Fiscal Commission reveals how Derek Mackay is taking us into the red

Fiscal Commission reveals how Derek Mackay is taking us into the red

by Murdo Fraser
article from Friday 8, June, 2018

IN THE EARLY DAYS of the Scottish Parliament, arguments raged as to whether it should acquire additional tax-raising powers. Those of us who supported this cause within the Scottish Conservatives argued that this would make the Scottish Parliament more fiscally responsible; and that it would, for the first time, give Scottish Ministers a real stake in the performance of the Scottish economy. As Scottish output grew, so would tax revenues. Conversely, if the economy contracted, funds to support vital public services would reduce. It would demand a strong focus on growing the economy.

In due course a UK Conservative Government delivered fiscal devolution, with the result that the Scottish Parliament now controls not just business rates and council tax, but income tax, LBTT, and landfill tax. And, as a consequence, it is the performance of the Scottish economy that is a major determinant of the overall size of the Scottish Government’s budget, rather than simply the scale of the Westminster block grant.

As part of the fiscal arrangements created by the Scotland Act 2016, the Scottish Fiscal Commission has now been established to produce estimates of tax revenues from the Scottish devolved taxes. In the absence of real-time out-turn figures, it is on these estimates that the Scottish Government bases its budget, with a reconciliation on actual audited out-turn data some three years later.

The importance of the Fiscal Commission’s forecast has been starkly demonstrated with the publication on May 31st of its updated projections for the years ahead. And these show a substantial difference from what the SFC was predicting just a few months ago, in December 2017. The forecast for income tax revenues in Scotland for the current financial year, 2018-19, has been revised down by £208 million (1.7%). Over the next five years, tax revenues overall are now projected to raise some £1.7 billion less than the SFC previously predicted.

Appearing at the Scottish Parliament’s Finance Committee this week, SFC members explained that they were now predicting wage growth in Scotland to be lower than they previously thought, with a widening gap between Scottish wage growth and that elsewhere in the United Kingdom, mirroring the divergence in economic performance. With wages rising more slowly, it goes without saying that income tax receipts will not grow as quickly as previously predicted.

All of this creates problems for the Scottish Government’s Finance Secretary, Derek Mackay. The £208 million reduction in tax receipts forecast by the SFC is only part of the picture. Simultaneously, the Office of Budget Responsibility (OBR) has updated its UK forecast for income tax which will be raised elsewhere in the United Kingdom. This means that under the Fiscal Framework which determines the relationship between the Treasury budget and that of Scotland, the Block Grant Adjustment (BGA) has been revised up by £180 million. So the overall effect of the SFC’s forecasts, together with those of the OBR, means that Derek Mackay’s budget for 2018-19 is now expected to be £389 million lower than was predicted at the time he set it earlier this year.

Now, none of this means that the budget plans for this year have to be immediately revisited. We won’t know until July 2020, when we have the finally audited out-turn data, whether these predictions are correct. The actual situation could be better than currently predicted, or indeed it could be worse. 

However, Derek Mackay is not likely to want to be in position when it comes to setting up the budget for 2021-22, either by himself or by any successor in his office, whereby he has a substantial shortfall to make up. It would therefore be prudent for the Scottish Government to start thinking about how it is going to address such a gap between revenues and expenditure. And, in reality, this will only be done by substantially increasing taxes to make up the difference, by cutting spending, or by a combination of both.

All this happens against a backdrop where the UK public finances are in healthier shape than was previously anticipated. The latest OBR forecasts show that the Treasury is on course to not just meet its first two fiscal targets in 2020-21, but to actually exceed them. This leaves the UK Chancellor with more money than he was anticipating having, all of which could be used to reduce borrowing, to increase spending, to reduce taxes, or any combination of the foregoing. 

Essentially, this is a tale of two governments. A UK Government making more progress in reducing the deficit than was previously expected, and a Scottish Government presiding over a substantial gap in Scottish economic performance and that of the rest of the UK, with the consequence that lower tax revenues than previously expected are being received, with consequences both for the tax burden and for spending on public services.

One of the most sobering parts of the SFC’s analysis shows that there has been no real terms wages growth in Scotland for some nine years, and, looking into the future, the position is not expected to get much better. At a time of stagnating wages and dismal economic growth, the Scottish Government’s only answer seems to be to increase taxation still further, sending out the message to the world that Scotland is the highest taxed part of the UK. This is no way to turn around our failing economic performance.

The Fiscal Commission’s revised projections will have come as a nasty shock to the SNP’s Finance Secretary. But the reality is that there will be yet more bad news to come unless his Government can be persuaded to change direction.

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