A new paper by the Centre for Public Policy for Regions (CPPR), included in the latest edition of the National Institute of Economic and Social Research (NIESR) Economic Review, published yesterday, highlights a number of issues highly relevant to the independence referendum debate.
The paper highlights the confusing, and often misleading, comparisons of Scotland's economic performance that are being made on both sides of the argument.
As an independent country, the complex nature of Scotland's economy would necessitate the use of more sophisticated analysis when trying to understand its growth performance and, in turn, the strength of its related tax revenue base. The reasons for this are twofold. First, like Norway, the Scottish economy benefits from the large contribution arising from a natural commodity (oil), whose price tends to be highly erratic (whilst the impact of this erratic effect on the UK economy is markedly reduced). Second, like Ireland, a significant proportion of Scotland's domestic economy is overseas-owned (particularly in relation to oil, drinks, energy and financial services) and so wealth retained by companies and individuals within the country tends to be overstated.
These factors can heavily skew comparisons between Scotland's economic performance and that of the UK. For example, the most commonly referenced 'real terms GDP' growth rate would have been negative for Scotland over the decade to 2011 (see Table 1). This makes the use of the more traditional measures of economic performance, (such as GDP or GDP per capita), less relevant than for most countries and suggests a greater need to use both constant price and cash terms GNI.
The reality is that Scotland consists of two distinct economies, one onshore and the other offshore. Scottish economic policies would be largely geared to the former, while it would be principally Scottish taxation policy that would impact on the latter.
Equally Scotland's standard of living cannot be judged by simply using GDP per capita; instead we need to know how much of what is produced within Scotland's territory ultimately remains here, as opposed to being repatriated overseas, as well as how much of what Scots earn overseas is brought back to Scotland. This highlights again the importance of obtaining an accurate measure of Scottish GNI.
In reaching any conclusions on Scotland's fiscal balance it is important to emphasise that the value of commodity related revenues, such as with North Sea oil, is one of the hardest of all government funding sources to predict. Hence, while the analysis in this paper is based on the current evidence, all such commodity forecasts remain highly uncertain.
Nevertheless, our analysis suggests that there could be a net fiscal loss under independence. This is because the, approximately, £7 billion Barnett related transfer from within the UK would not, on current OBR projections, be matched by North Sea revenues. So not only would an 'oil fund' be unaffordable, but cuts to existing funding levels would need to be made in order to attain the same relative position as exists currently within the UK.
For this to change, North Sea tax revenues would need to rise to well above currently levels forecast by the OBR (see Chart 1). The most likely way that this would arise would be for the oil price to rise at well above the rate of inflation.
How any such future decline in North Sea revenues in an independent Scotland might compare with the alternative scenario, which could see lower Barnett related funds flowing into Scotland within the UK, is impossible to predict.
The implications of the Scottish government's initial work on calculating a Scottish GNI are also important to the fiscal balance discussion. If they are correct, or even near to being correct, then this implies that Scots are richer than had heretofore been recognised. This also means that previous (GERS-based) estimates of the Scottish fiscal balance are underestimating revenues and overestimating the size of any inherited net deficit, although other, UK survey based, evidence points against such a finding. Given the importance of GNI in estimating a variety of key economic measures, including Scotland's overseas balance, the relative size of its debt and its borrowing capacity, then it is important that greater clarity on this measure, pre-referendum, is achieved.
John McLaren said:
"Measuring Scotland's economic performance is complicated by the importance of both North Sea oil and the extent of non-Scottish ownership of resources. At present, we have only a hazy outline of the full picture. It would help the current debate if this complexity were acknowledged and more effort was put into filling in the detail."
Jo Armstrong said:
"It is difficult to predict Scotland's future fiscal position under either independence or within the Union. Both scenarios involve uncertainties, over the price of oil and the future of the Barnett formula. At present both scenarios also point to downside risks as oil production is on a downward trend and any revision to the Barnett formula is likely to work against Scotland."