Comment: The huge costs of Scotland getting small

The integration between Scotland and the rest of the UK is what people around the world in small economically vulnerable countries dream of having. Picture: TSPL

The claims that such integration will be undiminished after independence are absurd – and this isn’t just about losing the pound. The integration between Scotland and the rest of the United Kingdom enjoyed today is what people around the world in small economically vulnerable countries dream of having. It is what the EU aspires to, but is not yet close to achieving. Scottish political independence would not only throw away this invaluable environment – it would plunge the people of Scotland into a more unstable economy, unavoidably and permanently. Whatever goals of greater social compassion motivate some Scots to consider voting yes, they would be frustrated by the very real insecurity that would be felt by every citizen, especially the poorest, as a result of secession.

Small nation

When is it ever a good idea for a small nation to set up on its own? Leaving aside cases of colonization and outright oppression, there is little good reason ever to shrink on the world scene by leaving a larger unit. The internal politics of democracies always get better deals for regions within them than small sovereigns can elicit from identity-ignoring market forces. The few small nations that did gain in welfare by seceding from transnational entities are those that escaped failed autocratic systems. The Baltic countries escaping the former Soviet Union’s dominance can be seen in this light. But setting out on your own is only beneficial when the system left behind has directly constrained your nation’s human potential. Whatever else, that cannot be said of the current Scottish situation in the United Kingdom.

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It is a fact of life in today’s world that a small economy on its own is always buffeted by the forces of the global economy more than a region within a larger union. Even well-run small states like Singapore and Estonia are subject to huge swings in their economy resulting from capricious capital flows in and out. These swings disrupt employment, investment, and competitiveness via real exchange rate fluctuations. More important, small economies are fundamentally undiversified because of their small scale, and they risk their specializations falling out of favor in world markets. Events beyond their control can overwhelm the small nation’s high-value added industries, no matter how good it is at those things, be they oil extraction or banking or whisky distilling. Scottish independence in form, will instead mean increased vulnerability in fact, because, inherently, smaller means more exposure when the markets turn – and turn they will.

The social damage of decreased economic stability

So the real issue for an independent Scotland going forward is the social damage of decreased economic stability. Since independence would make the Scottish economic path much more uncertain and variable, independence would diminish the nation’s actual ability to influence its own economic fate versus the self-determination that can be exercised through political devolution within the British economic union. The economic debate over independence has tended to focus on the one-time transfer costs: setting up a new government administration, apportioning the accumulated public debt, grabbing as much of possible of the oil. But these issues are of minimal importance, however one chooses to measure them, compared to the ongoing costs of permanently greater insecurity to households and businesses. Even if an independent Scotland were to start out with the SNP fantasy of relatively low public debt and a relatively high share of remaining oil revenues, it would have to save more, pay higher interest rates, and keep more space in its budget for self-insurance, hampered by a narrow tax base, in order to cope with the vicissitudes of the global economy on its own.

Essentially, Scotland would be giving up insurance and room-for-error while gaining nothing in long-run income prospects. Imagine, as many have pointed out, the RBS and HBOS banking crises taking place solely within Scotland. Imagine a natural disaster flooding and crashing into Scottish shores. Imagine foot-and-mouth disease or other agricultural plagues that might hit Scotland. Imagine that EU growth staying low indefinitely and the ability of younger Scots to move within the EU (and to Britain) is reduced. One only needs to look across the Irish Sea to see how desperate the situation can become for a small economy forced onto its own resources and self-insurance when a crisis hits. And on the flip side, it is also harder to pre-empt a destabilizing boom and possible asset price bubble in a small country, because the speculative forces tend to be both externally driven and large relative to the government’s resources.

Scotland’s creditworthiness will be highly reduced

Thus, it makes no sense to say that Scotland would be as well off as it is now after independence, socially or economically, let alone better able to protect its citizens. The resources that Scotland will be able to draw on in case of problems will be more limited. The business cycle will be more volatile, with magnified risks. And, most of all, Scotland’s creditworthiness, which will determine the nation’s ability to borrow in times of crisis will be highly reduced.. There is no getting away from the facts that smaller economies are generally less able to borrow abroad in straitened circumstances and that they are more likely to fall into straitened circumstances due to forces beyond their control. The burden of economic insecurity will fall most heavily on the less-skilled and less-wealthy who are always most vulnerable to swings in unemployment. All social welfare programs will be at risk, contrary to the stated intent of the Yes campaign, because those programs get cut when external budget discipline is imposed, whether by European neighbors, the International Monetary Fund, or international banks.

Any responsible members of a household would thank twice before quitting a job with no sure re-employment, exposing themselves to greater insecurity, and dumping access to disaster insurance for the sake of no improvement in long-term income. A caring head of household does not take his children and elderly parent out from a family estate to live in a tent, and give up a steady income for piece work, just to get away from a bunch of annoying know-it-all cousins. Yet that is exactly what Scottish independence would do to all Scottish households at once. Making Scotland a small fish in the global ocean is not only bad economics, it inherently imposes a worsening of social conditions for the most vulnerable Scottish people.

Great flaw of the EU fantasy

Therein is the great flaw of the EU fantasy for Scotland. The European Union remains a great ideal committed to ever closer union and cosmopolitan values, and as such seems attractive to many potential Yes voters as an alternative to staying in the UK. But as the recent crisis has demonstrated, and as also evident during the run up in the early 2000s, there is no true solidarity within the euro area. Ireland had an excessively loose monetary policy and footloose capital inflows throughout its boom years without any regard from the ECB. Ireland then suffered a huge loss in its banking system and real estate values with no bail-out from the rest of Europe. In fact, the wealthy large states of Northern Europe leaned on Ireland to take on the full cost of its failed banks just to prove a point to other small countries—Portugal and Greece—who then suffered the similar burdens of fully repaying bad loans made by Northern European banks. Ultimately, as a small country in the Euro area, you end up needing deeper integration in Europe, both in terms of markets and fiscal transfers, but lacking both. And you have no political traction with which to demand more from the large member-states.

The European parliament has now recognized that the great gains of European integration were from the single market in 1992 and not from the euro., That recognition makes it clear just how far from Europe still is from truly integrated markets. Look at how interest rates for small businesses have been completely dominated by swinging perceptions of sovereign risk. Today, companies in Italy, Ireland or Spain, let alone Greece cannot get treated the same by lenders or business partners as a, as the same companies would be if from Austria or Germany, irrespective of merits. But most of all the Euro area fails because there are no fiscal transfers of any magnitude, the Common Agricultural Policy notwithstanding. There is ultimately no solidarity.

Euro area aspires to be what the United Kingdom already is

In essence, the Euro area aspires to be what the United Kingdom including Scotland already is: a place of free movement of people, with no real border, and no commercial distinctions made between Scottish and other British goods and services except on the merits. And even under austerity-minded governments, the UK engages in regional transfers exceeding several-fold what exists across borders in the EU (and that small amount is under attack from some large states for already being too generous). So long as the Euro area and the broader EU have demonstrated their current extreme limits to solidarity and to the integration of services markets, Scotland will take a step backwards in efficiency and equality by leaving the United Kingdom.

Forget about all the “he said, she said” competing claims on the specific estimates of costs from a transition to Scottish independence. Instead, think about what makes sense. Shrinking a nation’s relative size and setting it adrift in the global economy is a bad decision. Any gains from supposed independence would come with deep losses in actual autonomy. Those losses would heighten insecurity and vulnerability of households across Scottish society. And secession would change the economic environment for the worse permanently, in a way that no elected government’s policies can. Scottish voters should appreciate what they have got before it is gone.

• Adam Posen is President of the Peterson Institute for International Economics in Washington, DC. He served on the Bank of England’s Monetary Policy Committee from 2009-2012. The views expressed here are solely his own.