Monday, 15 September 2014

A short guide for public managers to what the Scottish referendum means for the public services in the UK and in Scotland - Prof Perri 6 - Chair in Public Management at Queen Mary

In the final days of the campaigns for and against independence before the vote, politicians and journalists have given most of their attention to the big economic, business and constitutional issues. At the Centre for Government and Leadership, our role is to think about public services and public management. This short guide picks out some of the main things that managers of public services both north and south of the border need to think about.

Of course, if the people of Scotland do vote for independence, years of negotiation will follow. In that time, everything I talk about here will be raked over. Nothing is certain now. Much would change very quickly after a “yes” vote. So I make no apology for speculating. At this stage, everyone has to. The question is not whether to speculate, but how to speculate thoughtfully.

The guide is organised straightforwardly. First, I look at the implications of a “no” vote. Under that heading, the consequences for their counterparts in England, Wales and Northern Ireland are considered first, before turning to impacts on the work of public managers in Scotland. Then the guide addresses the likely effects of a “yes” vote. Again, implications for public services the rest of the UK are considered first, before examining the consequences for Scotland. The conclusion considers the time horizon over which the effects might be felt.

This way of organising the issues means that the guide begins with some of the mildest effects but moves steadily toward some of the more dramatic ones.
This guide focuses on issues that have been largely neglected in the mainstream broadsheet press. It is devoted entirely implications for public managers. Therefore, it says nothing about party politics or about constitutional issues except as they affect the financing and redesign of public services.

If there is a “no” vote... Implications for public managers in England, Wales and Northern Ireland

For the most part, in the short run, a “no” vote in Scotland means “business as usual” for public services in the rest of the UK. There would be no immediate and direct consequences for their financing or organisation. But there will be indirect and longer term implications.

What will surely change, as a result of the referendum campaign and reinforced by the prospect of a second referendum in a few years’ time, will be the politics of spending on the public services in England. And public managers will have to think about how to respond to changes in English citizens’ expectations. The September 2014 Scottish referendum has concentrated minds in England as well as in Scotland. Drawing comparisons between the situation in England and the free social care, free prescriptions, cheaper university fees as well as the higher levels of spending on other services and the additional costs which may be attributed to this in Barnett formula money are now regularly the subject of tabloid newspaper articles and broadcast discussion, and not just expert financial analysis by the Institute for Fiscal Studies 

After a “no” vote in Scotland followed by “devo max”, but in the very tight UK-wide fiscal conditions expected if a 2010 budget surplus is to be achieved on current projections, a current of English sentiment and debate is sure to grow, examining English willingness to continue the fiscal pooling with Scotland which would continue, even with reduced “Barnett formula” payments.

Several party leaders have floated the suggestion that there would be further devolution, presumably including some degree of fiscal devolution within England. That might not take the form of regional assemblies, in the way envisaged by the 1997 Labour government, which found its plan rejected in a referendum in the north east. Because thinking in the last decade about economic development has concentrated on the city region, it seems more likely that any form of fiscal devolution within England might work with the Local Enterprise Partnerships, or perhaps the City Deal areas. Already, many of these span several neighbouring local authorities working together.

If there is a “no” vote... Implications for public managers in Scotland

In the event that Scots vote to remain in the union, the three unionist parties – Conservative, Labour, Liberal Democrats – have committed themselves to offering the Scottish parliament some additional powers, although they continue to differ on exactly what they would offer.
Any devolution package would give Scotland additional powers over some taxes. Perhaps surprisingly, the Conservatives are offering full control over income tax. The Liberal Democrats would devolve powers over inheritance, capital gains and part of corporation tax. Either plan would allow Scotland, still within the union, in theory, to cut taxes if the Scottish parliament thought this might help competition with the rest of the UK. Labour’s offering is narrower, and provides less scope for tax competition. At least in the short run, tax cuts mean reduced revenues, and therefore less to spend on public services. That would worry many managers of Scottish public services. Nor would it be very popular, after the way that the debate in Scotland has gone during the referendum campaign about the importance of continuing and protecting services such as the National Health Service.
Money paid to Scotland from taxpayers in the rest of the UK under the so-called “Barnett formula” would be reduced, presumably by at least the amount that a Scottish government increased its own revenues through the taxes it decided to raise. European Union rules don’t allow member states to vary VAT rates within their borders, so there is no scope for devolving rate-setting for that tax to Edinburgh. For these reasons, at least for the next five or six years, it is more likely that even with further devolution Scotland would keep tax rates roughly where they are now, or only make small adjustments.
Control of the £1.7bn housing benefit budget would be devolved under Labour and Conservative plans but not on Liberal Democrat ones. Quite what the Scottish parliament would do with the powers can’t be predicted. But local authority managers in Scotland will presumably be preparing ideas for new schemes to use the money differently from the design of present UK scheme. After a “no” vote in Scotland, there would be no greater pressure on this budget than there is going to be in any case for England and Wales. For everyone expects a tight period of public spending until 2020 or so when, if Treasury and Office for Budget Responsibility projections turn out to be right, the UK public sector as a whole might return to a small budget surplus. But Scotland’s general fiscal situation under “devo max” is unlikely to allow the Edinburgh parliament hugely to increase housing benefit spending. More likely, public managers in Scotland would make the case for combining with other benefits in the hope eventually of saving administrative costs (that said, the English experience with Universal Credit has been less than happy).
For managers of Scottish public services after a “no” vote, then, “devo max” is unlikely to mean much more or much less money overall. What it may mean is slightly more scope for Scottish public managers who are trying to put proposals to Scottish politicians on how to divide a cake of slightly more or slightly less the same size than it would have been had the existing devolution settlement continued.
After a “no” vote, the much bigger challenges for public managers in Scotland will be ones of responding the expectations raised during the referendum campaign among citizens about the quality of services, but within budget limits that will only be marginally changed from what they would have been in any case.
Like their English and Welsh counterparts, Scottish local authorities can borrow for capital investment but under a “prudential” regime. Because of the uncertainty about what currency loans would be repaid in, after a second referendum, they might face higher borrowing costs than their English counterparts, unless they agree to pool all their borrowing through the UK government debt office (which can borrow more cheaply). That’s something still open to them after a “no” vote, of course. But a Scottish government facing public expectations for greater control over the national destiny raised during the referendum campaign might not be keen to encourage councils in Scotland to borrow through London. So the costs of servicing local government debt might rise.
None of the unionist parties is offering a devolution scheme which would give Edinburgh powers to issue its own public debt, because within the UK, the markets would presume that the UK government and therefore the taxpayers of the whole of the UK would ultimately stand behind any public sector debt. Scottish control of its own debt is something that is presumed, in the present debate, only to make sense only for an independent Scotland. A “no” vote means that, with changes at the margin, Scotland remains within the UK fiscal system.
But the story doesn’t end there. Scottish public managers must think about how, after a “no” vote, the markets will look at special capital vehicles such as Public Finance Initiative schemes for road or rail infrastructure or hospitals or big Scottish government IT projects. The prospect of a second referendum and the serious possibility of a change of currency before the capital and interest were repaid, will push up the cost of finance for these special debt vehicles.
So is that all? Well, no, not entirely. At the time of writing, any “no” vote seems sure to be close. When next a Scottish National Party government in Holyrood felt it realistically could and in any case in only a few years’ time, it might be tempted to run another referendum on independence. Although the current SNP leader Mr Salmond has said that the September 2014 would be regarded as settling the question for a generation, future leaders of his party may not feel bound by his pledge. Most likely any scheme put forward on a second referendum would be significantly different from that offered in 2014. The plan for the currency, for example, as well as for relations with the European Union and NATO, would be very different. The expectation of a second referendum would itself have implications for the public services in Scotland, even with the additional “devo max” powers over tax rates and benefit budgets.

If there is a “yes” vote... Implications for public managers in the rest of the UK

Public managers in England, Wales or Northern Ireland appreciate that a vote for independence in Scotland will have immediate implications for them too. Few consequences can be predicted precisely yet, because after a “yes” vote we must await the negotiations between the Westminster and Edinburgh governments. But managers of many public services south of the border will be making contingency plans, preparing briefings for their Whitehall departments on issues that will need to be addressed in the negotiations, and dealing with the adverse ways in which it is already clear that the markets will react to a “yes” vote.
I shall not add to the already extensive commentary in the press about the challenges and difficulties of splitting the armed forces, setting up a Scottish central bank and immigration and security services and a foreign ministry with embassies, agreeing the exact sea borders, negotiating whether physical passport and customs controls at border crossings must be set up or whether Scotland will continue in the Common Travel Area, negotiating the shares of UK gold reserves, agreeing terms for whatever it is to be done with the Trident submarine base, the exact role of the monarch in the independent Scottish state and relationship with its new parliament, the difficulties for the Financial Conduct Authority in regulating and overseeing financial services some of which may move their registration to London and some of which may not, and the increased likelihood of the remaining UK voting in a referendum to leave the European Union. Here I concentrate on issues for public services that have not been examined in the mainstream media.

UK public services generally

The day-to-day work of many public services in the remaining countries of the UK will change quickly after a “no” vote.
After a “yes” vote, UK government bond yields will be forced up. Indeed, the markets are already beginning to price this effect into their calculations, and the international financial authorities are warning about it. Therefore, the costs to the public sector of borrowing will rise. For that reason, the UK’s capital investment programmes will come under growing pressure. The coalition government’s public expenditure plans for the 2015-2020 parliament already assume very deep cuts in central government department spending. Rising debt servicing costs will make these spending cuts unavoidable even if Labour were to be elected to govern in the UK in the 2015 general election. The difficulties for the UK public finances will only be exacerbated by the likelihood that after a “yes” vote, if economic growth in the UK falls. For reduced growth or even an end to the recovery will mean that tax revenues will be lower than they would otherwise have been, even if actual recession is avoided. The UK will take much longer than it otherwise would have done to recover its lost triple-A credit rating. Further quantitative easing cannot be ruled out. Interest rates will surely remain low for longer than they otherwise would, with further distorting effects on household savings. For all the UK public services, then, we can expect continuing and perhaps even deeper austerity until 2020.
The SNP government in Scotland has said that if, after a “yes” vote, the UK does not agree to a currency union, Scotland would refuse to accept any share of UK public sector debt. It has been widely estimated that in the event that England, Wales and Northern Ireland had to bear sole responsibility for the accumulated UK net public sector debt alone, it might represent 86% rather than 77% of their GDP. If UK growth fell after a “yes” vote, the proportion might be even higher. That would certainly force up the cost of UK government borrowing, and increase the pressure for even deeper spending cuts than are already assumed in the coalition government’s projections.
For many public managers in the UK without Scotland, however, there will be another very big economic issue for their organisations’ strategies. Without revenues from the international sale of oil which will then move to Scotland’s account, the UK’s already enfeebled trade deficit and balance of payments deficit will become very serious indeed. The BBC’s Economics Editor, Robert Peston, has published a rough calculation that it might rise to as much as 7%, even when taking into account the offsetting benefits of any relocation of financial services from Scotland to England. A trade deficit of 7% could be enough to create risks of a run on sterling. In that context, local and regional economic development would become an even greater priority for public managers than it already is, but even more important, economic development work for public authorities would be focused immediately on attracting and enabling the development and growth of firms in the UK which can sustain high levels of exports. Because the newly independent Scotland will be doing exactly the same thing, “arms race” competition will grow fierce especially between cities north and south of the border to attract foreign direct investment. Those public managers whose CVs appear to promise skills and connections in this area might attract premium salaries.
The press has already devoted many pages to the anxieties on the Clyde that firms based there would find it much harder to secure contracts with the UK Ministry of Defence (MoD) for warships and other military hardware. Once Scotland re-entered the European Union, competition would be formally open, except for the most sensitive systems which require great secrecy and for which the MoD has found ways to ensure procurement within the UK itself. Nonetheless, major defence contracts are always political sensitive. Moreover, the MoD is certain to be a much bigger purchaser than a new Scottish Defence Force and defence department. We can therefore expect MoD managers quietly to find ways to shift procurement away from Scotland for a variety of systems.
Away from budgets, finance and procurement, there will be implications for operations in public services too. After a “yes” vote, the security services will be the first to react. Responsibility in England and Wales for oversight of threats to the UK arising in Scotland will presumably transfer from the domestic services (MI5, in the standard parlance) to the foreign service (conventionally, MI6). When an independent Scotland begins to change its immigration policy – as it would be expected to do – toward something more welcoming to immigration and naturalisation than any of the UK parties will currently accept for the UK, the UK security services will probably begin to take a greater interest in Scotland and devote more resources to it, to ensure that they are alerted to any risks which might quickly move into the UK. This would be true whether or not Scotland negotiated its continuing membership of the Common Travel Area or agreed to enter the Schengen system once it secured its membership of the European Union, or remained formally outside both systems.
Over a longer period of time, some joint bodies must be created to manage big infrastructure projects which involve the heartlands of the two countries. For example, at the point when a serious proposal is put for a new high speed rail line between London and Edinburgh, or when next a new motorway or tunnel linking the two countries has to be constructed, joint transport and land use planning operations will have to be set up, and joint financing systems put in place. Because there are no such plans at the moment, there will be plenty of time to negotiate the terms for this kind of initiative.

UK public services in the border regions

A series of new arrangements will have to be negotiated for the border regions, and ministers in the two capitals will have neither the time, priority nor expertise to do all the negotiation required. Local authority chiefs, chief constables, NHS managers and others in the border regions will at the very least have to do the preparatory negotiations among themselves across the border to put in place arrangements which can be entrenched in formal agreements between the two nations, or which ministers can formally delegate to them.
Some problems and tasks straddle the border and will need new arrangements. Forestry management, both drinking and waste water management and other environmental matters will need new structures for cooperation across an international border that have simply never been necessary before. Some of these things might eventually need new cross-border authorities to be set up. But in the meantime, water companies and OfWat, the Forestry Commission Scotland and its English and Welsh counterpart which still has some quite important reserved powers that will need to be devolved and coordinated across the border, and neighbouring local authorities will have to come to provisional arrangements which can later be expressed, if necessary, in international agreements.
Economic development, especially at the more densely populated western (Solway Firth and Carlisle) end of the border but also at the Tweedmouth end, will have to be the subject of a series of coordinated plans to deal with the development of transport links and other aspects of economic development through the travel-to-work areas which span the border. This will require local authority managers and transport managers on both sides of the border to develop plans, systems of regular consultation, new financial vehicles for joint investment projects, in ways that can be scrutinised in courts on one or other side of the border in the event of a dispute, as contract and law laws gradually diverge still further than they already are under the two countries different legal systems. There is already a basic legal structure under both countries’ laws for the joint management of the Solway Firth and its sensitive marine habitat. The Solway Firth Partnership is still largely a voluntary body. All this may well have to be recast after a “yes” vote in Scotland and at the very least the region’s public managers and their lawyers will have to do some work on whether a new international treaty arrangement will be needed.
For the police, “hot pursuit” rights across the border will have to be expressed differently in cooperation agreements once they become a question of going over an international border. For example, hot pursuit across the border by officers who are armed may raise very different issues of public acceptability for citizens when crossing what will be an international border. Intelligence sharing between forces on either side of the border will become a matter for agreements supervised by Interpol rather than by the UK government. In the same way, public health cooperation across the new international border, for example in infectious disease control, will have to be put on to a new legal basis eventually but in the interim will probably require new protocols to be agreed by local authorities and health bodies on each side.

If there is a “yes” vote... Implications for public managers in Scotland

The mainstream press, and especially the Scottish press, has exhaustively examined the prospects for an independent Scotland’s public finances, both with and without a currency union, and I shall not try to add to that analysis here. I simply make the assumption that after a “yes” vote and before the completion of negotiations with the UK to launch the independent state, the markets will begin to price in assumptions about Scotland’s finances. Shadow credit ratings would quickly be published by the main agencies. Even in the interim period between the vote and actual independence, every public authority in Scotland would be making its plans against the backdrop of the assessments in the markets of the prospects for the country’s likely currency position, the proportion of UK public sector debt Scotland is thought likely to accept (or even be regarded as being in “default” upon). Again, following the publication of research by Professor Iain MacLean of Oxford University and by Professor Patrick Dunleavy of the London School of Economics, there is already a wealth of analysis in the public domain about the likely additional costs to the Scottish government budget of setting up and then running the new agencies which the independent state will require to take over functions and powers which have hitherto been reserved to the UK. Here I confine myself only to pointing out just two issues for the public services in Scotland during the transition, which have not been given so much attention south of the border.

Scottish public services management in the transition

Before the negotiations with the UK government are completed about the currency which Scotland will use, the risk premium which the markets will want from Scottish public authorities will quickly and significantly affect their ability to place long term contracts for procurement. The issue here is not about the cost of borrowing on the capital account but prices for services purchased routinely through annual expenditure. For prices will not be affected for most short term contracts. But for contracts expected to last over a period of years, suppliers will expect to price their offers in ways that insure them against the currency risk.
In the referendum debate, Scotland’s politicians have debated at great length whether NHS care will be better served by independence or continuing membership of the UK. One issue that has not been given much attention is the fact that in order to bear down on costs, as well as trying to buy in bulk, the Scottish NHS NationalProcurement agency has to seek to offer long term contracts to, for example, pharmaceutical companies, medical instrument suppliers, hospital bed suppliers, construction and IT companies. In the transition period between a “yes” vote and actual independence, the agency is likely to face quotations with sharply rising prices as suppliers seek to hedge the risk about which currency they would be paid in, in the later months or years of any contract.
The same issue will arise for local authorities and police forces in Scotland placing contracts for information systems, contact centres or any other services expected to be required continuously over a period of years.
Perhaps the Scottish government would ask the UK government for transitional help by way of some sort of financial guarantee, secured against longer dated future Scottish tax revenues, to try to persuade suppliers not to price in currency risk in quotations. However, it is not straightforward to see how ministers in the UK government would justify this to voters in the rest of the UK, since the separation process will already be exacerbating expenditure costs and austerity south of the border as well.
The second issue will affect Scottish local authorities more than other public services in the country, but will also affect housing associations. It may also have some small effects on the benefits bill. It arises in exactly the same way as the problem of rising supplier prices. For the fear, that long term financial commitments might be vulnerable if companies cannot be sure of being paid in sterling in future, will affect households in Scotland too. There have already been reports that mortgage lenders in Scotland are growing reluctant to offer attractive rates or low deposit percentages to those house buyers seeking to borrow large sums for long periods, because they cannot be sure that whatever currency Scotland eventually uses will not depreciate against the sterling in which the mortgage would be denominated. If this becomes a significant issue, it could do so quickly, and, of the public services, it would affect local authorities in Scotland first. Their own tenants might find it harder to borrow to buy private housing and so free up public housing stock, which would quickly have implications for length of waiting lists for local authority tenancies. The same would be true of housing associations in Scotland.
The problem could become worse if, despite the relocation of major banks from Scotland to England in order to benefit from the protection of the Bank of England as lender of last resort, market confidence were to weaken in the banks which do remain important players in the Scottish mortgage market. If, as is not impossible, these currency risk issues come to be seen as worrying in the inter-bank lending system, then a “mortgage drought” could quickly follow in Scotland. Indeed, anxieties about banks’ exposure to a Scottish economy, for which the future currency is unknown and not yet trusted not to depreciate, could affect bank lending to businesses in Scotland. This in turn would affect the tax revenues from Scottish business both to the government in Edinburgh and to local authorities through business (“non-domestic”) rates.

So is it really all bad news?

Most of the implications identified here affect the short run.
In the event of a “no” vote, the financial implications on either side of the border are relatively modest. In that circumstance, the factor which would affect the financial position of the public sector over a longer period is the likelihood of a second referendum. For that raises, but over a longer time scale, all the same anxieties. But it does also allow more time for the UK and Scottish governments quietly to negotiate conditional agreements for how they might be handled in the event of a second referendum, before it would be announced. Moreover, if economic growth continued after a “no” vote, these issues could be handled much more easily, because the vote itself would have removed some of the threats to growth and therefore the risks to the cost of finance and to tax revenues.
Even the implications identified here from a “yes” vote need not be catastrophic for the long term. Nothing argued here suggests that somehow an independent Scotland is “not viable”. If an independent Scotland can achieve early and rapid economic growth from sectors which are not vulnerable to firms relocating to England, then the transitional costs would be bearable. Nonetheless, a host of detailed and practical arrangements must be created in a hurry. Then for a period of two years to a concluded negotiation enabling the announcement of the independent state or perhaps (e.g., without a currency union) five years until the new currency system settles down and the markets have priced its risks into the costs of finance and into premia on supply contracts, the transition will be a costly one for the public services. Austerity will continue and have to be deeper than it otherwise would have been. The main long term implication of a “yes” vote for public authorities on both sides of the border will the need, arising from both countries trade deficit problems, to make a major priority of economic development of that kind which is focused to attracting and developing export-intensive companies. This will be “arms race” competition in which both countries’ public authorities will spend more to attract the companies they are able to.
Beyond public financial management, there may be some medium term but intangible benefits for public management of the referendum process, irrespective of the outcome. Public authorities facing this kind of uncertainty will have to seek to hire managers with greater skills in medium-term strategy. Senior public managers will have to develop strategies which can be sustained through a period of great volatility. More emphasis upon strategic capability for the public services may also attract talent into public management, which should have medium term benefits.
The referendum has engaged citizens in Scotland in perhaps the most informed, lively and thoughtful debates about the public services that has taken place since the 1975 referendum on EU membership or even the 1945 general election with its debates about the Beveridge plan for what were then called the social services. In the aftermath of the election result, it is likely that a similarly lively public debate among citizens will develop in England, Wales and Northern Ireland about the financing and design of public services. This can only be beneficial for the quality of democratic debate in the whole of Great Britain and Northern Ireland, whether they remain together or separate.

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