Quora Question: Was Brexit a success or a failure?

Former European Emperor

I find it remarkable that so many consequences are already attributed to something that has not yet occurred. Let’s be clear. Effects follow causes, not vice versa. None of the current alleged consequences of Brexit are actually consequences of Brexit.

The debate, the vote, the negotiating process and all the attendant hullabaloo have their own consequences of course, but these are primarily down to political dogma and to good and bad expectations which remain to be tested by experience of reality. Even the post-vote depreciation of sterling was natural, given the hysterical forecasts of catastrophe should the result be ‘Leave’. Positive influences, such as trade agreements with third countries, are not yet allowed, so negative expectations at present have the field largely to themselves.

Even after the formal exit in 2019 and the transition period, it will be years before an impartial assessment can be made. Partisan assessments will of course be made much sooner. Indeed, as is only to be expected, Remainers anxious to be proved right are already seizing upon every bump in the road as evidence.

Sadly they themselves are creating bumps which might not otherwise have occurred. They encourage the EU to believe the UK may yet change course. Accordingly Brussels glibly offers a return to the fold whilst deliberately making exit as difficult as possible. Brussels has already undermined the EU nationals section of last month’s preliminary agreement.

Naturally Brussels wants us to stay. We are a major contributor and the Commission is resisting the budget cuts that ought to flow from reduced membership. The other members’ hearts are open but their wallets aren’t.

The EU Referendum and Scotland

I am disturbed by the glibness of the prevailing assumption that if Scotland votes to remain in the European Union and the rest of the UK votes to leave, it will be appropriate to hold a second independence referendum.

Some time ago I pointed to the damage inflicted upon inward investment to Quebec by the determination of defeated separatists to hold a referendum re-run. Political instability deters investment no matter how often the SNP claims otherwise. Since the European polls are evenly balanced and the Scottish polls not much clearer, we now have the worst of all possible worlds.

The fallacy of the assumption that Scottish enthusiasm for the EU will lead to the break-up of the UK lies in the conflation of these two questions. Just because a voter favours remaining in the EU it does not follow that he or she would vote for independence rather than see that wish thwarted.

So far as I am aware, no-one is being asked at the moment whether they would prefer to be in the EU or the UK. Even that would be a fraudulent question, since Scotland is not a current EU member and would not be accepted as such even if the UK withdrew. A breakaway Scotland would still be a new applicant for EU membership, as was repeatedly explained during the independence referendum.

Therefore the actual question should be: Would you like to leave the UK and take a chance that our subsequent application to join the EU would not be vetoed by Spain and other member states anxious to avoid giving encouragement to restless ethnic minorities?

Does it make any sense at all to erect a border against our largest export market, the UK, in order to retain free trade with much smaller markets in the EU?

Is it remotely credible that the UK would leave the EU in a bid to cut immigration and then allow freedom of travel across the border with an EU Scotland?

Bearing in mind the chaos of the currency question during the independence referendum, does anyone seriously believe the UK would exit the EU and allow Scotland to take sterling straight back in?

EU rules require new members to join the Eurozone. How many people really want to join a system that has strangled economic growth, plunged its poorer members into impossible debt and obliged its richer members to bail them out?

Simply to state these issues is to show the foolishness of the assumption noted in my first paragraph. I do worry however that Europhiles will harp upon this refrain until more and more people in Scotland assume that it must be true.

Full Fiscal Autonomy?

During the Scottish Referendum campaign, the question of a sterling currency union was controversial. There were claims that the pound was as much Scottish as English, which were true but which cunningly sidestepped the fact that the pound is not English either. It is the currency of The United Kingdom.

In previous posts on this blog I have discussed the difficulties that are bound to beset two economies of disparate size and structure that attempt to share a common currency. I concluded that the Chancellor was right to rule out a currency union between the UK and an independent Scotland.

Current discussion about Full Fiscal Autonomy for Scotland has so far failed to recognise the same currency problem dressed up in different words. What will happen when a single UK monetary policy is undermined by a fiscally autonomous Scotland adopting a borrow-and-spend stance whilst UK policy is still following a strategy of deficit reduction?

The answer is to be seen in the continuing Eurozone crisis. Under the monetary aegis of Germany, Greece, with Full Fiscal Autonomy because nobody respected the European Stability and Growth Pact, borrowed excessively because borrowing was far too cheap relative to the performance of the Greek economy.

In consequence for Greece the financial crisis of 2008 speedily became a debt crisis. This week's efforts are but the latest attempt by the Eurozone leaders to kick the can down the road one more time, still without addressing the fundamental absurdity of linking Germany and Greece within the straitjacket of a common currency.

It should not have escaped anyone's attention that the Greeks blame the Germans for not lending them more, whilst the Germans are tired of what they see as Greek profligacy. Is it really very difficult to look a little way into the future and see insults being traded between the Scottish and UK governments in remarkably similar circumstances?

The oil revenues that were to be the foundation of Scottish solvency now look like pie in the sky and no-one has much idea how to plug the huge pending revenue shortfall. Vague appeals to the extra revenue that economic growth might yield in the longer term, even if they turn out to be more than just wishful thinking, cannot hide the fact that in the short term Scotland must either tax or borrow heavily, or more likely both.

Full Fiscal Autonomy is incompatible with a common currency. Before our half-baked, less than half thought-through devolution process goes anywhere near it we need a clear, written federal settlement and firm fiscal constraints upon the budgets of all UK member states.

Sum You Lose

The recent electoral success of the SNP throws the spotlight back on the question of Scottish independence. It seems few people remember that the economic forecasts of the nationalists were discredited within months of last year's referendum. Perhaps therefore a summary of the crucial points might be appropriate.

In December 2013 The SNP published Scotland's Future, a document long on words and short on numbers. Yet amongst the numbers it did contain, one received surprisingly little attention. It was projected that in the first year of independence the Scottish fiscal deficit would be £4.4 billion, or approximately £1,000 for every adult member of the population.

Remember that figure, it is important. At a time when people were blithely talking about being one of the richest countries in the world, creating a more caring society and setting up an oil fund for the benefit of future generations, the numbers actually showed that Scotland was already living beyond its means and proposed to go even further into debt.

In order to arrive at this deficit figure, they made assumptions about likely sources of government revenue. Large receipts were expected from taxes on Scotland's oil and finance industries, which together form a disproportionately large component of our national income. Assumptions were also made that Scotland would continue to use the pound sterling as its currency and that Scotland would run a Balance of Payments surplus. All four of these assumptions were flawed.

Official statistics were pessimistic about future oil prices, given the threatened slowdown of the Chinese economy and the rapidly expanding supply of cheap shale gas from the USA. Alleging deliberate manipulation of the figures to disparage the potential riches of an independent Scotland, the nationalists substituted their own oil price estimate (of over $110 per barrel). In fact the official statistics turned out to have been over-optimistic. In 2015 oil prices are in the range $50 to $60, around half the nationalist projection. So far from supporting an independent Scotland, the oil industry was soon in need of UK government help.

The UK Chancellor of the Exchequer challenged the assumption that Scotland would continue to use the pound sterling. He expressed himself poorly. What he meant to rule out was a currency union by which the rest of the UK would continue to underwrite Scottish finances. Fresh from the 2008 banking crisis in which UK taxpayers had been required to find £46 billion to bail out Royal Bank of Scotland, that was hardly surprising.

His lack of clarity was misrepresented as a threat. "No-one can stop us using the pound," Alex Salmond declared. This was of course true. Surprisingly he did not go on to explain that no-one could stop us using the dollar or the yen or the Zambian Kwacha either.

An independent country may use any foreign currency it likes, provided it can get hold of enough by means of a trade surplus. Panama, for example, uses the US dollar. All that you have to do is give up any desire to control your own monetary policy. If Scotland were to use the pound without a currency union it would have no choice but to accept UK monetary policy as its own.

It also means the Scottish government could only run a fiscal deficit to the extent that it could cover the revenue shortfall with reserves of sterling.

An odd sort of independence, you might think, that resulted in less economic powers than Scotland already has?

When the currency problem became clear, the large Scottish financial institutions announced plans to move their services to UK customers south of the border. This was not simply a brass plate technicality to comply with EU regulations as nationalists claimed.

Banking profits derive from the difference between the interest rates at which banks can borrow and those at which they can lend. Essentially a bank's lending operations create new money and most of the money supply in a modern economy consists of bank deposits, not cash. In order to perform these money-creating operations, banks must be within the jurisdiction of, and accept regulation by, the central bank responsible for that currency. A bank attempting to create new foreign currency would be acting illegally; it can only operate in a foreign currency to the extent that it possesses reserves of that currency.

The net result of this alleged technicality would therefore be twofold.

      1. Scotland's financial institutions would be responsible to the Bank of England and pay their taxes to the UK Treasury.

      2. Without financial exports it is unlikely that Scotland could run a Balance of Payments surplus. This would eliminate the Scottish government's ability to acquire reserves of sterling and thereby to run a fiscal deficit.

Now please remember the important figure that I quoted at the beginning of this article. By the SNP's own projections, the fiscal deficit in the first year of independence was to be £4.4 billion.

This was before accounting for the fall in the oil price and the loss of the financial services industry. It was before losing control of monetary and overall fiscal powers as a result of sterling becoming a foreign currency. This £4.4 billion deficit was actually a serious underestimate, perhaps not within several orders of magnitude of the reality.

Not only would a future Scottish government be unable to afford the promised fairer society, it would have to borrow improbable sums just to keep public spending at present levels.

Why improbable? Because in order to borrow you must first establish that you are creditworthy. Why might the international financial community suspect that Scotland was not creditworthy? Because the SNP threatened that if they did not get their own way on the currency they would walk away from responsibility for Scotland's share of the UK National Debt.

Let us leave aside whether one could throw over this debt without sacrificing Scotland's claim to a share of the national assets and infrastructure which that debt has financed, much of which is not located in Scotland and nearly all of which would need to be replaced by an independent country starting from scratch.

Let us also leave aside the fact that a country involved in a major financial dispute with an existing EU member would struggle to find an easy path to re-joining the EU.

Just consider this single point. What international lenders would offer reasonably priced funds to a new government whose first independent monetary act had been to deny any responsibility for debts accumulated jointly under the previous political union?

I am an economist. But of course I am also human. I might be wrong. To persuade me that I am, would enthusiasts for independence please not shout at me. Just show me your numbers.

And before you do, please check that they add up.

Scottish Referendum:Currency Plan B (for Broke?)

This is the text of my letter,  published in The Falkirk Herald last Thursday:

"It's Scotland's pound and we're keeping it," they say. We are still being treated like children who do not understand economics.

The pound is the currency of the union. It is not Scotland's pound, nor is it England's, Wales' or Northern Ireland's pound. Scotland proposes leaving the union. You cannot divorce and expect to retain the joint account. When you're single again you must establish your own account and pay your own way.

It's no good repeatedly telling your ex-partners that it's somehow in their interest to continue underwriting your debts; after the 2008 crisis they won't believe you.

If Scotland used the pound unilaterally we would have to accumulate pounds by trade, since our government could not create for itself an increased supply of a foreign currency. Failure to generate a trade surplus would thus preclude the blithely promised fairer society. You might want it, but you can't have it if you can't pay for it.

Without a central bank, borrowing would become more expensive, especially if the Scottish government followed through on its reckless threat to throw over responsibility for its share of the UK National Debt. Remember a Scottish Chancellor under a Scottish Prime Minister recently increased that debt to rescue The Royal Bank of Scotland. No-one lends cheaply to those perceived as defaulters.

Loss of financial sector jobs could easily run into tens of thousands, reducing tax revenues, increasing the Scottish government's need to borrow and raising interest rates still further.

Using sterling without agreement has costs. It's not just a matter of thumbing our noses at the rest of the UK and saying we'll do as we like.

Read My Lips ...

I vaguely remember learning about the South Sea Bubble of the 18th century. Apparently back then there was such enthusiasm for floating new joint stock companies that people would even buy shares in 'a company to do something, nobody to know what.'

We are far less gullible today. I mean, no-one would vote for 'a country to have a currency, nobody to know what,' or 'a country to be in the EU, nobody to know how,' would they?

In the news this week:

• The Yes campaign's response to the refusal by all three UK parties and the UK Treasury to contemplate a currency union with Scotland is not to devise an alternative currency scheme. Instead they claim that nobody except the Yes campaign can do sums properly.

• They also point out that we may be dragged out of the European Union against our will by the 2017 in/out referendum. Safer to vote for independence and be sure, eh?

Since you couldn't make it up, it's just as well we don't have to.

Less Heat, More Light, Please.

Since last Thursday the currency issues in the independence debate have been, perhaps deliberately, obscured by emotional language. As I've said, we really do need to distinguish between a formal currency union and the informal use of the UK pound by an independent Scotland.

A currency union's price is financial interdependence because each member state may create new money. In the Eurozone we see a practical example. The short version of the lesson is: when some members overspend, those which do not overspend have no effective choice but to bail out their partners or risk the collapse of the whole system. 

The Eurozone is now being compelled by economics to pursue exactly the sort of political integration that is the opposite of the objectives of the 'Yes' campaign. 

The failure of the UK to agree a currency union with Scotland would not lead to exchange costs for UK businesses. Such costs would in fact result from a Scottish decision to adopt a currency other than sterling, as I discussed on 13 February.

Informal use of the UK pound by Scotland would be unlikely to lead to much greater financial flexibility however, since we could only obtain more money supply by means of a balance of payments surplus / net inward investment.

Quoting my article of 7 November 2013, "My judgement would be that a Scottish currency is the least of the evils, but that it requires preparation to start yesterday and much statesmanship from Scottish ministers."

Why no Plan B?

Let me try again to clarify matters affecting the currency of an independent Scotland. Two issues are still being confused: on the one hand the right of Scotland to continue to use the pound and on the other the continuation of the present currency union.

The Eurozone is an example of a currency union of separate states. All of the partners have the right to create new money; this means that none of them is financially independent and a financial crisis in Greece inevitably drags in the Germans who have no crisis of their own.

UK ministers and opposition have indicated that they find the prospect of a similar currency union arrangement with an independent Scotland unattractive because it would mean the UK losing financial independence just as Germany has.  The Scottish Government reply seems to be, 'They can't stop us using sterling.' This is true, but it does not mean that we can force the UK to accept a currency union.

An independent country may use any currency it likes, including a foreign currency, subject only to its ability to get hold of enough of that currency to meet its needs. For example Ecuador uses the US dollar. The US could not prevent this, even if it wished to do so.

The point being confused in the independence debate is that a country in Ecuador’s position cannot create US dollars. Were it to attempt to do so, the US would simply decline to recognise them as legal tender. This means that Ecuador's only monetary policy option is the monetary policy of the US, which takes no account of Ecuador when setting it. For the same reason Ecuador must operate under tight fiscal discipline.

If an independent Scotland wants to use the UK pound then we cannot be prevented from doing so, but in the absence of a currency union with the UK we could not create UK pounds since we should no longer be part of the UK. We should be in a similar position to Ecuador, with no monetary and little fiscal autonomy.

We could of course create Scottish pounds, but we could not force either the UK or the international exchanges to accept these at parity with the UK pound. The most likely outcome would be the circulation of both currencies inside Scotland, though it might be some time before the Scottish pound was enthusiastically accepted externally.

The more things change ...

I hope that amongst those whose enthusiasm for Scottish independence has more than a passing resemblance to support for a football team, some will take time to consider the issues before they vote.  I won't be holding my breath.

Those who make out a reasoned case are capable of entering into reasoned argument.  Those who behave like football fans are not.  I speak as a football fan.  There is no one who will ever convince me of the superior merit of an alternative team to my own.  I was born to support my team and it never occurs to me to waver. Whether we are bottom of the league and regularly thrashed or masters of all we survey, we are who we are.  That's why I refer to my team as 'we' and, as everyone knows, 'we' are permanently in opposition to 'them'.

I can afford to be so illogical because, fortunately, my livelihood is not at stake in matters of football. In matters of politics mixed with economics the issues are, hard though it may be to accept this, more weighty.

These are some of the issues that I wish to see resolved:

1) It is claimed that Scotland needs independence in order to lay hold of the important levers by which our economy is to be directed.  It is simultaneously claimed that we shall immediately hand back all of the monetary levers and a large proportion of the fiscal levers to The Bank of England and the rest of the UK. The Governor of the Bank of England seems to have confirmed this. Question: remind me again what is the point?

2) It is claimed that a currency union is in the interests of the rest of the UK because of the way it will simplify trade. Problem: it also makes the RUK responsible for the debts of the Scottish government, banks and public institutions and gives the Scottish government a say in UK monetary and fiscal policy.  There are quite good reasons for their refusing to accept this. Please explain to me why they will do it.

3) It is claimed that we shall automatically continue as members of the European Union, despite the claims to the contrary of, amongst others, the President of the European Commission and the government of Spain.  Bad news; this has to be unanimously agreed by EU members and the Spanish have a vote.

4) It is claimed that we could be added to the existing membership of the EU without having to accept the rules normally applied to new members, such as signing up to the Euro and the Schengen free travel area and that for some reason we would be entitled to a share of the UK's current budget rebate. Problem: in return for all their concessions, we are giving the other members what, exactly?

5) It is claimed that we shall continue to enjoy a common travel area with the rest of the UK, whilst adopting a radically different immigration policy from them.  Question: exactly how do we stop them setting up border checkpoints to enforce their immigration policy?  How much would consequent delays cost us?

6) It is claimed that we shall be able to go on financing our universities by charging fees to students from the RUK, despite the fact that EU law forbids discrimination against other member states.  Right.  So we think that they will let us get away with charging the English provided we don't charge the Bulgarians?  Seriously?

That's to be going on with.  When I hear the answers to these I'll start on the rest of the questions.

Scotland and The National Debt

Alex Salmond has once again (19 November) threatened that non-compliance by the rest of the UK with his demands to 'share' sterling and The Bank of England after Scottish independence could lead to Scotland refusing to accept its share of the UK national debt. I realise that this is campaign rhetoric. It is nevertheless misguided.

The markets are listening.  They want to know what to do if they have to deal with an independent Scotland in the future.  The more likely a ‘Yes’ vote becomes the more they will trawl through the backlog of such remarks for guidance on future Scottish financial policies.  They will not like what they find.

Let us be clear. There are three important reasons why this demand is misguided.

1. Firstly, sterling is not an asset it is a national currency.  A currency is a claim on goods and services within an economy; it is not itself a good or a service. I have already explained in an earlier article the problems that are likely to face an independent Scotland that seeks to share a currency with its much larger neighbour.
2. Secondly, The Bank of England is the official banker to the UK government and an instrument of UK monetary policy.   Although its terms of reference are laid down by UK law, its independence from direct UK government control has been guaranteed since 1997.   Scotland is seeking to leave the UK. SNP ministers claim to want control of the economic levers for themselves. In what way would this purpose be served by 'sharing' an institution that does not take orders from government?
3. Thirdly, and most importantly, governments must never suggest defaulting on debt.  They must not imply it, or hint at it, or say anything that may be misinterpreted as an implication or a hint.  Everything that a First Minister or Finance Minister says is market sensitive.

The reason is that governments always need to borrow money.  Even governments running a surplus on the budget need to borrow money, because, just like you and me, the timing of their income does not coincide with the timing of their payments.  People who lend money to governments are sensitive to anything that makes them the tiniest bit afraid they might not get it back.  Every such unguarded remark could add half a per cent or so the Scottish Government's borrowing costs after independence.

We may end up with a Scottish currency whether we like it or not, for reasons outlined in my earlier article.  In any case, foreigners will have to hold Scottish paper with confidence.  The more suggestions there are that Scottish ministers don’t understand the markets and are careless or glib with financial pronouncements, the more reluctant foreigners will be to hold Scottish currency or bonds.  Scottish interest rates will have to rise to compensate for this perceived increase of risk.  In consequence, Scottish investment will become more expensive and therefore Scottish economic growth will fall. 

Is a point or two in the opinion polls today worth a point or two on the Scottish government's borrowing rate for years to come?