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Sterling, Scottish Independence and Other Eco-Stats: Bank of America Say Currency is At the Forefront of Risks

Should the Scottish Government get its way the country would continue using the UK's sterling in a formal currency union after becoming an independent state.

But all of the main UK political parties have thus far stated that they would not agree to Scotland retaining pound sterling.

With the gap between the Yes and No camp narrowing, and financial markets may slowly be waking up to the reality that the 300 year union may be entering its final days.

Deutsche Bank have taken a look at the UK's finances and, "we believe future currency arrangements - what and who Sterling would represent, the BoE’s role as central bank and lender of last resort, and redenomination risks/capital flows - are at the heart of uncertainties around Scottish independence, and could impact upon a range of financial assets," says Nick Bate at Bank of America Merrill Lynch.

The investment bank has given us further economic snippets on the potential economic scenarios facing the break-up of the United Kingdom.

Here are some of the key takeaways forwarded by Bank of America Merrill Lynch Global Research:

Currency Union With the UK and the Eurozone

  • "In the event of a formal currency union, significant fiscal agreements would have to be drawn up to try to mitigate problems like the euro area crisis."
  • "Continuing UK would have considerable scope to support the Scottish public finances if required, but Scotland would not be able to offer significant support to the continuing UK in the opposite situation."
  • "Contingency plans for the Bank of England providing lender of last resort facilities to Scottish banks would also have to be agreed."
  • "Unless a formal euro optout were to be negotiated, an independent Scottish state may end up de facto negotiating simultaneously a commitment to adopt two different currencies: the euro (through negotiations over EU membership) and sterling (through negotiations over the membership of a formal sterling currency union)”."

Sterlingisation

If Scotland were not able to agree a formal currency union with the continuing UK, it could arguably still adopt Sterling as its currency - something referred to as Sterlingisation.

Look to Panama for the workings of a 'dollarisation' scenario.

  • "While the well-synchronised economic cycles of Scotland and the UK over time would help mitigate some of the problems of Scotland having no control over its own monetary policy, an asymmetric shock to the Scottish and continuing UK economies (e.g. an oil price shock) could stoke greater tensions."

An independent Scottish currency

  • "Scotland could move to its own currency, set up its own central bank and take full control over its choice of monetary policy."
  • "Only the Scottish Government would ultimately be able to backstop the banks (either directly, or via the central bank). Setting up such institutions / arrangements would take some time though, again resulting in uncertainty in the interim, both in Scotland and to a lesser extent in the continuing UK. During that time, there could sizeable financial flows in/out of Scotland in advance of re-denomination of Scottish assets from Sterling into the new currency."

Oil Loss Offset By Lower Government Spending

  • "In the event of a “Yes” vote in the referendum, the underlying fiscal outlook for the continuing UK (i.e., excluding the Scottish debt reimbursement issue) would be little changed from the current aggregate UK outlook, with the loss of North Sea tax receipts offset by cuts to government spending in Scotland, which is around 10% per capita above the UK average."

Impact on GDP

  • "Scotland accounts for around 8% of UK GDP."
  • "All else equal, our calculations based on official data suggest that the corresponding loss of the majority of oil exports would widen the continuing UK’s trade deficit by around 2.5pps of GDP."
  • "Independence would result in oil and gas output accounting for around 15% of the stand-alone Scottish economy."
  • "The continuing UK would account for the majority of Scottish trade (around 70-75%), while Scotland would be the continuing UK’s second largest trade partner - behind the US."
  • "North Sea oil output peaked in 2000 and has since fallen by around 60%. Thus, under Scottish independence, the average 0.3ppt per year drag on UK GDP growth from declining oil output over the last decade would change to virtually zero."
  • "For Scotland, with a lower precrisis trend than the remaining UK and a sizeable drag from the oil sector (15% of the economy in long-term structural decline), we believe trend growth could potentially be notably lower."

Banks - and relocation of businesses out of Scotland

  • "With both RBS and Lloyds technically domiciled in Scotland, their assets alone would be equivalent to more than 1000% of an independent Scotland’s GDP, while their bailouts during the financial crisis would have amounted to around 45% of GDP. So an independent Scotland would be relatively heavily exposed to the financial sector. That highlights the potential for corporate re-locations across the border in the event of Scottish  independence."

OVERALL? The Remaining UK Will be Marginally Better Off Without Scotland

  • "Overall, it is not clear to us that Scotland leaving the UK would change the economic outlook for the remaining UK significantly. In our view, the fiscal position would be moderately worse in the near-term, with the remaining UK shouldering all of the current government debt burden before (in all likelihood) being reimbursed for Scotland’s share over time.
  • "In the longer-term, we think the fiscal outlook for the continuing UK would be marginally better."
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