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Scotland’s economy would be viable

September 17, 2014
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I’ve tended to steer away from the debate over Scotland’s finances because it’s not my professional area and because it all gets a bit “he-said”, “she-said”. Westminster concocts one set of figures and Holyrood another. I’ve no independent yardstick by which to measure which numbers are more accurate. Much of the answer comes down to logic and clear-thinking, free as far as possible of material interests or ideological predispositions. For those reasons i’d be more than happy to receive constructive comments on the following.

What seems clear is that Scotland’s fiscal situation would be viable in the early days, despite the scaremongering. And in the long term Scotland would have the opportunity to pursue an expansionary economic policy which would in turn create the finances to sustainably pursue its social goals. A new Scotland could surely pay for itself?

Looking at the short-term data you’d be forgiven for thinking that the inevitable currency union with England or the less-preferred option of using the pound independently would restrict Scotland’s fiscal options. Under a currency union the Bank of England would impose spending limits on Scotland. Without a currency union the cost of borrowing would increase as international borrowers demanded higher returns, leaving Holyrood with less cash.

There wouldn’t be oodles of money around. In addition fiscal space would be limited because higher taxes would, all other things being equal, tend to frighten away companies and may reduce investment (although the corporate fearmongering of the last week is vastly overblown and is really about shifting brass plates. These companies are just sending a signal to a future Scottish administration not to regulate them or make them pay more tax. Most of them already threatened to leave in 1979 and 1997.) Lower taxation might reduce revenues and encourage a mutually-destructive race to the bottom.

Some people argue that despite political separation that this economic straitjacket would limit true independence. Where would the money come from to pay for Scotland’s enlightened social policy?

It’s a question certainly worth asking. With a budget deficit of 5.9 per cent of GDP using a geographical share of oil, according to this perspective Scotland’s fiscal options appear further limited in the near term, just like the UK’s.

I’m not one of those starry-eyed nationalists who insists on the holiness of everything after independence, but a few reservations need to be voiced about this story.

First, it’s important to look at the long-term data rather than just the last year. As pointed out by the Scottish government’s Fiscal Commission Working Group (Profs. Andrew Hughes-Hallet, Jim Mirleess, Joseph Stiglitz, Frances Ruane and Crawford Beveridge) over the period 1980-81 to 2011-12 Scotland is estimated to have run an average net fiscal surplus equivalent to 0.2% of GDP. The UK, in contrast, ran a net fiscal deficit of 3.2% of GDP.

“Taking both spending and taxes into account Scotland’s national balance sheet has been healthier by £12.6 billion over the past five years for which data is available”. There’s no reason to believe that over the long-term a similar trend might not re-establish itself as global stability increased. Oil, sustainable energy, tourism, food and beverages, tourism. Scotland is a world-leader in them all.

Second, austerity has not only been unjust but economically counter-productive. It’s worse than useless. Paradoxically (and to heavily simplify Keynes) when interest rates are almost at zero during a recession the less the government spends the more the economy stagnates. Paul Krugman, despite his faults, has been one of the better critics of austerity. There’s no magic level of debt below which governments must unfailingly remain. Private debt is anyway a much worse problem, at around four times that of government debt.

So Scotland’s current budget deficit isn’t crippling and wouldn’t rule out spending to stimulate growth or to redistribute wealth. We’ve been sold the lie that governments are like households and that we’re all in some sort of collective belt-tightening exercise. This is nonsense. A sensible government could try to stimulate domestic savings and investment. Government infrastructure spending can reap higher returns than the likely borrowing costs (which in the UK are at historic lows), even after independence.

And if you believe in infrastructure crowding investment in, not out, and in a multiplier effect, then the long-term broader economic benefits can justify the rise in debt (which might be lower than England’s if they do a deal based on refusal of the use of Sterling). None of these ideas are original – they’re all well-known to economists of a broadly Keynesian persuasion, like Krugman.

Funnily enough Krugman came out in recent days in support of the union because he believed separation risked emulating the euro crisis. The problem with the Eurozone, lots of economists say, is that it comprises separate countries with no mechanism for fiscal transfers and has no free movement of capital or labour.

Now I’m no Nobel prizewinner but even I can see that Scotland’s and England’s economies would be similar enough to prevent a euro-style crisis. In the neoclassical jargon, they’re an optimal currency area. Workers and capital will still be able to move freely over the border after independence. Yes, a key problem with the eurozone was that it didn’t have fiscal powers – ie. it couldn’t spend more in the economic blackspots and rein in the overheating areas — but that’s only a problem because the euro economies were so different and because it’s not an optimal currency area. I can’t see any scenario under which an independent Scotland would end up like Greece or Portugal.

In the long run when credibility is established, and when the English and Scottish economies began to diverge Scotland should launch its own currency, giving it more freedom to pursue its social and political objectives. That’s what Ireland did after independence.

As it happens Scotland only controls 58% of its spending under a block grant. Self-evidently, full control of the budget would create far more fiscal freedom. Members of the Scottish Parliament would become more accountable if they were responsible for raising revenue as well as spending it.

Even with the fiscal constraints that would undoubtedly exist there’s a certain amount of wiggle room. Mainstream economists talk as if there is a direct one-to-one correlation between monetary and fiscal policy when in reality there are significant avenues for divergence. Real economies aren’t carbon copies of the university models. Panama ≠ the US ≠ Hong Kong. Brunei ≠ Singapore. And how can the Westminster parties talk of allowing Scotland to raise its own debt under devo more or max but predict economic collapse under full independence?

As the Fiscal Commission Working Group points out, even if the overall budget is fixed, an independent Scotland could decide how it shared out the pie. Fiscal flexibility is a necessary part of a successful currency union: “Limitations on borrowing and deficits are typically at the composite level, and still allow for flexibilities in the design of the underlying tax system and a range of specific policies suitable for each Member State. Indeed, such flexibility is vital to the success of a monetary union as it provides the autonomy and policy levers to target country specific differences (advantages and weaknesses) which cannot be tackled with a common monetary policy. This should help ensure alignment in terms of economic performance. It is also vital for democratic accountability and legitimacy.”

I see newly-independent countries as successful insofar as they seize and develop the levers of economic and political power and use them to shape policy to their particular circumstances, rather than imagining that they are victims of capital. Expansionist or statist policies actually work — they stimulate economic activity — rather than just being a bulwark against the erosion of social welfare.

The Working Group details the levers of economic control that would be available to a Scottish government given suitable currency arrangements but which aren’t available now.

On the fiscal side these include:

  • Corporation Tax (base and rate)
  • Oil and Gas Taxation
  • Excise Duty
  • Value Added Tax (VAT)
  • Air Passenger Duty
  • Capital Borrowing
  • Welfare and Social Security
  • Public Sector Pay/Pensions
  • Housing
  • Environmental taxation

 

Non-fiscal levers of policy include:

  • Financial Regulation
  • Consumer Protection
  • Industry Regulation
  • Energy Markets and Regulation
  • EU Legislation
  • Competition Law
  • International Trade
  • Immigration
  • UK-Level Public Goods
  • Public procurement.

 

Ultimately Scotland’s economy wouldn’t be all that different, at least in the early days. But it would be viable, and fears about fiscal straitjackets are vastly overblown. Even the Financial Times says so. In many ways the naysayers fall victim to the austerian hype that’s pervaded Britain since the crisis. There’d be wiggle room. Scotland could distribute the pie how it wanted even if the overall sum stayed similar. And in the long run an expansionary policy would generate the tax revenues necessary for a more fair and just social system. In my eyes much of the debate boils down to an economics of short-term accountancy versus an economics of dynamism and possibility: beancounters versus visionaries.

None of this viable economic future is guaranteed under an independent Scotland, and of course I could be wrong about the prospects for an expansionary Scottish policy. But what’s all-but-certain under Westminster rule is more of the same old inegalitarian, uncaring, me-first policy which puts private interests before the public good and works to shrink the state. As the Yes campaign has said all along, a vote for independence is about hope, not fear.

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5 Comments leave one →
  1. diarmidweir permalink
    September 17, 2014 3:46 pm

    A rather obvious omission from the list of fiscal levers is land and property taxation, which is surprising since Mirrlees himself recognises the potential value of these in his own Review http://www.ifs.org.uk/publications/mirrleesreview/ And in a small country with highly skewed land ownership these could be a major agent for social change as well as revenue-raising.

    As for non-fiscal powers, one that I have not heard or seen discussed is that of press regulation. It could be a good opportunity to show that a quality press doesn’t have to be a constrained one. The added value from that is difficult to measure, but highly significant, I believe.

    • September 17, 2014 3:52 pm

      Cheers Diarmid. I’d missed that one but totally agree with you on land in particular.

  2. September 18, 2014 2:36 pm

    On the face of it there are huge problems re-constructing a new parallel bureaucracy – but perhaps matters could be much simpler anyway! There has been suggestions that if Scotland were to use the pound without central bank support then there is no longer any obligation to support the proportional debt – i.e. it is not default! [UK taxpayers are lumbered with just short of £100bn a year in bond coupons- or rather the budget deficit would be that much smaller!] If all of this is correct could a new currency not be introduced in parallel with an un-supported pound and state capital expenditure financed through new debt free money – i.e. free of bonds, which much of the UK’s debt should have been in the first place. I am aware that this is against Maastricht but if one assumes [a] that the euro is ultimately doomed [b] the UK +/- Scotland would be better out of the EU [c] the current global debt-based banking/financial is unsustainable, is it just possible that Scotland could lead the world out of the financial mess that has been created by allowing commercial bankers to create virtually all of the new money essential to successful expanding economies as debt to themselves? Or would the vested interests and bond vigilantes trash the new currency? If it was introduced gradually and progressively, free of “bondage”, could it work? Not easy but I suspect possible.

  3. September 18, 2014 3:07 pm

    Prof. Patrick Dunleavy of the LSE says that overall set-up costs would be around £150m to £200m, which is pretty low in an economy with a GDP of £150 billion.

    Yes, I agree with you about not assuming the debt if Scotland isn’t permitted a share of its own asset (ie. the Bank of England, nationalised in 1946). Several large countries have shown that sticking rigidly to the diktats of the debt markets isn’t as important as the traders would have you believe. A friend pointed me to the following link, the Lord’s report “Scottish independence: constitutional implications…” http://www.parliament.uk/Scottish-independence. It says the apportionment of assets and liabilities should be “equitable”. So quite apart from the moral and logical case, Scotland would also have a solid legal case for either a seat at the Bank of England or if barred from representation in what is in effect its own institution, repudiation of some of the debt.

    As for bonds — there’s nothing wrong with debt per se. In effect as a nation we lend to ourselves. Savers put their money in banks and pension funds, which then lend to the government at an interest rate, and the government spends it. Debt and spending are essential macroeconomic and redistributive tools. Often government is the only mechanism for collective spending and decision-making in the interests of broader society. A central mechanism is needed, and it’s government. This isn’t to say that the system is wonderful or that the banking intermediaries are faultless — far from it — but we shouldn’t accept the mainstream dogma that debt=bad, austerity=good. This is the road to contraction and inequality. And private debt is around four times public debt. It was the rate of acceleration of private debt that precipitated the crisis.

    A separate question concerns quantitative easing. Yes, the money essentially went into the pockets of the bankers, which is unjust and sickening.

    I do think long run that Scotland would probably have to issue its own currency to achieve genuine fiscal and monetary independence. This would be difficult, would need tens of billions in currency reserves and might risk speculative attack, but given reserves and market confidence could work.

    Some other of my posts on these sort of things: https://emergenteconomics.com/2012/06/19/dont-forget-about-private-debt/
    https://emergenteconomics.com/2012/04/16/breaking-the-debt-habit/
    https://emergenteconomics.com/2011/12/20/write-the-debt-off-nationalise-the-banking-system-and-start-all-over-again/

    • September 18, 2014 3:18 pm

      NB. Although I don’t think government debt is the poison that the mainstream would have you believe, as I say in one of those posts neither do I really buy the mainstream argument that banks are just neutral mediators. There’s an important economic argument here about how money’s created. Post-Keynesians like Steve Keen, who I quote, think that banks actually create money by lending. They don’t first need to have the savings in their vaults. In effect those free credit cards they keep thrusting at you through the letterbox are a form of money-printing. Surprising though it may seem they do, in effect, create money out of thin air. They’re in a powerful and dangerous position and should be reined in. As you say in a slightly different way, maybe Scotland could do so?

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