Mike Denham is a Research Fellow at the TaxPayers’ Alliance. He is a former Treasury economist and City investment manager.
As the SNP gathers for its annual conference with independence back on the agenda, we’ve re-examined the parlous state of Scotland’s public finances. As set out in our new research note Scotland’s public spending remains far higher than its tax revenues, and its deficit exceeds that of every other EU country, including Greece. It is a country living well beyond its means, sustained only by continuing subsidies from taxpayers elsewhere in the UK. Whether or not it becomes independent, it has a chronic overspending problem that needs to be tackled.
Last year Scotland’s public sector deficit was £14.8 billion, or 9.5 per cent of its GDP. That was more than twice the overall UK deficit, and higher than any other EU member. Moreover it is a chronic problem, with the country running a deficit every single year since devolution, despite sometimes record oil prices. Neither is there any serious prospect of higher oil prices coming to the rescue now: North Sea production peaked in 1999 and has since fallen by two-thirds as the fields become depleted; tax revenues have fallen even faster as extraction costs increase.
Of course, at present the deficit is funded largely by subsidies from English taxpayers, including payments under the Barnett Formula. But if Scotland became independent and joined the EU, as the SNP has suggested, it would have to comply with EU rules. They deem any deficit above three per cent of GDP as excessive, requiring a programme of spending cuts and/or tax increases to to get down to the limit.
Looking first at tax, it has been suggested that an independent Scotland could choose to maintain a high level of spending by adopting a Scandinavian model with commensurately high tax rates. However, while that may be a theoretical possibility, it’s important to understand that the tax increases required would be swingeing.
For example, based on HMRC’s tax ready reckoner, we estimate that to comply with the EU’s three per cent deficit limit, Scotland would need to virtually double the basic rate of income tax from 20 per cent to 39 per cent, or double the standard rate of VAT to 40 per cent. And in practice such increases would likely do so much damage to employment and the economy, that revenue would still fall short of the target. It’s also worth noting that despite having had authority to raise the basic income tax rate ever since devolution, no Scottish government has ever thought it expedient to do so.
On the expenditure side, Scotland’s spending remains high compared to other areas of the UK. Overall spending per capita is 20 per cent higher than than in England, and while there’s nothing sacred about English spending levels, if Scotland’s spending was at that same level, its deficit would be more or less down at the EU three per cent limit: its public finance problem would be largely eliminated.
As it is, the required cuts in spending to meet the target would be large: the equivalent of 82 per cent of Scotland’s health spending, or all of its spending on defence, public order and safety, transport, and agriculture combined. That’s the measure of just how big the spending problem is.
The obvious question is how has Scotland managed to end up spending so much more than England? Some argue it’s because Scotland’s needs are greater, but although that may be true in some areas (eg schools), studies have not shown any systematic pattern. What is certainly true is that provision levels are higher across a number of areas. For example, Scottish students get free university tuition, Scottish pensioners qualify for non-means tested personal care, and Scotland has free prescriptions – none of which are available in England. For years, the operation of the Barnett Formula has given Scotland a subsidy that has allowed it to develop and maintain this higher provision.
Whatever the underlying reasons for its higher spending, an independent Scotland would have to make significant cuts across a wide range of public expenditure. Scotland’s government would be forced to balance the books within the country’s own taxable capacity. Or to put it more simply, it would be obliged to live within its means just like the government of any other country. And from the perspective of taxpayers, that’s something it needs to do whether or not the country becomes formally independent.
That is why we should all welcome the current moves to devolve more tax-raising powers to Scotland. Since April, Scotland has had its own 10p basic rate of income tax which it can vary and the revenue from which goes directly to Scotland, replacing a portion of the Barnett block grant. Next year it gains further powers, and the long-term objective should be to allow Scotland to raise the bulk of its revenue from its own residents and businesses. Its government should have the authority and responsibility to strike its own balance between its desire for more public services, and the taxable capacity of its economy.