The Smith Commission’s proposals for Scotland taking charge of a chunk of tax revenues won conditional support from economists, who said the changes would not destroy the UK’s ability to control the public finances.
Handing the Scottish government most of the income taxes paid by residents along with air passenger duty and 10 percentage points of value added tax would be complicated and occasionally distort incentives, they said, but some of the big concerns had been addressed.
Investors in the government bond market were convinced that the strictly limited powers for independent borrowing in Scotland would be “consistent with a sustainable overall UK fiscal framework” and were sufficient for the rest of the UK not to be burdened by a profligate government north of the border.
Alan Clarke, of Scotiabank, said that with the cost of borrowing to the UK government falling on Thursday, the bond market was “completely oblivious” to the Smith Commission report.
Brian Hilliard, of Société Générale, said the markets might take notice when they understood the proposals better, “but it is not something people are talking about”.
Academic economists tend to be more sceptical about tax devolution than those working in the financial sector. A poll of academic economists this month found a majority were opposed to devolving full income tax powers to Scotland.
However, as David Phillips, of the Institute for Fiscal Studies, pointed out, the proposals were designed to address some of the usual concerns of economists as expressed in such polls. Under the plans, Scotland’s budget would not suffer to a greater degree than the rest of the UK if there was a recession that hit income tax revenues across the country, but it would face budgetary strains if it managed its economy badly so that revenues north of the border grew slower than those in England.
This provided incentives for the Scottish government to attempt to improve the economy and boost revenue. “It is a very good way of [devolving tax powers]. Scotland initially gets shielded [from shocks], but does have to pay its fair share in a consolidation,” Mr Phillips said.
With half of VAT alongside income tax and other taxes devolved, Scotland would have direct control over the revenues for about 60 per cent of its spending, the IFS said, agreeing with an assessment of the Treasury.
Angus Armstrong, of the National Institute of Economic and Social Research, called the proposals “everything and nothing” because lots of revenue was being devolved but the sense of direction was that Edinburgh would not get unlimited powers to borrow.
Many economists pointed out potential complications that might arise if Scotland were to go its own way with the income tax rates it controlled.
With the UK income tax rates still applying to dividend and savings tax income, for example, raising the top rate of income tax back to 50 per cent would encourage rich people in Edinburgh and Aberdeen to convert earned income into dividends or capital gains. Such spillovers, according to Mr Armstrong, were the greatest weakness of the proposals.
The IFS complained that the devolution of income tax without national insurance would complicate any plans to merge the two taxes.
Tony Yates, of Bristol university, said that without an integrated income tax system, the UK would find it more difficult to use fiscal policy to stimulate the economy, should a future government think that is necessary.
He called for an override to devolution “where the powers could be suspended” in the legislation to cover the possibility.
One of the tests of devolution will be the extent to which the Scottish government feels it is able to go its own way in designing the tax system. It has already proposed changes to stamp duty , but might feel unable to raise income tax significantly for fear that richer people might move south of the border.
Get alerts on UK devolution when a new story is published