4Demographics and the economy
Funding settlement—the block grant and the Barnett Formula
74.The Scottish Government receives most of its funding in the form of a block grant from the Treasury. This block grant is adjusted through the Barnett formula. The operation of the Barnett formula means that Scotland’s population relative to the rest of the UK has direct implications for the funding Scotland receives. As a result, Scotland’s population growth impacts directly on Scottish Government revenue and funding as well as the Scottish economy at large.
Box 1: The Barnett formula
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The Barnett formula is the mechanism by which changes to the block grant allocation are calculated. Its main aim is to ensure that any changes to expenditure by the UK Government in areas which the devolved administrations are responsible for leads to a proportionate change in funding for the devolved administrations. The overall funding settlement is determined by the change in funding as calculated by the Barnett formula to a baseline, which is roughly equivalent to the previous year’s expenditure. There are three factors that determine changes to Scotland’s block grant under the Barnett formula: Change to planned UK government spending—either increases or decreases to public spending in England (or England and Wales). The comparability percentage—the extent to which the relevant UK government department’s spending is comparable with the services carried out by each devolved administration. Changes to expenditure in the Department for Education, for example, will have a comparability percentage of 100% or near 100% because the block grant will have to pay for all those services in Scotland. However for the Ministry of Defence, the comparability percentage will be zero as the Scottish Government does not have to pay for defence. The appropriate population proportion—each country’s population as a proportion of England or England and Wales. Although the size of the block grant is determined by changes in UK Government departments expenditure, the Scottish Government can spend the block grant on what it chooses, irrespective of changes in individual UK Government departments’ spending. The Scottish Government also receives funds from the UK Government for Annually Managed Expenditure (AME). AME is set on an annual basis and comprises items such as pensions that are deemed to be outside the Government’s control. In addition the Scottish Government receives income from locally raised taxes. |
Population in the Barnett formula
75.Any changes to the Barnett formula, will have an impact on Scotland because Scotland’s relative population, compared to both the population of England alone and the population of England and Wales has been falling. Dr Lisenkova from the National Institute of Economic and Social Research explained to us that the impact of Scotland’s population growth on funding is different depending on whether you look at the change to the block grant the Scottish Government receives or if you look at overall value of the block grant per person. She explained:
The change in the block grant is equal to the change in the corresponding UK level of spending on a comparable item and then the share of the Scottish population relative to the rest of the UK population. In this context the change portion of the block grant is directly affected by the population growth rate. Another bit that is important to keep in mind is that since Scotland was experiencing different population growth compared to the rest of the UK, the level of the block grant, not the change but the level per person, has been changing. If Scotland has a slower population growth rate this level is increasing and if it has a faster population growth rate compared to the rest of the UK then it would be decreasing. In the recent past and projected in the future […] Scotland is going to have a slower population growth rate. In this context, the way the Barnett formula was applied until this new round of devolution had two opposing effects on the level of public spending per person. The first one is beneficial coming from the level and the other one is negative coming from the change. In terms of the change, you are getting less if your population is growing slower but in terms of the level you are getting more because your population is smaller now. In some respect the balance between these two forces determine whether the Barnett settlement gets better or worse for Scotland.84
Scotland’s lower population growth relative to the rest of the UK means that it will receive a smaller increase from changes to the block grant but the level of funding per person in the block grant itself would increase.
76.There is, however, a risk that the growth of Scotland’s revenues will not keep pace with that of the rest of the UK.85 During our inquiry on Revising Scotland’s fiscal framework, we looked at the impact of slower population growth on the Scottish economy and how the UK and Scottish Governments should respond to this. The then Chief Secretary to the Treasury, Greg Hands MP, when asked whether it would be wrong for the fiscal framework to result in declining levels of spending per head of Scottish population (a situation that could arise because of lower population growth in Scotland than in the rest of the UK) said that it was for the Scottish Government to grow the Scottish population and economy, arguing that:
We have to find a system that is fair to taxpayers in both Scotland and the whole of the UK but is consistent with allowing the Scottish Government to make the choices, to take the risks and bear the responsibilities of making decisions that are positive for growing the economy, which will also have a big impact on the tax take as well, but also to bear some of the risks if things go wrong.86
77.Whilst population level is taken into account in the Barnett formula, the characteristics of the population and its ‘needs’ are not; for example, relative age profile of population and/or higher mortality rates are not reflected. We also note that the Welsh Government and a House of Lords Committee on the Barnett formula have both argued that the Barnett formula should be replaced by a needs-based system of determining grants which could take into account factors such as the ageing profile of the population and also varying mortality rates.87&88
78.The Barnett formula takes into account the population growth of Scotland compared to the rest of the UK but not the age of the population or higher mortality rates. We recommend that the Government considers how it can take into account Scotland’s higher relative mortality rates and ageing profile of its population within existing funding arrangements, given that these factors lead to significant cost pressures for the Scottish Government.
Pensions—additional powers
79.In May 2014, the Scottish Government produced a report on ‘Life expectancy and the state pension’ which showed that there was a gap between lifetime value of a state pension in Scotland and elsewhere in the UK because of Scotland’s lower life expectancy.89 Scottish men and women have a lower life expectancy at birth than people born anywhere else in the United Kingdom. The Scottish Government has suggested that pensioners in Scotland could be up to £11,000 worse off than in the UK as a whole because of the differences in life expectancy.
80.The Scottish Government have previously called for pension policy to be devolved to the Scottish Parliament to take this difference into account. In evidence to us, Dr Alasdair Allen MSP, Minister for International Development and Europe in the Scottish Government, argued that the state pension age in Scotland should be decided by the Scottish Government:
You will not be too surprised to hear that I think it would be helpful if some of these decisions, or all these decisions rather, were taken in Scotland. We have not, as a Government, challenged the move to 66 as a pension age. We do recognise that, despite the problems you have just outlined, life expectancy has been increasing. We are concerned about the rapid move to 67 for some of the reasons that I have mentioned. We have certainly expressed our concern about the very rapid move towards acceptance of that age.90
81.The Scotland Act 2016 gives additional powers to the Scottish Government with regard to welfare. Pensions and universal credits remain reserved but the Scottish Parliament would have the power to vary the housing element of universal credit and vary payment arrangements. The Scottish Government will have complete autonomy for the benefits listed below or any benefits that may replace them:
- Disability Living Allowance, Attendance Allowance, Personal Independence Payment, Carer’s Allowance, “Industries Injuries Disablement Allowance” and “Severe Disablement Allowance”;
- benefits which currently comprise the Regulated Social Fund—Winter Fuel Payments, Cold Weather Payments and the Sure Start Maternity Fund; and
- discretionary Housing Payments.91
These categories comprised 14% of benefits, state pensions and tax credits in Scotland (around £2.5bn).92 In addition to having the power to create new benefits in the areas of devolved responsibility, the Scottish Parliament would have new powers to make additional discretionary payments from its own budget in any area of welfare.
82.We asked the Secretary of State for Scotland, Rt Hon David Mundell MP, about the possibility of devolving pension powers to the Scottish Government. The Secretary of State told us that “the structure of the Scotland Act would mean that pensions, as administered by the DWP, remain reserved and could not themselves be paid earlier or differently by the Scottish Government”.93 He did, however, go on to say that “with an innovative use of the powers that are being transferred in relation to top-ups and the power to create new benefits, then there would an ability, if there was a desire, to pay benefits to certain targeted people within the community, who clearly could be pensioners”.94
83.We note that the Secretary of State suggested that the Scottish Government should look at “innovative” ways of using the welfare powers that have been devolved to them. We recommend that the UK Government and the Scottish Government work constructively together should the UK Government decide to vary or change the existing devolved benefits.
Business in Scotland
84.As we noted previously, while Scotland is an attractive place for people to attend university it loses many migrants from elsewhere in the UK as they move into work. When we asked David Watt, Institute of Directors, why Scotland was unable to induce those people to stay he told us that:
A key issue for Scotland going forward is linking the college and university education courses to the jobs that are out in the community or the jobs that are developing as well. For example, very recently I was talking to somebody who installed my telephones. Erecting telephone masts all over the country is still a booming business and most of the providers are short of people to do it. I do not know how many people we have in the food chain to supply that marketplace.95
85.Fraser Grieve from the Scottish Council for Development and Industry agreed with this analysis. He went on to make the point that people want to move to an area where there are career progression options which can be provided by a variety of different employers, stating:
People want to know that when they move to an area they are not just moving to one employer, and that if that job does not work out whether there are other options available. How do you package that up? How do you sell an area not just in terms of one particular leading light but looking at how you match up the skill sets required by different businesses in the area? People want to know that if they move to an area they are not tied to one employer, they have opportunities to progress beyond that point.96
Business and retaining talent
86.The Secretary of State for Scotland in a speech in January 2016 entitled The year of a new Scottish Parliament argued that the new funding settlement for Scotland would give the Scottish Government the power to attract more businesses to Scotland and help grow the Scottish economy. In particular, he highlighted that:
The Scottish Parliament will be provided with around £12 billion in revenues from this income tax devolution, at the current UK rates. […] The Scottish Government will be assigned half of all VAT receipts in Scotland, worth around £4.5 billion of revenue, and the Scottish Parliament will determine the tax on air passengers departing Scottish airports. […]
I am confident the Scottish Government can take positive decisions that will see the economy grow. If they do so, Holyrood will be able to keep more VAT revenue. In addition, more people will want to work in Scotland and contribute to the economy.97
87.Following the 2016 Scottish Parliamentary elections, the Scottish Government set out their plans to help the Scottish economy to grow. In a speech entitled Taking Scotland Forward—The Economy, Keith Brown MSP, Cabinet Secretary for Economy, Jobs and Fair Work told his audience that Scotland has a “thriving and innovative tech start-up landscape” with many innovative companies emerging and that Scotland’s growing economy, highly-educated community and good transport links “attract companies to invest in Scotland”.98 He went on to say that:
We [the Scottish Government] will continue to invest in our innovation centres, and through initiatives such as Interface, which bring businesses and academics together to collaborate, and to develop new ideas and products in some of the key growth sectors of the future.
We will build on this by launching an annual Innovation Prize, and by inviting the Council of Economic Advisers and the CAN DO Forum to propose specific actions to boost productivity through innovation.
Internationalisation and improving export performance are also fundamental drivers of our economic success.99
88.The focus by both the UK and Scottish Government on growing Scotland’s economy is something which we welcome. A strong economy is essential for expanding existing businesses, attracting new businesses and drawing people to Scotland.
Impact of Brexit on Scottish Business
89.The impact of the UK leaving the EU on Scotland will depend very much on the nature of the agreement reached by the UK and the EU. Our inquiry into Scotland’s Place in Europe is examining what this may mean for Scotland and is an important piece of work for us.
90.The Scottish Government has said that it believes there are “advantages in freedom of movement of people and the single market” for businesses in Scotland but any advantages to Scotland will depend on the type of Brexit negotiated by the UK Government.100
91.There are several industries in Scotland which might be affected by the UK’s vote to leave the European Union. It is unclear, at the time of writing, what the outcome of the negotiations will be. Professor Findlay told us that industries in Scotland which were particularly reliant on seasonal migrant work could feel the impact of leaving the EU particularly strongly. He told us that:
There will still be a demand for strawberry pickers because we like buying strawberries from our supermarkets, so Fife’s fruit farms will still want these people as long as they can have access to the country. At least for two years I would anticipate there will not be a huge decline in those type of migrants because most of the demand for care workers in old folks homes or for strawberry pickers will continue. These are not jobs that many Scottish people seem to seek or not as many as there are demands for these people.101
84 Q115
85 Office for National Statistics, National Population Projections: 2014-based Statistical Bulletin (October 2015), table 1
86 Oral evidence taken on 3 February 2016, HC (2015–16) 660, Q167
87 National Assembly for Wales, Final Report of the Independent Commission on Funding and Finance for Wales (July 2010)
88 House of Lords, Report of the Select Committee on the Barnett Formula, Session 2008–2009, HL Paper 139
89 Scottish Government, Communities Analytical Services, Life Expectancy and the State Pension (May 2014)
90 Q296
91 House of Commons Library Research Paper, Scotland Bill Welfare and Employment Support, No. 0727, 4 June 2015, pp 4, 10
92 HM Government, Scotland in the UK: An Enduring Settlement, Cm 8990, 22 January 2015, para 4.1.2
93 Q340
94 Q340
95 Q142
96 Q142
97 Scotland Office and The Rt Hon David Mundell MP, ‘The year of a new Scottish Parliament speech’, accessed 18 November 2016
98 Scottish Government, ‘Speeches and Briefings: Taking Scotland Forward—The Economy’, accessed 18 November 2016
99 Scottish Government, ‘Speeches and Briefings: Taking Scotland Forward—The Economy’, accessed 18 November 2016
100 Q308
101 Q187
28 November 2016