Jeremy Peat: Difficult decisions lie ahead for Scotland

DEVO-MAX or independence, very hard, perhaps divisive economic changes will have to be made, writes Jeremy Peat

Earlier this year Professors Bob Elliott of Aberdeen University and David Bell – two of Scotland’s most experienced and respected academic economists – came up with the idea of a set of essays on the broad topic of public sector remuneration in Scotland.

The plan was to look at a range of issues, bringing out policy aspects, both as of now and if there is to be a move to further fiscal devolution or independence.

As the three of us discussed further it became clear that there was a broad canvas to cover, with serious implications to consider and difficult policy judgments to make as devolution evolves. The need for objective and informed analysis was evident.

We sought and received contributions from a range of parties with close knowledge and deep understanding covering the key data, the operations of significant components of the sector and inter-actions between public and private sector.

Each contribution to a David Hume Institute paper, which will be published soon, covers important ground and the final publication certainly merits the attention of interested parties across the private and public sectors. We hope that the overall document will stimulate substantial and constructive policy debate on a range of topics.

The first point the paper makes for policy makers to note is that under either “devolution max” or full independence, labour market policy would tend to become of increased importance from a macro-economic perspective. With monetary policy continuing to be set at the UK level and on the assumption, as Bell and Elliott state, that “monetary union would also entail co-ordination, if not integration of fiscal policy”, then “the burden of any adjustment that would be required to restore competitiveness in the traded sector would fall on nominal wages”.

Such adjustments via nominal wages could be difficult and potentially painful – certainly best avoided. Consequently a more devolved or independent Scotland would need to think carefully about private sector labour market policies as well as those relating solely to the public sector. The objective should be to minimise the risk of such adjustments being required. Scotland’s productivity record stands up against the rest of the UK. A key task will be to maintain or enhance relative competitiveness.

I also found it of great value to see an accurate and dispassionate account of public sector employment in Scotland. Some key facts emerge. The public sector is a major employer. In 2011 Scotland was the UK “region” with the fourth highest share of employment in the public sector – after the other nations of Wales and Northern Ireland and the North East of England.

But, discounting the issue of RBS and Lloyds/HBoS jobs – this share peaked in 2006 and has been declining of late; and declining more sharply in Scotland than in the rest of the UK. We know of no forecasts of the level of public sector employment in Scotland. However, given the present and prospective state of the public finances a continuing marked decline must be expected, here and for the UK as a whole.

Another key fact is that there is a remarkable degree of deviation in the public sector’s share of employment across Scotland – from 19 per cent in Aberdeenshire to 47 per cent in Orkney. There will be a number of reasons for this variation, but one consequence is that in some areas there is a particularly high dependence upon the public sector for employment and wages in the sector account for a major share of consumer demand. These areas would be particularly at risk from further sharp decline in employment in the public sector as fiscal tightening continues.

One immediate policy issue to emerge is that of possible regional variations in pay, with, for example, relatively low increases – or even declines – in areas where the public sector employment share is particularly high. In our paper, Stephen Boyd of the STUC argues strongly against this approach, coming down firmly for national pay structures, seeing these as simpler and more consistent. On the other hand, David Lonsdale of CBI (Scotland) and David Watt of the IoD take a different view. Lonsdale argues that “national wage bargaining prevents the kind of responsiveness and flexible use of resources that worked for the private sector” in response to credit crunch and recession.

There is considerable debate under way at the UK level regarding regional pay. In a more devolved Scotland a separate debate would be required, because the context differs and so may the views of those across the community.

In subsequent articles this week Bell will address the important but difficult issue of public sector pensions while Elliott will provide an informed and objective (and fascinating) examination on pay relativities.

All I shall note for now on pensions is that many decisions which are at present reserved to the UK level would perforce be for a Scottish Government under full fiscal devolution or independence. The wider financial environment and the context of an ageing and longer-lived population imply lower asset levels for pension pots and higher liabilities. Defined Benefit pension schemes are virtually extinct in the private sector. Hence the required decisions on public sector pensions will be complex and problematic.

On relative pay there are also essays in the paper covering institutional procedures for determining public sector pay. Already some public sector pay bargaining arrangements are separate for Scotland – school teachers, local government workers and the prisons service for example. For others there is a degree of “parallel working” between a Scottish body and one covering the rest of the UK. However, there are a number of UK-wide pay review bodies whose functions might well need to be devolved as financial devolution progressed. Of particular significance are the currently UK-wide bodies covering the NHS and doctors and dentists; but this is also the case for the police, higher education and senior civil servants; and for the armed forces under an independence scenario.

This future need for Scotland-specific policies is perhaps the key point. . Following either “devo-max” or independence there would be difficult and potentially divisive decisions to be taken across a range of remuneration-related issues – against the staggeringly difficult backcloth of the prospective state of the public finances. The decisions taken will really matter for individuals, for employers in both public and private sectors, indeed for all citizens and also for the prospects for the Scottish macro economy.

From the point made about macro-economic policy, through all the issues about pay bargaining, regional pay and the like to public sector pensions’ policy, there will be no hiding place. I should of course note that additional policy considerations to be made in Scotland do present opportunities as well as challenges.

We hope that these essays start the process of careful consideration based on informed, rigorous and objective analysis. We stand ready to debate further – the more open that debate the better for all concerned.

• Jeremy Peat is director of the David Hume Institute • Tomorrow: Bob Elliott, Professor of Economics at the University of Aberdeen, on what we pay and how we pay public sector employees.

• The David Hume Institute is most grateful to the Scottish Institute for Research in Economics (SIRE) for providing financial support for the publication of these essays