The current UK political and economic crisis is not delivering what the Scottish economy needs. This is not a recent phenomenon, but a consequence of the key decisions on the Scottish economy being taken in Whitehall, contributing to the sense of helplessness being felt by many. Scotland needs the agency that comes with independence, in order to take the actions required to build a better future.
UK political and economic structures have delivered long term economic decline and in the last two decades the UK has fallen further behind large and small advanced economies. The signs are that the UK, and so Scotland within it, will repeat in the coming decade the pattern of slow growth and austerity of the last two decades.
This can be avoided, by allowing the immigration the economy needs, re-joining the European Single Market and incentivising innovation and entrepreneurism to realise the huge economic potential in the transition to net zero.
These measures will not be implemented by either a Conservative or Labour UK Government, since both fear losing voters in the political environment that Brexit has created. The Scottish Government does not have the powers. This can only be achieved if Scotland becomes independent with the agency needed to implement such measures.
A Political and Economic Crisis Made in Westminster
As this paper is being posted, all eyes remain on the political dramas being played out at Westminster. But it doesn’t matter who is Prime Minister or which party forms the UK Government, Conservative, Labour or a Coalition, they inherit an economic environment created by factors largely beyond their control that will constrain the path of the UK economy for the next several years.
Whilst some of these factors are external, others are internal, resulting from a political system that has not delivered what either the UK or the Scottish economy needs to prosper.
External Factors
The first of these external factors are the rising interest rates decreed by the central banks of the Western world as they try to reverse the inflationary processes that they themselves unleashed more than a decade ago when they embarked on their policy of ‘quantitative easing’, i.e. printing money. In this task they still have some distance to go: the target rate of inflation set for the Bank of England is 2%. At present the rate of inflation is hovering around 10%. The Bank of England base rate is 2.25% and is expected to double by 2024.
Rising interest rates are necessary to bear down on the rising prices of goods and services that constitute the cost of living crisis that is causing so much pain to poorer households. Unfortunately, rising interest rates bear down not just on prices but on economic activity as well. Higher interest rates mean higher mortgage rates, which dampen the demand for houses and commercial properties and inflict pain on households who are having to cut back on other expenditures, including on heating their homes and spending in local shops.
Higher interest rates also make it more expensive for businesses to fund their operations. Companies that have been struggling for some time and have artificially kept going in an era of low interest rates are the first to close, and people lose their jobs. Other companies are forced to cut their costs to survive, leading to more job losses.
A second external factor beyond the control of any UK Government is the war in Ukraine, which indirectly determines the price of electricity in this country via the European market for gas. No one knows how long this war will last, nor if or when there will be further geopolitical shocks. These fundamental and inescapable uncertainties are reflected in the exceptional volatility of today’s financial markets.
Internal Factors
The first major internal factor constraining the actions of any UK Government is the size of its national debt. This was greatly increased by the expenses of dealing with the Covid pandemic, and has been increased again by the need to cushion households and businesses from the increased cost of energy. A large national debt limits the Government’s ability to borrow more (as the UK Government recently discovered).
Even before the “mini-budget” in September 2022, higher interest rates mean that servicing the Debt cost around £100 billion each year[1], almost double the Scottish Government’s entire budget, which was set at £56.5 billion for 2022-23[2].
A second internal constraint on UK Government spending is the urgent need to cope with the backlog of public service obligations, of which the most pressing are those of the National Health Service and Social Care. To these must now be added expanded Defence obligations. Then there is the need for public investment in new sources of energy required to achieve a green transition combined with security of supply.
Thirdly, there are the problems posed to the cost of operating public services by rising prices, not least the demands for higher wages by public service workers.
Going for Growth
Faced with these constraints what can a Government do? The answer is to go for growth, because only sustained economic growth can provide the growing tax revenues required to pay for the continuing improvements in public services on which we all depend.
In recent UK political debate, this idea has been presented as if it were a novelty. In fact, all democratically elected governments everywhere have at all times discovered the need for economic growth in order to increase tax revenues to pay for their public services.
The repeated mantra is that “We must get away from a high-tax, low-growth economy.” This statement is correct as far as it goes. The mistake that has been made has been to get the direction of causality wrong. It is not high taxation that has been the cause of the low growth of the UK economy in the recent past. It is the low growth of the UK economy that has required high tax rates to make up total revenue.
In a previous post (https://thebottomline.scot/economic-growth/), we showed how UK economic growth has lagged behind the average for large and small advanced economies over the last four decades (pre-Covid), and in particular over the last two decades when the economic growth gap widened.
The economic growth gap between the UK and the small advanced economy group is particularly large, with all of the small advanced economies experiencing growth greater than the UK in the last two decades. On average the small advanced economies experienced cumulative economic growth that was double that of the UK between 1999 and 2019.
Had growth been faster, lower tax rates would have been affordable. (And, in a limited range of circumstances, lower tax rates can sometimes result in higher tax revenues).
How is Economic Growth to be Achieved in Present Circumstances?
This is the same question that faced the incoming UK Coalition Government in 2010. UK Governments spent the next ten years trying to repair the public finances that had been thrown into disarray by the Financial Crisis of 2008/9 and the subsequent Recession. They saw this task as the necessary first step to returning the economy to growth.
The result was a decade, now reviled as one of ‘austerity’, in which the UK’s economy grew more slowly than comparable countries, and real wages stagnated, as set out in an earlier post of the UK’s failure to recover from the Financial Crisis (https://thebottomline.scot/uks-failure-to-recover-from-the-financial-crisis/).
A similar prospect of a further decade of stagnation faces the UK now. How can present and future UK Governments escape this fate? As we have noted, the external and internal constraints on their actions are severe, more restrictive than those that faced their predecessors. And there must again be a period of repairing the public finances. But a number of measures are available to them that would immediately increase the rate of growth without imposing significant demands on the budget.
Measure One: Immigration
The first is an obvious one. Lift the restrictions on the inward migration of workers. Everyone is aware from their daily life experience of the desperate shortage of workers, especially in key activities like the NHS and social care, as well as in hotels, restaurants and bars.
The September 2022 “mini budget” was framed in the context of dealing with supply side problems. It took however an extremely narrow look at labour supply problems, focusing only on London, bankers and high earners. As the former chancellor said [3], “This brings me to the cap on bankers’ bonuses. A strong UK economy has always depended on a strong financial services sector. We need global banks to create jobs here, invest here and pay taxes here in London.”
Contrast this with the actual needs of the economy. We need to attract many people, from engineers to medics, from seasonal farm workers to academics, from social care workers to entrepreneurs. Yet, the UK Government remains wholly committed to limiting migration of the people the Scottish economy needs and denying the Scottish Government the power to introduce its own visa system and migration policy.
Measure Two: Rejoin the European Single Market
A second opportunity, which would have an immediate and positive effect across a wide range of industries, would be to rejoin the European Single Market. The extent of the self-harm inflicted by the act of leaving the Single Market can be encapsulated in one statistic. In 2015, the year before the Brexit referendum, the British economy was almost 90% of the size of Germany’s and by 2021 it had fallen to 75%. The UK and Germany both had to deal with the same external factors. The difference was that Germany did not exit the EU.
GDP of Germany and UK, 2015 and 2020
Source: IMF World Economic Outlook database (October 2022)
Of course, it is only necessary to propose this economically sensible course of action to realise that it has become politically unacceptable to the majority of voters in England.
It is noticeable that even after multiple U-turns the current UK Government continues to fail to recognise the impact of Brexit, and even the leader of the Labour Party claims he can make Brexit work. This is entirely at odds with the desires of the Scottish people and the majority of their elected representatives.
Measure Three: Incentivise Innovation and Entrepreneurialism
A third measure, that would directly address the process of economic growth, would be to incentivise those people who are the agents of economic development and social change. To design appropriately targeted schemes it is not necessary to re-invent the wheel. One need only look at the successful schemes now in place in other countries.
Such measures should focus on the opportunities of the Scottish economy. Given Scotland’s natural capital advantages, renewable energy would be an obvious target for growth policies. This has the added benefit of generating economic growth sustainably, since the energy transition will reduce the economy’s use of non-renewable resources.
The UK Government has control of energy policy. The “growth policies” of the UK Government seek to encourage more exploitation of oil and gas reserves in the Scottish sector of the North Sea and encourage fracking. This runs counter to Scottish Government policy (and public opinion) which seeks to focus much more strongly on renewable energy, such as from wind and hydrogen.
To make the most of identifying and exploiting the investment opportunities created by the need to achieve the transition to net zero, the best approach is to engage a diverse range of entrepreneurial talent with a targeted set of incentives. The scale of the opportunity was recently set out in a report by the global economic strategy consultancy Landfall Strategy Group [4].
Another way of transitioning to a green energy future is by setting up large, state-owned monopolistic corporations such as the Great British Green Energy Corporation proposed by the Labour Party. Their thinking in this respect has not moved on in half a century. In 1975 the then Labour Government set up the British National Oil Corporation to exploit the hydrocarbon resources of the North Sea, headquartered in Glasgow. It achieved nothing before it was taken over by BP in 1988.
A Political Certainty
Amidst the cloud of economic uncertainty and the volatility of financial markets, one certainty stands out, a political one. It is the demise of the Conservative Party at the next UK General Election.
It seems likely that the UK Government’s finances will be made to add up by politically unpopular cuts in several areas of government expenditure as well as increases in tax rates. It would take a miracle for the Conservative Party to win the next General Election.
But it is important to emphasise that the election of a Labour Government will not change the prospects for the UK economy. Not only would such a UK Government remain under the influence of the same hostile external and internal environment, but it will not take the best chance of growth open to it, which is to rejoin the European Single Market and to allow the immigration that the economy needs. It will not do this, even though it knows it is the sensible thing to do, because it is fearful of losing the support of Brexit supporting voters, especially in the North of England.
Whatever Government is in power in Westminster, starting from the present position it will take very many years of hard work to get the UK economy on a growth path where national debt begins to fall as a proportion of total output.
An Alternative for Scotland: From Helplessness to Agency
The UK Government’s “growth plan” was developed without any consideration of the needs and opportunities of the Scottish economy, a stark reminder that Scotland’s economic policy is characterised by helplessness rather than by the agency required to emulate the most economically successful countries, as argued in our first post on the importance of agency for Scotland’s economic future (https://thebottomline.scot/agency-and-helplessness-and-scotlands-future/).
This post has set out three measures that would boost economic growth and so begin to address the UK’s economic crisis:
Measure 1) Allow the immigration that the economy needs;
Measure 2) Rejoin the European Single Market; and
Measure 3) Incentivise innovation and entrepreneurialism to realise the huge economic potential in the transition to net zero.
These are only examples and successful policy needs to be about more than economic growth (as will be covered in forthcoming posts). They are examples of measures that have repeatedly been successful when implemented, including in the successful small advanced economies that have been outperforming the UK.
However, they are impossible to deliver in the UK political system since neither the Conservative Government nor a potential future Labour Government are prepared to argue for them, for fear of losing voters in the political environment that Brexit has created.
There is a broad consensus for these measures in Scotland. However, the Scottish Government is helpless to implement them, since the powers to do so rest with the UK Government. Scotland needs the agency that comes with independence, in order to take the actions required to build a better future
References
[1] Office for National Statistics (21 September 2022), Public sector finances, UK: August 2022 (central government debt interest payable was £8.2 billion in August 2022, so almost £100 billion when annualised)
[2] Scottish Government (July 2022), Scottish Budget 2022 to 2023: Your Scotland, Your Finances – guide
[3] See Hansard (23 September 2022) at https://hansard.parliament.uk/commons/2022-09-23/debates/6F82FA4B-DB6B-4E89-BA39-4ABEA1045ABF/TheGrowthPlan
[4] Landfall Strategy Group (2022), the Economic Opportunity for Scotland from Renewable Energy and Green Technology