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The Politics of Scotland's Public Finances

Published: 26 October 2020

Taken from his chapter in The Oxford Handbook of Scottish Politics, David Heald, University of Glasgow, discusses the intergovernmental conflicts between the UK Government and devolved governments in the context of UK devolution finance. 

After more than 20 years of Scottish devolution, the political context has become complex and Scottish politics is now dominated by cleavages over independence and Brexit. These internal divisions run in parallel to intergovernmental conflicts between a centralising UK Government and more assertive devolved governments, accentuated by both post-2010 austerity and COVID-19.

The messy fiscal arrangements that characterise UK devolution finance are explicable in terms of context and legacy and attempts to reform the system without recognition of ‘why we are where we are’ will not succeed. These arrangements are partly inevitable consequences of Scotland being one component of a multi-level state, and partly the product of the unusual structure of the UK, with one big and three small nations.

Devolution arrived just before a period of strong UK public expenditure growth fuelled by concerns about the quality of public services, particularly in England. These increases automatically brought additional funding to Scotland via the Barnett formula. Greater transparency about fiscal arrangements has been slow, and devolution of taxes has added to funding complexity, leading to badly informed political and media debate.

Within the devolved constitutional setting, strategic choices about the public expenditure/GDP ratio will continue to be taken by the UK Government. The devolved governments have some capacity to soften the effects of austerity, but should taxation rise to significantly higher levels than in England, the claim that Scotland prefers higher public spending than England would be tested. Nordic-quality public services cannot be funded by US-level taxation.

If Scotland wishes to support a higher public expenditure/GDP ratio than is underpinned by UK public finances, then it would be possible to set rates and thresholds in order to achieve a more progressive Average Rate of Taxation schedule. The obvious obstacle is that politicians, media and international comparisons focus on income tax rates, neglecting the effects of the definition of income, of Personal Allowance and thresholds, and of social security taxes such as National Insurance Contributions.

Convincing arguments for tax devolution include seeking to make sub-national governments less heavily dependent on higher-tier governments and hence fiscally more responsible. Issues of relative power, as well as of principle, always lurk behind territorial fiscal politics.

Developments in Scottish Income Tax have been conditioned by several factors: the SNP Government’s dependence on the Scottish Green Party to pass its budget (the possibility of a second Independence Referendum alienating other Holyrood parties); the rushed deliberations of the Smith Commission; and the misplaced belief of the UK Conservative Party and Liberal Democrats in the redistributive value of higher Personal Allowances. Such increases in fact take a higher proportion of the Scottish population out of paying income tax, reduce the Scottish tax base more than the Rest of the UK tax base, and increase the indexed Block Grant Adjustment which automatically accompanies the transfer of tax capacity from the UK Government to the Scottish Government.

Making devolved tax policy is not easy. Since the 2014 Independence Referendum, Scotland has effectively sacrificed fiscal certainty, either for the notion that greater fiscal powers are always one more step on the journey to independence (the ‘Yes’ side) or the notion that they provide greater political legitimacy for devolution (the ‘No’ side). Scotland has mismanaged local government taxation just like England. The arrangements for council tax are just one example of this, for the distortions have now become so great as to make reform more difficult than it would have been at the time of the 2006 Burt Committee, when Barnett funding was plentiful but political courage was lacking.

There are similar risks of mismanagement of devolved income tax, which reinforce the point that there are always difficult trade-offs. Moreover, a new source of fiscal risk comes from demand-led devolved social security benefits (even when ‘generosity’ is similar to that elsewhere in the UK).

In addition, revenues from Non-Domestic Rates are threatened by rapid economic change, such as the growth of online retailing and the much-delayed Air Departure Tax which was always intended to be a source of revenue loss. There are more encouraging signs in relation to the design of the devolved Land and Buildings Transaction Tax.

Without the uncertainties of Brexit and the massive hit from the COVID-19 pandemic, the Scottish and UK Governments would currently be preparing for negotiations about the refinement of the Fiscal Framework, including the calculation methodology for Block Grant Adjustments and the controversial issue of devolved borrowing powers. How Scotland fares fiscally now depends crucially on the performance of Scottish tax revenues relative to those in the Rest of the UK.

Relationships between the two Governments are fractured, not least as a result of the Internal Market Bill which will give the UK Government powers to spend in Scotland on devolved functions, rather than route additional funding through the Barnett formula into the block grant.

The issue is usually not that UK Governments are trying to frustrate devolution, but that the implications of UK policy on devolution are neither understood nor cared about in Westminster. The destabilizing potential is dangerous, especially in the absence of a settled constitutional position for Scotland.

David Heald is a Professor of Public Sector Accounting at the Adam Smith Business School at the University of Glasgow. 

'The Politics of Scotland's Public Finances' was published in The Oxford Handbook of Scottish Politics in August 2020 in the UK and Europe by the Oxford University Press. 

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