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Scotland’s future: what insights does a political economy perspective add?

The economic aspects of Scottish independence are of great importance, but only when viewed as part of a process that will change institutions, governance, power relations and behaviour – and where economic concerns stand alongside concerns with social and moral priorities.

The economic arguments leading up to the 2014 referendum on Scottish independence generated considerable heat and some light on the central question of whether Scotland could prosper on assuming the powers associated with political independence. Both sides of the debate emphasised the importance of economic issues in their arguments.

The ‘Yes’ campaign argued that the Scottish economy was strong enough to support a sound fiscal position under independence, with monetary stability emphasised through the continuation of a currency union with rest of the UK.

‘Better Together’, which supported Scotland remaining part of the UK, argued that uncertainty caused by independence would be economically and fiscally damaging (removing the fiscal risk-pooling of the Union), while anything other than a currency union (which the then UK government had ruled out) would be economically damaging.

For Better Together, independence was a risky and insecure option compared with the perceived stability of the status quo. Their view was that it would produce a negative ‘shock’ to the economy and the uncertainty associated with independence would, almost by definition, be damaging.

In contrast, pro-independence supporters evoked the positive benefits of autonomy for Scotland. They argued that dynamic effects over the longer term would provide the capacity to promote economic growth and social goals through different priorities for taxation and spending.

These arguments on both sides were expressed primarily in terms of a particular approach to economics that does not take account of the institutional changes that are always at the centre of constitutional change.

Indeed, in our view, the referendums on Scottish independence in 2014 and on the UK leaving the European Union (EU) in 2016 presented problems for the relevance of mainstream economics, which centres its perspective on an equilibrium generated by market forces rather than the dynamism and evolution that characterise economic processes.

This focus means that uncertainty is only associated with disturbance from equilibrium rather than being an ingrained feature of economic life. Further, their models – the theoretical constructs used to understand economic behaviour – tacitly assume the continuation of a particular institutional arrangement. They typically assume that equations reflect previous relationships between variables, which are replicated over time (Gudgin et al, 2018). In effect, they assume that institutional relationships are fixed. Of course, the whole point of any possible constitutional change is that institutional relationships also change.

Further, the mainstream focus on formal models is such that the results are deemed to be acceptable as a complete argument. They can be useful for guiding thought about economic issues when combined with other forms of argument. But formal models inevitably brush aside many important issues that cannot be expressed formally or fully quantified. This applies particularly to discussions of institutional change and evolving power relations. Institutional changes affect the balance of power, and thus economic outcomes, in multiple spheres where mainstream models preserve the status quo.

This applies to internal and external relationships. Internal here includes, for example, relations between large and small businesses, financial and non-financial interests, employers and employees, and Scottish households and organisations. External relations include those between the Scottish government and the rest of the UK and the European Union (EU), as well as Scottish-based businesses and their organisational and trading relations with foreign firms and markets.

Thus, many of the standard economic frameworks used narrow the scope of debate. In the 2014 referendum, economic arguments typically centred on the fiscal position of an independent Scotland, transfers between the rest of the UK and Scotland, and possible changes in currency arrangements. This, in our view, neglected the effect of independence on important factors, such as power relations and the structure of the economy.

Our premise here is that these arguments – on both sides – were informed by an exclusive fixation on economic modelling and the insistence on precise quantification of the costs and benefits of constitutional change, devoid of placing change itself in a broader political context. (For more discussion of these issues, see Dow et al, 2018.)

The pivotal debate on the question of currency is illustrative of these limitations. For the leadership of both sides – noting that there were dissenters in the independence camp who backed the idea of creating a new currency – the continuation of a sterling currency union was predicated on the assumption that sterling fulfilled the ‘optimal currency area’ criteria of economic theory.

Evidence suggests otherwise. An ‘optimal currency’ requires regional balance throughout an economy, or fiscal transfers that ensure balance. Yet the UK has one of the most regionally unbalanced economies in Europe (Cumbers, 2013; Martin et al, 2016; Christophers, 2020). This is manifested in the century-long problem of the ‘North-South’ divide and the more recent and growing inequalities in wealth between ‘London and the rest’.

In particular, the UK may be subject to a ‘finance curse’, given the relative size of the sector in relation to the economy as a whole (Christensen et al, 2016; Christophers, 2020). This phenomenon distorts activity in other areas of the economy by raising exchange rates, for example, which may discourage manufacturing and other exports. It also partly contributes to a polarised labour market, typified by relatively low productivity growth in peripheral regions. Yet the serious problems of the structure of the UK economy barely featured in the independence debate in 2014.

How has Brexit changed the debate on Scottish independence?

Events since the 2014 referendum have demonstrated the limits of readings focused exclusively on economic arguments.

The 2016 EU referendum, for example, not only resulted in major constitutional changes to the UK’s relationship with the EU but also to some seismic changes in its geo-economic relations with the rest of the world.

As with the referendum on Scottish independence, the economic arguments were once again largely predicated on mainstream economic modelling exercises of either the positive or negative effects expected. Again, these failed to take account of what we would term the broader political economy of Brexit – the political, social, cultural and institutional dynamics surrounding the UK’s departure from the EU, and its subsequent relations both internally and with the rest of the world.

Internally, as we have noted, the UK’s economic geography was hugely unequal prior to both the 2014 referendum and Brexit. The wealth gap between the UK’s richer and poorer economic regions has widened since the 2016 referendum (Fetzer and Wang, 2020). This has been compounded by the failures of the UK government thus far to replace decades of EU support for agricultural areas and ‘left behind’ places.

This suggests, at best, that arguments for leaving the EU that were based on a minimalist state model in a deregulated ‘global Britain’ underestimated the importance of policy institutions and infrastructures to achieving balanced economic development and the promised ‘levelling-up’ agenda.

Meanwhile, the shock associated with exiting the EU’s single market, and its implications for supply shortages and diminishing trade, seem to have been underappreciated by the Leave campaign. That said, while advocates of Leave underestimated a range of issues, the Remain campaign exaggerated the immediate impact of Brexit (though not necessarily the long-term impact). Their apocalyptic premonitions largely failed to materialise, demonstrating the importance of paying attention to the timeframe for transitional arrangements in economic change.

It has been the institutional and regulatory changes that have most inhibited the UK’s economy post-Brexit, but in a more fragmented, uneven and non-linear fashion than mainstream modelling exercises foresaw.

What can a political economy understanding of constitutional change add?

In the two referendums, both sides presented their arguments as though the models they used were reliable and capable of yielding precise quantitative predictions that would be definitive. This is the style of argument of the independent and objective scientific expert providing input to political debate. But if, in fact, the models have serious limitations – not least in incorporating questions of institutional design, social values, uncertainty and the continuing and iterative dynamics of economic life – as opposed to a rather static sense of the status quo, then other types of argumentation are required.

Clearly the political and institutional landscape has changed dramatically since 2014. One inescapable fact about any future debate on the economic case for Scottish independence is that the terrain – by which we mean the political, economic, social and cultural context – has shifted significantly.

Brexit is one major element of this, but so too are the effects of another half decade of UK government austerity policies designed to reduce the size of government and cut welfare spending. More recently, the implications of the pandemic have played a role, as have developments in the oil and gas sector.

Those for and against independence will need to fashion new arguments that take account of these changing circumstances in ways that reflect the grounded realities of political and institutional life. In particular, they will need to consider how these have empowered or disempowered different social groups, businesses, organisations, households, communities and geographical regions. Any modelling input needs to be designed in such a way as to be compatible with other arguments within this broader framing.

So far, the grounds for optimism here are slight. Those arguing against independence once again seem to be rehashing older arguments about stability and the benefits of ‘pooling’ resources in a larger union, now extended to include dealing with a public health crisis. Reference continues to be made to the benefits of staying within the UK’s so-called ‘single market’ and the negative trade effects for Scotland of leaving a union with its largest partner.

But free UK access to the EU’s single market has already been lost and inequalities within the UK have widened due to austerity policies and the effects of the pandemic (Scottish Government, 2021). Further, there is confusion and a great many unresolved issues regarding the UK’s future political and economic relationship with the EU. Arguments for the Union based on stability and pooling of resources look somewhat threadbare at present.

Similarly, arguments by some in the pro-independence campaign – notably the recent Growth Commission Report – that place a high priority on monetary stability and fiscal caution, not least in maintaining the presumption of ‘sterlingisation’ as desirable ‘for a possibly extended transition period’ (emphasis added), seem to resonate with a more mainstream framing.

A broader political economy perspective would arguably place greater emphasis on different trajectories to be pursued that would involve alternative policy choices to the status quo. The economic prospectus for Scottish independence is ultimately one of transition from one set of constitutional arrangements to another with the consequent implications for changing governance relations, institutions and practices.

There are very different pathways that can be taken by sovereign governments. The policy mechanisms and institutional arrangements open to them can have decidedly different effects (see, for example, John Kay’s remarks on a Jersey-type arrangement). This is evident, for example, from a compelling new monograph comparing Chinese gradualism with Russia’s shock therapy treatment in the transition from fully planned to market economies (Weber, 2021).

In this regard, a new Scottish currency, central bank and full autonomy over monetary and fiscal policies would enable new choices compared with a UK government increasingly in hock to financial interests. Inevitably there would be risks and uncertainties, not least in the relations between a newly independent Scottish economy and the rest of the UK, including:

  • What would the trading relations be?
  • How would financial assets, particularly pensions, be treated?
  • How easy would it be for Scotland to rejoin the EU, and on what terms?

Politically, it seems that there is considerable support for an independent Scotland rejoining the EU. But inevitably there would be costs involved in processes of transition, as well as benefits. The likely effects of uncertainty on the transitional path would need to be taken into account when designing the institutional arrangements for transition.

What Brexit has demonstrated above all is the importance of uncertainty and risk in economic and political life as integral features rather than something external to steady state assumptions around equilibrium-based models in mainstream economic theorising.

The economic aspects of independence are indeed of great importance, but only when viewed as part of a process that will change institutions, governance, power relations and behaviour (with economic consequences). These economic concerns should be considered alongside concerns with social and moral priorities. Most economists did the 2014 debate a disservice to the extent that their approach distracted attention from these other aspects of independence.

The economy matters, but so does the way it is understood and analysed. For us, a political economy approach that frames economic considerations within critical constitutional and institutional issues and is alert to the dynamic alternative trajectories is a more preferable terrain for a renewed independence debate.

Where can I find out more?

Who are experts on this question?

  • Alexander Dow
  • Geoff Hodgson
  • Michael Keating
  • Jože Mencinger
  • Robbie Mochrie
Authors: Andrew Cumbers, Sheila Dow and Robert McMaster
Editors' note: This article is part of our series on Scottish independence - read more about the economic issues and the aims of this series here.
Image credit: jax10289 on iStock
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