Has the Treasury killed Salmond’s sterling-zone?

Alex Salmond

The instinct of the Scottish National Party may well be to dismiss the head of the Treasury's unambiguous advice to the Chancellor that he should not enter into currency union with an independent Scotland as the public-school and Oxford establishment closing ranks to save the union.

But the letter from Sir Nick Macpherson (Eton and Balliol) to George Osborne (St Paul's and Magdalen) is a significant constitutional event.

It is unusual for the permanent secretary to the Treasury to write a public letter on any issue at all, let alone one as momentous as whether institutional arrangements should be put in place so that an autonomous Scotland could have an influence on monetary and financial-regulation policy while continuing to use the pound.

The relevant issue for Mr Salmond is only to a limited extent whether Macpherson and the Treasury are right or wrong that monetary union with an autonomous Scotland would be contrary to the interests of a still-united England, Wales and Northern Ireland.

To remind you what you already know, his strong conviction is that Macpherson and the Treasury are misguided.

But the problem he has is a different one: can he hope to persuade Scots that a Westminster government would ever negotiate currency union with him, now that the official and supposedly impartial civil service has made its view unambiguously clear that negotiating a formally agreed sterling-zone would be a serious error?

Scottish flag

In other words, Macpherson has underwritten not only Osborne's opposition to currency union, but that of Labour's Ed Balls (Nottingham High and Keble) and the LibDem's Danny Alexander (Lochaber High - as it happens, a state school - and St Anne's).

Capital flight danger

Which implies not that a separate Scotland could not use the pound. But that it would have to do so in a wholly informal way, with no control over interest rates or regulation of banks or even the supply of adequate quantities of bank notes.

In those circumstances, it would have to grin and bear interest rates and an exchange rate that suited the rest of the UK, but might well be inappropriate to Scotland as a new independent oil-based economy.

So why is Macpherson and the Treasury - which has published a detailed analysis of the costs and benefits of monetary union - so clear that a monetary federation with Scotland would be bad?

Well they make three points.

First that the Scottish National Party has failed to make a forever commitment to keep the pound. It has kept open the option of at some point creating its own currency or joining the euro. But this magnifies the danger of capital flight from Scotland, of a life endangering sort for its banks, any time there were rumours of Scotland dumping sterling (as happened to Greece and Spain, for example, at the height of the eurozone's recent crisis).

That flows through to Macpherson's second point: the Scottish economy and the resources of Scottish taxpayers would be too small to be able to bail out Scotland's giant banks - RBS and Lloyds/HBOS - in a crisis, so the solvency risks attached to these banks would remain with the Westminster government.


Also Macpherson argues that in general, in a currency union, the rest of the UK would perpetually be on the hook to bail out Scotland, and that this would be an unreciprocated or asymmetrical risk - in that, in his view, it would be "inconceivable that a small economy [Scotland] could bail out an economy [England, Wales and Northern Ireland] nearly ten times its size".


Finally he says that the tax and spending or fiscal policies of Scotland and the rest of the UK were likely to become "increasingly misaligned", unless Scotland were put in a fiscal straight jacket that caused growing demands in Scotland for withdrawal from the currency union - which in turn would risk the capital flight and run on the banks that could do such serious economic damage to both parts of the sterling zone.

Now Salmond will say this is all hogwash.

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But Macpherson also tries to get his revenge in early - namely that a Scotland that didn't take the debts could not count on UK support when negotiating with the "international community"”

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He will argue that the finances and economy of Scotland have a long history of being in step with that of the rest of the UK. And given the importance of Scottish trade to English companies, it would be bonkers to introduce friction and additional costs into the trading relationship by adopting two currencies.

Salmond may be right.

But it is perfectly clear that every important decision-maker in Westminster, political and non-political, disagrees with him. Which means this is less about the fundamental economics than about what an independent Scotland could ever expect to negotiate.

And Salmond's threat of retaliation - that Scotland won't assume any of the UK's public-sector debts if there is no monetary union - is also dismissed by Macpherson.

He makes the unoriginal point that a Scotland seen to be reneging on its fair share of the UK's debts would probably be punished by investors when it tried to borrow as a separate sovereign state, that they would extract a punitive interest rate from Edinburgh.

'Increased hardship'

For what it's worth, that is what investors tell me, though it is not provable beyond doubt.

But Macpherson also tries to get his revenge in early - namely that a Scotland that didn't take the debts could not count on UK support when negotiating with the "international community" (on issues like the terms of Scotland's membership of the EU, for example).

And even if a reborn independent Scotland were to walk away from all the UK's debts, Macpherson says that "it is more than likely that the increase in funding costs, which the continuing UK would face, would be smaller than that which would result from an ill thought out currency union with Scotland".

Or to put it another way, he argues that England, Wales and Northern Ireland would be rational to risk a degree of increased hardship - more expensive borrowing for the Westminster government - than take on what he sees as the potentially more costly risk of marrying currencies with a Scotland striving for cultural and economic self-determination.

Robert Peston, economics editor Article written by Robert Peston Robert Peston Economics editor

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This column may be a bit quiet for a bit, because I am away from the office.

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  • rate this

    Comment number 284.

    Ironic that the majority of die hard SNPers are Lowland Sassenachs the ancestry of whom is primarily English. I was born in the Highlands (i.e. not Edinburgh Sassenachs) and the indepedence movement in the Highlands is dead on arrival.

    They all know that the past clearances of the Highlands would pale compared to the Sassenach led SNP stupidity.

  • rate this

    Comment number 283.

    @227 You think politicians will have a grown up debate, there's a novelty!
    After a yes vote RUK has nothing gain by being helpful, probably with a big electoral backing.

  • Comment number 282.

    This comment was removed because the moderators found it broke the house rules. Explain.

  • rate this

    Comment number 281.

    david 269

    Next? - Next will be plenty more mutual posturing (e.g. SNP saying 'Nothing bar full blown Sterling union!' and UKT saying 'Any Sterling union is impossible!') until the referendum.

    Then (I think) it will be a No, followed by Devomax.

    But if it's a Yes there will be a negotiated Sterling union. Operated for a few years until Scotland joins the Euro. RUK to follow in due course.

  • Comment number 280.

    This comment was removed because the moderators found it broke the house rules. Explain.

  • rate this

    Comment number 279.

    The nonsense written by Robert about the "closing of ranks" is disgraceful and adds absolutely nothing of value to the article.and exposes his true colours. That they escaped BBC editing says a lot!..

  • rate this

    Comment number 278.

    @Justin150, your analogy is misguided as Scotland hasn't borrowed anything. If you put money in your bank, and are told that an unwilling former Nigerian subsidiary owes you now, would you like that? Does that help you understand? Besides the fact that the bondholders wouldn't like it, the Scots would have to make some new contract. So any 'debt' argument is purely 'moral' (=political).

  • rate this

    Comment number 277.

    Y'know, if it means having our own currency and taking a share of the debt, then OK.

    At least we'll be rid of the two Westminster houses and the City.

    The folk that I'm sorry for are those in the hinterland in the Midlands, south west, the north, Wales and Northern Ireland because London will continue to suck the rest of the country dry.

    No doubt we'll make mistakes; but they'll be OUR mistakes

  • rate this

    Comment number 276.

    Salmond is the Tartan version of Hugo Chavez , a Populist Snake oil salesman seeking the Promise Land based on the implied obligation owed by rUK to underwrite this illusion based upon a Romantic scene portrayed on a shortbread tin and a perceived aggrieved debt. If the Scots vote for independence then so be it. Let's see how many Tartan Turkeys vote for a Scotia Xmas.

  • rate this

    Comment number 275.

    England would be mad to let Scotland create a Sterling Zone and I am Scottish. Its unfair to think Scotland would have to agree England's future budgets. Now they are trying to blackmail Westminster otherwise we won't pay our bills? This is a childish response. I don't like London but I prefer Salmond's vision even less.

  • rate this

    Comment number 274.

    Let us not forget that Scotland has played its part in making the £ the World Currency it is today, so why should they be told to relinquish their past achievements just because the Lord Snootys in Westminster say so?

  • rate this

    Comment number 273.

    Scots now see the true face of the British state. Ugly, bitter and dismissive.

    Scotland will not be swayed by fear. We know what you look like.

  • rate this

    Comment number 272.

    This blog has been a secret extremists zone.

    Contributions get scored -ve by people who will not justify their extremists views. Has the BBC turned everyone into Taliban?

    Why do so many of you express so much hatred?

    What do you think will be gained by doping so?

    Your problem is that when you are described as xenophobic extremists the cap fits!

    Why do you hate the Scots (or EU) so much?

  • rate this

    Comment number 271.

    @266.Justin Idea

    I have a friend with a daughter at uni in Aberdeen who says her lectures are full of South Asian kids who are Scots


    If they are South Asian, then they are South Asian. If they are Scots (ie have a UK passport) then they are Scots.

  • rate this

    Comment number 270.

    You know what the City of London's opinion on a currency union is (yes please), Ed Balls has said he would negotiate a currency union, and Osbourne's problem is on a Yes vote he becomes just the Chancellor for England and Wales and has to negotiate, Articles of Union - UK Parliament has no say in its own demise. Only the two original signatory parliaments - its the law see ..

  • rate this

    Comment number 269.

    @267 - SNP demanded currency union, Westminster said no.

  • rate this

    Comment number 268.

    Jeezo, there's some real outrage, indignity and faux offence from our southern siblings going on here. It's not about you guys. It's about us and whether we democratically chose to leave mother's apron and make a go of giving it a go. We don't blame you for anything, and if it goes awry, it's all our fault. We love you, and we'll call to let you know we're ok. Now get off our case Daddy. Bye.

  • rate this

    Comment number 267.

    treacle 247

    That's possible (a new pegged currency) but far more likely is a negotiated Sterling share with Scotland giving up some fiscal autonomy to mitigate residual RUK risk.

    david 250

    Yes, it will be up to RUK to lay down de minimus requirements of Scotland for the Sterling share to work. Given that both sides would benefit from a sensible agreement I predict a sensible agreement.

  • rate this

    Comment number 266.

    @258. Thank you but that is just the 400k UK citizens living in Scotland (more than I imagined).
    How many non-UK born residents are in Scotland & eligible to vote?
    I have a friend with a daughter at uni in Aberdeen who says her lectures are full of South Asian kids who are Scots, and she says her multi-ethnic uni crew are largely No voters. How big a group are we looking at? Anyone?

  • rate this

    Comment number 265.

    SNPs empty pledges for independence are based on 'extended, glorified devolution'. Giving the impression of breaking the 'emotional' link with the Union - to appease the myopic, pseudo oppressed patriots who will vote YES. However, they clearly realise they will be out of their depth and penniless, so they want to maintain the 'security blanket' of Union's currency, banks and 'bail us out' power!


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