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Your Scotland, Your Voice: A National Conversation

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CHAPTER 3 A WEALTHIER SCOTLAND

OVERVIEW

3.1 Sustainable economic development improves the quality of life, health and the environment to the benefit of all in society, while managing the resources of the planet for the future. It is one of the central goals of governments around the world, and is the overarching purpose of the Scottish Government.

3.2 A nation's prosperity depends upon everyone playing a part - as workers, consumers, volunteers and business people. A government's role is to enable their success by investing in people and places, and tackling unnecessary obstacles to sustainable economic growth. There are a number of mechanisms governments can use to promote growth including:

  • encouraging economic development through effective fiscal and monetary policy
  • influencing economic, social and environmental objectives through legislation and regulation of labour and product markets
  • investing directly in infrastructure and education

In the modern interdependent world, these mechanisms are often co-ordinated internationally, most notably, in Scotland's case, through the European Union.

3.3 Under the current arrangements many of the key mechanisms to promote economic growth are reserved to the United Kingdom Government and other United Kingdom institutions. Some could be devolved to Scotland within the United Kingdom (for example, aspects of the tax system, as recommended by the Commission on Scottish Devolution).

What steps are being taken to mitigate
Scotland, in particular against the effects
of resource depletion? We are so dependent in
every way now, that huge changes are needed
to empower and re-skill future generations to
create a resilient, sustainable community with
confident, capable people able to meet the very
challenging times they will face.

(Oban National Conversation event, 5 October 2009)

3.4 With independence Scotland would have full responsibility for promoting economic growth and improving Scotland's long-term competitiveness, including:

  • designing a tax system to make Scotland a more attractive place for business growth and investment
  • choosing a macroeconomic framework, including the operation of fiscal policy, best suited to the characteristics of the Scottish economy
  • encouraging research and investment to spur growth in key sectors where Scotland has comparative advantages, for example in energy, food and drink, life sciences, financial services, creative industries and sustainable tourism
  • borrowing responsibly for investment in key long-term projects, such as the Forth Road Bridge
  • representing Scottish interests internationally: for example fishing policy in the European Union; duties on whisky in the World Trade Organization
  • establishing a distinct population strategy, addressing the demographic and skills challenges that face the nation

ECONOMIC AND FISCAL POLICY

Introduction

3.5 The Scottish Government aims to create higher levels of sustainable economic growth and improvements in productivity, labour market participation and population, while building solidarity, cohesion and sustainability. 19 An economic and fiscal framework that enhances Scotland's long-term competitiveness and ability to respond swiftly and decisively to short-term economic pressures and circumstances is vital to achieving sustainable economic growth.

3.6 For over a generation, the growth rate of the Scottish economy has been lower than that of the United Kingdom and other comparable European countries. In the 30 years to 2007, Scotland's average annual GDP growth rate was 2.0% - lower than the United Kingdom economy as a whole (2.4%) and well behind Ireland (5.3%), Norway (3.1%) and Finland (2.9%). As a result of being locked into a low-growth cycle for so long, Scotland now trails many comparable European countries across a range of economic indicators. 20

Current responsibilities

3.7 The current devolution arrangements give the Scottish Government responsibility for a number of policy areas that affect Scotland's long-term economic performance, such as education, transport, planning and economic development. The Government Economic Strategy outlines how these are used presently to improve Scotland's sustainable economic growth rate. 21

3.8 However, key elements of economic policy, including taxation, macroeconomic policy, science and innovation, social security, employment law and financial regulation lie outside current Scottish responsibilities.

Fiscal policy

3.9 The Scottish Parliament and Government are responsible for the allocation of much of public sector expenditure for Scotland: around £30 billion out of £50 billion. 22 However, several key areas of Scottish public spending are reserved, for example defence spending.

3.10 In contrast to its spending autonomy, Scotland has very limited responsibility for raising money for public spending. Only three taxation instruments are devolved to Scotland: local taxation (currently the council tax); business rates; and the Scottish Variable Rate which can vary the basic rate of income tax by up to 3p. 23 The vast majority of tax revenue raised in Scotland is set and collected at the United Kingdom level. For devolved matters, the United Kingdom Government then determines how much of this should be reallocated back to Scotland through the Scottish Block Grant and the operation of the Barnett Formula (see Box 4 on the Barnett Formula).

3.11 Scotland also has very limited ability to borrow. The Scottish Government can borrow only from the United Kingdom Treasury and for immediate cash-flow purposes. Unlike local authorities, and indeed the Northern Ireland Executive and the vast majority of other comparable devolved governments, the Scottish Government cannot borrow for wider policy objectives, for example to meet pressures in an economic downturn or to fund capital projects like the new Forth crossing. 24

Macroeconomic policy

3.12 A balanced and supportive macroeconomic policy framework is key to fostering innovation, investment and job creation and in creating the right incentives, conditions and opportunities for economic growth.

3.13 There are two main instruments of macroeconomic policy:

  • monetary policy: the use of interest rates, money supply and exchange rates to influence the level of money, credit and inflation in the economy
  • fiscal policy: the framework for the management of government spending, revenue and borrowing

3.14 Monetary policy is fully reserved and conducted through the Bank of England. The Bank of England sets interest rates, conducts operations in the money markets and manages the United Kingdom's foreign exchange reserves. Its monetary policy remit is to deliver price stability, defined by the United Kingdom Government's inflation target of 2%. 25 The inflation target is set for the United Kingdom economy as a whole, and does not allow variations in prices, demand, or economic cycles within the United Kingdom.

3.15 Overall responsibility for the operation of fiscal policy and the public finances is also reserved to the United Kingdom Government. The United Kingdom Government determines the framework for the conduct of fiscal policy and is responsible for the management of net borrowing, financial reserves and debt.

Industrial policy and regulatory framework

3.16 Other important economic policies levers are reserved to the United Kingdom Government, which remains largely responsible for the framework for economic regulation in Scotland. This includes responsibility for energy policy, including the oil and gas sector, competition policy, company law, economic regulation of utilities (for example telecommunications), regulation of financial markets, consumer protection and product and trading standards; and policies affecting the labour market, including employment law and migration. These significant responsibilities have a considerable bearing on the performance and the growth potential of the Scottish economy.

Scotland within the current framework

3.17 Scotland's lack of financial responsibility has real economic consequences. Opportunities are limited to set competitive policies, particularly taxation, and to use the full range of fiscal and economic policy levers to complement the specific strengths of the Scottish economy and address any weaknesses. Commitments to invest in long-term infrastructure are also constrained by fiscal rules which are determined and revised by the United Kingdom Government and not the best interests of the Scottish economy.

3.18 In macroeconomic policy, the Scottish economy is subject to a range of 'one size fits all' fiscal policies which are set according to conditions across the United Kingdom as a whole, and do not aim to meet Scotland's distinct needs. The ability to take short-term measures to stabilise the economy, through, for example, tax cuts or significant increases in public investment is severely constrained. The Scottish Government also cannot opt out of United Kingdom-wide policies where an alternative solution may provide a better outcome for Scotland. 26 In times of economic difficulty, the Scottish economy is affected by the policies of the United Kingdom Government, and the Scottish Government is limited in the meaningful actions it can take at the right time to address particular challenges faced in Scotland.

3.19 As set out in the Scottish Government Fiscal Autonomy in Scotland: the case for change and options for reform the current financial settlement does not provide the Scottish Parliament with the responsibility or the necessary mechanisms to boost Scotland's long-term competitiveness, or respond to short-term economic shocks. 27 It also fails to provide a framework which maximises efficiency, transparency or accountability. For example, within the current fiscal framework, policy initiatives which successfully increase economic growth in Scotland do not produce a corresponding increase in the tax revenue available to invest in Scottish public services. Any increase in tax yield would flow to the United Kingdom. The limited tax-varying opportunities provide little incentive to spend less than the block grant and few opportunities to spend more. More generally, the Scottish Government's budget is determined principally by changes in spending on equivalent programmes in England set by the United Kingdom Government and is not directly linked to the demand for public services of the Scottish population.

3.20 There is also no direct accountability between the taxes raised in Scotland and spending by the Scottish Government. In 2007/08, approximately 89% of the Scottish Government's budget was financed by a block grant. 28 The United Kingdom Government retains responsibility for the size of the Scottish budget through the allocation of this grant and the application of funding rules and guidelines.

3.21 Finally, fundamental decisions such as choice of currency and the overall balance of taxation lie outwith the remit of the Scottish Parliament. The Scottish Government cannot adopt macroeconomic policies to address the weaknesses of the current United Kingdom framework, such as the limitations of the financial regulation and fiscal frameworks. 29

Economic and fiscal recommendations of the Commission on Scottish Devolution

Macroeconomic policy

3.22 The Commission recommended that macroeconomic policy remain reserved to the United Kingdom Government, although there should be greater discussion between the Scottish and United Kingdom Governments on macroeconomic policy. 30 The Commission did not propose any changes to the current arrangements for monetary policy, the currency or financial regulation.

Fiscal policy

3.23 The Commission's terms of reference charged it with making recommendations to improve the financial responsibility of the Scottish Parliament. The Commission recommended that a greater share of the Scottish Parliament's budget should come from devolved taxation by the Scottish Parliament and the United Kingdom Parliament sharing the yield of income tax in Scotland. The Commission proposed that the Scottish Variable Rate should be replaced by a single Scottish rate of income tax, applying to the basic and higher rates of income tax. The basic and higher rates of income tax levied by the United Kingdom Government in Scotland would be reduced by 10p. Half the estimated income tax yield from savings and dividends in Scotland would also be assigned to the Scottish Government. The block grant from the United Kingdom Government to the Scottish Government should be reduced by an equivalent total amount. It would then be for the Scottish Parliament to supplement the block grant by setting a Scottish income tax and deciding the appropriate rate.

3.24 The Commission recommended that a number of minor taxes (air passenger duty, landfill tax, stamp duty land tax and the aggregates levy) should be devolved to Scotland, and the Scottish Parliament should be able to legislate, with the agreement of the United Kingdom Parliament, for new taxes which would apply in Scotland. The Commission's final report argues that these recommendations would give the Scottish Parliament real financial accountability, and strike a balance between accountability, equity and efficiency.

3.25 The Commission recommended that the Scottish Government should be given limited autonomy to borrow to fund capital investment. Under the proposals, Scottish Ministers would be able to borrow only from the United Kingdom Government, which would set the conditions and amount, therefore deciding the Scottish Government's ability to manage its finances and capital investment programme.

3.26 The proposals embody important principles:

  • the Scottish Parliament should be accountable for some income tax in Scotland
  • that this taxation should be linked to the level of public spending in Scotland
  • that the Scottish Parliament should be able to levy specific taxes, directed at particular policy objectives
  • that the Scottish Government should be able to borrow to invest in capital programmes

3.27 However, Scotland's budget would be a complex mix of a block grant, various devolved taxes, tax assignment, tax sharing and reserved taxes. The United Kingdom Government would still collect around 80% of all Scottish tax revenues. Key elements of fiscal policy, such as corporation tax, VAT, national insurance contributions, capital gains taxation, North Sea revenues and the key types of environmental taxation, would remain reserved to the United Kingdom Government. In addition, responsibility for key elements of the income tax system, such as personal allowances, tax thresholds, the tax rates on savings and dividends, the opportunity to establish tax breaks for particular groups such as pensioners, the self-employed and young artists, would remain reserved. The Scottish Government would only be able to apply relatively broad brush changes to the income tax system, and even then, constraints on funding prior service commitments would limit the practical opportunities to deliver real policy autonomy. Targeted and potentially redistributive measures, open to the United Kingdom Government, through adjusting the structure of the income tax regime and its interaction with the wider tax and welfare system would not be possible. The Commission's recommendations would not improve financial clarity and transparency in Scotland, or significantly increase the autonomy of the Scottish Parliament. 31 The block grant - set at the discretion of the United Kingdom Government - would remain the most important factor in determining Scotland's budget.

3.28 The particular taxation mechanisms proposed by the Commission could pose a risk to Scotland's public sector and to its economic performance: for example, the Scottish Government would be heavily reliant upon one single source of taxation rather than the range of taxes available to most governments. This would leave Scotland's budget more exposed than under the current arrangements. There is also a risk that the Scottish budget could be squeezed inadvertently following technical or administrative changes to the income tax system by the United Kingdom Government.

Full devolution32

3.29 More extensive reforms of fiscal policy and responsibility have been proposed during the National Conversation. 33 Essentially these propose that there should be a greater linkage between the level of public spending in Scotland and the taxation decided in the country, and that the Scottish Parliament should make decisions over a wider range of taxes, for example inheritance tax or corporation tax. These models would increase the economic and other benefits of reform, and provide flexibility beyond that of the relatively limited Commission proposals. For example, Reform Scotland has proposed that the Scottish Government and the United Kingdom Government are each responsible for raising what they spend, with taxes allocated to or shared between them. 34

3.30 Full fiscal autonomy would make the Scottish Parliament and Scottish Government responsible for raising, collecting and administering all (or the vast majority of) revenues in Scotland and the vast majority of spending for Scotland. A remittance or subvention from Scotland to the United Kingdom would be required to cover common United Kingdom public goods and services, such as defence and foreign affairs. The range of services paid for in this way would be subject to negotiation at the time of any revised settlement. In essence, this framework would be the maximum form of tax and policy devolution short of independence.

3.31 In practice, a number of factors are likely to limit the policy flexibility of a devolved Scottish Government even under full devolution:

  • intra-national rules and guidelines, in particular, European Union laws governing taxation policy both between and within Member States
  • rules/agreements with United Kingdom Government to align the Scottish Government's devolved policies to those of the United Kingdom
  • continued reservations: key aspects of economic policy - such as financial regulation, employment and competition law - may remain reserved

3.32 It would be difficult to devolve monetary policy effectively while Scotland remained part of the United Kingdom as a common currency is a feature of a unified state. For example, if majority opinion in Scotland favoured joining the Euro, that would not be possible within the United Kingdom.

After independence would the
Scottish Government's ambition be
for a high-tax, high-spend economy,
or a low-tax, market-driven economy?

(Dumfries Summer Cabinet, 29 July 2008)

How will Scotland's taxes be
affected in independence?

(Kirkcaldy National Conversation event, 16 May 2009)

Independence

Monetary policy

3.33 Under independence, Scotland would have the opportunity to choose the monetary framework and currency that best suited the needs of the Scottish economy. A larger currency union can offer some protection from financial market speculation, although countries forgo the ability to tailor monetary policy to their specific economic circumstances. Monetary union can also benefit economic integration and trade by eliminating exchange rate risk.

3.34 Scotland would continue to operate within the sterling system until a decision to join the Euro by the people of Scotland in a referendum when the economic conditions were right.

3.35 A monetary union necessarily limits monetary policy discretion and flexibility. Greater emphasis is therefore placed on fiscal policy to address the Scottish economy.

Fiscal policy

3.36 With independence, the Scottish Parliament would be fully responsible for fiscal policy in Scotland, including the collection of all taxes and government expenditures. 35 The Scottish Government would be able to borrow freely in international capital markets, subject to market constraints. 36 Ensuring the sustainability of public expenditure would be Scotland's own responsibility, as would managing the national budget over the short and long-term. It would, however, be for an independent Scotland to decide the taxation to be levied, the level of government borrowing and the level of public expenditure.

Where would an independent
Scotland borrow from?

(Kirkcaldy National Conversation event, 16 May 2009)

3.37 Public sector borrowing and net debt are two of the most important and valuable tools of macroeconomic policy. This debt must be managed to ensure affordability and sustainability. A Scottish Government would have the opportunity to establish credible fiscal rules to guide policy, drawing on the lessons and experiences of other countries. Recent events, and in particular, the suspension of the United Kingdom fiscal framework, offer some important insights.

3.38 Independence would allow the Scottish Government to enhance Scotland's long-term competitiveness and better protect the economy during downturns. 37 This could be achieved, for example, through the creation of a Fiscal Commission suggested by the Council of Economic Advisers. 38 The fiscal framework under independence could make Scotland more attractive for business by simplifying the tax system and reducing corporation tax. Independence would also increase Scotland's ability to respond to changes in the economy through policies targeted directly at the Scottish economy, for example investment in capital, both physical and human, and research and development.

Financial regulation

3.39 Currently regulation of financial markets is reserved and is conducted through a tripartite agreement between the Treasury, the Bank of England and the Financial Services Authority although European regulations are of growing importance. 39

3.40 Independence would provide opportunities to:

  • create a culture to ensure the success of Scottish financial services in the future
  • ensure market and financial stability for the Scottish economy and fiscal policy
  • maximise political accountability
  • influence European Union and international policy from a Scottish perspective
  • build on Scotland's strengths as a financial centre
  • attract new institutions to the market

3.41 On independence, Scotland would need to choose institutional mechanisms for financial services supervision, to ensure an efficiently functioning market, financial stability and consumer protection This could be done through partnership arrangements with the rest of the United Kingdom or through its own financial regulator, like Ireland. The system chosen would need to reflect the lessons of the current financial crisis, for example greater international co-operation in regulation of the financial services industry. An independent Scotland could play a significant role in European and international developments and build its reputation as a global financial centre.

3.42 Independence would provide opportunities for new institutions such as a stock exchange. The Glasgow Stock Exchange merged with the London Stock Exchange in 1973, and subsequent attempts to create a Scottish Stock Exchange have failed. A Scottish Stock Exchange in an independent Scotland could help Scottish companies float, and provide an alternative approach to accessing private capital to assist growth.

BOX 3: SCOTLAND'S PUBLIC FINANCES

1. There has been considerable debate about Scotland's fiscal position and the contribution made by tax revenues from North Sea oil and gas production.

2. Professor Alex Kemp and Linda Stephen from the University of Aberdeen have estimated Scotland's geographical share of oil and gas production using the principle of the median line, that is, that all points on the dividing line are the same distance from the Scottish and rest of the United Kingdom coastline. Analysis based on this research has suggested that for most of the 1980s, Scotland's estimated fiscal balance was in substantial surplus, driven in part by the significant growth in North Sea revenues, at a time when the United Kingdom as a whole was building up substantial debt. 40 Analysis also suggests that Scotland's estimated fiscal position deteriorated through the 1990s. However, since 2001/02, Scotland's public finances have recovered and its fiscal balance, including an illustrative share of North Sea revenue, is estimated to have been broadly in line with that of the United Kingdom and in the last three years measured the current budget balance has bettered it.

3. The most recent Government Expenditure and Revenue Scotland ( GERS) demonstrates that Scottish public finances ran current budget surpluses in each of the three years to 2007/08 worth a cumulative £2.3 billion, when an illustrative geographical share of North Sea revenue is included. 41 In comparison, the United Kingdom ran a current budget deficit in each of these years which was cumulatively worth £24 billion. Scotland's overall fiscal balance in 2007/08, which is the estimated current budget balance plus net capital investment, was a deficit of £3.8 billion (2.7% of Gross Domestic Product), similar to those for other OECD countries. 42

4.GERS takes the current constitutional and fiscal framework as given. Under alternative frameworks, Scotland's fiscal position would depend on the policy choices of the government of the day and the economic climate.

BOX 4: THE BARNETT FORMULA

1. The Barnett Formula is used by the United Kingdom Government to determine variations to the budgets of the Scottish Government, Welsh Assembly Government and Northern Ireland Executive. It was first introduced for Scotland in 1978 and has remained largely unchanged since, although since devolution it has been routinely subject to marginal adjustments to reflect population changes. These are given effect through the Statement of Funding Policy between HM Treasury and the devolved administrations, which is re-issued after each spending review.

2. Under the formula, increases or decreases in the Scottish Government's budget are determined by increases or decreases in spending in Whitehall Departments' spending on programmes which are devolved to Scotland, calculated using relative population shares. 43 These increases or decreases in Scottish, Welsh and Irish budgets are known as Barnett consequentials. This means that the total level of public spending in Scotland is largely determined by historic spending baselines, adjusted by reference to decisions on spending elsewhere in the United Kingdom and not linked to current economic conditions, the preferences or needs of the Scottish people. The formula also means that the Scottish budget depends on unilateral decisions by the United Kingdom Government on spending in England. For example, the implementation of efficiency savings across the United Kingdom Government, and reductions in Department of Health baselines in England in the 2009 Budget, resulted in the Scottish budget being cut by £500 million in 2010/11.

3. The United Kingdom Government can also unilaterally decide not to pass to Scotland consequential increases from United Kingdom expenditure in a devolved policy area (known as "formula bypass"). For example, Scotland did not receive consequentials from the capital expenditure on urban renewal associated with the London Olympics or from the increase in prison expenditure in England in 2007, following the recommendations of Lord Carter's review of prisons. 44

4. There have been recent proposals to reform the method of funding the devolved administrations. The Scottish Government report Fiscal Autonomy in Scotland set out the shortcomings of the Barnett Formula as a funding mechanism, and the options for full fiscal autonomy for Scotland. The Commission on Scottish Devolution and the House of Lords Select Committee on the Barnett Formula both recommended that the current formula should be reviewed. The Welsh Assembly Government's Independent Commission on Funding and Finance for Wales (the Holtham Commission) made similar recommendations. However, no consensus has been reached on how an alternative system would operate, and the United Kingdom Government has indicated that it does not accept the need for reform, although the Joint Ministerial Committee (Domestic) is currently examining whether an adjudication procedure could be established to resolve areas of controversy.

BOX 5: LESSONS FROM THE CURRENT GLOBAL ECONOMIC SITUATION

1. The causes and the impact of the global economic slowdown have raised important, wider questions about the setting of economic policy in advanced economies. This is forcing a reappraisal of policy and institutional frameworks in several areas, including the role of the state; the scope of financial regulation; the objectives of monetary and fiscal policy; and the arrangements for international economic and financial coordination.

Monetary policy

2. Independent central banks have been generally charged with meeting inflation targets, mainly through interest rates. Some have broader objectives: the United States Federal Reserve promotes employment, stable prices and moderate long-term interest rates.

3. Recent events in the global economy have led to an element of reappraisal of the objectives of monetary policy. One of the main causes of the economic downturn was imbalances in the global economy. Finance from countries with high savings rates and current account surpluses, such as China and oil-producing states, flowed into developed economies including the United Kingdom and the United States, leading to low interest rates and a boom in credit, house prices, equity prices and trade deficits.

4. A number of commentators have questioned why such imbalances were allowed to develop over such a long period of time. This is based on the argument that central banks should target a broader measure of inflation when setting interest rates, by including asset prices or key elements of the macro economy such as the balance of payments. 45 However, central banks might require additional policy instruments to achieve dual objective of preventing asset price bubbles as well as controlling inflation. Mervyn King, Governor of the Bank of England, has emphasised that using one policy instrument to meet two objectives would involve a trade-off between achieving both objectives. 46

5. In time, the severity of the credit crunch may lead to a re-casting of the objectives of monetary policy to place greater emphasis on financial market and asset price stability.

Fiscal policy

6. The economic crisis has placed significant pressure on public sector finances, and illustrated problems with previous frameworks for managing fiscal policy.

7. A common criticism of some previous fiscal rules, such as those of the European Union, is that they lacked firm theoretical foundations and set targets that were largely arbitrary. Other fiscal rules, such as those for the United Kingdom, while grounded in economic theory, were open to interpretation and failed to ensure fiscal restraint and saving during periods of stronger economic growth. For example, between 2001 and 2008, the United Kingdom economy grew 15% but public sector net debt almost doubled to £593 billion. 47 In 2008 the United Kingdom was forced to abandon its two fiscal rules, replacing them with a temporary operating rule.

8. In light of these criticisms, a number of options for fiscal reform have been put forward:

  • fiscal rules that are legally binding. This approach is taken in many American states, but its rigidity raises wider social and economic challenges
  • greater flexibility when setting fiscal rules. The European Union's revised Stability and Growth Pact now places greater emphasis on the economic cycle and the underlying health of the public finances
  • greater independent oversight to assess compliance with the rules and provide projections for the public finances. The Council of Economic Advisers has recently advocated support for such a Fiscal Commission.

Financial regulation

9. Regulation in the United Kingdom did not keep pace with innovation in the financial markets. Hence the disruption in sectors of the financial services market that were poorly or unregulated, including hedge funds and derivatives. Exposure in these complex instruments led to major losses for banks and damaged confidence throughout the financial system. Regulators did not identify the systemic risks caused by losses in one organisation spreading to others across the globe, and eventually the real economy.

10. The United Kingdom regulatory system did not prevent: businesses becoming overextended through excessive leverage and risk taking; over-reliance on wholesale funding; overdependence on risky products; and poor decisions over acquisitions. The United Kingdom Government has outlined proposed changes to the current regulatory framework in a White Paper. 48

11. A further lesson from the current crisis has been how to regulate and, if necessary, support multinational institutions, which while headquartered in one area, operate across jurisdictions. In the case of certain institutions, support has been international. For example,
the Belgian, Dutch and Luxembourg Governments provided joint support for Fortis Bank. 49 The G20 Summit in April 2009 agreed to establish a Financial Stability Board to extend regulation and oversight to all systemically important financial institutions and to strengthen international regulation. In June 2009 the European Council agreed to establish a European System of Financial Supervisors and a new European Systemic Risk Board to implement the international model.

SOVEREIGN WEALTH FUND

3.43 An independent Scotland could create a sovereign wealth fund, based on Scotland's oil and gas reserves, to provide an effective mechanism to insulate the economy in times of economic instability and invest for long-term sustainability. Since 1980/81 approximately 90% of United Kingdom oil and gas revenues have been generated from an area that could be classified as comprising Scotland's geographical share of the current United Kingdom Continental Shelf. Substantial North Sea oil and gas reserves are yet to be extracted, and their value is likely to increase. The management of North Sea reserves would therefore be an important element of Scotland's public finances under a revised fiscal framework. 50

3.44 Under the current constitutional settlement, all revenues from North Sea oil and gas production go to the United Kingdom Government and have been used to fund government expenditure or to lower taxation. An alternative approach is demonstrated by the Shetland Islands. Since the 1970s, Shetland Islands Council has been able to levy a royalty over every barrel of oil landed at Sullom Voe and invested the revenue in an oil fund. The fund is now estimated to be worth £180 million. 51

3.45 A Scottish sovereign wealth fund would invest a proportion of the revenues from oil and gas production over the long term, creating a permanent source of revenue. The fund would support macroeconomic stabilisation and address unexpected short-term spending pressures, safeguarding Scotland's fiscal position. The fund could invest in low carbon sources of energy production, providing Scotland with new sustainable sources of energy.

3.46 The Commission on Scottish Devolution considered devolution of some element of oil and gas revenues to the Scottish Government, but, based largely on fluctuations in oil and gas prices, concluded that this would expose the Scottish budget to possible revenue fluctuations. 52 However, the Commission's Independent Expert Group suggested that the creation of an oil fund can enhance intergenerational equity, protect a country's capital stock over time and mitigate the volatility of oil revenues. 53

BUSINESS AND ENTERPRISE

Current position

3.47 Current devolved responsibilities are used to support enterprise and business in Scotland, 54 and to support the Scottish Economic Recovery Plan.

3.48 However, many of the key policy areas that contribute to enterprise and business remain reserved, for example company law, corporate insolvency, competition and consumers, 55 health and safety and employment rights. Under these arrangements, Scotland's growth has remained behind that of the United Kingdom in nine out of the past 10 years. 56

Enterprise and business recommendations of the Commission on Scottish Devolution

3.49 The Commission concluded that a separate macroeconomic policy for Scotland would affect what they saw as the benefits of the economic Union. 57 The Commission did not therefore propose any alterations to the Scottish Parliament and the Scottish Government's responsibilities affecting business and enterprise.

3.50 The Commission did not recognise or discuss the historic under-performance of the Scottish economy compared to the United Kingdom as a whole, nor the European dimension to economic Union, which guarantees the free flow of goods, services and people between Scotland, the rest of the United Kingdom and other member states.

3.51 The Commission did make recommendations on related issues: health and safety and insolvency.

Health and safety

3.52 The Commission recommended a closer relationship between the Health and Safety Executive ( HSE) in Scotland and the Scottish Parliament. 58 The Commission found no reason in principle why health and safety (or elements of enforcement) could not be devolved, but recommended that the current reservation should continue.

3.53 This recommendation recognised the importance of devolved matters to health and safety in Scotland and would give some opportunity for Scottish interests and factors to influence HSE policy and operations. However, devolution beyond the Commission's proposal would provide clearer enforcement and remove boundaries to improve consistency.

Insolvency

3.54 The Commission's sole recommendation was that the United Kingdom Insolvency Service, with input from the Scottish Government, should be responsible for the rules for insolvency practitioners on both sides of the border. 59

3.55 As the Commission recognised, devolved Scots law governs much of the substance and procedure for insolvency in Scotland. By incorporating these matters into United Kingdom legislation, this recommendation would increase complexity and work against the purpose of devolution.

Full devolution

3.56 There are a number of important areas of business and enterprise policy that could be devolved beyond the recommendations of the Commission on Scottish Devolution: employment 60 and competition law; regulation of companies; and health and safety. The Scottish Parliament and Government could be given responsibility in these areas to make Scotland an attractive environment for business and to promote sustainable economic growth.

Corporation tax

3.57 A major policy lever that could be devolved is corporation tax. The tax burden on small businesses in Scotland has been substantially reduced within existing devolved competence through the Small Business Bonus Scheme. A more competitive corporation tax could boost the economy, including foreign investment, research and development, and the siting of corporate headquarters. Corporation tax could be adjusted for small and medium sized companies, greater tax allowances could be given for targeted activities and the administrative process could be simplified. The United Kingdom (and hence Scotland) has the eighth highest corporation rate in the European Union; a number of European countries of comparable size to Scotland have already introduced significantly more competitive corporation tax rates. Within a full devolution framework, the Basque Country has used its responsibility for corporation tax to introduce a lower statutory rate to the rest of Spain, and to put in place more competitive allowances for particular growth enhancing activities, such as investment in research and development. (see Box 7 on the Basque Country).

Independence

3.58 Under independence Scotland would have responsibility for the full range of policies to encourage enterprise and business growth, and the opportunity to address the factors which have contributed to the economic under-performance of the last 30 years.

3.59 Scotland would continue to be subject to international rules, such as European Union directives on competition and tax harmonisation. However, Scotland would act as an independent state in its relationship with the international economic, financial and business community, and would have a full voice in Europe.

Competition and consumers

3.60 Recent research indicates a lack of competition in markets in Scotland, with high prices relative to the United Kingdom in areas like transport, utilities, catering and leisure services. 61 Independence would allow future developments in competition and consumer policy to be based on Scottish political, social and economic interests, for example securing or sustaining comparative advantage. Responsibility for competition in Scottish markets, combined with an enterprise oriented fiscal policy, would:

  • encourage businesses to improve their internal efficiency and reduce costs
  • incentivise early adoption of new technology and other forms of innovation
  • increase the international competitiveness of Scottish businesses and products

3.61 Scotland's geography raises issues for consumers in the islands or in rural areas, who enjoy far fewer choices in the products and services they use. 62 Consumer policy in an independent Scotland could be developed in the context of a set of key principles such as access, choice, safety, information, fairness, representation, redress, and education.

International trade

3.62 Scotland has long been an outward-looking trading nation, with strong global connections. Scottish business organisations work across the globe to increase international trade revenue through exports. They also seek to increase investment in Scotland and promote Scotland internationally as a vibrant place to live, work and do business with.

3.63 Scotland's biggest trading partner is the rest of the United Kingdom, with trade worth £26.1 billion in 2007. 63 On independence Scotland and the rest of the United Kingdom would retain common interests and ties through shared history, geography and trade links. As a full member of the European Union, Scotland would continue to have access to its markets. Independence would enhance the opportunities for Scotland's wider international trade and investment, underpinned by foreign and fiscal policies dedicated to Scotland's political, social and economic interests. For example, Scotland's overseas representation is likely to focus on business and enterprise, rather than the projection of power.

Tax collection

3.64 The overall tax burden is central to the competitiveness of the tax system, but the costs of compliance are also important. A study commissioned by HM Revenue and Customs in 2006 estimated that administration of United Kingdom corporation tax cost business £608 million, 70% of which was from Small to Medium Enterprises. 64

3.65 A simpler tax system in Scotland would reduce costs for businesses and government, reduce incentives for tax avoidance and non-compliance, and potentially increase revenue. 65 Reporting of statutory accounts and tax calculations could be unified for smaller companies. The smallest companies might be assessed for tax on cash flow rather than accounting profit. Business leaders could be directly involved in the design of revised tax, regulation and enterprise systems for Scotland, avoiding the uncertainty surrounding recent United Kingdom announcements on capital gains tax.

BOX 6: SCOTLAND'S ECONOMY

1. Scotland has a diverse and open knowledge-based economy that provides employment for around 2.5 million people and generates total annual economic output of over £100 billion. 66 In addition, Scotland's offshore natural resources, including oil and gas, generated an estimated annual output of over £30 billion in 2008. 67

2. Scotland's economy has adapted well in recent decades to the forces of globalisation, and the structure of Scotland's economy has changed significantly. In common with many industrialised countries, the manufacturing sector has declined and the service sector has grown. In 1981, 479,000 people in Scotland were employed in the manufacturing sector; this had fallen to 220,000 in 2007. In contrast, between 1981 and 2007, employment in the service sector rose by 587,000, more than compensating for the fall in manufacturing employment. 68 The service sector now accounts for around 75% of employment in Scotland. 69 Scottish firms also continue to maintain and develop global competitive strengths in the manufacturing and engineering sectors through innovation and commercialisation of research.

3. The Scottish economy remains diversified with a number of sectors contributing to output, employment and exports. Scotland's goods and services are exported across the globe. Beyond the United Kingdom, the European Union and North America are the main export markets for Scottish firms. 70

4. To expand Scotland's areas of international comparative advantage, the Government Economic Strategy recommends building critical mass in a number of key sectors with high growth potential and the capacity to boost sustainable economic growth. The Scottish Government continues to support enterprises across Scotland in other sectors where action can be taken to overcome weaknesses in markets, and where particular businesses can make a significant contribution to the Scottish economy.

5. The energy sector makes a substantial contribution to Scotland's economy. In 2007, the energy sector employed directly 40,700 people, accounting for 23% of the total people employed in the energy sector in the United Kingdom. 71 Scotland's oil and gas industry, based in Aberdeen, is one of the world's largest energy hubs, and is home to major European headquarters of global companies like BP and Shell. The industry body, Oil and Gas UK, estimates that in total the sector supports around 195,000 jobs in Scotland through its impacts on the supply chain, export activities and employee expenditure throughout the economy. Since 1976/77, production from North Sea oil and gas fields has generated more than £269 billion (2008 prices) in direct tax receipts to the United Kingdom Government.

6. In addition to the oil and gas sector, Scotland has considerable potential to develop renewable energy and low-carbon energy production, contributing to Scotland's targets to reduce climate change emissions. The sector is expanding rapidly in terms of new capacity and output, with electricity generation from renewable sources reaching 20% of gross consumption in 2007. The sector is estimated to employ 4,000 - 6,000 people, and there is scope for significant expansion over the next decade. 72 Scotland's natural advantages, coupled with investment in new technologies, means that it is well-placed to be a major European centre for the production and export of renewable energy.

7. The financial services industry has a long history in Scotland, and it remains an important part of the economy. Edinburgh is one of Europe's largest financial services centres, and many of the world's major financial organisations have offices there. The industry employed directly 91,500 people in 2007. 73 Global turmoil in financial markets experienced since 2007 has created a challenging environment, but Scotland's strengths in financial services remain despite the pressure on the banking sector. Several financial services companies in Scotland continue to make announcements of expansion and investment plans.

8. Food and drink (including agriculture and fisheries) is a key sector in the Scottish economy. The contribution to economic output from food and drink manufacturing was £3.2 billion, of which over half was from the manufacture of beverages. 74 The spirits sector within drinks manufacturing, especially whisky, forms an important part of the sector's contribution to the Scottish economy in terms of value added and export potential. Agriculture and fishing provide further economic contribution along with the wider food and drink supply chain. 75

9. Tourism provides an important source of expenditure in Scotland's economy, and helps generate economic activity in some of the more rural and fragile areas of Scotland, sustaining communities economically and socially. Around 14.6 million tourists visited Scotland in 2008, and total expenditure on tourist trips stood at £4 billion. 76

10. The creative industries make an important contribution to Scotland's economy. Scotland's creativity has a strong international reputation. Scottish art, film, fashion, music and literature is recognised throughout the world, as are the design and computer gaming industries. Creative industries have grown over the past 10 years in Scotland, and they are estimated to contribute £2.4 billion to economic output and account for 5% of Scotland's total exports. 77

11. The Life Sciences sector in Scotland is diverse, encompassing a range of industries including biotechnology and pharmaceutical companies, contract research organisations ( CROs), medical device and diagnostic companies, along with specialist suppliers and support organisations. This sector employs over 30,000 people directly and indirectly in more than 600 organisations, with an annual turnover exceeding £3 billion and economic output of £1.3 billion. 78

12. Scotland's strong academic base is evidenced by the size, scope and international standing of Scottish higher education institutions, with four (Edinburgh, Glasgow, St Andrews and Aberdeen) among the world's top 150 universities. 79 Directly employing some 35,159 full-time equivalent staff and teaching some 224,855 students, Scottish universities had a total turnover of £2.48 billion in 2007/08. 80 Scotland has the highest ratio of cited research papers to Gross Domestic Product in the world and the impact of Scottish research is ranked second in the world, behind only Switzerland. 81 Scottish universities attracted 33,520 international students in 2006/07, at 14.6% of the student body third in the Organisation for Economic Cooperation and Development behind Australia and the United Kingdom. 82

13. Scotland has a diverse economy which plays a dynamic role in the modern global economy. Scotland has responded to shifting global patterns to ensure that its workforce has the right skills and that its business infrastructure remains competitive.

BOX 7: CORPORATION TAX IN THE BASQUE COUNTRY83

1. The Basque Country enjoys considerable fiscal autonomy, with wide ranging responsibilities over the collection of tax receipts and government expenditure, while remaining part of Spain. Its GDP per capita is approximately 30% higher than the Spanish average, and at the start of 2009 the Basque Country Government enjoyed a higher credit rating than the Spanish Federal Government.

2. The fiscal relationship between Spain and the Basque Country is governed by the Concierto Económico, or Economic Agreement consistent with the Statute of Autonomy (1977). Under this agreement, the Basque Country Government has the authority to vary most forms of direct taxation including income tax, corporation tax and taxation on wealth and capital gains, and has introduced a headline corporation tax rate of 32.5%, compared to the Spanish rate of 35%.

3. However, the Economic Agreement also contains a number of general principles which are designed to ensure a degree of harmonisation between the Basque tax system and that in the rest of Spain. Constraints therefore remain on the policy levers available to the Basque Country Government.

MIGRATION

Current position

3.66 Demographic change presents Scotland with challenges of growing the population and addressing the structure of the Scottish population, in particular those of working age. Population growth is a key driver of economic performance and Scotland has a population growth target to match average European population growth over the period from 2007 to 2017. 84 The average age of the Scottish population is predicted to increase, with the working age population decreasing and a greater ratio of pensioners to persons of working age. 85

3.67 The Scottish population is projected to decline in the mid-2040s, with the working age population projected to decline after 2020. The structure of the Scottish population is projected to change more rapidly, with older people accounting for a relatively higher share of the Scottish population. 86 The dependency ratio - the ratio of persons aged under 16 or over pensionable age to those of working age - is projected to rise from around 60 per 100 in 2008 to 68 per 100 in 2033.

3.68 Immigration is currently reserved to the United Kingdom Parliament. For migrants from outside the European Economic Area, there is a points-based managed migration system which takes account of qualifications, age, salary, and language skills. For skilled migrants there is also a shortage occupation list. Some elements of the system reflect Scotland-specific circumstances, such as recognition of Higher National Diplomas as a qualifying criterion, and a separate Scottish shortage occupation list. However, the points based system operates at a United Kingdom level, with no substantial regional variations, which makes attracting the required number of migrants to Scotland more challenging, as Scotland has different population needs from most other parts of the United Kingdom.

Migration recommendations of the Commission on Scottish Devolution

3.69 The Commission recommended retaining the current reservation of immigration, but that active consideration should be given to agreeing sustainable variations to reflect the particular skills and demographic needs of Scotland. The Commission concluded that freedom of movement and employability argued for one system throughout the United Kingdom. However, the majority of submissions the Commission received on this issue called for greater flexibility and more responsibility for Scotland within an overall United Kingdom framework. Sub-state migration policies have been established successfully in a number of countries, including Australia and Canada.

3.70 The Commission's recommendation is a variation on existing arrangements, which allow Scotland to contribute to overall United Kingdom immigration policy, but give it no formal role. The Commission would not give Scotland responsibility for its migration requirements for either economic or demographic reasons, as these would be subject to policy imperatives in other parts of the United Kingdom. Experience elsewhere shows that greater responsibility for Scotland to determine its own migration policy need not have the impact on the rest of the United Kingdom suggested by the Commission.

Independence

3.71 An independent Scotland would have responsibility for its own migration policy and its borders. Scotland faces different issues from the other parts of the United Kingdom, and migration policy could be tailored to address the economic challenges of demographic change. Immigration could also help address skills shortages in Scotland's labour market.

We really applaud and support the United
Kingdom Home Office's points based system for
immigration. But it is very unfortunate that it is
not taking into consideration the regional
differences in immigration attractions in England
versus Scotland. Why not do a regional variation?

(Edinburgh CEMVO event, 22 April 2009)

3.72 Many nations use migration policies to address demographic problems, as well as addressing skills shortages. Both Canada and Australia give priority to potential immigrants with particular skills and experience. Quebec has its own immigration policies, established under the Canada-Quebec Accord on Immigration, which requires, amongst other things, that immigrants can speak French or English. A Scottish migration scheme could both place particular importance on required skills and give priority to immigrants who assist in meeting the demographic challenges, for example young people or families with children.

3.73 Citizens of European Union member states are entitled to freedom of movement within the single market. As a full member of the European Union, Scottish borders would remain open to European Union nationals, just as Scots are free to move throughout the European Union.

3.74 Scotland's immigration system should also support the country's commitment to human rights. Like immigration, asylum policy is currently the responsibility of the United Kingdom. On independence, Scotland could take into account economic and demographic needs, as well as human rights and justice, when considering asylum applications. Responsibility for the immigration and asylum system would allow Scotland to provide greater security to asylum seekers awaiting the outcome of their application and ensure a fairer and more humane asylum system.

BROADCASTING

3.75 Broadcasting is a key part of national life, expressing Scottish culture to domestic and international audiences. The broadcasting industry also makes an important contribution to the economy.

Current position

3.76 Broadcasting is a reserved matter. All decisions about broadcasting which affect Scotland are taken by the United Kingdom, including related matters such as the television licence fee, broadcasting spectrums, funding and regulation.

3.77 In 2008, only 3.7% of the BBC's network television programmes were made in Scotland, while STV is now obliged to produce only 1.5 hours of non-news programming per week, a reduction from three hours prior to January 2009. The Scottish Broadcasting Commission expressed strong concerns about the state of public service broadcasting in Scotland, and identified a number of areas where viewers felt that there should be a better choice of programming relevant to Scotland. 87

Broadcasting recommendations ofthe Commission on Scottish Devolution

3.78 The Commission made one recommendation relating to broadcasting: that the appointment of the Scottish member of the BBC Trust should be the responsibility of Scottish Ministers, subject to the normal public appointments process. This recommendation could be implemented immediately without the need for legislation. Although it would not directly affect broadcasting in Scotland, the proposal would give the Scottish Government influence over parts of the broadcasting framework with a particularly Scottish element.

Why is broadcasting a reserved issue? I ask
specifically because I am interested in Gaelic
broadcasting where the broadcasting side is
reserved and the Gaelic side is devolved.
This causes some odd situations.

(Dundee Summer Cabinet, 30 June 2009)

Full devolution

3.79 Further devolution would provide opportunities for Scotland to have responsibility for different parts of its broadcasting framework, while remaining within the overall United Kingdom framework, including the BBC and Ofcom. Examples of such an arrangement include Catalonia, which is responsible for Catalan broadcasting, while the Spanish government is responsible for Spain-wide broadcasting. 88

3.80 Additional responsibilities could include: new public service broadcasting bodies, such as the Scottish digital network recommended by the Scottish Broadcasting Commission; ensuring that Scottish culture and interests were better represented through television and radio programming; responsibility for appointments of board members of MG Alba (the organisation responsible for the output of BBC Alba). Under further devolution Ofcom could be charged with taking the lead in setting commercial, public service networks nations and regions obligations to Scotland and ensuring they were met.

3.81 The majority of funding for public service broadcasting in the United Kingdom comes from the TV licence fee (for the BBC) and advertising. The United Kingdom also provides funding of £98 million for S4C in Wales from general taxation revenues, in addition to the programming subsidy provided by broadcasters which is worth approximately £25 million. Further devolution should be accompanied by a negotiated arrangement for funding public service broadcasting in Scotland. Scotland could, for example, be allocated a share of TV licence revenues and revenues generated from licensing broadcasters and other telecommunications operators to use spectrum.

Independence

3.82 Independence would mean full responsibility for broadcasting in Scotland. Impartiality and political independence of broadcasters, including a national public service broadcaster (based initially on the existing staff and assets of BBC Scotland), would remain a key principle. There would be various options available for the funding of a Scottish national broadcaster. This would ensure that an independent Scotland had a high-quality, impartial national public service broadcaster which reflected Scottish life, culture and interests.

3.83 An independent Scotland should not lose the range and quality of broadcasting options received currently, and indeed should seek an enhanced broadcasting service. For example, Scotland should continue to access BBC and other broadcasters from the United Kingdom and there should be no obstacles to Freeview, satellite and cable services being available in Scotland on a similar basis to now.

3.84 Independence would allow a regulatory system that prioritised issues of particular importance for Scotland, such as making available additional spectrum for new channels. A Scottish broadcasting regulator would also safeguard the quality and impartiality of Scottish public service broadcasters within European regulations.

3.85 Independence would also provide the opportunity to rationalise channel 3 licensing arrangements. Following a merger between the Border and Tyne Tees local news service, viewers in the South of Scotland now receive 'local' evening news programmes which are broadcast from Gateshead. 89 Independence would make it easier to establish licensing arrangements which would better serve Scottish viewers, including a single nationwide licence, or the creation of further licences to allow more regional broadcasting.

Broadcasting industry

3.86 The Scottish broadcasting industry employs 2,400 people and is worth around £111 million to Scotland's economy. Independence would provide opportunities to develop the industry further. The Scottish Government could take a range of steps to attract inward investment, as have countries like Ireland and Canada. It is likely that this would in turn generate further investment in the Scottish broadcasting industry, including further spending on programming. Additional investment of this kind would bring improved choice for Scottish viewers and would allow broadcasting, along with the other creative industries, to make a significant contribution to economic growth in an independent Scotland.

CONCLUSION

3.87 Addressing Scotland's historic underperformance, and encouraging sustainable economic growth is one of the key challenges that face the nation. A number of different policy areas contribute to this goal, but many of the major mechanisms open to independent states - economic and fiscal policy, monetary policy, international trade - are currently reserved to the United Kingdom Government.

3.88 Some of these matters could be devolved within the United Kingdom, for example aspects of the taxation system or employment law. However, any level of devolution would leave Scotland within the overall macro-economic policies of the United Kingdom and its international position on economic matters, especially in the European Union.

3.89 Independence would give Scotland full responsibility for its own economic performance, and for all the policy mechanisms to encourage the optimum level of development.