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Global Trends and Politics

Scotland refrains from opening Pandora’s box

Scotland decided on Thursday to stay part of the United Kingdom – fortunately, from an economic viewpoint. Michael Menhart, Chief Economist at Munich Re, discusses some of the risks associated with Scotland’s independence.

19.09.2014

Out in the first round! The performance of the England football team at the 2014 World Cup in Brazil was as disappointing as it has been in most previous tournaments. England, Scotland, Wales, and Northern Ireland have always had separate teams, and for the most part they have not been very successful. It is only at the Olympic Games where there is a national team for the whole of Great Britain. A joint national football team could be much stronger – and include players such as forward Gareth Bale from Wales, whose goals for Real Madrid helped his team to win the Champions League this summer. Such musings – and they are no more than that – do not really fit in with current political thinking, with several regions throughout Europe seeking to secure autonomy. But Scotland decided on Thursday to stay part of the United Kingdom – fortunately, from an economic viewpoint.

Unforeseeable economic risks

The economy of an independent Scotland would have relied substantially on the oil and gas reserves, which are almost all in Scottish territory. But despite these undoubtedly attractive sources of income, the economic risks arising from a division of the United Kingdom would have been unforeseeable. The uncertainty begins with the question of whether an independent Scotland can retain the pound sterling, which is doubtful. Exclusion from the currency union with London could have had serious financial consequences for Scotland. By way of example, coming to the rescue of a systemically important bank like the Royal Bank of Scotland during the financial crisis would have quickly brought a small state like Scotland to the brink. Without support from the Bank of England, the risk of a crisis of confidence amongst investors and customers would rise dramatically in an emergency.  

© Munich Re
Without support from a larger family – whether in the United Kingdom or in Europe – small, new, independent states would find things much harder.
Michael Menhart
Head of Economic Research

Existing contractual relations between Scottish and British companies would also have to be adjusted to deal with any new currency. It is anyone’s guess how many companies currently domiciled in Scotland would quickly move to the financial security of London in an emergency. It also was seen questionable whether, in light of demographic trends, Scotland could afford the cost of a welfare state without the transfer of funds from London.

 For the rest of the United Kingdom, a split with Scotland would also have been a massive event, entailing uncertain economic and political consequences. The British Treasury would no longer have received tax income from oil and gas, but there would have been a benefit as well from stopping transfer payments to Scotland in the case of independence. Any secession would have also changed the balance of power in Europe – probably not in London’s favour.

Separatist movements gaining momentum

Scotland is not an isolated case in Europe. The Catalans are seeking autonomy in Spain, and this has been the goal of the Basques for even longer. In Italy, Veneto is debating the formation of an independent republic, and there are still calls for South Tyrol to become independent. The Flemish and Walloon communities in Belgium cannot agree on what level of autonomy to seek. All of these movements have different aims. Relatively affluent regions feel that they are financially exploited by central governments, which – in their opinion – unfairly subsidise poorer regions. Populations express their discontent with their governments’ economic and tax policies. There are often also historical differences and rivalries between demographic groups and regions.

 Is this a downward spiral towards European disintegration? Not necessarily. Attempts by individual regions to secure autonomy, and the increasing economic and political importance of the EU, need not be contradictory. The trend is for the responsibilities of the European Union to increase, whilst the influence of Member States is decreasing. The desire for independence is mostly directed against the central governments of sovereign states. Independent regions do not seek to exit the EU, so it is no wonder that within the protection of a strong union – where there is no longer any discussion about a single market or customs duties – there is more scope for autonomy.   But Scotland would not automatically have become a Member of the European Union. In order to join, all other Member States would have to agree. And it is by no means certain that they would have done so. Countries that are affected by similar calls for regional independence had little incentive to ease Scotland’s path to independence, as this would have opened up a Pandora’s box.

 Without support from a larger family – whether in the United Kingdom or in Europe – small, new, independent states would find things much harder. Small states can get along quite well when the going is good, but what happens in bad times, such as in the thick of a financial crisis? It would also become more difficult for the rest of Europe to find common solutions to central functions: regulation, energy supply, migration, and foreign and security policies, to name just some of the most important issues. It is already hard to find agreement among 28 Member States, and this task would not become any easier if this number were to increase.  

Back to sports: Scotland, Northern Ireland and Wales would never give up their national football associations. But at the Olympic Games in London in 2012, the joint Great Britain Olympic team came third in the medal table, far above all other European countries. Fortunately, it looks as if the British team can now continue to count on the participation of Scottish athletes in the future.

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