Madsen Pirie: Opportunity to build ‘bonfire of restrictions’

'Trend that sees talented Scots go abroad to find success could be reversed'
'Trend that sees talented Scots go abroad to find success could be reversed'
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WITH greater economic freedom, Scotland could again be a jewel of the North, writes Madsen Pirie

Now that the debate on independence has been kicked off, people’s thoughts are turning to the path that a future Scotland might choose to take. Whether the result is a fully independent Scotland, or one still loosely in the Union but with considerably more powers over taxation, there will be opportunities for the Scots to strike out on a different course.

For several decades Scotland has seen the public sector play a larger role in its economy than has happened in the South, and many suppose that the Scots would use their new-found freedom to further accentuate this trend.

But Scotland might decide to take a different course. As a small economy on the edge of Europe, Scotland might decide to maximize its advantage. It has a well-educated workforce, plenty of space, unparalleled scenery, and good schools, universities and golf courses. These are all factors potentially attractive to those looking to find somewhere to establish new businesses.

Scotland’s tradition of entrepreneurship has been hailed for centuries, though business success is perhaps less admired today than it once was. The Glasgow tobacco lords of the 18th century made huge fortunes by seizing trading opportunities with the American colonies, and were looked up to in their scarlet cloaks and tricorn hats as an aristocracy of wealth and talent. Their example encouraged other Scots to go all out for success, and many of them did.

It could happen again. The trend that has seen talented Scots go abroad to find success and recognition could be reversed. A more independent Scotland in control of its own tax system, might decide to turn itself into a magnet for enterprise and investment. It has been done before elsewhere.

When St Andrews graduate Sir John Cowperthwaite became financial secretary of Hong Kong, its citizens earned less than a quarter of their UK counterparts. When he left, the average Hong Kong citizen earned more than the UK average. How did he do it? He refused to protect domestic industry, but allowed Hong Kong residents to buy the cheapest, wherever it came from. In addition to free trade, he never allowed income tax to rise above a flat rate of 15 per cent.

It was not surprising that Sir John knew how to do it; he had read his Adam Smith, and knew what enterprise could achieve if it were unleashed from the controls and direction of bureaucracy, and if its achievers could keep most of the wealth they created.

Sir John is by no means the only person to have applied these lessons. Facing a Germany in ruins, physically and economically, after the Second World War, Ludwig Erhard, its economic adviser and then minister, made a “bonfire of restrictions,” ending the price and production controls over a weekend and stabilising the new Deutschmark. He is said to have done this while his Allied controllers were out playing golf! It certainly went way beyond his authority. It worked, though, and eventually turned Germany into the economic powerhouse it is today.

The formula of suddenly going for lower, simpler taxes, and doing away with the pettifogging plethora of regulations that bind the hands and feet of business, has worked many times and in many places. When Mart Laar was elected leader of Estonia after it was freed from Soviet rule in 1992, he inherited a country laid low by decades of Communist state direction. It was characterized by shortages, corruption and vastly inefficient and uncompetitive industries.

He fixed Estonia’s income tax at a flat rate of 26 per cent. It has subsequently been lowered to 21 per cent on both personal and corporate incomes. He also allowed corrupt banks to go broke, and deregulated much of the economy. It was a similar formula and it brought Estonia rapid economic growth. The difference was that Mart Laar did not learn it from the pages of Adam Smith. Indeed, he claimed that when he became prime minister, the only economics book he had read was Milton Friedman’s Free to Choose.

The sudden liberation of an economy has been tried in more than a dozen places. Taxes and regulations have been lowered and simplified, trade liberalized and the conditions for enterprise and investment nurtured. It has worked every time, which gives good reason to suppose that it would work in Scotland.

What would it take? Scotland could take last month’s report by the Tax Commission as its starting point. It could start by combining national insurance and income tax into a single rate, and setting that initially at 30 per cent, but pledging to lower it later. Scotland could be bolder with the threshold at which taxes start to be paid, setting it at something like £12,500, which is half the national UK average wage, and about the level of the minimum wage for a full working week.

If Scotland abolished the Death Tax (IHT) and Stamp Duty on shares, it would have an immediate and dramatic effect on capital inflows. Similarly, if Scotland set Corporation Tax at 15 per cent, firms would be rushing to set up in Scotland and create jobs here.

On regulation, the Scottish government should invite businesses to nominate the fifty regulations they hate most, and then abolish them all with a single act. There is more, of course, but this would be a good start. Fainthearts would plead about the revenue loss, but the argument against such thinking is that all the other places that did this saw revenues increase because the tax base grew much broader very quickly.

More to the point, it would bring in wealth and nurture enterprise. Scotland would be back on the upward curve of that virtuous spiral. Granted that it could happen, the other question is whether it will happen? That depends on the government and people of Scotland, but given the policy’s success elsewhere, I think there is a reasonable chance that a more independent Scotland will like the idea of becoming the jewel of the North, and will do what it takes to make it happen.

• Madsen Pirie is president of the Adam Smith Institute