Scottish independence: how do other small economies fare?

Were Scotland to become independent, it would naturally be a smaller economy than as part of the UK. The successes of such economies are highly contingent on state and society’s ability to capitalise on the strengths and minimise the vulnerabilities of small population size.

Small states are at the centre of the Scottish independence debate. Proponents of independence routinely invoke the economic and political success of small European nations, especially Nordic ones, to justify the viability of an independent and prosperous Scottish state.

For example, below a picture of Reykjavik’s mountainous skyline, a recent op-ed in the pro-independence newspaper The National declares that ‘it is widely accepted that smaller nations are actually better at creating healthy political and economic systems’.

Unionists are more sceptical. They warn that low populations deprive smaller states’ governments of economies of scale. This makes public sector spending relatively more expensive in smaller states, requiring higher taxes.

Supporters of the Union also point to the experiences of small states like Iceland and Ireland in the wake of the global financial crisis of 2007-09 as a reminder of their vulnerability to fluctuations in the global economy (Harvey, 2017).

Research on small states in Europe and beyond can advance this debate. In this article, we review social science research on small states in domestic and international affairs. Most of this work defines size by population, and categorises small states as those with populations of fewer than 1.5 million residents.

By these measures, Scotland – with a population of close to 5.5 million – is not a small state. Nevertheless, size is relative. Small independent states are a useful lens through which to envision an independent Scotland.

We move beyond adjudicating whether smaller is better for political and economic development by highlighting the challenges and opportunities confronting small states. The prosperity of these states depends on their leaders’ ability to forge collaborative and cooperative relations in domestic and international politics.

Small states and local governance: pitfalls and potentials

Are smaller states better governed than larger ones? Evidence is mixed if ‘good governance’ is defined by the rule of law. Some find that small states, especially islands, are less corrupt than larger ones (Congdon Fors, 2014; Olsson and Hansson, 2011; Xin and Rudel, 2004).

Others argue the opposite: smaller states are more prone to clientelism and less professional bureaucracies (Corbett, 2015; Gerring and Veenendaal, 2020). Sceptics also warn that missing data on smaller states lead to a bias in analyses, showing that small states have better governance (Knack and Azfar, 2003).

This mixed evidence suggests that small size may have competing effects on good governance. On the one hand, smallness may strengthen public sector accountability because citizens can monitor bureaucrats’ behaviour more easily.

At the same time, smallness may blur the lines between state and society, abetting favouritism because ‘everybody knows everybody’ (Corbett, 2015). It is paramount for leaders of small states to capitalise on the accountability benefits of smaller polities while suppressing temptations for favouritism (Mungiu-Pippidi, 2015).

Evidence of smaller being better is also mixed if good governance is defined by bureaucratic capacity. There is a trade-off between size and administrative effectiveness (Jugl, 2019). Bureaucracies in smaller states do not benefit from economies of scale: they can be over-stretched and under-specialised.

Yet bureaucracies in smaller states do profit from easier communication and coordination among state institutions and the public. As a result, the evidence suggests that medium-sized countries can have the most effective bureaucracies, all else being equal, while very small and very large countries perform less well (Jugl, 2019).

Measured on a population basis, an independent Scotland with a population of close to 5.5 million would fall below this ‘golden mean’ of population size, which the study estimates at between 15 and 94 million (Jugl, 2019).

This suggests that, all else remaining equal, an independent Scotland would have to be mindful of administrative effectiveness and take action to avoid efficiency losses, which the evidence suggests have been a feature of some countries of a similar size.

Overcoming these losses would require stronger communication and coordination between agencies and departments, and a greater focus on common goals and ‘big picture’ questions. Some smaller European countries – such as Estonia, Iceland, Latvia and Luxembourg – have mastered this challenge (Sarapuu and Randma-Liiv, 2020; Jugl, 2020). With a committed leadership and civil service, Scotland could do so as well.

Figure 1: Countries according to their size and government effectiveness

Source: Jugl, 2022

Note: hover mouse over each point to see underlying country data

Clean and effective governance would be especially important for a newly independent Scotland because of its resource wealth. Petroleum and related products – but also increasingly renewable energy resources – are a staple of the Scottish economy, and the country’s primary export.

Whether in Scotland or New Caledonia, proponents of independence argue that their territory’s resource abundance can propel their newly independent state’s fledgling economy. But are smaller states better at managing resource wealth?

Scholars have long debated whether, when and under what conditions resource abundance is a blessing or a curse (Ross, 2015). Among smaller states, Norway, with a comparable population to Scotland, is a paragon of sound resource governance. The eponymous ‘Dutch disease’, on the other hand, suggests that smaller economies can be more susceptible to the economic consequences of resource abundance.

Economists blame the discovery of natural gas in the Netherlands for causing the Dutch currency to rise against other currencies. This exchange rate appreciation made imports cheaper and Dutch exports dearer, heightening the decline of Dutch manufacturing. Countries with larger domestic markets, which are less dependent on international trade, are more insulated from these resource-backed currency fluctuations.

The economic success of some resource-abundant small states (and the failures of others like Equatorial Guinea) highlights that natural resources can be a lever or impediment to growth. Checks and balances, clean and effective bureaucracies, savings mechanisms like sovereign wealth funds and partnerships with local and international monitoring groups, like the Extractive Industries Transparency Initiative (EITI), can help newly independent small states to manage their resource wealth effectively and equitably.

Moving beyond resource wealth, and contrary to claims in The National op-ed, researchers disagree whether smaller is better for economic development. Some find a positive relationship (Anckar, 2020) and others no relationship between small size and economic development (Easterly and Kraay, 2000; Gerring and Veenendaal, 2020).

Still others maintain that small size at independence, when economic and political arrangements are first forged, is a powerful predictor of long-term development (Bin Khalid et al, 2022).

A seminal work in this area – The Size of Nations – argues that trade with larger markets erases inherent economic disadvantages of smaller population size. This work on size and development recalls that economies do not exist in a vacuum; policy-makers and policies shape small states’ economic wellbeing (Alesina and Spolaore, 2003).

They need smart, flexible, collective and responsive policy-making, especially when economic integration exposes small states’ economies to the volatilities of globalisation (Baldacchino, 2020).

Another study of small European states examines the domestic politics buttressing small states’ integration into the global economy (Katzenstein, 1985). This analysis of seven small West European states with populations comparable to Scotland – Austria, Belgium, Denmark, the Netherlands, Norway, Sweden and Switzerland – reveals that close, continued cooperation between the state and heads of unions and business associations sustain small states’ economic integration.

This close cooperation engenders generous welfare programmes that compensate those disadvantaged by economic openness. It also breeds a social mindset that ‘all members of society are in the same small boat, that the waves are high, and that everyone must help pull the oars’. Social solidarity in norms and governance are vital for small states’ prosperity in world markets.

Building from this insight, more recent work explores how governments in small West European states, especially Denmark and Switzerland, navigated the global financial crisis of 2007-09 (Campbell and Hall, 2017). The authors introduce a ‘paradox of vulnerability’: it is precisely the repeated experience of economic volatility and shocks – but also other external challenges such as military (see below) or political threats – that force small states to develop resilient state structures.

These well-designed and robust structures, based on values like expertise, accountability and collaboration, help small states and their governments to deal with new crises and challenges like the global financial crisis.

Importantly, the authors use the cases of Greece and Ireland to demonstrate that resilient governance structures do not follow automatically from smallness but from exposure to external threats. Time is needed to build resilient structures and develop national solidarity.

Small states in the international arena: vulnerability and cooperation

Conventional international relations scholars argue that vulnerability anchors small states’ foreign policy. Fears of conquest and bullying by larger neighbours push smaller states into alliances with hegemons like China, Russia and the United States, or into absolute neutrality, as in the case of Switzerland (Archer and Nugent, 2002; Goh, 2007).

Others question smaller states’ inherent acquiescence. Both Iceland and Malta successfully confronted the UK in disputes on fishing rights and developmental assistance in the 1970s (Baldachinno, 2009). More recently, Lithuania’s decision to open a Taiwanese representative office and Baltic states’ military aid to Ukraine illustrate that small states can stand up to larger states.

International organisations can also help small states to solve their security challenges (Bailes and Thorhallson, 2013). They amplify small states’ influence by providing a venue to organise and lobby larger states collectively. For example, the Forum of Small States is an informal group of small state representatives that meets regularly to discuss small state concerns and share best practices.

But small states’ ability to leverage regional and international organisations to advance their interests depends on the quality of their diplomatic corps. Many small states lack the staff and expertise to participate effectively in these multinational forums (Corbett and Connell, 2015).

International organisations can also help small states to solve their economic challenges (Lake and O’Mahoney, 2004). Economic openness and trade dependency are defining features of small state economies (Rigobon and Rodrik, 2005; Alesina and Wacziarg, 1998).

This is because smaller economies lack a large domestic labour force to produce goods, and a large domestic market to consume goods. Imports make up a large share of consumed goods, while exports make up a large share of produced goods. This means that small economies are more dependent on world markets.

Because of their greater trade dependency, protectionist policies are particularly costly for consumers and producers in smaller economies. Therefore, leaders of smaller economies face strong domestic pressures to open domestic and foreign markets. Joining international organisations like the World Trade Organization (WTO) and the European Union (EU), which deepen trade integration, is a boon for small states’ economic development.

In the context of independence referendums, the main lesson from research on small states is for newly independent states to keep good relations with their neighbours. Secessionist states are likely to have deep economic ties with the state they left and neighbouring ones.

Returning to Scotland, four out of the country’s top five international export markets are in the EU. But 60% of Scottish exports go to England, Wales and Northern Ireland.

Because of smaller states’ higher trade dependency, maintaining trade flows with the UK and Europe would be existential for an independent Scotland’s economic wellbeing. This may require an independent Scotland’s admission into the EU, although whether EU member states would accept an independent Scotland into the union is open to debate.

Conclusion

This overview of evidence on the performance of small states should caution any knee-jerk optimism (or pessimism) about Scotland’s political and economic viability as a small independent state.

The blessings and afflictions of small population size are contingent on local and international politics. Reaping the benefits of small size in domestic affairs while mitigating the costs demands deep collaboration and solidarity between state and society.

Thriving in the international arena – one dominated by larger states – requires diplomatic tact and international cooperation. These demands are obtainable, but not inevitable.

Scotland’s success as a small independent state would depend less on its size than on its leaders’ ability to leverage the benefits and lessen the liabilities of small population size.