Scotland’s finances in the aftermath of COVID-19
The outbreak of COVID-19 has shown that public services in Scotland can support the economy and public when faced with a profound and sudden challenge. However, it has also exposed a mismatch between the current devolved powers and the actions necessary to deliver a comprehensive response to the crisis, particularly with regards to the economic response and recovery.
To date, both the UK and Scottish Governments have provided unprecedented support to help protect jobs, support businesses and limit the longer-term damage to the economy.
The Scottish Government has taken a series of unprecedented policy actions with significant fiscal implications in response to the crisis. These have included £2.3 billion of business support measures, as well as a £350 million community support package for those communities most affected by the pandemic. We have also announced a £230 million investment package to help stimulate Scotland’s economy following the pandemic, covering construction, low carbon, digitisation, and business support. This is in addition to £200 million of new initiatives to support homebuyers and help people into work or to re-train.
In April the Scottish Government established the Advisory Group on Economic Recovery, and their report validates our overall strategic approach to the economy. As set out in our response to the report, the Scottish Government will seize the opportunity to build a greener, fairer and more equal society: a wellbeing economy. This ambition will also be at the heart of our fiscal response.
The crisis has brought to the fore the limitations of the centralised UK budgeting approach, which leaves little fiscal flexibility to the devolved administrations. Before the pandemic, deficiencies in the devolved settlement and our Fiscal Framework had already become apparent: Scottish budgets continue to be highly dependent on UK tax and spending decisions. There is very limited scope to take a different path from the UK where that is in Scotland’s best interest. These deficiencies must now be addressed urgently to enable Scotland to respond comprehensively to this and any future challenges.
The Scottish Government has made the case to the UK Government for temporary additional borrowing flexibilities, within the parameters of our current overall budget. This would enable us to better support the COVID-19 response and recovery, and to plan and respond more effectively. This additional flexibility is important, given that the UK Government’s overall fiscal stance remains a key factor in determining the Scottish Government budget – the largest proportion of the budget is still determined by the Block Grant received from the UK Government via the Barnett formula.
Furthermore, the Scottish Government cannot use borrowing in the same way that the UK Government can. For example, our limited borrowing powers cannot be used to support additional spending on day-to-day public services.
Even leaving aside the particular challenges caused by COVID-19, the Scottish Government’s view is that its borrowing and reserve powers are insufficient to manage the volatility inherent in the Fiscal Framework. This is demonstrated clearly by the fact that the income tax reconciliation the Scottish Government will have to manage in 2021-22 is currently forecast to be larger than the combined total of our permitted borrowing and drawdown from the Scotland Reserve.
Where the Scottish Government does have the fiscal powers to act, we have done so quickly and decisively:
- We have taken swift and significant action on the Land and Buildings Transaction Tax (LBTT) to help homebuyers and support Scotland’s housing market in response to the impact of COVID-19. The increase in the starting rate threshold for LBTT to £250,000 until the end of March 2021, means that an estimated eight of out ten homebuyers and an estimated nine out of ten first-time buyers will pay no LBTT. In addition, we have doubled the time available for taxpayers most affected by the impact of COVID-19 to sell a previous main residence and claim a repayment of the Additional Dwelling Supplement (ADS).
- In relation to Non-Domestic Rates, the Scottish Government responded swiftly to the emerging crisis by introducing additional rates relief within a comprehensive package of measures worth over £2.3 billion to sustain businesses during the coronavirus pandemic.
The fiscal response to the crisis will have profound consequences for the public finances. The Office for Budget Responsibility (OBR) expects the UK’s fiscal deficit to reach between 15% and 23% of GDP in 2020-21, depending on the speed of the economic recovery – the highest peacetime deficit in 300 years. In July 2020, UK public sector net debt exceeded £2 trillion, or 100.5% of GDP. This is the highest debt to GDP ratio since 1960-61.
With the UK economy officially entering recession in Q2 2020, and the risk of a stark rise in unemployment in the autumn once the furlough schemes unwind, further support will be needed. This is why we will continue to call on the UK Government to go further and adopt our bold and practical proposals for a UK-wide £80 billion (4% of GDP) fiscal stimulus to regenerate the economy and reduce inequalities, as set out in our paper COVID-19: UK Fiscal Path – A New Approach.
The Scottish Government must consider how best to use its limited fiscal levers to support the recovery, whilst ensuring that public finances are kept on a sustainable future path. Given the unprecedented scale of economic impacts, those decisions must be taken carefully, also being mindful of the end of the EU Exit transition period on 31 December 2020 and the likely changes to Scotland’s economic relationships thereafter.
The Scottish Budget 2021-22 therefore faces unprecedented challenges. In response, we are seeking the widest possible views from across Scotland on how we use our limited fiscal powers to support Scotland’s recovery from COVID-19, both through the Scottish Budget 2021-22 and longer term, including as part of the review of the Fiscal Framework due to take place after the Scottish Parliament elections in 2021.