David Bell: Devolution faces toughest test yet

For Scotland, it was less than expected. John Swinney's forecast in the finance committee last week was that a 6 billion cut in UK public spending would imply reductions in the Scottish budget of between 350 million and 400 million.

But the proposed cut is 332 million and the Scottish Government does not need to introduce it until next fiscal year. That's where the good news ends.

These cuts will reduce the Scottish Government budget by around 1 per cent. The Scottish Government expectation is that over the next four years its budget will have to be reduced by 12 per cent as part of the macroeconomic strategy and to halve the UK deficit.

This implies a total reduction in government spending in Scotland of 3.7 billion. The cuts announced yesterday are therefore less than 10 per cent of the total reductions that are expected.

If the decision is made to remove 3 per cent of Scottish Government spending each year, we can expect a further reduction of around 600 million for fiscal year 2011-2 to be announced this autumn after the Spending Review.

The exact amounts will depend on where the major cuts are made at UK level and how these work through the Barnett formula. Nevertheless, this means that at the end of this year, the Scottish Parliament will have to decide how to allocate a budget for 2011-2 that is around 900m less in real terms than that of 2009-10. This is probably the lower limit. If the Autumn Spending Review proposes to target a 59bn overall cut at UK level by 2014-5, as implied by the Conservative manifesto, then the amount needed to be saved would increase by around 25 per cent.

This will be one of the most severe tests that devolution has encountered.

The Scottish Parliament will not only have to go through this process for 2011-2: it will have to be repeated each year until 2014-5. And if the UK economy does not perform well, austerity budgets will continue into the second half of the decade.

For politicians, and particularly for those making key decisions, this process may be just preferable to being put in thumbscrews. There will be inevitable conflict with interest groups, many of whom will have cogent cases for support, but for whom the public sector can no longer provide resources. The political cost of taking away a public service is much greater than the gain from giving it in the first place. So though the Scottish public sector will be around the same size in 2014-5 as it was in the early part of last decade, it may seem to some that we are going back to the Dark Ages.

This puts more pressure on the Independent Budget Review, which is due to report at the end of July. It must take a measured view of the entirety of public services in Scotland. With cuts of this scale on the way, it cannot afford to ring-fence any part of the budget.

It needs the wisdom of Solomon to estimate the value of the services provided and activities supported by the public sector in Scotland. But ultimately, after it has reported, it is the politicians who have to decide.

David Bell is Professor of Economics at Stirling University