GROWTH COMMISSION RESPONSE: 9. MAKING THE CASE FOR UNION

Despite being highly optimistic with its ‘pro-independence’ assumptions and simply ignoring the potential downsides of separation from the UK, the Commission has succeeded in highlighting some of the many advantages that Scotland enjoys from being part of the Union.

The report notes that smaller economies are more volatile and must be more fiscally conservative than large economies^{1“The greater volatility that small economies can experience also strengthens the case for fiscal Conservatism” [B8.33]} and recognises that an independent Scotland would be unable to sustain a deficit of greater than 3% for more than a decade. But the report also makes the point that the UK – as a large advanced economy – has been able to run relatively large deficits:

“[…] it is anticipated on the basis of OBR and other independent forecasts that the GERS estimate of Scotland’s deficit would be 7.1% of GDP by 2021-22. This would have to come down. However, it should be noted the UK has had a deficit at or above this level in six of the last ten years.” [3.134]

This observation is empirical proof that a larger economy with its own stable currency^{2One of the reasons the report offers for adopting Sterling is to “maximise certainty and stability”[C1.8]} is able to avoid the levels of severe austerity that – the Commission tacitly accepts – smaller economies have to endure to get their deficits rapidly under control.

Not only are the fiscal constraints less onerous for a large economies, but regions of a larger economy are able to benefit from the average performance of the whole. The report implicitly acknowledges this when it states “Scotland’s fiscal position makes very little difference to the overall fiscal balance of the UK”.^3B4.36 This is the beauty of pooling and sharing: not every part of the UK has to be fiscally sustainable on a stand-alone basis, only the whole of the UK does.

In 2016-17, the UK’s deficit was 2.4% of GDP and by 2021-22 the IFS forecast a UK deficit of just 0.7% (at the same time as they forecast a Scottish deficit of 6.7%).^{4The SNP’s fiscal plans and Scotland’s fiscal position, IFS, 30th May 2017}

By staying in the UK, Scotland would benefit from the spending freedom that having a deficit as low as 0.7% creates. By leaving the UK – as the Growth Commission has helpfully illustrated – Scotland would face at least a decade of further austerity just to (hopefully) get the deficit down to 2.6% (a figure still worse than the UK deficit Scotland shares today).^{52016-17 GERS deficit for total UK is 2.4%}

That Scotland currently benefits from UK-wide pooling and sharing is beyond dispute. There are various ways of calculating the figure^{6The IFS uses percentage of GDP and compares Scotland with all UK (including Scotland); this is appropriate for working out ‘how much worse/better off Scotland would be’. To calculate the effective fiscal transfer, it is more accurate to compare Scotland with rUK (the rest of the UK excluding Scotland) which gives the higher figure. It can be argued that per capita comparisons are preferable to percent GDP ones (as debt is implicitly shared on a per capita basis, not a GDP basis) but this makes no material difference to the calculations.}, but the effective fiscal transfer Scotland received from the rest of the UK was between £9.5bn and £10.4bn in 2016-17. That’s between £1,750 and £1,900 for every man, woman and child in Scotland.

It is surely no coincidence that the growth in GDP per capita the Commission aspires to is scaled as having a revenue impact of £9bn pa.^73.32 The Commission’s optimistic assumptions imply it would take 25 years to achieve that aspiration – so that’s optimistically 25 years to not quite replace the fiscal transfer Scotland would be guaranteed to lose on day one.

The Growth Commission attempts to suggest this fiscal transfer and Scotland’s greater deficit is evidence of ‘under-performance’ on Scotland’s part:

“In political terms, we present a choice for making Scotland’s public finances sustainable, purposefully and by our own efforts. It is for others to then judge whether this is preferable to having them ordered in the same manner that got us to the current under-performing position in the first place.” [B1.15]

This assertion of under-performance is undermined by the Growth Commission themselves when they observe (Figure 1-8, our Figure 6) “Scotland’s economic output per head is the best of the UK nations and regions, outside of London and the South East.”^8A1.64

Figure 6

The reason for this apparent contradiction is that Scotland’s ‘performance’ in terms of onshore revenue generation per capita is broadly in line with the rest of the UK, the ‘under-performance’ the Commission refers to is based on the observed GERS deficit, which is explained primarily by Scotland’s higher public expenditure per capita.

This is a long-term issue which oil revenues have previously masked, as Figure 7 illustrates.

Figure 7

A quick analysis of the GERS figures reveals where this difference in spend per capita comes from (Figure 8):

Figure 8

Differences in per capita expenditure cannot (by definition) be explained by those shared UK costs that are allocated to Scotland on a per capita basis^{9Note that debt interest, defence and international services show no material difference precisely because they are allocated on a per capita basis (bar some very minor technical adjustments)}, but the Commission has focused exclusively on those areas and simply ignored all of the areas where relatively higher spending is incurred in and specifically for Scotland.^{10Figure 8 shows this higher spend per capita in Scotland occurs in almost all spending categories}

Given that higher per capita spending is the main reason for the ‘under-performance’ the Commission observes, we find it odd that it implies this is somehow the fault of the current constitutional settlement and doesn’t investigate or seek to explain it.

The Commission doesn’t attempt to suggest that independence would change Scotland’s per capita spending in these areas, but it does allude to the fact that the causes may be structural:

“Given the nature of Scotland’s economy, society and geography there is no doubt that the challenges facing the country are distinct from many parts of the rest of the UK.” [B1.17]

“At the same time the delivery of public services can be more expensive than in smaller urbanised geographies.” [B1.18]

An important principle of pooling and sharing is that high ‘cost-to-serve’ areas are subsidised by lower ‘cost-to-serve’ areas. Scotland - with its low population density^{11The 2013-14 GERS report observed “lower population density in Scotland relative to the UK [...] increases the cost of providing the same level of public service activity, particularly in areas such as education, health and transport”}, remote and island communities and challenging demographics^{12“the dependency ratio of Scotland is projected to increase from 58 dependants per 100 working population in 2014 to 67 per 100 in 2039. By contrast, the UK’s dependency ratio was 31 per 100 working population in 2014 and is projected to rise to 37 per 100 in 2039” – The Demography of Scotland and the Implications for Devolution, Population Matters} - benefits from this principle within the UK (via the Barnett Formula). Whether this greater public spending in Scotland can be fully justified with structural explanations is open to debate; that Scotland receives higher public spending per capita than the rest of the UK is not.

It’s a simple statement of fact that separation from the UK would reduce the size of Scottish companies’ domestic market by 90%.^{13The Scottish population is 8.3% of the UK’s population, so 91.7% if we’re being picky} The downside of this is alluded to by the report when discussing SAEs’ greater need for ‘Active International Engagement’

“the domestic market in small advanced economies is too small to get the required levels of scale and specialisation.” [A3.8]

So the Commission has helped us see how being in the UK allows Scotland: to enjoy the advantages of a shared currency and large domestic market; to avoid the fiscal constraints that would inevitably apply were Scotland a stand-alone economy; and to benefit from levels of public spending that would otherwise be unsustainable.

The greater fiscal freedom that an economy of the UK’s size enjoys also offers different choices that the Commission, by assuming independence, were unable to consider.

Without attempting to judge the pros and cons of the strategy here, it’s patently obvious that the UK (with its own stable currency and a deficit forecast at just 0.7% by 2021/22) has more capacity for fiscal stimulus that an independent Scotland could possibly have. The Commission’s report effectively shows us that those who stand ‘against austerity’ cannot also stand in favour of independence (unless they are prepared to sacrifice fiscal credibility). The only credible route to avoiding austerity in Scotland is surely to elect a UK government that would at least have the capacity to pursue fiscal stimulus as an alternative. 

Faced with this evidence of the benefits of Scotland remaining in the UK, we find ourselves asking what the economic benefits of independence are that makes the Commission so convinced that independence is ‘the answer’.

We’ve seen that the evidence that we would somehow achieve greater economic growth just by dint of becoming a small advanced economy is tenuous at best, particularly as the necessity to reduced public spending would be likely to harm growth, not improve it.

The report talks a great deal about the downsides of the UK leaving the EU, but the trauma of Scotland separating from a much deeper, 300+ year-old union would inevitably be so much greater. Those who view the UK leaving the EU as a ‘wrong’ which justifies Scotland leaving the UK, would do well to remember the old adage: ‘two wrongs don’t make a right’.

Apart from the obvious greater economic trauma that exiting this closer union would entail, it is far from clear that an independent Scotland would be able to rejoin the EU, particularly given the currency question. The report does not address this issue and fails to test whether the ideas they suggest for economic growth would even be possible as an EU member state.

In fact, the report reluctantly concedes that:

“While this report considers the public finances of an independent Scotland, it is not inconceivable that many of the positive recommendations detailed here could be implemented in advance of such a move.” [B1.22]

The words ‘in advance of’ could easily be replaced with ‘instead of’, which strikes us as a rather enticing option.

The Growth Commission’s work succeeds in illustrating many of the downsides of independence while highlighting the benefits of our inevitably flawed but enduring 300 year-old union. An approach which seeks to grow Scotland’s economy by constructively building on the strengths of this union would seem to us favourable to one that seeks to destroy it.

Using the devolved powers Scotland already has (or may develop) to pursue the Commission’s growth ideas without creating the unnecessary disruption, uncertainty and further austerity that separation from the UK would entail would be a logical and constructive way of taking forward the Commission’s work.

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Executive Summary

Context & Response

1. Smaller isn’t Necessarily Better

2. Stretching the Empirical Data

3. Failing to Make a Case

4. A Reality Check

5. The Truth about Austerity

6. Aiming Too Low

7. The Missing Model

8. Currency – an Unsolved Conundrum

9. Making the Case for Union

Endorsements