BFS facts don’t go

        • I gave the whole quote Clegg did not there for it is 100% undeniable that Clegg misquoted. Why would you waste such time posting such nonsense when it only proves that I was right. It doesn’t matter what paper published it – if you omit the key part of the quote to give it different meaning then it is just a lie.

  • You forgot financial services regulation without which we can’t get the banks working for us as well as them or create new financial networks such as a Scottish variant of the highly successful German “Sparkassen” system.

    • Interesting – my default view is that I would like to see more international homogenisation of banking regulation with built in safeguards against leveraging to the extent that it becomes a major risk to the economy again. Sparkassen’s role in providing SME finance is a major drive of the German SME manufacturing success story and Iceland’s sovereign money proposal is also worth looking at.

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