Three economic scenarios for Scotland post-Brexit


Jeremy Peat, Visiting Professor, IPPI, University of Strathclyde. First appeared on IPPI Blog.


In my column for this week’s Herald (published on Monday 4th July) I focused on the post Brexit referendum risks and uncertainties now prevailing across our economy and the relatively short-term impact that this is likely to have on Scottish (and UK) economic performance and also on both fiscal and monetary policy.

Having concentrated in that column primarily on the immediate issues resulting from the amazing [to me literally incredible] decision taken by a small majority of those in the UK who voted in the Brexit referendum, there was not space to comment other than superficially on the options for Scotland post Brexit vote.

The First Minister is seeking agreement that the option of Scotland staying in would be acceptable to the EU, and hence could be put to the Scottish people via a referendum vote. If that option is denied to Scotland by the EU, then the choices would be to stay within the UK but outwith EU or opt out of UK and apply to the EU from outside following departure from the UK (which again I assume would tested by a referendum).

Hence there are three future scenarios for Scotland:

  1. EU approves the notion of Scotland remaining in EU as rUK exits; with Scotland retaining the old UK opt-outs and other aspects of status within the Union as was the case for the UK before the Brexit vote.
  2. Scotland remains within the UK as UK exits EU; and attempts to make the best of a bad lot, with efforts to influence negotiations taking place at the UK level with EU and third parties, as well as making best use of existing devolved powers and further devolution resulting from EU powers being returned from the EU to the UK with some (e.g. related to agriculture, fisheries and research) being devolved directly to Scotland.
  3. Scotland determines to leave the UK and thereafter to apply to join the EU, being treated as a new applicant with limited special privileges.  If we were to apply from outside, then the assumption must be that our application would include the presumption of aiming for entry into the eurozone as well as the EU per se. That appears to be required of new entrants.

Let me consider each of these in turn. (I am aware that another option would be to leave the UK but not to apply to EU. That does not appear to fit with the present Scottish Government’s intentions.)

Scotland stays in the EU, post-BREXIT

There are clear (relative) positives under this scenario, not least that Scotland’s important trading and broader economic relationship with the EU would be retained. However, there are some economic questions which will need careful consideration. These include the following: –

  • Currency – will Scotland be permitted by all involved (EU and UK) to retain sterling as its currency both immediately and for the longer term? There were clear questions on this front at the time of the independence referendum which I would expect to re-appear. This may be an option for the short term, but thereafter the UK is likely to be unwilling to allow continued use of sterling on any official basis; and the EU may be unsure about a member state using the currency of a former member state even on an informal basis. The outcome could be the creation of a new Scottish currency – along with a new central bank and independent monetary policy – or some agreement that Scotland moves towards adoption of the euro with all that that may entail.
  • Trade relations with the rest of the UK – we must always remember that the rest of the UK is far and away Scotland’s major trading partner. Clearly any change in currency could have an effect on that relationship. Likewise if Scotland is within the EU and rUK outside, there may be a difference – involving some possibly minor constraint on trade – from when both were part of the same nation and the single market. There should be no risk on the trading relationship with the remaining countries within the EU, but some uncertainties with regard to the relationship with rUK – the largest market.
  • Budgetary contributions to the EU – this could all be quite messy. For a start the rUK would cease to make contributions to the EU. It would be necessary to calculate (properly this time) how much this involves; and then to determine what share of that should be passed to Scotland in its new guise. So far as I am aware there is no extant formula to assist this process; and there may be arguments as to whether account should be taken of the past distribution of receipts from EU as well as the initial (post rebate) contribution to the EU. The final step would be to calculate the new contribution to the EU from Scotland as a member state in its own right.

I am sure that there are other major economic and financial issues to be resolved (not to mention migration and border matters), but the above three matters demonstrate how complex this option could prove to be; even in the unlikely event it can be negotiated.

Scotland remains in the UK as UK exits the EU

In many ways this may be the most straightforward option for Scotland, albeit involving the unwelcome outcome of Scotland exiting the EU with England, Wales and (presumably but not certainly) Northern Ireland.

  • The key issues will be those the UK negotiates with the EU, regarding the future trading relationship, etc.; and the extent to which the Scottish Government can participate in, let alone influence, these negotiations. The EU is likely to stress that continuing participation by the UK in the single market (or something closely akin to that) would be contingent upon continuing participation in the single labour market. This might be more acceptable to Scotland than England. But the majority view is likely to prevail.
  • There must be particular concerns about the financial services sector across the UK, with any adverse effect of losing the ‘passport’ falling disproportionately in Scotland. Without this passport companies trading across Europe may seek a head office in another member state, with Ireland being a clear prospect. The loss of significant headquarters and/or high skill/high value-added components of the sector would be of substance.
  • The public finances; as in the third bullet point of II above there will be issues to resolve. It would appear that under the latest Scotland Act some sectors (e.g. agriculture and fisheries) are devolved to Scotland, albeit their key funding comes from Brussels. If funding for these sectors is deemed to be part of the EU contributions remitted to the UK after Brexit; and if Scotland was receiving a larger than population-share share of such resources, then there can be no certainty that the equivalent funds will be added to the block grant and passed to Holyrood. The utilisation of any remitted funds may be deemed a matter for the UK Government, especially if the public finances tighten and tough choices have to be made.

Scotland leaves the UK and applies to join the EU

This is the more likely of the two ‘independence’ scenarios. Many of the issues will be as per the debate at the first Scottish independence referendum, but with some Brexit-related complications added on. Depending upon timings of (a) UK Brexit; (b) Scotland exit from UK; and (c) Scotland’s re-entry to the EU, various issues will have to be resolved at different times, not all necessarily in an optimum order. Key issues will include: –

  • Currency (or rather currencies): the expectation should probably be that Scotland will remain with sterling for a period post a referendum vote, then move to its own independent currency but on the basis (agreed in entry negotiations with the EU) that Scotland will aim for euro entry in due course. This will only be feasible when currency stability and sound Government finances have been achieved – in line with the Maastricht Criteria honoured more in the breech in 1998 and 1999. Achieving stability and credibility will be a tough gig, involving a marked degree of austerity unless oil prices suddenly shoot up to well above $110 per barrel.
  • Trade relations with rUK: as per the second bullet in II above. Can Scotland achieve full free trade with both EU and rUK, and if so how will the latter be affected by currency uncertainties?
  • Inward investment: while Scotland is a valued location for inward investment for a range of reasons, there can be no doubt that one reason is ease of access to the wider EU market. As UK (including Scotland) exits the EU, and even while that is anticipated, the attraction of Scotland will to some greater or lesser extent diminish.

Some concluding thoughts

The key conclusion is that there is no easy option here. If the EU were, surprisingly, to agree to Scotland being considered for continuing membership there is no guarantee of a new referendum being won; likewise if the new referendum were delayed and the option were of exit from the UK and then applying to the EU. But the option of staying within the UK has its own substantial risks and uncertainties.

Nobody can deny that ‘we live in interesting times’. To me that is most certainly not a positive conclusion. Sorting out this mess will take many years, probably a decade or more. The final outcome is shrouded in a haze of scary uncertainty.