3 Protection from shocks
40. The Smith Agreement devolves substantial new
powers while allowing Scotland to continue to pool risk and share
resources with the rest of the United Kingdom. It does not deliver
full fiscal autonomy to Scotland. Indeed, the benefits of pooling
risk and resources would be lost under full fiscal autonomy, as
it would have been had Scotland opted for separation. The financial
security of being part of the United Kingdom is perhaps one of
the main reasons why the majority of the people in Scotland voted
against separation and why the Smith Commission rejected full
fiscal autonomy as an option.[63]
Full fiscal autonomy
41. In an interview with the BBC which focused on
potential negotiations in forming the next UK Government, the
First Minister and leader of the SNP, Nicola Sturgeon MSP, outlined
her position:
I want full fiscal autonomy for the Scottish
Government. I want us to be responsible for raising our own revenues
and deciding how those revenues are spent.[64]
Under full fiscal autonomy, the Scottish Government
would receive all revenues raised in Scotland and be responsible
for almost all public expenditure in, and for the benefit of,
Scotland. Only certain UK services such as defence, intelligence
and foreign affairs would remain delivered at a UK level—the
Scottish Government would pay the UK Government for these services.
There would also need to be agreements over borrowing powers and
debt repayment.
42. In comparison with the Smith Agreement, full
fiscal autonomy would deliver additional powers and responsibilities,
but it would also expose Scotland to greater risks. It would allow
the Scottish Government to shape the tax and welfare systems in
Scotland without having to work within a framework set by the
UK. Scotland would also benefit directly from any increase in
Scottish revenues. However, under full fiscal autonomy, Scotland
would also bear the consequences of a reduction in any revenue
stream as well as any unexpected increase in public spending.
43. The current constitutional arrangements mean
that a shock to the demand for welfare within Scotland would be
met by the resources of the whole of the United Kingdom. This
safety net is carefully preserved in the Smith Agreement. By contrast,
under full fiscal autonomy, to cover any unexpected increase in
an area of public expenditure, Scotland would have to raise taxes,
increase borrowing, or cut spending elsewhere. Similarly, any
unexpected drop in revenues would have to be covered by Scottish
finances, either through higher taxation, reduced spending or
increased borrowing, all of which would impact on attempts to
grow the Scottish economy. Currently, any drop in revenues in
areas that, under the Smith Agreement, are to remain reserved
would be absorbed by the UK's larger and more diverse tax base:
the UK economy's ability to absorb the fluctuations of the oil
price is a good example of this.
OIL REVENUES AND BARNETT
44. In the run up to the referendum, the Scottish
Government predicted that "production in Scottish waters
could generate approximately £48 billion in tax revenues
between 2012-13 and 2017-18 based on industry estimates of production
and an average cash price of $113 dollars per barrel."[65]
Since the Scottish Government made those predictions the oil price
has collapsed, at one point trading at less than $50 dollars per
barrel. Table 1 shows the difference between the Scottish Government's
most recent central projections[66]
and those of the OBR (the OBR's figures are based on an oil price
of $85 per barrel, the Scottish Government's are based on $110
per barrel).[67]
Table 1: May 2014 Scottish Government forecast
and OBR autumn 2014 forecast (figures in £billion)
| 2014-15
| 2015-16
| 2016-17
| 2017-18
| 2018-19
| Total 2014-15 to 2018-19
|
| Scottish Government
| £5.8 | £8.3
| £6.9 | £7.3
| £6.0 | £34.3
|
| OBR*
| £2.8 | £2.2
| £2.4 | £2.6
| £3.1 | £13.1
|
* Figures are for the UK. Scottish receipts are approximately
90% of the UK total.
45. North Sea oil and gas revenues make up a much
smaller proportion of overall UK tax revenues than Scottish revenues.
In the past five years revenues from tax on offshore oil and gas
receipts have averaged less than 2% of total UK revenues, while,
for the same period, they would have averaged 15% of total Scottish
revenues.[68] The sudden
reduction in oil revenues therefore has less of an impact at a
UK level then it would at a Scottish level if oil revenues were
devolved, or if Scotland had full fiscal autonomy. Dr Mark Carney,
Governor of the Bank of England, told the Treasury Committee earlier
this year that:
The change in the oil price is net positive for
the United Kingdom economy. It is a negative shock to the Scottish
economy, but it is a negative shock to the Scottish economy that
is substantially mitigated by the fiscal arrangements that exist
in the United Kingdom—the automatic stabilisers that exist:
less revenue taken out of Scotland, more spending into Scotland—and
by the nature of the economic and financial union that exists
in the United Kingdom and continues to exist.[69]
An erratic tax base would also make it more difficult
to plan public spending and more borrowing powers would be required
to mitigate any shocks to revenues.
46. The volatility of the oil price is in stark contrast
to the more predictable stream of funding that is transferred
to Scotland via the Barnett formula and block grant. The Barnett
formula is the Treasury mechanism which calculates the amount
of public expenditure allocated to Scotland, Wales and Northern
Ireland for devolved services. Under this system Scotland enjoys
higher public spending per capita than the UK as a whole; in 2012-13
this amounted to an additional £1,364 per person which meant
Scotland received an additional £7.25 billion in funding
for public services.[70]
47. The existing fiscal arrangements also mitigate
the impact of Scotland's per capita tax revenues being lower than
the UK average.[71] In
2012-13 non-North Sea revenues in Scotland were £8,947 per
person compared with £9,096 for the UK, a gap that amounts
to £792 million.[72]
Taken together, the difference between Scotland's per capita expenditure
and revenues and those of the UK demonstrates that Scotland benefits
from around £8 billion in additional funding. To put that
into context, David Phillips told us, "£8 billion is
about 14% of overall public spending in Scotland. It is about
18% of tax revenues in Scotland, so it is a sizeable amount."[73]
48. The Smith Agreement leaves the Barnett formula
and block grant in place. Without them, if Scotland were fiscally
autonomous, there would be no such transfer of funds from the
UK Exchequer and the Scottish Government would have to look elsewhere
to address the shortfall.[74]
In boom times the oil industry would be the obvious place to find
such revenues. Professor John McLaren explained to us that:
Scotland benefits from being part of the UK at
the minute by about £7 billion to £8 billion in terms
of transfer […] that is what North Sea revenues would have
to be. In 201112 it was £11 billion, so it was well
above; this year it is expected to be £3 billion, which clearly
is well below. Even at the time of much of the debate around the
referendum, I think the Scottish Government's top scenario for
North Sea revenues, scenario six, was about £8 billion. Even
at the top scenario, it was only just breaking even"[75].
49. In its December 2014 Economic and Fiscal Outlook
the OBR predicted oil tax revenues from Scottish waters to be
less than £12 billion for the five years between 2014-15
and 2018-19.[76] This
is over £22 billion short of the most recent central forecast
from the Scottish Government for the same period and £28
billion short of £8 billion per year in higher funding that
is currently delivered by the Barnett-based block grant. The OBR's
autumn 2014 forecast was based on an oil price of $85 per barrel
and already looks optimistic; Fiscal Affairs Scotland report that
for the first half of 2014-15 revenues from oil amounted to just
£1.1 billion; figures for the second half of the year are
likely to be worse.[77]
In 2015 the oil price has not been above $63 per barrel and for
most of January it was around $50. The Secretary of State told
us that at $55 per barrel oil revenues would be in the region
of just £1 billion per year and that a $1 fall in the oil
price would equate to a fiscally autonomous Scottish Government
having to deal with £100 million less in revenue.[78]
50. The oil price rose in February 2015 and by the
end of the month stood at $60 per barrel, at this price tax revenues
might be expected to deliver approximately £1.5 billion per
year, still over £5 billion short of the Scottish Government's
average forecast of £6.8 billion per year and nowhere near
enough to offset the loss of the £8 billion in extra funding
that Scotland currently benefits from. As we have previously stated,
if Scotland were fiscally autonomous then any drop in revenues
would have to be covered by Scottish finances, either through
increased tax revenues, cuts in public spending or increased borrowing.[79]
A cut in public expenditure of £6.5 billion per year[80]
equates to over half of Scotland's health budget or three quarters
of Scotland's spending on education and training.[81]
Were the £6.5 billion shortfall to be recouped via income
tax then the Scottish Government would need to increase the basic
rate of income tax in Scotland by 17 points in pound.[82]
51. The fall in the oil price does not just affect
revenues from petroleum tax. It is predicted that if the oil price
stays at its current level then between 10,000 and 35,000 jobs
could be lost from the oil industry, many of them based in Aberdeen,
the centre of the UK's oil industry.[83]
The loss of jobs from the sector could
have a knock on effect for other areas of the local economy. The
Smith Commission's decision to broadly retain a shared welfare
system means that were there to be increased demand for welfare
in Scotland as a result of a downturn in the oil industry then
the cost would be borne by the broader shoulders of the UK tax
base. As Professor David Bell of the University of Stirling explains:
The case for not devolving Universal Credit might
be based on the argument that supporting labour markets in areas
that have been hit by adverse economic events underpins both political
and macroeconomic stability and therefore must be controlled from
the centre.[84]
52. The collapse
in the oil price is a stark reminder of the risks that face economies
which rely on a volatile revenue stream to fund a large proportion
of their public spending. The conclusion of the Smith Commission
not to devolve such a volatile source of revenue, nor to recommend
full fiscal autonomy, but instead to retain the system of shared
benefit and pooled risk across the United Kingdom has already
proved to be a wise decision, and one that is of obvious and immediate
benefit to the people of Scotland.
53. Were the Scottish Government to move towards
full fiscal autonomy, it would mean Scotland losing £8 billion
in additional funds that are delivered via the Barnett formula
and block grant. This could put the existing level of public spending
in Scotland at risk.[85]
Furthermore, the Scottish Government would be replacing the security
of Barnett with oil revenues which are volatile and not within
the Scottish Government's control. The majority of the people
of Scotland voted to retain the safety net of the UK's broad tax
base, and the Smith Agreement respects that decision. The Scottish
Government's pursuit of full fiscal autonomy does not and, as
recent events have shown, would expose Scotland to increased financial
risk and an immediate hole in its budget of £6.5 billion.[86]
We cannot see how Scotland benefits from such a scenario.
63 HC Deb 22 October 2014, Col 894 Back
64
Andrew Marr Show, BBC One, 25 January 2015, transcript Back
65
Scottish Government White Paper, Scotland's Future: your guide
to an independent Scotland, p510 Back
66
Scottish Government, Oil and Gas Bulletin, May 2014 Back
67
Office for Budget Responsibility, Economic and Fiscal Outlook 2014,
December 2014, p112 Back
68
HM Government, Scotland analysis: fiscal sustainability, Cm 8854,
May 2014, p21 Back
69
Oral evidence taken before the Treasury Committee, 14 January
2015, Q163 Back
70
According to the HM Treasury publication Public Expenditure: Statistical
Analyses 2014, p115, identifiable public spending on services
per head in 2012-13 was £10,152 in Scotland and £8,788
for the UK. The difference between these figures multiplied by
Scotland's population of 5.314 million gives the figure of £7.25
billion in additional funding. GERS also notes that total public
expenditure in Scotland was an estimated 9.3% of UK public sector
expenditure, higher than its 8.2% share of population and higher
than its non-North Sea revenues which were an estimated 8.2% of
total UK non-North Sea revenues. Back
71
Not including revenues from oil which we discuss separately. Back
72
The difference between Scotland and the United Kingdom multiplied
by the population of Scotland Back
73
Q288 Back
74
Evidence to the Smith Commission submitted by Fiscal Affairs Scotland
Back
75
Q285 Back
76
Office for Budget Responsibility, Economic and Fiscal Outlook 2014,
December 2014, p112 Back
77
Fiscal Affairs Scotland Press Release, October 2014 Back
78
Letter from Rt Hon Alistair Carmichael MP, Secretary of State
for Scotland to the Chairman of the Committee, 12 February 2015
and Q285 Back
79
In evidence to the Treasury Committee the Chancellor stated that
the revised fiscal framework being drawn up to implement the Smith
Agreement would require the Scottish Government to run a balanced
budget. At the very least, this is likely to mean Scotland not
being allowed a deficit that is greater proportionately than that
of the UK. Scotland currently has a fiscal deficit of £17.6
billion (14% of GDP) without including oil revenues. Including
oil revenues of £1.5 billion brings the deficit down to 12.8%
of GDP. In contrast, the UK position is around 7% of GDP. Therefore,
in order to bring Scotland's deficit down to UK levels under full
fiscal autonomy the Scottish Government would need to address
the £8 billion shortfall we have identified. Back
80
The loss of £8 billion mitigated by the addition of £1.5
billion in oil revenues. Back
81
Government expenditure and revenue Scotland 2012-13, p23 Back
82
Letter from Rt Hon Alistair Carmichael MP, Secretary of State
for Scotland to the Chairman of the Committee, 12 February 2015:
"The IFS estimated that an increase of 1 percentage point
in the basic rate of income tax would raise around £365 million,
and the same increase in the higher rate would increase tax revenues
by around £60 million." Back
83
Q325 Back
84
Professor David Bell, 'Why Scotland is unlikely to become a welfare paradise',
available at www.futureukandscotland.ac.uk Back
85
Evidence to the Smith Commission submitted by Fiscal Affairs Scotland Back
86
This figure is based on Scotland losing the £8 billion in
higher per capita public spending delivered by the Barnett formula
and block grant but only gaining £1.5 billion in oil tax
revenues based on the current oil price of $60 per barrel. Back
| 
