One of the world's top economists has warned that an independent Scotland's economy would crash within seven years if it tried to use sterling.
Professor Ronald MacDonald, a currency expert who advises the International Monetary Fund and the European Central Bank, said the Scottish government's plans to use sterling after a yes vote were fundamentally flawed, even if Alex Salmond's proposals for a currency union were accepted by the UK. The Scottish economy would shrink by up to £100bn by 2023, MacDonald said.
His intervention has reignited a simmering row over the first minister's plans to share the pound after Mark Carney, the Bank of England governor, disclosed on Wednesday that the Bank was drawing up contingency plans to defend sterling and prop up Scotland's finance sector in case of "currency flight" by depositors after a yes vote on 18 September.
Salmond insisted on Thursday that Carney's intervention underlined the case for a currency union. He accused the UK government and Labour of creating financial instability by repeatedly rejecting proposals for a currency union as a campaign tactic in the referendum.
During ill-tempered exchanges in the Scottish parliament, Salmond cited evidence from Sir Donald MacKay, a former economic adviser to the UK government, that a currency union was "perfectly possible" and was in the UK's long-term interests.
Salmond said the pro-UK parties had already tried and failed to sow doubts about the health of industrial investment in Scotland and its employment rates. "Trying to generate instability in the financial markets will fail as well," he said.
MacDonald, the Adam Smith professor of political economy at the University of Glasgow and a globally recognised expert in oil-based economies, said any move to use sterling would expose Scotland to huge economic shocks because of its heavy reliance on North Sea oil revenues, but inability to set its own interest rates or control money supply.
In a damning critique of Salmond's proposals, MacDonald said that independence would immediately mean that Scotland became a petro-economy. That would leave it heavily exposed to higher prices in shops, wage rises, a significant trade deficit and increasingly expensive exports.
Using IMF methodology, MacDonald said Scotland would face an annual deficit of 7% and would cut Scotland's economic output by at least £30bn in a best case scenario, or up to £100bn in a more likely worst case scenario by about 2023. "Clearly this is very, very bad news," he added.
It would greatly increase pressure for public spending cuts and tax rises, with a future Scottish government forced to impose a punishing austerity regime to balance the books, or face the prospects of an IMF bail-out, similar to the ECB's rescue of the Irish and Greek economies.
MacDonald has been a currency adviser to banks, governments and oil rich states including Norway, but released his analysis through the anti-independence campaign run by Alistair Darling, Better Together.
He insisted he had done so because Better Together had commissioned him, and would have been "very happy" to give the same advice to the Scottish government, and denied taking a partisan stance on the referendum.
"If an independent Scotland had a separate [new] currency then I'm sure in the longer term it could survive and prosper," MacDonald said. A separate currency "is the only tenable plan B, to be perfectly candid".
But the first minister and his government's advisers were wrong to predict that a currency union would keep Scotland's economy in lock-step with the far larger UK economy; they would quickly diverge, MacDonald said, even in a currency union.
They were already different, he said. Excluding oil revenues, Scotland had an average trade deficit of 11% over the last 15 years, which became a trade surplus of 2.7% if a geographic share of North Sea oil was included.
That meant that oil played "a massive role" in determining the optimal currency and exchange rate options for Scotland. "We become a net exporter of oil and that fundamentally changes the nature of the Scottish economy and particularly the relationship we have with the rest of the UK," he said.
A currency union, already vetoed by George Osborne, the chancellor, would be unsustainable because of the differences between the two competing economies, he said. "I don't think it will last long. This will kick in on day one of independence. These relative price effects happen very quickly," he said.
If Scotland chose to use sterling without a formal agreement to have the Bank of England and the Treasury underwrite Scotland's economy, that could provoke a massive crisis and require "severe austerity" to create the significant surplus needed by a Scottish chancellor to balance the books.
Scotland's manufacturing exports would soon become uncompetitive, because prices within Scotland would rise faster than in the UK. That would worsen if it chose to use sterling without a formal deal, with large parts of Scotland's financial sector forced to move to London and investors withdrawing money from Scottish companies.
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