Taxing questions as hard choices await Scottish Government

At Holyrood on Tuesday, the Scottish finance secretary Kate Forbes will make a statement to parliament indicating the direction of travel in spending plans over the next four years.

In many respects it will be the most difficult statement made by a finance secretary of the devolved era.

A combination of high inflation, a sense of impending unrest over public sector pay, an NHS crying out for yet more resources to deal with a post Covid backlog in procedures, are just a few reasons why the Institute for Fiscal Studies (IFS) points to the prospect of a £3.5bn black hole in the coming years.

It is truly a daunting picture for the Scottish Government for their room for manoeuvre is very limited. Most of their income comes by way of a block grant from Westminster with adjustments made through the Barnett formula to mirror spending patterns in devolved areas in England.

In practical terms that means future increases (and decreases) to the block grant is in part dependent on decisions taken by the Chancellor and there knock-on effect on spending departments in England. The one thing the current funding model does not give is certainty.

The borrowing powers open to the Scottish Government are limited also further manacling attempts to borrow your way out of a potential crisis.

Scots are feeling the pinch as the cost of living crisis continues iStock

Add to that the fact the Scottish tax take is sluggish, then the demands for cash are unlikely to be bridged by an explosion in tax receipts for there is no evidence of a commensurate growth in economic activity.

Raising tax during a cost of living crisis is a non starter. Higher rate taxpayers in Scotland already pay significantly more than their counterparts in England and a further squeeze would open up a tax gap which would probably lead to some seeking employment elsewhere.

Indeed, the UK Government have said that they will cut the basic rate of tax by 1p in the pound in 2024, adding further pressure on the Scottish Government not to initiate a tax raid here. As families struggle with the spiralling cost of just about everything, a tax hike for basic rate tax payers simply won’t happen, it is too toxic.

When you take all of the foregoing points together, it is why the IFS concluded last week: “Even prior to the recent surge in inflation becoming fully apparent, the combination of underlying spending pressures, income tax revenue shortfalls and expensive policy commitments, implied that the Scottish Government faced a funding gap over the next few years.”

One of the “expensive policy commitments” relates to additional welfare support enjoyed by Scots that is not available south of the border. The Scottish Fiscal Commission point out that Scottish Social Security spending exceeds the funding provided by £750m per year. That figure could rise to £1bn by 2026/27.

This spending is central to the government’s social justice agenda and it goes to the poorest sections of the community. For political reasons it is a ‘no go’ area in terms of potential cuts.

Other big-ticket spending items like free tuition and personal and nursing care have become so iconic in defining the ‘devolution dividend’ that it is hard to see Kate Forbes seeking to make a move on these areas.

So, if the cost-of-living crisis rules out tax rises, if the tax take is sluggish, if large chunks of expenditure are untouchable for political reasons, what on earth does the finance secretary do?

Answer, I have absolutely no clue.

What I do know is that there is a nightmare scenario developing on pay. Inflation is at 9% and it is fuelling higher pay demands. Since so much of public spending in Scotland is pay, salary increases that mirror that rate are clearly unaffordable given the current budgetary constraints.

Already, in an effort to break the logjam on the railways, a pay offer has been doubled. Local authority workers are set to reject 2%. The 4% offered to rail workers now becomes a minimum benchmark figure which is likely to lead to an auction in pay demands to push claims ever higher.

Now it is the job of every trade union to get the best deal possible for members facing a crisis in household budgets. I make no criticism of claims born of worry that people will not be able to make ends meet.

What is clear is that the government simply does not have the financial headroom to fund high pay awards without slashing services which are already precariously placed after a decade of austerity.

Like the UK Government, I think Scottish ministers are on an inevitable collision course with the unions over pay. Balancing the budget, protecting existing services and funding near inflation pay awards are quite simply, an impossibility.

There are no magic tax receipts about to fall from the sky. There is no way to borrow out of this crisis. For political reasons so much of the Scottish Government’s spending is untouchable.

My hunch is that local councils will once again bear the brunt of tough spending decisions and that pay restraint will involve public sector workers in Scotland being offered increases which will amount to a real terms cut in living standards.

Over to you Kate Forbes, I do not envy your task one little bit.