Can enterprise steer Scotland out of weak growth?

When facing economic challenges, political leaders often turn to their financial deputy to perform some wizardry to get them out of a tight spot. 

Like Captain Kirk turning to Mr Spock in an episode of Star Trek for a pseudoscience solution, a chancellor or finance secretary is expected to undertake a technical sleight of hand, pull a rabbit out of a hat, to overcome what might seem like inescapable doom. 

This has been especially true since the global financial crash created an economic orthodoxy which focuses on cutting public spending to a minimum.

After all, Gordon Brown’s famous 2009 line: “Total spending will continue to rise and it will be a zero per cent rise in 2013-14” made about as much sense as science-fiction technobabble like “Operate the starboard inverter with bipolarized nodes”.

Eight years after the financial crash, George Osborne’s “we fix our plans to fit the figures; we don’t fix the figures to fit the plans,” wasn’t much clearer.

And now, a decade on, faced with rising inflation and uncertainty around Brexit, Scotland’s Mr Spock, Derek Mackay, has been charged with steering the country through uncharted space.

Scotland’s average annual GDP growth since the 2007/08 financial crash has been 0.8 per cent, exacerbated by the downturn in oil and gas in recent years.

And Scotland’s economy will struggle to grow in the coming years, according to the Scottish Fiscal Commission. 

In its report which accompanied Mackay’s draft budget, the body predicted GDP growth will be just 0.7 per cent in 2018, 0.9 per cent in 2019 and 0.6 per cent in 2020.

This is less optimistic than the Office for Budget Responsibility’s outlook for the UK as a whole, which put the figures at 1.4 per cent this year and 1.3 per cent in the following two years.

While the figures are better than the recession predicted after the result of the Brexit referendum, they are sluggish and would keep Britain at the bottom of the OECD. 

Meanwhile, rising inflation and static wage growth has also threatened confidence, while food prices are growing at their fastest rate in four years.

We now know the UK will likely face a Brexit ‘divorce’ bill of between £35bn-£39bn, based on agreements brokered between the UK and the EU, so a large increase in Scotland’s block grant seems unlikely. 

Faced with this context and unlike his finance secretary predecessors, Mackay has opted to use the parliament’s powers over income tax, proposing a penny here and there in new rates.
It certainly grabbed the headlines and represented a political and economic gamble, but whether it raises much more in tax remains to be seen. 

Politically, Mackay is helped by the fact he has the Conservatives arguing for a low-tax economic model on one side and Labour advocating higher taxes for high earners on the other. His proposals therefore can be packaged as the centrist approach.

In terms of investment for growth, the answer, according to Mackay, lies in enterprise and skills.

This was illustrated by his more than doubling of the budget for the economy, jobs and fair work portfolio.

But what will this increased investment look like? And can it really make a difference in what Mackay himself described as “the most challenging economic and fiscal environment for any budget in the devolution era”?

This fiscal environment is a product of continued ‘austerity’ ideology and the uncertainty surrounding Brexit, according to Mackay, although that does not entirely explain why Scotland’s growth is set to continue to lag behind the rest of the UK.

“It is clear that, to grow faster, we must boost productivity and grow our working-age population,” Mackay told MSPs.

As well as £1.2bn in transport infrastructure and £600m in fibre-optic infrastructure needed for superfast broadband, he announced a 70 per cent increase in investment in business research and development.

Whether this will prove transformative, however, remains to be seen. Figures show spending on business R&D in Scotland is already the highest since records began.

The Business Enterprise Research and Development (BERD) Scotland 2016 report, which was published at the end of 2017, showed R&D spend had topped £1bn for the first time. 

The growth in R&D is fastest in the UK, but it comes from a low base. The number represents 4.8 per cent of the UK total BERD spend of £22.2bn, well below Scotland’s 8.2 per cent population share. 

Furthermore, nearly two-thirds of the expenditure was focused in just four local authority areas: Edinburgh, Glasgow, Aberdeen and West Lothian. 

The Scottish Government hopes to double BERD by 2025, but with ministers highlighting the city deals as a potential avenue for investment, regional variations may continue.

But with the continuation of Highlands and Islands Enterprise – an agency once thought to be under threat – and the establishment of a new agency to boost enterprise in the south of Scotland, it is hoped innovative businesses will be set up elsewhere.

The Scottish national investment bank initiative is also an attempt to provide long-term capital to drive innovation and economic growth.

It will wield an initial £340m between 2019 and 2021, Mackay announced in his budget. 

Before that a two-year £150m “building Scotland fund” will focus on housebuilding, low-carbon business solutions and further support for R&D.

The Federation of Small Businesses (FSB) in Scotland was lukewarm about the announcements.  

The enterprise agencies and national investment bank “won’t mean a lot to many ordinary businesses,” claimed the FSB’s Scottish policy convenor Andy Willox. “Ministers have to ensure that these bodies and initiatives deliver for local economies and the wider business community.” 

What will have a greater impact on the economy, suggested Willox, is Scotland’s new tax regime. 

The headline of Mackay’s budget was the creation of uniquely Scottish income-tax bands which will see those on low incomes pay less and higher earners pay more.

While welcoming pledges to keep business rates competitive, Willox described the plans for income tax as “uncharted economic waters”.

“A majority of those in business in Scotland were against changes to the income-tax regime,” he said.

“However, the cabinet secretary underlined that his tax changes were designed to cause minimum economic disruption. Only time will tell what the wider impact will be, but our members have a real concern about the effect of these changes on household spending power.”

In evidence to Holyrood’s Economy Committee, Scottish Enterprise described consumer spending as the primary driver of economic growth in Scotland.

“Understanding performance, trends and challenges helps us focus our efforts on where we can make the greatest difference and add greatest value, and is critical to our business planning process and prioritisation,” the agency said.

“The most significant current challenge facing Scotland is its productivity performance. While improvements have been made, Scotland’s rate of growth in productivity continues to lag behind competitors, and the gap with top performing economies is widening. To catch up, Scotland needs a significant increase and improvement in its productivity performance.”

Of the six sectors identified in the Scottish Government’s economic strategy as what gives the country an advantage, energy, food & drink, financial services and life sciences have grown faster than the economy since 2007, Scottish Enterprise reported.

The other two, creative industries and tourism, were, on average, flat during this period.

“It is important to strike the balance between support in existing key sectors as well as developing emerging opportunities in subsea, fintech, data and advanced manufacturing to capitalise on Scotland’s unique natural assets, talent and research excellence,” Scottish Enterprise recommended. 

But while Scottish Enterprise expects to grow, the Scottish Conservatives released figures which showed the agency made £94.9m worth of investments in firms that went bust shortly thereafter.
In 2017, £11.1m was wasted across 37 different cases, according to the Conservatives.

“With enterprise policy, there will always be a risk of investments going wrong,” said the party’s shadow finance secretary Murdo Fraser. “That’s the very nature of the business. But for nearly £100 million to have been squandered in this way is simply wasteful.”

Fraser also aimed his sights at another agency tasked with helping kick-start business growth.

Business Gateway, which operates through local authorities, is supporting fewer start-up firms than ever before.

According to Fraser, 8,746 new businesses received free help from the organisation last year, a 15 per cent drop from 2009, while the agency’s spending had also dropped by £1m in eight years.
“If you take these findings along with the fact more Scottish businesses are dying, while fewer are being created, it paints a grim picture.”

The claim was refuted by the Scottish Government. A spokesperson said: “This accusation is demonstrably false.

“These figures only take into account the businesses which started up as a result of visiting offices.”

But with Mackay’s budget proposing a real-terms cut to local government, which hold Business Gateway’s purse strings, it seems unlikely the agency will be further empowered as an avenue for growth. 

Cuts to local government finance have also been highlighted by Scottish Labour as a factor in stifling growth. Finance spokesman James Kelly said: “It’s clear this budget will do little to grow the economy, with sluggish growth being branded ‘unprecedented.’ 

“That means less revenue in tax to protect public services and less money in working people’s pockets as wages continue to stagnate. 

“The SNP Government has tinkered around the edges on tax rather than take the bold and radical decisions Scotland needs to see. As a result, lifeline local services face a cut of £700 million.”

Meanwhile, the FSB has reported record low business confidence. The body’s Scottish Small Business Confidence Index fell to -21.4 points in the final quarter of 2017, down from -15.3 points in the third quarter. 

While confidence across the UK also fell, Scottish firms remain decidedly more pessimistic, according to the index. 

In recent years it has been the uncertainty surrounding Scotland’s constitutional future and Brexit that has been largely blamed for poor business confidence.

Yet it is another factor that has coincided with the low growth figures in Scotland, and that is UK economic policy.

Despite promises of an industrial strategy for Britain and a new economic direction, Chancellor Philip Hammond’s budget did not deviate from the established ‘austerity’ orthodoxy of low public spending and a focus on cutting the deficit.

While research by the Institute for Fiscal Studies showed the Barnett formula has gone some way towards protecting Scotland and Northern Ireland from the biggest cuts in government spending, poverty campaigners have shown that austerity has hit those on low wages, benefit recipients and women and children most.

The Fraser of Allander Institute has warned of an impending decline in real disposable household income, but that too has been a decade-long trend. 

Fraser of Allander, like the Fiscal Commission, the FSB, the IMF, George Osborne, and Mackay himself, has cast Brexit as the villain of the piece.

But austerity, cited by some of the above as its bedfellow in stifling growth, is also an economic model championed by the European Union.

Mass-privatisation alongside swingeing cuts to public sector pay and services was championed by the European Commission in Portugal, Ireland, Italy, Spain and, most famously, Greece.

Those countries have since charted different paths to recovery, with varying success. But whether cutting off ties with the EU entirely is an answer remains to be seen.

Changing to a wholly different post-Brexit economic model would be a higher stakes gamble than anything suggested by Mackay – aside from independence, of course.

But independence is no longer the only gamble in town, and the UK seems to be heading for a high-risk future, whichever way you turn.

Divisions within the main UK parties on economic policy are at their most profound in living memory.

Theresa May’s unprecedented talk of statism and limiting the free market led to The Spectator dubbing her “the most left-wing Tory PM in 40 years”.

It did not go down well among the party faithful, while the man favoured by party members as her successor, Jacob Rees-Mogg – a man who called EU Law “stentorian, sesquipedalian gobbledygook” –  advocates free trade, reduced regulation and much lower taxes.

Labour moderates, meanwhile, balk at the leadership’s commitment to use Brexit to create a new left-wing economic model, or as shadow chancellor John McDonnell called it, “socialism with an iPad”.  

In the words of UK shadow education secretary Angela Rayner: “It is a bit of a shit-or-bust strategy, I get that. It’s a high-risk strategy. But all of Britain’s great advancements in the past have been because we’ve had the gumption to take a risk.”

Delete the expletive, and it’s a phrase which could have come from the mouth of Captain Kirk, setting off to boldy go into an unknown future.