Currency union and buses

Studies on the fiscal implications of constitutional change are a bit like buses, nothing for ages and then a series of contributions all at once. 

It would be remiss of me not to modestly point out that the Red Paper Collective published one of the earliest contributions to this debate. My chapter in ‘People Power’ last September covered this ground and highlighted the limitations on monetary and fiscal policy of the SNP’s ‘Sterling zone’ plan. This plan has been fleshed out in the work of the Fiscal Commission Working Group that I have previously commented on. 

The Treasury have now chipped in their tuppence worth, actually a lot more than that at 113 pages! They, not surprisingly, argue that the UK is one of the, “most successful monetary and fiscal unions in history”. This claim is largely based on the pooling of risk and resources, in contrast to the Euro. No opportunity is missed these days to have a pop at the EU, to assuage Tory back benchers! 

The Treasury correctly points out that an Independent Scotland would need to establish its own institutional framework. The notion argued by some in the Yes campaign that Scotland owns part of the Bank of England and the pound is frankly risible. It then sets out the currency options, including the SNP’s preferred plan of a formal agreement on the use of Sterling. If such a plan could be agreed, then an Independent Scotland would need to agree, “a negotiated set of constraints on its economic and fiscal polices”. The paper makes it clear that there is not a clear economic rationale for rUK to agree such a plan, citing the Euro experience. That leaves Scotland with the even less attractive option of using Sterling with no agreement and no control over monetary policy. 

SCDI have covered similar ground with their Future Scotland ‘Macroeconomic and Fiscal Sustainability’ paper. They set out in some detail the economic context and consider the fiscal position of an Independent Scotland. They also highlight that a rUK Government may seek to limit flexibility over spending and borrowing and the Bank of England would set an interest rate for the rUK, not an Independent Scotland. SCDI highlights the concerns over these arrangements for key service industries like finance. Not to mention the less publicised implications for credit ratings and a potential risk premium for borrowing. 

CPPR has published a briefing paper ‘Measuring an Independent Scotland’s economic performance’. This concisely looks at growth and standard of living and asks what does this mean for the constitutional debate. They make the point that GDP per capita is not the same as household income. A point reinforced this week by Brian Ashcroft in his Scottish Economy Watch blog. Scotland’s GDP would be highly dependent on erratic oil prices a significant proportion of which is overseas owned.

There is also a chapter on this issue in a new book ‘Scotland’s Future’ by Professor John Kay. He clearly sets out the currency and policy options for an independent Scotland and considers historical precedents. He agrees that the Sterling Zone option would be the best for an Independent Scotland, but points out that any membership of the monetary policy committee would be an economist with Scottish connections, not a Scottish representative. He concludes that, “Monetary policy for Scotland would therefore be determined by a mechanism over which Scots and Scottish interests would have at best marginal influences and, by design, no political influence”. However, his key point is that a small country close to its major trading partner has limited economic independence anyway. 

A different perspective comes from the Reid Foundation with a paper by Jim Cuthbert that makes the equally valid point that the UK’s economic performance reflects chronic long term mismanagement. In particular, the underlying balance of trade and focus on the financial sector that was not in the interests of the wider economy. It exposes the UK economy to a credit risk and makes us sensitive to external shocks. On this basis he argues that Scotland should not remain in a ‘sub-optimal currency union’. This line has been picked up by many in the wider Yes campaign last weekend, including the Greens and the SSP. Of course it also used to be Alex Salmond’s position, as Andy Nicholl reminded us in his column in the Scottish Sun. However, it would appear that his statement, “Sterling is like a millstone around Scotland’s neck” no longer applies, even if his new allies wish it did! Mind you he also once said, “The SNP believe that entry to the Euro would be in Scotland’s economic interests”. Of course, in fairness, he was not alone in that view at the time. 

So where does all this take us? I would argue back to my initial analysis in last September’s Red Paper booklet. A currency union with rUK may well be the best option for Scotland, although personally I am not convinced, but it comes at a price - fiscal and monetary policy directed by another country. This is a strange sort of independence and one that gives us less influence over these issues than we have at present, or could have with greater devolution. The political conundrum for the SNP is that if they abandoned the pound, the polls show a big drop in support for Independence. They may therefore just have to accept John Kay’s economic reality - that Scotland is tied to its major trading partner, Independent or not, and the best we can do is tinker at the policy edges.

 

 

Cross posted at Red Paper.