Deal or no deal?

It had been erected on Thursday to help friends and family celebrate his return to his luxury, government-funded villa in the Libyan capital, with its marble floors, chandeliers and high outer walls bedecked in Ramadan fairy lights. The villa is in Dimachk, a suburb of the Libyan capital where the desert nation's rich enjoy their oil wealth. The streets were lined with BMWs as the great and the good gathered to meet their hero, the Lockerbie bomber, the man who has spent the past eight years in a Scottish jail for the biggest mass murder in modern British history.

Megrahi, always described as polite, gentle and educated, was determined on Friday, the start of the Islamic holy month, to show traditional Arabic hospitality. Dressed in perfectly-laundered white headgear and flowing gown, he received journalists and told them he had played no part in the killing of 270 people over and in the Dumfriesshire town in 1988. "My message to the British and Scottish communities is that I will put the evidence before them and ask them to be the jury," he said, adding, in softly-spoken, fluent English, that being free was "something amazing".

Last week, the 57-year-old grandfather was released from Greenock Prison by Scottish justice secretary Kenny MacAskill on compassionate grounds. He is – as everyone, bar apparently his own elderly mother knows – dying of prostate cancer. MacAskill, describing the illness as a sentence from a "higher authority", said he and he alone had made the decision to let Megrahi return to Libya to die.

Yet, yesterday, Libyan leader Colonel Muammar al-Gaddafi went out of his way to thank not just MacAskill and the SNP, but their bitter political rivals in the UK Labour government. Shortly after being shown on television officially welcoming Megrahi home, Gaddafi was quoted as saying: "And I say (thanks] to my friend Brown, the Prime Minister of Britain, his government, the Queen of Britain, Elizabeth, and Prince Andrew, who all contributed to encouraging the Scottish Government to take this historic and courageous decision, despite the obstacles."

The previous day, the dictator's son had already gone further in suggesting that there was more to this release than mercy for a man losing his battle with cancer. Saif Al-Islam Gaddafi – a 37-year-old businessman and friend of the Duke of York who, this month, met a holidaying Lord Mandelson, the Business Secretary, on Corfu – said the release was part of an agreement on oil and gas.

To some extent, Saif was right. There can be no doubt that the origins of Megrahi's release last week originated in a deal cut by then prime minister Tony Blair and his father two years ago. In what is now known as the infamous "deal in the desert", Blair and Gaddafi shook hands on the early stages of agreeing a controversial prisoner transfer deal between the two countries. But the question that still remains this weekend is whether the SNP government in Scotland was ever party to the deal. Was Megrahi's release really made purely on "compassionate" grounds or was that the cover story – colluded in by First Minister Alex Salmond's administration – for cementing the growing commercial relationship between the UK and Libya? After all, the North African country has some of the world's largest untapped oil reserves, and the UK and its ally, the United States, want their oil giants to be the first to exploit the desert riches. In the end, was Megrahi, only eight years into a life sentence for the Lockerbie atrocity, traded for oil to protect western interests?

A deal serves many masters. Apart from the obvious attraction of Libya's oil wealth for both western governments and a Libyan regime short of the finances to fully exploits its potential, there are strategic and political considerations, too.

For both the US and the UK, easing Libya back into the fold of moderate nations is a key aim in the war against terror. Gaddafi is well-known for his hardline stance against Islamic extremists, which sends a signal to the rest of the Arab world where the Libyan leader remains a revolutionary hero. Getting Megrahi back merely cements his reputation as a strong Arab leader, determined to stand up to the West. For governments well versed in the world of realpolitik, that was probably not too big a price to pay.

A deal also had advantages for the Scottish administration. Megrahi's conviction was seen as a triumph for the Scottish system of justice when world opinion doubted that the Lockerbie bomber could ever be forced to face justice. Equally, allowing Megrahi's case to proceed to appeal – a legal process already in progress – could have been an unmitigated disaster. Megrahi has always protested his innocence and overwhelming evidence that he was not to blame could have dealt the Scottish legal system an embarrassing blow.

It could also have thrown suspicion back on the regimes in Syria and Iran, who were the original suspects for the bombing – in retaliation for the shooting down of an Iranian airliner in July 1988 – and opened up the entire investigation again.

The original agreement struck in 2007, with Blair on his "farewell" tour after a decade at the Labour helm, was only the start of the process.

The UK government has always insisted that the matter of Megrahi's release was never a matter for negotiation. Even if it had been, they pointed out that as Megrahi had been convicted under Scots law, it wouldn't have mattered what Blair had to say. Any decision on his release would always have been with Scottish ministers.

Yet that is not what the Libyans thought. They thought they were going to get their man back, a security services agent they had handed over to a Scottish court specially convened in the Netherlands to try both Megrahi and his co-accused, Al-Amin Khalifa Fhima, for the Lockerbie bombing 13 years earlier.

UK diplomats have quietly admitted that the Libyans left the 2007 talks thinking the arrangements centred on Megrahi. One British diplomat, who was in Libya shortly after the Blair-Gaddafi talks, was told: "Our guy is going to get out. Tony said so."

But cynics used to dealing with the Gaddafi regime stressed that Libyan officials often heard what they wanted to hear – and regularly spun the results of talks for local consumption.

Sir Malcolm Rifkind, the former Scottish, foreign and defence secretary and the first government minister to visit Lockerbie after the atrocity, can't believe that British diplomats did not know what was going on – even if they did not explicitly commit to giving up the bomber. "When Tony Blair negotiated the transfer option, he knew that Megrahi would benefit," he said. "That was the starting point for the release."

It has been denied by the Foreign Office. "No deal has been made between the UK government and the Libyan government in relation to Megrahi and any commercial interests," it said in a terse statement. Blair also last night vehemently denied that he had put any Megrahi deal on the table back in the Sirte tent.

Speaking to the American broadcaster CNN in China, he said: "The Libyans, of course, were raising the case for Megrahi all the way along, not just with me but with everybody. It was a major national concern for them. But as I used to say to them, I don't have the power to release Mr Megrahi."

So who did? The Scottish Government under its devolved powers.

The niceties of devolution were, however, lost on the Libyans, some of whom appear completely mystified by the very notion that the UK government would allow its northern "province" such autonomy.

Suspicions that the UK government and Libya were moving towards an accommodation on Megrahi emerged after Blair had left Downing Street and Gordon Brown had taken over as Prime Minister.

A month after taking office, Salmond made an emergency statement to the Scottish Parliament, protesting that his government had not been informed of the memorandum of understanding struck in Sirte. Salmond, after all, like the Libyans, assumed the deal was about the Lockerbie bomber. With Megrahi in a Scottish jail, he reasoned he should have been informed.

A firestorm was created in which the Blair government had been portrayed as riding roughshod over Scottish justice. Opposition leaders lined up to back Salmond. It was a PR coup for the new First Minister but, in reality, nothing changed as the prisoner transfer agreement began its tortuous route through the Westminster parliament.

It was finally pushed through on 29 April this year, coincidentally the day after the second appeal against Megrahi's conviction had opened in court in Edinbirgh. UK Justice Secretary Jack Straw warned that any further delays would "lead to serious questions on the part of Libya in regards to our willingness to conclude these agreements".

With Megrahi now diagnosed as having cancer, it was a signal for the Libyan leadership, already unhappy over the time the PTA had taken to come into force and under pressure domestically to ensure that he did not die in Scotland, to act. On 5 May, it made a formal request for Megrahi to be released into its custody through the prisoner transfer scheme. In Edinburgh, the clock began to tick: MacAskill had 90 days to make a decision. He missed the deadline. Why?

A theory is now emerging. The UK government wanted MacAskill to free Megrahi in order to smooth relations with its new ally. But with memories of Salmond's 2007 triumph in the Scottish Parliament, it was well aware it could not be seen to be applying any pressure on the Scottish Government. So a stand-off emerged. For some reason – and none has yet been given publicly – MacAskill failed to meet the 90-day deadline to decide on the transfer request.

This raised suspicions in London that the SNP was delaying a decision to force Westminster to intervene. "They were waiting for the UK government to butt in. They wanted us to fall into the trap," claims one government insider. Westminster refused to take the bait.

An alternative explanation, however, is that MacAskill, well aware of the potential international reprecussions of letting Megrahi out of prison, was waiting for guidance from London and none was forthcoming.

As often in politics, however, events intruded. On 24 July, a few days before the deadline on the prisoner transfer request application was reached, MacAskill was informed that Megrahi's health had deteriorated. A request of release on compassionate grounds was lodged. Faced with this political minefield, the justice secretary embarked on a series of consultations with lawyers on both sides of the Atlantic, the US State Department, doctors, the prison and parole service, a delegation from the Libyan government as well as victims' relatives in the UK and the US.

Crucially, he also made the decision to make an unprecedented visit to Megrahi's cell in Greenock Prison on 4 August. With Libyan sources now declaring they knew weeks ago that the bomber would be released on compassionate grounds, it raised suspicions that MacAskill, also aware of the consequences of Megrahi dying in jail, was also trying to come to a deal with Megrahi and the Libyan regime.

When the decision was leaked, all too accurately, to the BBC ten days ago – despite denials from the Scottish Government – that Megrahi would be home for Ramadan, the suspicions grew. This was compounded when, on Tuesday, Megrahi's lawyers announced their client's appeal would be dropped. Apart from the technicality of an appeal by the Crown Office against the apparent leniency of Megrahi's 27-year sentence, this cleared Megrahi's route home of legal obstacles.

It also neatly removed the prospect of new evidence on the Lockerbie case – perhaps exonerating Megrahi – being paraded before a Scottish court.

The problem remained the bigger picture. Did the Scottish Government want to help the UK in its overall aim of recruiting Libya in the war against terror and in opening up oil contracts but without giving in over the prisoner transfer agreement?

The answer was to release Megrahi on compassionate grounds. Although, the United States, through the formidable offices of Secretary of State Hillary Clinton, put heavy pressure on MacAskill to keep Megrahi in jail, despite his terminal condition, the decision to release him was made.

On Thursday, MacAskill spelled out his reasons in a 25-minute address that was televised live around the world. He cited as a reason for his decision that Megrahi now faced a sentence "imposed by a higher authority – it is terminal, final and irrevocable. He is going to die".

He also took a telling sideswipe at the Westminster government for not informing the Scottish administration earlier of the prisoner transfer agreement that the UK was negotiating with Gaddafi and in the end had a bearing on Megrahi's fate. Two hours later, at Glasgow Airport, Megrahi, in a white baseball cap and his face covered in a white scarf ascended the steps of a private Libyan jet with the help of a walking stick for the long journey home.

Later that evening, Gaddafi's son at his elbow on the aeroplane steps, Megrahi emerged in Tripoli to the Saltire-waving crowds.

In a final piece of tying up the legal niceties, the Crown Office on Friday dropped its appeal against the limit put on the time that Megrahi was to serve.

If there was collusion between London and Edinburgh on Megrahi's release, then evidence has yet to emerge. Given how poor relations are between Labour and the SNP, many political observers have their doubts.

But there was still pressure last night on Brown to break what one senior Conservative called his "puzzling silence" on the issue. Although Labour north of the Border has been highly critical of Megrahi's release, no Westminster figure in the party had stepped forward to answer the simple question: does it think the bomber should have gone home? Why have party members held their tongues? The Libyans clearly believe they are silent because they back the release.

The famously unpredictable North African regime, however, seemed to have its messages mixed last night. As Gaddafi praised "his friends" in the SNP, his usually tame press was effectively accusing Salmond and MacAskill of homicide.

"Many are blaming the Scottish authorities for not taking care of Megrahi's health while in prison. They speculate that he was left, on purpose, to die of his cancer," wrote the Tripoli Post, an English-language newspaper. "Libyans are now convinced that the Megrahi case could be viewed as a premeditated murder on the part of the Scottish prison authorities."

But as there is New Labour and Old Labour, so there is New Libya and Old Libya. Old Libya may want to greet Megrahi as a hero and set out to prove his innocence, but New Libya wants to do business with Britain.

So, as the dust settles this weekend, who are the winners and losers? Megrahi himself has, it is thought, about three months to live. According to some opposition politicians, the major victor is the Libyan regime. Sir Menzies Campbell, a member of Westminster's foreign affairs committee, said: "This was a PR coup for the Libyan authorities, both domestically and in the wider world. What we often forget in our slightly superior western way is that we are dealing with some very clever people."

"This has shown that they can deal with the British government. That we are people who are respected. There's a parallel with North Korea. They are desperate to get face time to show that they are on a level."

So what does this mean for Salmond, MacAskill and the SNP government? Tomorrow, MacAskill will have to make a statement to a recalled Scottish Parliament and may, at some future date, face a vote of no confidence in his decision.

It is a decision, however, that is playing well in the Arab world.

One former British diplomat in Libya praised MacAskill's actions. He said: "He did exactly the right thing. You would have gained nothing by discriminating against a particular prisoner. We would have been seen to have applied the same double standards as usual. The Arab world says this about Israel, about the invasion of Iraq; this would have been seen in the same light, if he had been kept in Scotland."

The implications for the Scottish economy are, however, still unclear.

There could be consequences for both Scottish business abroad and tourism at home. The Scottish American Business Council insisted last night that there would be little damage to relations. But with websites already set up urging Americans to boycott Scottish goods, and tourists allegedly having cancelled holidays here, nobody yet knows the full impact. "That self-confident march (by Scottish ministers] down 5th Avenue on Scotland Day might not be quite as well attended next year," Campbell added.

David Watt, of the Institute of Directors Scotland, said it was too early to tell whether the trading relationship would be harmed. But he said US president Barack Obama's decision to criticise the move by the Scottish Government gave cause for concern. "We would hope that it would be seen as a judicial and political decision, not a business decision – but having Saltires waved in Libya is not helpful," he said.

CBI Scotland also voiced worries about the decision. "There may be a risk to tourism and business links with America in the short term, though we hope there won't be," the employers' body said. It added: "It is impossible to quantify at this stage the extent of the risk and magnitude of any impact."

For the US government, Megrahi's release is a short-term public relations disaster that is, however, unlikely to last for long. The long-term bonus will come when oil supplies from Libyan wells are secured for a generation to come.

One influential newspaper in Russia, which is competing for Libyan oil licences, yesterday labelled Megrahi a "pawn" in oil negotiations.

The UK government, meanwhile, has got what it wanted, while also being able to offload any responsibility for setting Megrahi free on to its political foes in the Scottish Government. Gaddafi's comments yesterday thanking Britain as a whole may be just the first reward in the battle for Libyan oil. When exploration contracts come up for negotiation or renewal, the Brown administration will be eager to ensure its favours are not forgotten.