The Fiscal Framework and why it’s so important

Kirsty Blackman, SNP MP for Aberdeen North, posted to Facebook a really good explanation of what the Fiscal Framework is and why getting it right is so important to Scotland. So good that we decided to re-post it here for your reference!


Kirsty Blackman MP

Kirsty Blackman, SNP MP for Aberdeen North

There’s a lot of misinformation flying around about the fiscal framework. In one daily newspaper I read a completely misleading description of how Per Capita Index Deduction differs from other methods of adjusting the block grant.

I’m guessing I’ve managed to lose some of you already, so I will go back to the start and explain.

Currently, the Scottish Parliament is funded by a Block Grant. The change in this Block Grant every year is determined by a method called the Barnett Formula. In simple terms, the Barnett Formula looks at the change in each department’s funding in England for that year, and applies either an increase of a decrease in the level of funding Scotland receives. The calculation takes into account the level of devolution of each department and allocates Scotland a population share on that basis.

Education is wholly devolved, so if England increases spend on education, Scotland will get an increase in that section of our block grant equivalent to the increase per person in England. Defence is not devolved at all, so any increase in defence spending has no effect on the Block Grant provided to the Scottish Parliament. Many departments are partly devolved, so Scotland will receive an increase or decrease that is linked to the percentage of devolution of that department.

With me so far?

After the referendum, the cross party Smith Commission was convened. It looked at which further powers should be devolved to Scotland and all parties signed it. The Smith Commission agreed strongly that the Barnett Formula should be retained and that Scotland should continue to be funded from Westminster by the Block Grant method. The famous Daily Record Vow made before the referendum also committed to retaining the Barnett Formula.

But, the Smith Commission also recommended the devolution of some VAT receipts and further income tax powers to Scotland (some had already been agreed to be devolved in 2016 as a result of the last Scotland Act). If Scotland is raising its own money in these areas directly then the Block Grant needs to be decreased to take account of this. (The Treasury is no longer receiving the income tax receipts from the Scottish population. This money is instead going to the Scottish Parliament. So this money no longer needs to go to the Treasury and be mixed in with money from other parts of the UK then redistributed to Scotland through the Barnett Formula). Everyone agrees on this point.

The sticky issue, is HOW to decrease the Block Grant. It’s relatively easy to do it in year one. Let’s say the UK Treasury normally receives £x in income tax from Scotland. In the first year, the Block Grant should be reduced by £x. So the Scottish Parliament will be directly collecting the £x therefore won’t need to receive it from the Treasury.

But what happens in year two? Income tax receipts vary year on year as the economy grows and shrinks. The Smith Commission was clear that a method of indexation needed to be agreed between the Scottish and UK Governments to determine how the Block Grant Adjustment would be calculated each year.

But, Smith wasn’t clear what this index should be linked to. Scottish and UK Government ministers are currently negotiating how the Block Grant adjustment should be calculated year on year. The Smith Commission was clear that whatever method is chosen should be suitable for the long term rather than needing to be renegotiated every year.

There are various possible methods of indexing the Block Grant Adjustment. The one favoured by the Scottish Government, the STUC, and an impressive number of highly regarded academics, is Per Capita Index Deduction (sometimes called Index Deduction Per Capita). The Per Capita Index Deduction method is, according to the academics who have written on this, the closest indexation method to Barnett.

So the Scotland Bill is about fulfilling the Smith Commission and the Vow and both the Vow and Smith committed to retaining Barnett. According to experts the only reasonable option that retains Barnett and doesn’t disadvantage Scotland is the Per Capita Index Deduction method.

Per Capita Indexed Deduction indexes the adjustment in the block grant to the change in revenues of the equivalent tax per person in the UK. This method insulates Scotland from negative effects caused by a comparatively slower rate of population growth. This is a very important point, if not the most important point.

Scotland has had a lower rate of population growth than England since before the Act of Union in 1707. As there is no suggested devolution of powers over immigration which would allow us to grow our population at a different rate to England’s, the only fair way to index the Block Grant adjustment is by a method which takes into account the limited powers of the Scottish Parliament.

Other methods of Block Grant Adjustment such as Levels Deduction mean that Scotland would have to grow our population at a faster rate than the rest of the UK simply to keep the Block Grant at the level it is now. It’s very unlikely that Scotland will manage this given our very limited powers over population size.

Any method chosen MUST take into account that Scotland will only have limited powers to grow its population and so to grow its economic output and income tax take.

So, why is this worth arguing about? It is because of the financial value to Scotland of this formula. If the wrong formula is chosen, the Scottish Parliament could lose up to £7 BILLION. It’s not pennies. This is about the long term financial health of our country. In my opinion, the Scottish Government are digging their heels in for the very best of reasons.

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