Debt Guarantee corners SNP

ASThe placement of the story on Scotland’s debt in the Financial Times (you may need to register to view the piece) was carried out for political reasons to raise the debate about Scotland’s share of the debt and the currency and how the SNP would react. A story that appears on the front page of the Financial Times on a Monday with a whole page inside of comments and analysis from various sources was clearly pre-planned writes Ralph Blake.

It was designed to show how reliable a borrower Scotland would be and also highlight the credit risks that an independent Scotland would have.

A response of not taking full liability for Scotland’s share of the debt was seen by the markets and lenders as tantamount to a default. If you can default in the disengagement with the UK then you can default in the future. This will only add to the yield investors’ demand from future issuance of Scottish debt.

It also helped focus financial markets on Scotland’s likely economic situation after SNP independence. They essentially see a large variable deficit that is heavily determined by volatile oil revenues. An economy heavily dependent on oil and the financial sector which are both exposed to the ups and downs of the world economy and a large public sector that needs financed by debt.  A deficit that is running at 10% of GDP and debt to GDP ratio of 75% (if Scotland takes its population share of the total UK debt) would see an unsustainable debt burden in only a matter of years after independence. The markets see there is observable plan to reduce spending or boost the economy so tax revenues increase. These factors would add more percentage points to Scotland’s borrowing rate.

The markets look at the fact that Scotland now contributes to the UK 7.5% of income tax revenues while taking about 9.5% to total public expenditure with the geographical oil revenues only in some years making up the difference because of their volatility (in in three out of the last seven years Scotland’s deficit has been large then UK as a whole. For these reasons they see that Scotland should take a population share of the total debt (currently about £111.7 billion) as only fair.

They expect that Scotland would pay the interest on their population based proportion of the debt to the Treasury and when debt matures they pay their proportion of the principal to the borrower. About two thirds of the UK debt matures in the next nine years with the remaining chunk maturing after 2037. The Treasury may want to transfer (“novate” in the jargon) Scotland’s post 2037 share to Scotland

At the same time Scotland must issue £12 billion of debt a year. If they do not accept the payment scheme I have set out above we would have to issue debt at considerably higher interest rates to where the UK issues its debt. This will be a default premium. The Treasury may offer to issue Scotland’s new debt if it agrees to the payment terms. This will likely be their bargaining chip. Otherwise you are on your own and pay a lot more for the reasons I have argued above.

The question of assets and the pound I think is a spurious one. The only realisable assets are those of the Bank of England. Scotland would only get them (and the liabilities) if they had their own currency. The other assets cannot be turned in to cash easily. The UK will simply say have them on your balance sheet as share and not give us the cash for what we think they are worth.

What is Scotland’s share of the UK national debt?

Some including the SNP argue that Scotland’s share of the debt should be lower than its population share. They make two arguments. The first is that Britain national assets are largely held by the UK and that Scotland does not have access to them and must be compensated in any division of assets and liabilities. The second is that the North Oil Boom primarily benefited the Southeast of England during the Thatcher years and there should be compensation for that as well. We will address both these arguments here.

According to the national asset register of 2007[ii] Scotland owns 6.8% of the nation’s £337 billion of assets. Just below the 8.4% they would own by their percentage of the population. But in the remainder of the total are included defence and transport assets that are located in Scotland that are not counted as part of the Scottish total. Scotland easily owns at least its population share of the national assets. But the main point is these are assets are not held against our national debt as security for our loans or indeed very few of the assets value can be readily realised. The nationalist argument will be in the event of Scotland gaining independence be easily dismissed by the Treasury in any negotiations.

The second argument confuses the benefit to the South East of England with the benefit to middle and upper classes from the boom in North Sea Oil tax revenues. It allowed the Thatcher government to cut the top rate of tax while keeping public spending unchanged. It was not just Scotland that lost out but the working class of the whole of Britain. The boom itself was driven by credit expansion and deregulation of the financial markets. This benefitted parts of Scotland too with a rapid increase in the financial sector there particularly in Edinburgh. Nationalists confuse the root cause of Scotland’s ills with England rather than with capitalism. Independence is attractive not because it gives Scotland a chance to break with England but because it gives Scotland a chance to break with capitalism which we hope inspires England to do likewise.

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