Introduction
With Scottish independence now back on the table, Scottish taxpayers will be wondering what impact such a move could have on the country’s fiscal position.
The Scottish government’s fiscal framework is currently managed in agreement with HM Treasury. This underpins the tax and welfare spending powers that have been devolved. If Scotland were to become independent, it could enjoy both freedoms and responsibilities outside this current framework.
An independent Scotland would start life with a fiscal deficit considerably larger than that of any other European country. Its high level of public spending would no longer be funded, and its tax revenues would fall well short.
The deficit could potentially be funded by borrowing, but given the weak fiscal position and Scotland's inherited share of UK debt, such borrowing would be expensive. The government would be forced to impose substantial spending cuts and/or tax increases, with the political preferences of the current administration suggesting a strong emphasis on tax rises despite their damaging effect on economic growth.
Conversely, remaining within the Union and the current fiscal framework agreed with the Westminster government preserves a status quo involving considerable fiscal deficit and excessive spending levels.
As with other major constitutional questions, the TaxPayers’ Alliance takes no view on Scottish independence.¹ But the reality of Scotland’s fiscal position must be clear to both those who want Scotland to leave the UK and those that support the status quo.
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Key findings
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Scotland's fiscal deficit remains high and excessive by international standards: at 8.6 per cent of GDP last year, it was over 14 times the Euro area average, and higher than any individual OECD member country anywhere.
- The position has deteriorated even further through the covid-19 pandemic, with this year’s deficit likely to reach 25 per cent of GDP, and set to remain at or above 10 per cent until at least mid-decade.
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With Scandinavian levels of spending, to balance the books an independent Scotland would need to increase taxes by at least 10 per cent of GDP. That would be equivalent to raising the basic rate of income tax to 46 pence in the pound or VAT to 49 per cent.
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Scotland's general government financial deficit has recovered more slowly than countries which were worse affected by the 2008 crash. This includes Greece, Ireland and Spain.
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The deficit is driven by public spending that has long been excessive relative to both tax revenues and spending levels elsewhere in the UK: Scotland’s per capita public spending remains around 20 per cent higher than England's.
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North Sea revenues are not a realistic solution: Scotland ran a deficit even when oil prices exceeded $100 per barrel, and the oil fields are now fast depleting.
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An independent Scotland could attempt to fund its deficit by borrowing, but any workable independence agreement with the UK would require Scotland to carry its share of existing UK government debt obligations. Scotland's share of the UK government's total net liabilities – including borrowing – would be around £300 billion, or roughly twice the size of its GDP.
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Debt markets would demand a robust fiscal consolidation plan, backed by an immediate and credible demonstration of intent, with significant spending cuts and/or tax increases. The current Scottish government’s preference for Scandinavian levels of social spending would likely mean an emphasis on tax rises.
- 44 per cent of Scottish income tax payers already pay higher rates than elsewhere in the UK. Further increases on the scale required would punish taxpayers and seriously undermine economic growth prospects.
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¹ TaxPayers' Alliance, The TPA and the EU Referendum, 19 February 2016, https://www.taxpayersalliance.com/the_tpa_and_the_eu_referendum, (accessed 3 March 2021).
Image credit: Referendum on independence by fw42 is licensed under CC BY 2.0