Monday, September 15, 2014

Should Scotland Become an Independent Country?: The Economic Ramifications of Secession

Sir William Wallace, the historical figure who inspired the movie Braveheart, might have his dream of a free, independent Scotland come true. This week is a big week for Scotland because it is voting on a referendum for Scotland's independence from the United Kingdom. Such a referendum would have huge implications not only for the United Kingdom and the pound zone, but even for the entire world. Scotland has a long history of wanting to be its own country, even in spite of voluntarily joining the United Kingdom in the eighteenth century, so such an impetus does not surprise me. What I have to wonder is whether passing such a referendum would be a good move for Scotland or not.

Looking at secession from a political theory lens is interesting, especially when making a libertarian argument for self-determination and voluntary association, although making nationalistic arguments either way are of a much more subjective nature, which I do my utmost to avoid when analyzing public policy issues. For me, such debate has very little practical implication. Sure, Scotland can claim a moral right to secede or leeway under international law, but from that standpoint, it comes down to whether Scotland can get away with it. Other countries have gotten away with it: Finland, Bangladesh, Eritrea, Yugoslavia, Czechoslovakia, the Baltic states. We can debate whether being a small country is actually an advantage, and looking at the aforementioned list, success is a mixed bag. Even if Scotland can successfully become its own country (see the Scottish government's analysis on the prospectives of independence), it might not be wise for Scotland do to so for a few reasons (HM Government, 2014).

My primary concern regarding Scottish independence is that Scotland is currently a part of the British monetary union. If Scotland secedes from the British government, will it still keep the pound (MacDonald, 2010)? If Scotland wants independence from London, then wouldn't it want full independence from Britain? Will London retaliate and kick Scotland out of the pound zone if Scotland secedes? In spite of whatever flaws British monetary policy might have, the pound is a relatively stable currency. It would be a disservice for Scotland to lose such monetary stability, not to mention that secession could very well erode London's monetary stability, although neither Fitch nor Moody's are worried about the UK's creditworthiness if this occurs.

What would be Scotland's alternative monetary options if it secedes? Adopt its own currency? Adopt the nascent Bitcoin? Adopt the euro? Scotland currently doesn't have a central bank or fiscal backstop, and if Scotland tries to enter the European Union, it will have troubles doing so. In order to become a member state, it needs the unanimous votes of all 28 states, including the United Kingdom. Good luck getting Westminster's consent on that one! And even if the EU approves after years of bureaucratic nightmares, it would only encourage more secessionist movements, which I assume that various EU countries (e.g., Spain) do not want to endure. Also, will the EU even want to admit Scotland into the EU? If Scotland can't get along with its closest neighbor, how well will it be able to get along with other European nations with which Scotland has less in common? Scotland's independence would refute the idea that democratic nations can accommodate pluralism.

What will become of Scotland's currency usage is not only a vitally important question, but it remains an unanswered one. If I had to make an educated guess, the confusion and havoc caused will make it difficult to maintain the monetary union if Scotland declares independence. According to the Institute for Fiscal Studies, Scotland would have a more difficult time with long-term fiscal sustainability if it becomes independent. Interestingly enough, though, Standard and Poor's is not too worried about Scottish independence and views Scotland as creditworthy, but there are still many economic woes with which Scotland would have to contend. The pound is one of the top currencies held in global reserves, and if the pound further depreciates because of Scotland's independence (which is possible considering a) the pound's relative decline since this all began, and b) London would appear to be disorganized and weak), it could very well have a ripple effect on the global economy. Furthermore, Scotland would be heavily relying on its gas and oil industry to drive its economy, which can be daunting considering the volatility of energy sector prices. And what happens when Scotland's oil runs out? One of the basic tenets of investment is to diversify your portfolio because it minimizes risk. Scotland would have to rely more heavily on its other industries if petroleum isn't the great boom they think it is. Euromonitor International finds that Scotland would not experience a huge dent in their consumption, which would be an argument for Scotland's independence. Also, some of Scotland's most prominent banks are also threatening to move their business to England, which would be bad for Scottish economic prospects. Since Scotland's finance sector is very much tied to London's financial markets, Scotland's independence, as nominal as it might be, would be illusory. Looking at the "Yes Scotland" website, the proponents pushing for independence want to either maintain or increase government services, which doesn't sit well with me from a libertarian worldview.

There are a few other transition costs to consider. Scotland already has sovereignty in quite a few policy issues, including agriculture, education, tourism, and law and order, so it's not like Scotland has to kowtow to Queen Mum for every last thing. From a militaristic view, there is dividing the British army and determining Scotland's status in NATO. There is a question of whether trade between the UK and Scotland would be more constricted in terms of freedom of movement and freedom of trade, especially since the UK is the largest importer of Scottish goods. Scotch whiskey producers are at least worried about this. Furthermore, Scotland would need tens of billions of pounds in its reserves to pull this off. Finally, I'm going to have to agree with Paul Krugman on something, even if for different reasons: a monetary union without a fiscal union is disastrous. Just look at the European Union. We don't need to repeat history if we could help it. This is compounded by the current political fragility not only in the UK, but in Europe in general. Certain European countries are just getting out of the recession (e.g., Spain). Even if you think that Scotland declaring its independence is a good idea, is this really the best time to do so?

Ultimately, it is up to the Scottish people as to whether it should roll the dice. While I think that there are some potential benefits to Scottish secession, there are enough risks and costs where I, along with the majority of economists, simply think Scottish is too risqué for the Scottish people.

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