Currency options for an independent Scotland

Think tank: Institute for Government

Author(s): Gemma Tetlow; Teresa Soter

September 17, 2021

This report from UK think tank the Institute for Government looks at the currency choice for a newly independent Scotland.

Any currency choice for a newly independent Scotland would require its government to bring borrowing down to a sustainable level and commit to low and stable inflation. This report, published alongside a second paper on how an independent Scotland would borrow, sets out how currency choice and needing to borrow from international markets would affect an independent Scotland’s monetary and fiscal policy, economic and financial stability, and trade opportunities. It explains how three currency options – a formal currency union with the rest of the UK, joining the euro, and ‘pegging’ a new Scottish currency to the value of another – are not initially viable. Whatever currency arrangement it chose, Scotland’s ability to borrow would be restricted by what international investors were willing to lend. The implicit Scottish deficit was over 8% of GDP before coronavirus. No advanced economy – especially no small, advanced economy – has consistently borrowed anything like that much in normal times. A sustainable medium-term deficit would be closer to 3%. But this gap cannot be closed by spending less on defence or – at least initially – through higher growth, so some tax increases or spending cuts would be necessary. Higher borrowing costs and concerns about currency stability could be minimised – though not eliminated – by an independent Scotland putting in place strong, independent institutions (including a new monetary authority and expanding the role of the Scottish Fiscal Commission) and demonstrating a commitment to low and stable inflation and to sustainable fiscal policy.