Sound as a Pound?

A new report by Common Weal argues that an independent currency pegged to Sterling is likely to be most advantageous initially for an independent Scotland, but flexibility would be needed over the longer term.

The first major analysis to be published of an independent Scotland’s currency options post-Brexit has found that a range of options are viable, but only with an independent currency would a Scottish Government’s  monetary policy have the capability of adapting flexibly to global economic circumstances as they change.

The report, ‘Scottish Currency Options Post-Brexit’, is published by Common Weal and authored by researcher Dr Craig Dalzell, and can be accessed here.

The report looks at:

• The strengths and weaknesses of all currency options for an independent Scotland after the UK’s exit from the EU: currency union, “Sterlingisation”, £Scot pegged to Sterling, £Scot pegged to Euro, £Scot with a ‘basket’ peg, £Scot freely floating, The Euro, an Oil Standard and cryptocurrencies.
•  The infrastructure that would be required for establishing a Scottish Central Bank, including a Scottish foreign reserve fund.
• The design and distribution process of creating a new Scottish currency.
• Analysis of other countries that have become independent or left a currency union and set up their own currency, including New Zealand, Norway and Slovakia

Dalzell argues that currency union, the position of the Scottish Government in the 2014 independence referendum campaign, is now likely to be “impossible” practically, politically and legally in the context of the UK out of the EU and a prospective independent Scotland in the EU.

The report makes the case for an independent Scotland starting with an independent currency pegged to Sterling “from the point of view of confidence and stability,” but adds that “economics is a dynamic event and no single currency option is likely to remain the optimal choice for an independent Scotland for all time”.

“When selecting a currency option Scotland should therefore consider, as a first principle, the options which allow the Scottish Government to capture and retain monetary and political sovereignty over the decision. This will grant Scotland the ability and power to change its mind and adjust monetary policy, up to and including currency arrangements, if required or if it is advantageous to do so,” the report concludes.

The Sunday Herald reported on 17 July that leading figures in the SNP were exploring a new currency position. Dalzell argues in the report that three preferential policy outcomes need to be balanced when informing such a decision: achieving macroeconomic sovereignty, achieving fixed or stable exchange rates and achieving effective and free capital flows.

“Fully subscribing to these three factors has, however, been deemed the ‘Impossible Trinity’, a macroeconomic trilemma,” Dalzell argues. Flexibility to adapt monetary policy over time is therefore deemed essential.  The report makes the case for a participatory process in Scotland to establish the design of an independent Scottish currency, and also highlights the fact that the UK has also changed its own currency arrangements in the past, proving that flexibility is part and parcel of any country’s currency approach.

The report states: “Prior to 1914 a strict gold standard was in use; through various international agreements such as Bretton Woods in the post-WWII period and through the Thatcher era of the 1980’s the pound change the boundaries of its peg to the US dollar several times; it switched peg entirely to the West German Mark; then eventually it entered, then left, the first European exchange rate mechanism.

“Simply put, it is difficult to find an example of a monetary policy, except perhaps membership as junior partner of a full currency union, which an independent Scotland could reasonably embark upon and which the UK has not already done so (for better or for worse).”

Mike Danson, professor of Enterprise Policy at Heriot-Watt University, reviewed the report and commented that it is “well researched and based on best practise around the world of economics.”

He added: “Dr Craig Dalzell has done an excellent job in establishing the different options for an independent Scotland and proposed a form of currency that offers flexibility but also stability, credibility and room for innovation.

“Historically, Scottish banks were conservative, inventive and world leading; traditional sound banking practices would be nurtured again with a £Scots with quality, sustainable and ethical jobs and investment consistent with this currency model.”

Commenting on the report, Ben Wray, head of policy & research at Common Weal, said: “It is widely accepted among supporters of independence that the currency question was a source of weakness in the 2014 referendum. Brexit effectively kills off the case for a currency union, and therefore has provided the perfect opportunity to revamp the currency argument.

“This report looks at the whole range of issues that the Scottish Government should be exploring when deciding on a new currency policy, from minting Scottish coins to setting up a National Bank of Scotland.

“It argues that a modern approach to monetary policy requires the ability to adapt over time to changing circumstances. Only Scottish monetary sovereignty through an independent currency would fully allow that to happen.

“On the first day of an independent Scotland, it’s likely that an independent currency pegged to Sterling is likely to provide the most confidence and stability for transitionary purposes. However, over time, especially if the paths of the Scottish and rest of UK economy diverge, this could easily change and we should therefore follow countries like New Zealand which have also adopted a highly flexible currency strategy, pegging their currency at different times to the Australian dollar, US dollar and the British Pound.”

Commenting on his report, Dr Craig Dalzell said: “In this report I have taken the opportunity to examine the factors involved in determining the currency choice of a country, from the founding of a Central Bank to the importance of exchange rate and balance of trade, and how the UK itself has changed its own currency arrangements multiple times within living memory.

“I also discuss the comparative advantages and disadvantages of each of the reasonable currency options that an independent Scotland could face and have concluded that whilst all options are, in strict economic terms, viable, the second independence campaign should be approached on the basis of an independent Scottish currency initially pegged to Sterling.

“This option would strike a balance of initial confidence and stability whilst granting Scotland the maximum degree of sovereignty to change our monetary affairs if and when circumstances dictate they should. This is particularly important in light of the Brexit vote which may result in Scotland’s economy converging towards our favoured trading partners, such as the EU, whilst the remainder of the UK diverges away on their own desired path.”