John McLaren: Oil crisis offers us tax relief

ON THE face of it, the report earlier this week by the Institute of Fiscal Studies (IFS) – Scottish independence: the fiscal context – doesn’t make great reading for the Yes campaign in the referendum.

Basically the IFS is saying that the oil is running out, which could be a bit of a fiscal problem further down the road. Furthermore, even with the oil continuing to contribute substantial revenues, an independent Scotland should start to save up these revenues as soon as it can, in order to help accommodate their volatility in its overall budget.

This has the side effect of leaving a sizeable hole, initially at least, in Scotland’s future finances.

There is nothing startlingly new in this analysis, the Centre for Public Policy for Regions (CPPR), and others, have been saying roughly the same thing for some time now. The benefit of the IFS’s coming out with their analysis is that, first, it reinforces these findings, and second, the IFS’s reputation gives it added status.

There were, however, two other issues that were of particular interest in relation to the IFS’s analysis. The first was stated, the second left largely unstated. In both cases they may offer an opportunity to the SNP and the Yes campaign in turning seeming disadvantage to their advantage.

In the first case, the IFS outlined a number of problematic issues in relation to both an ageing population and an inefficient taxation system. These problems will similarly face both Scottish and UK government’s in years to come. It could be argued that the UK government has been slow to move on these issues. For example, on ageing it is still dithering over how to take forward the Dilnot review on funding adult social care in the future, which, among other things, recommended a cap on the amount people pay for care.

Meanwhile on taxation, the Mirrlees Tax Review (for the IFS) offered a new, more economically efficient, way to go about future tax revenue collection – for example, combining national insurance and income tax.

Thus far the UK government has largely ignored it. So, in both cases, an opportunity exists for the Scottish government to pick up on some of these ideas.

The problem with using this opportunity to highlight its greater fiscal maturity is that thus far the SNP government has not shown any great inclination to pursue such policies, on either the ageing or taxation side. However, the opportunity remains.

Furthermore, as many of the key decisions on policy on ageing or on revisions to taxation policy could, and probably should, be made in the next few years then the Scottish Government needs to get more involved in its position on the Dilnot, Mirrlees and other such reviews.

Even if it is just stating that a Scottish Government would be “minded” to follow a particular policy direction, this will contribute to a debate with UK wide implications, and allow for a clearer understanding of what the alternative independence strategy might be.

Of course getting involved in this way must be done seriously, not in a political point scoring way.

How to meet the costs of Dilnot must be properly addressed without resorting to familiar all-encompassing panaceas like oil revenues or faster economic growth.

Inevitably, this will involve politically hard choices. For example, current fuel duty driven transport taxes ignore the biggest “cost” of motoring – congestion. Some form of road use tax could help address this but currently faces public hostility. However, some change here seems inevitable if cars become more fuel efficient or high fuel prices make electric cars more popular. As a result, more political capital will need to be expended on persuading the public as to the overall net benefits of such changes.

The second case, only partially covered by the IFS, relates to the possible future diminution of the Scottish budget. This could occur within independence, as the IFS highlights, via the impact of declining production and tax revenues in relation to the North Sea. However, there is also a risk of something similar happening within the Union.

While, technically, Scotland’s budget should not be affected by declining North Sea tax revenues, (in other words it should have no impact on how the Barnett formula works) implicitly there may well be greater opposition from the rest of the UK to Scotland’s apparent spending advantage as these oil revenues decline.

That is to say that, while Scotland’s public spending “bonus” is grudgingly accepted at present, as the money for it is largely provided for via North Sea taxes, once these revenues start to diminish then there will be much greater political opposition to such a “pure” subsidy for a reasonably wealthy part of the UK.

As some readers will have already noticed, in neither of the two scenarios outlined above does Scotland come out very well. Whether it be lower oil revenues or lower funding from the Treasury, there is a risk that the Scottish Budget might be substantially curbed in the coming decades.

As a result we might not expect a stampede by politicians to discuss these scenarios. However, while they may not be very appealing they may well be more realistic scenarios than the “sunny uplands” scenarios beloved of political parties. Better to face the issue now than to come to it unprepared in the future.

Similar reports to that by the IFS this week will no doubt emerge in the coming months. It would be easy to merely highlight the future risks attached to oil revenues. However, it is worthwhile opening up this debate so that both sides make their case for the certainty over Scotland’s fiscal future.

What guarantee is there that the union dividend will not evaporate as, or more quickly than the oil dividend will, and what evidence is there that the UK will be better and braver at introducing the policies needed to overcome taxation and ageing problems? Both sides need to be pushed to debate these significant issues for the future of Scotland.

One further important matter that was much mentioned in the IFS’s report was the need for an Office for Budget Responsibility for Scotland (OBRS). An interesting side issue with this well -upported idea is what role the OBRS would play in deciding how any oil fund was run under independence. Given the crucial role of oil revenues it would surely be an important part of its remit. However, politicians would be loathe to relinquish all control. It will be interesting to see how the debate on this issue develops.

A well-governed and prudently operated Oil Fund would of course settle market nerves. It would also illustrate how Scotland, in contrast to the past behaviour of a series of UK governments, was seeking to operate a more sound fiscal model, albeit with annual spending levels lower than currently anticipated.

• John McLaren is an economist with the Centre for Public Policy for Regions