Fiscal Implications of Constitutional Change

Dave Watson

In this section we look at the fiscal implications of independence and extended devolution before suggesting a different fiscal approach as the basis for further discussion.

Let’s start by recognising, that whatever the criticism, the Scotland Act 2012 does give the Scottish Parliament significant new fiscal powers: a Scottish income tax to replace part of the UK income tax; the devolution of stamp duty land tax and landfill tax; the power to create or devolve other taxes to the Scottish Parliament; new borrowing powers (although only a consultation on bonds); and a Scottish cash reserve to manage fluctuations in devolved tax receipts. In addition we already have the Council Tax and business rates. There remains the thorny issue of political willingness to creatively use these powers, but we will return to that later.

What about the fiscal implications of independence? Well, we apparently have to wait until December 2013 for anything definitive on that, but we do have John Swinney’s statements. His post independence strategy appears to be to keep the pound within a Sterling zone including financial services (and possibly consumer) regulation. A VAT cut for tourism and construction coupled with a Corporation Tax cut to give Scotland a ‘fiscal edge’. Other business friendly policies include cutting business rates, tax breaks for R&D and renewables, a review of competition policy and the apparently obligatory cutting of red tape.

We would argue that this vision has major shortcomings. Handing over monetary policy to rUK also limits the scope of fiscal policy. We only have to look at the Eurozone crisis debate to see the link between monetary and fiscal policy. If the key economic levers are controlled by another country, then there is less influence on monetary, and fiscal, policy than under devolution.

However, our biggest difficulty is with the concept of a ‘fiscal edge’. It appears that SNP policy is still wedded to Celtic tiger strategy. Even if desirable, you simply cannot replicate 1990’s Ireland. Other small countries like Denmark, Norway, Sweden, Finland all have higher Corporation Tax and better performing economies. The UK business tax rate is already low and there is limited evidence that tax cuts pay for themselves. Any saving goes into profit not investment and many of our companies are sitting on vast cash reserves already. There will certainly be a huge hit on public finances that is unsustainable. A better way, is actually higher taxation to fund investment in people, plant, infrastructure and research.

The Laffer curve theorists that promote this view also support the flat tax approach to personal taxation. Yet, as table 1 shows, there is no link between different levels of taxation and economic growth. The SNP will need to clarify their position on this in the White Paper.

What of Devo-Max, the proposition that all revenues would be raised in Scotland and the cost of reserved services would be paid to London out of these revenues. The mechanisms for this have been set out in some detail, but there is limited evidence that having greater fiscal autonomy policy is beneficial to economic growth.

In addition this model in full is untested anywhere in the world and therefore there must be a real risk of unintended consequences.

Then we have Devo-Plus. This concept proposes that most revenues would be raised in Scotland to pay for devolved services, with VAT and NI retained at UK level to pay for reserved services. Again the mechanisms have been worked out in some detail. What is less clear is the purpose of this devolution. For that we need to look at the authors, Reform Scotland, objectives that are the apparently, “traditional Scottish principles of limited government, diversity and personal responsibility”. Translated this means- small state, privatisation and blame the poor!

In summary, none of the above meet the key test of devolution forpurpose of creating a more equal society and investment in our people. They ignore issues of class and class power.

If we look at other European countries that devolve fiscal powers, taxes on income are the most popular, followed by property and then taxes on consumption. The Scotland Act 2012 already gives Scotland significant powers over income tax and many property taxes are already devolved. Consumption taxes, primarily VAT, are difficult to devolve because EU rules generally don’t allow variations within nation states. Whatever taxes are devolved there has to be some mechanism through grants or borrowing to address volatility in tax revenues.

Table 2 sets out the current estimate of income raised by each tax in Scotland. It can be seen that detailed discussion of many taxes is of only academic interest because the revenue raised in Scotland is small.

At present revenue from devolved taxes in Scotland is one of the lowest in Europe at 13.8%, just over £4bn. After the Scotland Act 2012 is implemented that will rise to 30.8%, just over £9bn.This will put Scotland in the same league as Germany and Sweden, with one of the most devolved tax revenues in Europe. However, because a Scottish Government can’t vary the rate in each band, any increase in income tax is not as progressive as we would wish. This is illustrated in table 3.

Taxation is not the only power we should consider. The Scotland Act 2012 gives the Scottish Government new borrowing powers and there is a consultation on bond issuance. However, again these are very limited, both in method and amount, with the Treasury orthodoxy insisting on central government’s right to control overall state finances. This is a crucial issue for Scotland and it is essential that Scotland gets wider borrowing powers.

The only restriction should be prudential i.e. can Scotland finance the cost of borrowing from revenue. This power already exists for local government therefore it seems absurd that devolved administrations should not have similar powers. With such flexibility we could finally get rid of the huge cost of PPP/PFI schemes by giving prudential borrowing powers to health boards, NDPBs and public corporations, including Scottish Water.

With the focus of debate on independence and extended devolution we should not lose sight of the value of fiscal solidarity across the UK. Allocating resources on the basis of need was the thinking behind the Barnett Formula. It also happens in other European countries using mechanisms like shared taxation, hypothecated spending and equalisation mechanisms. Scotland has benefitted from this approach in the past and may need to do so again. Greater fiscal autonomy must still allow for resource transfer to areas of need across the UK. In particular we need to recognise where real economic power lies on these islands and even under independence, it isn’t here in Scotland.

This is because Scotland operates in a global market dominated by the Washington Consensus. On tax this means promoting falling income tax rates, low corporation tax, higher consumption taxes, low taxes on wealth, tax simplification (including flat tax) and creating tax competition with a race to the bottom for the rich. In the UK over the last 30 years this ideology has resulted in UK top income tax rates falling from 60% to 45%, and Corporation Tax from 52% to 22%. VAT has increased from 12.5% to 20%, tax havens banned to tax havens encouraged with 5.5% tax rate and Inheritance Tax almost gone. We now have the lowest number of HMRC staff ever, creating a tax gap of some £130bn.

For all the debate around fiscal powers we need to return to the question of what we want these powers for. Fiscal policy should support the creation of a more equal society that allocates resources to tackle poverty through progressive taxation and welfare support. The role of business is to pay taxes, provide decent jobs and social sustainability in return for state support, while the state promotes collective ownership and management of the means of production.

In conclusion here are some initial suggestions on how fiscal devolution might support a more radical social and economic strategy.

  • Devolve all property based taxes. They already largely will be after the Scotland Act 2012 is implemented.
  • Income Tax and National Insurance fully devolved.
  • Business taxes should remain at UK level. Tax competition is wrong in principle and in any case is constrained by tightening EU rules in this field.
  • Consumption taxes (primarily VAT) again largely at UK as EU rules don’t allow variable rates in the same state. There is a stronger policy element to fuel duty, tobacco and alcohol taxes, but given the integrated nature of the UK it is hard to see how these could be set differently in Scotland.
  • Full prudential borrowing powers including bond issuance.
  • Any partial devolution of fiscal powers will also require a balancing mechanism using a combination of grant and borrowing.

Many will remain sceptical, based on  experience since devolution, that further fiscal devolution will significantly improve the governance of Scotland. Political will remains more important than mechanisms. However, they will at least force the Scottish Parliament to consider how they might be used to create a better, more equal society.

Who shapes the future for Scotland?

What could a new Scottish Constitution include?  Before the referendum in 2014 we would expect to know in detail what the SNP’s plan is if they achieve an independent Scotland.

Many people on the left who support independence believe that once it has been achieved it will allow “normal” politics to resume and the real fight for the future character of Scotland will commence.  It is assumed that left party/parties that emerge will be able to overturn any decisions the SNP has made that curtail the introduction of left policies.

We know the SNP is currently debating whether being in NATO will be part of its platform.  We also know that it intends to retain the monarchy, Sterling and remain in the European Union. Well, left supporters would say, if we don’t like these policies we can just elect a government that will change them.

Those members of the SNP that oppose the proposal that an independent Scotland should remain in NATO are rightly concerned that it would result in nuclear weapons remaining in Scotland. The pressure from NATO and the EU as well as possible financial inducements from Westminster could result in the removal of Trident being low down the list of priorities.

When the state of Kosovo was established in 2008 it adopted a constitution that included the adoption of a “market economy”, that it would be “in membership of NATO” and that it would “meet the criteria required by the European Union”.  These issues are not policies open to change through normal political channels, but are embedded in the country’s Constitution.

Constitutions are not open to change by a simple majority, even if a Party is elected with a programme of change.  The Constitutional Commission’s which is campaigning for a written constitution for Scotland has drafted a model Constitution for Scotland.  Published in 2011 it states “No subsequent amendment of this Constitution shall come into force unless proposed by a two-thirds majority vote the Parliament and then ratified, in a popular referendum, by the affirmative votes of a majority of the enfranchised citizens.”

It is important to remember that a Constitution is not a set of neutral rules and regulations, but is used to shape the emerging state.  Whoever drafts the constitution gets to put their stamp on the future development of the country, and that can be hard to alter.

For example the Irish Republic’s Constitution adopted in 1937 begins with the preamble: “In the Name of the Most Holy Trinity, from Whom is all authority and to Whom, as our final end, all actions both of men and States must be referred, We, the people of Éire, humbly acknowledging all our obligations to our Divine Lord, Jesus Christ, Who sustained our fathers through centuries of trial….”

Who Owns Scotland? The realities of economic power

Richard Leonard

The ownership of the Scottish economy has undergone a profound and fundamental change over the last century. From being owned by regional business dynasties drawing on local sources of investment funding, including local banks, today most of the commanding heights of the Scottish economy are quoted on the London Stock Exchange and are owned by institutions and corporations based either in the South East of England or increasingly, overseas.

By January 2012 the Scottish Business Insider’s Top 500 companies in Scotland, ranked according to annualised turnover and pre-tax profit, revealed a Top 20 dominated by energy, particularly oil and gas multinationals and financial services corporations. With the exception of the drinks giant William Grant & Sons which is family owned, and Scottish Water which is publicly owned, all the rest are public limited companies listed on the London Stock Exchange. Eleven out of the top twenty are wholly owned subsidiaries.

For a broader picture, the Scottish Government itself publishes corporate statistics annually. In recent years these have revealed a trend towards the denuding of Scottish ownership of the economy.

The most recent figures show that amongst larger enterprises (defined as those employing 250 people or more) 64% of employment and 78% of turnover is in enterprises with ultimate ownership outside Scotland. This compares to 54% of employment and 69% of turnover as recently as 2002.

Amongst larger firms in the manufacturing sector alone the results are even starker with 72% of employment and as much as 87% of turnover in companies owned outside of Scotland. This compares to 60% of employment and 71% of turnover in 2002.

And these figures are based on Scottish registered companies only.  They do not include big supermarket chains like Tesco and Asda, or military industrial companies like Rolls Royce and BAE Systems which have a huge turnover, and are major employers in Scotland but do not separately register here.

One major accelerant of this trend has been privatisation. Take the old South of Scotland Electricity Board as an example. Initially broken up into Scottish Power and Scottish Nuclear (later British Energy), its constituent parts are now owned by the Spanish trans-national corporation Iberdrola and the French corporation EDF.

The other catalyst has been the “Big Bang” deregulation of the City of London in 1986 which created the most open and ferocious predator style economy in the world. Built on a Thatcherite nightmare of an economy devoid of ethics, geared to short term gain and greed by the transfer of ownership of existing assets not the creation of new ones, and remorseless in seeking capital gain overseas rather than supporting the indigenous productive base, it was and remains even after global financial meltdown one of the worst examples of power without accountability.

To summarise,  there is no longer a coherent Scottish business network. External institutional investors are dominant and the lines of accountability run outside Scotland. This is not to talk Scotland down but to talk the hard facts of the Scottish economy today. With ownership comes domination, and Scotland’s recent economic history tells of deindustrialisation on an unprecedented scale. A branch plant economy is a perilous place for working people to be in an era where classic free trade economics and laissez faire industrial policy are in the ascendancy.

But the importance of this pattern of ownership to any democratic socialist is that it first illuminates then determines the level we need to intervene at. Economic power does not lie in Scotland. It still predominantly lies at a UK level.

There is another important economic consideration too when looking at calls for an independent Scotland.

According to the most recent Input Output tables, again published by the Scottish Government, the annual value of imports into Scotland from the rest of the United Kingdom is £44 billion. The value of imports into Scotland from the rest of the world is £21 billion

The annual value of exports from Scotland to the rest of the United Kingdom is £34 billion.

The value of exports from Scotland to the rest of the world is £19 billion.

In other words, Scotland is not only in a highly advanced state of industrial integration with the rest of the UK economy, it is also economically interdependent too. As these figures show Scotland not only has a trade deficit with the rest of the UK of £10 billion, most tellingly we export almost twice as much to England, Wales and Northern Ireland as we do to the whole of the rest of the world put together.

Add to this the fiscal relationship well documented by Dave Watson elsewhere in this paper and the fact that Scotland is part of a single currency area too, and we are told even after independence, it is proposed to remain so. Questions then arise about what precisely “independence” would mean economically and industrially. Where is the benefit of Scotland’s elected representatives giving up a direct vote on the fiscal and monetary policy framework of Scotland’s largest market, its biggest economic area and the level where corporate power rests. Of course it can be done, but what would be the advantage?

It was Nye Bevan who wrote in the opening to his seminal work “In Place of Fear” that the fundamental question for socialists was simple “Where was power and which the road to it?”  If we want to build a democratic socialist future for Scotland we need to act at the level where power lies.

A politically independent Scotland may mean the end of Britain as a politically defined entity but it would have little impact on British state power which would continue to dominate the economy of Scotland whether the people of Scotland and our representatives were withdrawn from it or not.

Scottish independence would also mean abandoning the very democratic avenue along which working people in Scotland, jointly with those in the rest of these islands could hold to account and even control corporate and economic decision makers.

If we are to have any semblance of economic and industrial democracy that is the level where we need to intervene. To take another example, the economic power owned by working people but not controlled by working people in our pension and insurance funds is organised at the UK level, with the largest UK pension funds: the BT Pension Scheme (£31 billion), Universities Superannuation Scheme Ltd (£22 billion); Railways Pension Scheme (£20 billion); Royal Mail Pension Plan (£20 billion) and Electricity Supply Pension Scheme (£19 billion) (Pensions Pocket Book 2011) all British wide in their membership and organisation. So if democratic reform of pension and insurance funds is, as I believe it should be, a significant element of a new left strategy to re-direct investment and to provide for both popular socialised ownership and control in the economy it is at the UK level that reform will be at its most effective.

The trade union movement of course is also predominantly organised at that level, which is not to say that a trade union couldn’t cope with the creation of an independent Scotland, of course it could, but the test of independence for us is this: does it make our underlying purpose of shifting power from those who happen to own the wealth to those who through their hard work and endeavour create it nearer or further away?

There is much that remains to be done in a devolved Scotland. Land ownership is still the narrowest in Western Europe with 343 landlords owning 50 per cent of all private land in Scotland, nearly all of them the old aristocracy. This is unfinished business which can be tackled by a devolved Home rule Parliament. It is critical to Scotland’s democratic and economic renewal and provides the means of redistributing not only wealth, but power.

A Scottish style “Marcora Law” giving workers and communities the chance to convert an enterprise to democratic ownership when it is put up for sale, facing a takeover bid, threatened with closure or asset stripping may require additional powers for the Parliament but could be implemented by a re-invigorated Co-operative Development Scotland.

Economic relations determine power relations. The defining feature of capitalism is that the basic means of production are privately not socially owned. Bestowing on the Scottish Parliament and local government powers of common ownership would represent an important challenge to this. Socialised ownership of the economy requires more of a cooperative and less of a command approach to economic policy. Vested interests will not readily cede power and there remains a compelling need for state intervention, but with the emphasis on state intervention to secure popular control rather than popular intervention to secure state control.

If we want to pursue the goal of a more equal, socially, economically and environmentally just Scotland, and realise the vision of the pioneers of the Labour Movement who believed that the salvation of the community lay in collective ownership of industrial capital and land and an end to monopoly and unaccountable corporate power, then it is not to nationalism or patriotism but to democratic socialism that we will find the alternatives and the solutions.