1
Scottish Affairs Committee
Oral evidence: Revising Scotland’s fiscal framework, HC 660
Wednesday 3 February 2016
Ordered by the House of Commons to be published on Wednesday 3 February 2016
Members present: Pete Wishart (Chair); Mr David Anderson; Kirsty Blackman; Mr Christopher Chope; Mr Jim Cunningham; Margaret Ferrier; Chris Law; John Stevenson; and Maggie Throup
Questions 157-207
Witnesses: Greg Hands MP, Chief Secretary, and Lindsey Whyte, Deputy Director, Devolution, HM Treasury, gave evidence.
Q157 Chair: Chief Secretary, thank you ever so much for attending the Committee meeting today. This is the last of our evidence sessions on the fiscal framework, and I can hear the resounding sound of “thank goodness” from Committee members. We are very grateful that you are able to join us today. I know we have only an hour or so because I understand that you have other business that you have to attend to, so if you don’t mind, can we get straight into this?
Greg Hands: I have a very short statement, Mr Chairman, if I can.
Chair: Yes, please, of course.
Greg Hands: First of all, can I introduce Lindsey Whyte who is the Deputy Director for Devolution at HM Treasury.
Mr Chairman, I would like to thank you and the rest of the Committee for inviting me to give evidence on the Scottish Government’s new fiscal framework. In November 2014 the cross-party Smith agreement was published. The Government are committed to delivering this agreement in full. In it, Lord Smith stated, in paragraph 94, “The devolution of further responsibility for taxation and public spending, including elements of the welfare system, should be accompanied by an updated fiscal framework for Scotland consistent with the UK overall framework”. Furthermore, the Smith agreement added, in paragraph 95, “The Scottish and UK Governments should work jointly via the Joint Exchequer Committee to agree a revised fiscal and funding framework for Scotland”.
The Joint Exchequer Committee, which I chair with the Deputy First Minister of Scotland, has so far met on eight occasions to discuss the fiscal framework. The aim of these discussions is to agree a framework that delivers against all of the principles set out in the Smith agreement. This will ensure that we agree a framework that is fair to taxpayers in Scotland and fair to taxpayers in the rest of the UK.
As you are aware, a key part of the framework is the Scottish Government’s new funding model. As was set out in the vow and in this Government’s election manifesto, the Barnett formula will continue to determine changes in the Scottish Government’s block grant in relation to UK Government departmental spending. Alongside the operation of the Barnett formula, we need to adjust the Scottish Government’s block grant to take into account the new tax and welfare powers that will be devolved through the Scotland Bill. The Smith agreement was clear about what we need to deliver. Consistent with paragraph 95.3, we will ensure that funding for Scotland and the rest of the UK is unchanged at the point of devolution and thereafter, consistent with paragraph 94.4(b), Scottish taxpayers will benefit from growth in Scottish taxes so taxpayers in the rest of the UK should similarly benefit from growth in their corresponding taxes. The principle of taxpayer fairness is a fundamental principle of the Smith agreement and I am sure that taxpayers across the whole of the UK would agree. Put simply, Mr Chairman, this means that neither Scotland nor the rest of the UK should be better or worse off as a result of the initial act of devolution. Thereafter, the Scottish Government should bear the fruit of good policy decisions and the consequences of poor policy decisions.
The Joint Exchequer Committee is also discussing all the other aspects of the Scottish Government’s new fiscal framework, including implementation and administrative costs, VAT assignment, the Crown estate, capital and resource borrowing, policy spill-over effects, new budgetary arrangements, independent fiscal scrutiny and governance. While I am happy, Mr Chairman, to answer the Committee’s questions as best I can, I have agreed with the Deputy First Minister that we would provide no running commentary on the negotiations. But, Mr Chairman, I can further announce today that I have cleared my diary and will be going to Edinburgh on Monday with the firm intention of continuing our negotiations and getting a deal, a deal that is good for Scotland and good for the whole of the UK. Thank you.
Q158 Chair: Chief Secretary, we are very grateful for that statement and we are reassured that you are going to Edinburgh on Monday. I think everybody on this Committee recognises the efforts that both yourself and the Deputy First Minister have made in order to try to secure an agreement on this important and critical issue for the Scotland Bill. Perhaps you could help this Committee with a couple of things. In your view, what seem to be the sticking points? I know you do not want to provide a running commentary on all this but could you generally characterise what seems to be a summary of the disagreements between yourself and the Scottish Government on this?
Greg Hands: Thank you, Mr Chairman. Again, while still being consistent with not giving a running commentary of the negotiations, I outlined in the opening statement a number of areas that are quite complicated. Some people have likened this a little bit to the Schleswig-Holstein question in terms of the complexity of some of these areas. Across the board, there are a number of difficult areas where we are talking and in quite intense discussions with the Scottish Government but nothing has been agreed until everything is agreed. The block grant adjustment is an area where discussions are ongoing but I remain hopeful to confident that we are going to get a deal in the coming days.
Q159 Chair: Again, that is immensely reassuring to this Committee, given what we have heard. From the evidence that we have secured thus far, it seems to be right that the difficulty is around the block grant adjustment and the indexation that will be used after year 1 when it comes to how the block grant will be adjusted. What we have heard from most of the people who have given us evidence—and we have heard from people like Anton Muscatelli, the Principal of Glasgow University, David Bell and the IFS—the one indexation that seems to meet the no detriment principle in Smith and the one that seems to be honest and true to Barnett is the per capita indexed deduction. Everybody has said to us thus far that this is the one that would seem to meet the principles outlined in Smith. Is it your view that the per capita indexed deduction that is favoured by the Scottish Government is the one that should be applied when it comes to the fiscal framework?
Greg Hands: Mr Chairman, that is an interesting questions. There are a number of different academics and commentators involved in the debate. You mentioned Professor Muscatelli. There are also various papers done by the IFS and those attached to the IFS. There is Professor Jim Gallagher of Oxford University, who I don’t think has given evidence to the Committee. There is a number of media and other commentators out there as well putting forward hypotheses on different models. I would say that there is no academic consensus out there. For example, Professor Muscatelli himself said that levels deduction satisfies the second principle, taxpayer fairness. Indexed per capita satisfies the first principle of no detriment but not the second of taxpayer fairness.
I notice Jim Gallagher in his paper “Algebra and the Constitution” says, “The proper approach to a block grant adjustment is the levels one”. He was also quoted in an article in The Herald, I think on 26 January, “SNP demands over new financial deal between Holyrood and Westminster are unfair to the rest of the UK, claims academic”. I am not going to comment on what the Scottish Government proposals may or may not be; I think you have heard from Mr Swinney. But Professor Gallagher went on to say, and I think it is very important, “It would be hard to explain to English taxpayers”—which of course actually should also refer to Welsh and Northern Irish taxpayers—“that if their population grows they must provide services for them, but also send some of the tax these voters pay to support additional services in Scotland where population has not grown there”. That is the view of Professor Gallagher. David Eiser of the IFS also said that levels deduction is best in respect of taxpayer fairness. The Daily Record, I think only yesterday, said, “The UK Treasury don’t see any reason why a tax-raising Scotland should benefit from a growth in corresponding tax receipts in England and Wales. There is an undeniable logic to their argument.”
I just put it to you, Mr Chairman, that the academic debate is mixed out there. There is a clear and lively academic debate. I don’t think there is in any sense a consensus out there and the consensus that is there is that it is the levels deduction that fulfils the taxpayer fairness part of Smith.
Q160 Chair: Can I take it from what you have just said, therefore, that what the UK Government favour for indexation is the levels deduction? Would that be a fair thing to take from that? Is that what you have been putting in the conversations and discussions you have been having with the Scottish Government?
Greg Hands: I am not going to comment about the discussions with the Scottish Government.
Chair: Yes, I understand that.
Greg Hands: But my view is that levels best answers Smith overall. There are different parts of Smith that are better answered by different models, notwithstanding that. But I think if you were to look at it right the way across the whole piece it will be levels that best answers Smith in its entirety.
Q161 Chair: There seem to be three indexes that emerge as the contenders when it comes to how this is going to be done and you are right to identify them as the straightforward indexed deduction, the levels deduction and the per capita indexed deduction. We have seen some very concerning modelling that has been done about how the three are applied over a period of eight to 10 years. A couple of them, particularly when it comes to levels deduction and the indexed deduction, seem to suggest that the Scotland Government budget could be shrinking by upwards to £6 billion if this was in place. I don’t know if these are figures that you recognise but it is certainly something that is taken very seriously by the Scottish Government. First, do you recognise that and, secondly, could you understand the concern that the Scottish Government might have in signing up to something that may see a significant loss in the Scottish Parliament budget?
Greg Hands: Let me try to answer that, Mr Chairman. I think the key thing here is what assumptions you would put into the model. A model, by definition, is only as good as the assumptions that you put into it. In modelling the future of things like tax and the economy, you would need to model things like tax take, tax rates, population, absolute economic performance, relative economic performance between Scotland and the rest of the UK. Modelling is very dependent on what the assumptions are you put in there.
Q162 Chair: This is very important so we don’t lose this. The modelling that we saw when, for example, the per capita indexed deduction is applied and we were looking at the adjustment to the changes in revenues equivalent to a tax person, that seems to meet all the principles involved in Smith, it meets the principles of no detriment. When you apply the other ones, Scotland is at the mercy of all sorts of demographic population changes and challenges. Again, is that something that you identify? A second part of that question is: can you understand the Scottish Government’s concerns about applying an index that may, in their view, take billions of pounds out of the Scottish budget?
Greg Hands: Again, Mr Chairman, that depends entirely on the assumptions that you put in. What I think is a more productive way of looking at the different possible indices—and, let’s face it, there is almost an infinite number of things that you could use as an index; the three that you highlight I think are three of the ones that are reasonable to look at—would be to have a look at how the indices would have performed in the past. Rather than take guesswork of the future and all kinds of different assumptions that you could run into a model, you could take the factual basis of what has happened over the last 15 years. The IFS and one or two other papers do this. I can’t comment precisely whether the IFS have got their numbers right but it is far easier to get your numbers right when looking backwards than looking forwards. The IFS study on page 30, the one that came out in October, shows the differing results for the three different models that you talked about and shows, for example, that indexed is not that far from Barnett in terms of where it would have been—
Q163 Chair: Not that far from Barnett?
Greg Hands: Not that far from Barnett over the last—
Chair: But Barnett is central to it. Barnett is a principle that has to underpin any arrangement and agreement. It is not to be close to Barnett; it is to be Barnett.
Greg Hands: No, okay, but in terms of where Scottish funding worked out at that time, so the actual Barnett line, if you were to compare the three different indices you can do that against what the funding was actually in each of those years because it is essentially a factual look at the past rather than depending on a set of assumptions or hypotheses in the future.
Q164 Chris Law: We still don’t have a commitment, from what I have been hearing, that you share the concerns of the Scottish Government. In fact, let’s go back to Smith. Smith himself said to the BBC on 13 November in relation to the House of Lords second reading, “Unless it is a framework that works, I guess people should not be signing up to it”. Given the fact you have said yourself that there are differing views among academics, surely this is something that should be of grave concern to both the UK Government and the Scottish Government to get this to work properly.
Greg Hands: Yes. I totally agree with that. Of course we have to find a way to get a fiscal framework that both Governments feel comfortable with, feel happy with, that is consistent with the objective of giving the Scottish Government enough powers to grow its economy, to use tax and welfare and other levers to be able to improve Scottish economic performance. I agree that it should be a framework that works. I think we also have to have a framework that both Governments could sell to their electorate and their Parliament, going back to the taxpayer fairness principle. The First Minister herself said that the fiscal framework must be something that is fair to taxpayers in both Scotland and the rest of the UK. I wholly agree with that and I think we can find a way, we can find a framework that we can justify to our Parliaments and to our electorates that is consistent with Smith. What is also really important is that it is built to last. We do not want to have a fiscal framework that is continually either rewritten or subject to a huge number of appeals over the years and that kind of thing. It should operate in a mechanical, transparent and fair way.
Q165 Chair: Do you know what this sounds a little bit like to me? I think the Treasury have had a look at Barnett and we know that there is a great pressure put on by colleagues particularly in the Conservative Back Bench who don’t like Barnett. What you have seen with this indexation is the opportunity to try to blunt Barnett a little bit, to try to ensure that here is an opportunity to address what is seen from colleagues as a relatively unfair funding settlement for Scotland by indexing the block gap adjustment so that Barnett is blunted. Would that be a fair characterisation of what you are trying to achieve with some of these indexes?
Greg Hands: No, Mr Chairman, I think that would be an entirely unfair characterisation. We, as the UK Government, are entirely committed to the Barnett formula. The political party that I represent was one of the political parties that said so in the vow. Barnett is at the heart of the Smith commission agreement and Barnett was in our Conservative Party election manifesto just last May, so we are wholly committed to the continuation of the Barnett formula. If you don’t mind me saying so, Mr Chairman, I think the only people who are against Barnett are those who either favour independence or full fiscal autonomy, and I can tell you I am not one of those.
Chair: I think we will be having a conversation about that another day.
Q166 Chris Law: On that point, I take it you agree that the Barnett formula is a success for Scotland and that we are not overfunded and, therefore, there is no justification for any framework that seeks to systematically erode per head spending in Scotland?
Greg Hands: There is a number of assumptions within that question, but let me start off by saying, yes, I agree with the Barnett formula and the UK Government have signed up to the Barnett formula. I think it has worked well. Joel Barnett was my most illustrious predecessor in the role as Chief Secretary, and his memoirs “Inside the Treasury” are a very good read. I would well recommend looking through that. He was the longest-serving Chief Secretary. I think he was surprised in the end that his formula had lasted so long. I think he strongly thought it would not last nearly that long. I am totally committed to the Barnett formula. Let me point out some of the advantages of the Barnett formula. It works in a mechanical way, such that it does not need much interpretation. You will be aware there have been one or two disputes but it is very rarely, when you consider the magnitude and the number of different things that you are comparing, that there is a dispute about what the numbers should be. That is, thankfully, quite rare in the 40-year operation of the Barnett formula. I am committed to the Barnett formula, the Government are committed to the Barnett formula, and that is at the heart of Smith.
Q167 Chris Law: Do you agree that Scotland is not overfunded as a result of the Barnett formula and that any erosion of spending per head of Scottish population would be wrong under this fiscal framework?
Greg Hands: Again, there are quite a few assumptions in that question. The most important thing is that if we are going to have further income tax devolution, because as you know there is already considerable income tax devolution in the Scotland Act of 2012, we have to find a system that is fair to taxpayers in both Scotland and the whole of the UK but is consistent with allowing the Scottish Government to make the choices, to take the risks and bear the responsibilities of making decisions that are positive for growing the economy, which will also have a big impact on the tax take as well, but also to bear some of the risks if things go wrong. We need to find a way that is consistent with that.
Q168 Kirsty Blackman: Scotland’s population grows more slowly than England’s and we were told by the academics that came before us that it has done since before the Act of Union, so it continues to do so. None of the additional powers that are coming to Scotland allow us the ability to grow our population within Scotland. Looking at the possible deduction methods, the only deduction methods that protect Scotland from the Westminster policies that mean that we can’t grow our population in the way that we want to, it has to grow in the way that Westminster wants it do, is a per capita method, is a per head method based on the number of people in the population rather than on the growth of the population. Do you agree?
Greg Hands: No.
Kirsty Blackman: Why not?
Greg Hands: I will tell you why; for two or three reasons. First of all, I think it is very hard in something like tax and spending to extract and isolate population from considerations of tax and spending. When you think about it, when you are looking at what tax is used for and what Government spending is used for, both of those things are intimately connected with population, so your overall tax yield has quite a strong relationship with population. The amount and the quantum of government services that you have to pay with that money is also closely linked to population. On top of that, I think the Scottish Government should have and does have levers to increase its population, and it is not just me saying that. When the Deputy First Minister was in front of the Scottish Parliament Finance Committee last June and was asked about population risk he said, “It is another of the wide range of risks that we take on as a consequence of gaining the responsibilities”, actually taking responsibility because population is not just about immigration. Population is also about being able to do things like grow your economy, use planning powers, which the Scottish Government has. It is about housing powers, which the Scottish has. It is about the high quality universities in Scotland and the high quality skills base. All of these other things are perfectly within the powers of the Scottish Government to be able to attract more people coming to Scotland. I am talking not just about more people from within the UK but in terms of people coming to the UK, the Scottish Government is well placed to be able to make Scotland an attractive destination for those immigrating to the UK or coming in for one reason or another.
Population is important and I don’t think you can extract out population. By the way, I think if Scotland’s population were to start growing relative to the UK’s as a result of the devolved powers the Scottish Government has taken on, why should Scotland not have the opportunity to take advantage of that increased tax take? In other words, if we have devolved powers, the Scottish Government has done something with tax to make Scotland a more attractive place for people to come to, are you saying that Scotland should not be able to benefit from that increase in taxation due to the fact it is indexed and you have effectively frozen population?
Q169 Kirsty Blackman: You have just told us that the best way to look at the future projections is to look back. If we are looking back over the past 300 years, we are looking at the fact that Scotland has not managed to grow its population as fast as England has. If the best method is to look backwards, it is very unlikely that the Scottish Government, in the short term anyway, is going to be able to make those changes.
Greg Hands: Again, I disagree with that. If you go back 300 years, there has not been a Scottish Government until 18 years ago, there have not been Scottish Government powers over anything from planning to housing in that same sense. I would reject that analysis.
Q170 Chair: Again, this is important. I am quite surprised at your analysis when it comes to the demographic challenges we have in Scotland and as a Committee we are going to conduct an inquiry into some of these things. Kirsty Blackman is entirely right, we can’t keep up with England when it comes to growing our population. We can’t keep up because you control immigration policy. You are not even going to give us the opportunity to keep students that we educate at our universities to stay and build our economy. They get thrown out the minute they finish their courses; they can’t stay in Scotland. We are getting no more economic growing powers; we are getting no business taxes. We are getting 10% of VAT and what we are getting is control of income tax. If we are to grow our economy without a detriment, we need assistance from the UK Government to ensure this happens and the per capita indexed deduction is the one that we have been consistently told meets the principles of Smith and the no detriment clauses. This is why we are quite surprised at your resistance to this.
Greg Hands: Thank you, Mr Chairman. Let me come back on a few of those points. Immigration is, of course, reserved but I make the point to you very strongly that although immigration policy is rightly reserved—I can’t think of a single national government where immigration policy is not a reserved matter for the national government—it is still perfectly within the means and possibilities and the bounds of the Scottish Government to attract people who are coming to the UK. Secondly, what I would say is that the Scottish Government already manages population risk through the Barnett formula. It is not something that is beyond the capability of the Scottish Government. The third thing is I am going to come back to the IFS report and I know you have taken evidence from the authors. In relation to income deduction per capita, in other words the preferred model that Ms Blackman just mentioned, the IFS said, “The Scottish budget would not benefit from revenue increases that resulted from population growth. The Scottish Government would therefore lack incentives to boost growth through attracting more people to Scotland.” I think the Scottish Government should have the incentives to boost population, take advantage of the increased tax take, use those powers more extensively, and that is in the best interests of Scotland.
Q171 Mr Christopher Chope: Can I ask about the structural issue? On this Joint Exchequer Committee, are you representing the rest of the UK or the whole of the UK? The Scots are represented through the Deputy First Minister or their Chancellor of the Exchequer, you are on the committee as a joint chairman, but is there anybody on the committee who is arguing on behalf of the rest of the UK?
Greg Hands: Let me try to deal with that. I am there representing the UK Government and John Swinney is there representing the Scottish Government. I strongly feel that I am there to represent the whole of the UK. We have a UK Government that is elected, as you know, Mr Chope, on a UK-wide franchise and I see that as my role. But I would also say that I think it would be unfair to say that the Scottish Government do not pay heed to the rest of the UK. I am going to quote again what the First Minister said. She said it is important that the fiscal framework is fair not only to taxpayers in Scotland but taxpayers in the rest of the UK. I hope that answers your question, but there is not a specific England-only or Wales-only or Northern Ireland-only representative there.
Q172 Mr Christopher Chope: When this sees the light of day and the public can look at it, representatives from the rest of the UK are going to be very concerned to see whether the taxpayer fairness aspect of it has been delivered. I am concerned that wearing a UK Government hat with a natural tendency to want to try to appease the Scotland campaign that you might be tempted to think you can take the rest of the UK for granted in this. I am trying to get some assurance from you that that is not going to be the situation.
Greg Hands: I can assure you that that will not happen, Mr Chope, because at the end of the day the agreement will be scrutinised by both Parliaments and I would expect that if the agreement is deemed by you and other Members of the UK Parliament to not be acceptable to your constituents that you will tell me so. I am looking forward to defending the agreement, when we have it, in the UK Parliament, in the House of Commons.
Q173 Chair: This is very interesting because it is the first time we have heard about another debate about this. This is going to come back to the floor of the House once it is concluded, if it is concluded?
Greg Hands: It is a good question, Mr Chairman. I would expect that we are committed to there being parliamentary scrutiny. I think both Mr Swinney and I are committed that are our Parliaments have scrutiny of the agreement.
Q174 Chair: The Scotland Bill has been through the House of Commons. It is currently residing in the House of Lords and it will come back as Lords amendments. There is no other timetable or scheduling of a further look at the Scotland Bill.
Greg Hands: You know as well as I, Mr Chairman, that there are all kinds of different forms of parliamentary scrutiny. I would expect both Parliaments to have a good look at this fiscal framework—
Chair: Voteable?
Greg Hands: —here probably in both Houses as well in the Scottish Parliament.
Chair: Thanks. That is interesting.
Q175 Margaret Ferrier: I would like to go back to the point about income tax that you mentioned. Do you accept that the revenues generated by economic growth are not limited solely to income tax and that, therefore, when the UK is growing the Barnett formula it should continue to distribute the proceeds of growth as well, including from non-devolved taxes such as national insurance? Do you agree that anything else would be a breach of the Smith agreement?
Greg Hands: Let me try to deal with that. There will be a difference between reserved taxes and devolved taxes, as there is between areas of reserved spending and devolved spending. I am satisfied in my mind that that distinction is a good one. As I am sure you know, Smith and the commission looked across the whole range of taxes as to which would be the appropriate taxes to devolve. I know different members of the Smith commission had different views, but the view taken and the agreement made by Smith clearly outlines which taxes will be devolved and which will be reserved.
You are right that growth in the tax revenue is not just a question of income tax. VAT is a very important factor in this. By the way, I disagree with the House of Lords report when they said they did not think that VAT was an appropriate tax, I think is what they said, to devolve, although actually it is being assigned. I will not go down that distinction for the moment. VAT is important because if Scotland can grow its economy, which I would have every confidence that it would, then the VAT take within Scotland will increase. Going back to your point, Ms Ferrier, that it is not just about income tax, you are absolutely right. There are other things like VAT.
In terms of the growth of reserved taxes, those would be spent on reserved areas, which Scotland would benefit from. If reserved taxes went to areas of reserved spending like, for example, defence or pensions, then you would expect that Scotland will benefit from that reserved spending. So I think the answer to your question is, yes, I would very much expect to see Scotland benefit not just from the increase in income tax but across those other taxes as well.
Q176 Chris Law: ICAS told the Finance Committee that, “Considerable analytical and statistical work will be required if there is to be an amount that can be identified which truly reflects the VAT attributable to Scotland”. Can the Minister please tell this Committee how the Scotland share of VAT is going to be determined and what steps will be taken in order for that to be accurate?
Greg Hands: Let me just explain, first of all, Mr Chairman, why VAT cannot be devolved in the same way that income tax or many of the other taxes can be devolved. The rules set by the European Union, which polices VAT, say that you cannot have two different rates of VAT within the same national jurisdiction done on a regional basis. You can have different rates for different products, if I understand it correctly, but you cannot have different rates for different regions or different subnations of a country.
There are different ways that you can determine how VAT will operate. I am confident that we will get agreement with the Scottish Government on how that will be carried out. Calculating where the VAT expenditure took place I suppose is often the most difficult thing, but I am confident that we will get agreement on that. I can’t really go into the details at the moment because that is something that is in the negotiation.
Q177 Mr David Anderson: I apologise for being late to the meeting and also if ask questions that have already been raised. I want to come back to the process. Reading the letter from Bruce Crawford MSP, the convener in the Scottish Parliament, to you, Minister, about the process that they see going forward, they are envisaging quite a detailed programme of work as and when the two sides come to agreement. In answers to Mr Chope you said there would be scrutiny picking up on it. Is there any thought about exactly what we are going to do in this House in terms of us having some say about whether or not we think this hangs together, particularly given the fact that for months, despite calls from my party to do the opposite, you have been having these meetings in complete secrecy?
Greg Hands: Let me try to deal with that head on. I don’t accept, by the way, Mr Anderson, that the meetings are held in complete secrecy. We do say about forthcoming meetings and we publish a communique giving the broad areas under discussion. However, I think one has to recognise that negotiations like this are conducted with a degree of privacy and this is entirely the norm in the UK and international best standards when determining things like a fiscal framework between a national government and a devolved government, for various reasons. Mr Anderson, I might point out that the previous Labour Government had precisely the same approach to that being taken by the current UK Government and the current Scottish Government, and I think the previous Labour-run Scottish Government took the same view. The confidentiality of the negotiations while they are ongoing is really important. There is also an additional reason and that is that quite often there are market-sensitive processes and data that are moving around here. The confidentiality of the discussions is entirely normal and in accordance with international best practice.
Q178 Mr David Anderson: Except that when the 2012 Act was going through there were papers given to the Scottish Government at that time, we were led to believe in evidence we heard last week. My main point is what are we going to do in here about scrutiny so that I can say to the people of the north-east of England that I believe this hangs together in the same way as was laid out by Mr Crawford, quite a detailed programme within Scotland for them to consider in their own Parliament to say yes or no, this is a good agreement? So far you have not said a word about—wherever we come from in this building, whatever party we represent—how we are going to have some say in whether this is a good deal for our people.
Greg Hands: As I have said, my main focus is on getting an agreement before worrying too much about—
Mr David Anderson: If you get that agreement and we won’t sign up, where does that leave you if you push the agreement through without parliamentary acceptance?
Greg Hands: The agreement, the fiscal framework is obviously a key part of Smith and of the Scotland Bill that is still proceeding through at the moment. What I can say I am committed to, and I know that the Deputy First Minister is committed to do this as well, is to have parliamentary scrutiny in our respective Parliaments and I think that is very important, which I am sure you would agree with.
Q179 Mr David Anderson: Well, I do, but what I want to know is what are you actually going to do. Mr Crawford says, “In Scotland, the fiscal framework is not just a document for Governments to agree. The committee will also make recommendations to the Scottish Parliament based on its outcome.” Recommendations, that means that somewhere down the line their Parliament will have to agree this and if they don’t then it is back to the drawing board. What I am saying to you is: when are we going to get the chance in here to do exactly the same thing? If we are not, it will just be a continuation of other things that have happened in this country where the people, certainly in my part of the world, feel we are like second-class citizens. The Scottish, the Welsh, the Northern Irish, the people in London have all had referendums, they have had consultations on whether or not they will have devolved government. You are saying to the people in the north-east of England and the people in the north of England you either sign up to regional government or you get nothing, no consultation, no room for democratic input. That is the exactly the same as seems to be happening here with this process.
Greg Hands: I hear what you are saying. I am committed to there being parliamentary scrutiny of this fiscal framework. I am happy to look at what is being proposed in the Scottish Parliament and to look at whether doing something similar would be appropriate here in our Parliament.
Q180 Chair: Could you perhaps write to the Committee with your plans and proposals about how this will be considered in the House? This is entirely new to the Committee. Like Mr Anderson, I was presuming that there was not going to be any further conversation about this. If there is anything you can tell us about how this will be debated and progressed then this Committee will be immensely interested in that.
Greg Hands: I am very happy to write to you, Mr Chairman, as a consequence. As I say, my main focus at the moment is getting an agreement that works.
Q181 Kirsty Blackman: Post there being an agreement, would you be willing to clear a couple of hours in your diary, not just one hour, to come before this Committee and answer questions on the fiscal framework?
Greg Hands: I need to be slightly cognisant, Mr Chairman, of the fact that there may be other Commons committees interested in this deal. Although it is Scottish, there is also the word “fiscal” in it. I am not really able to give a clear commitment. What I am committed to is parliamentary scrutiny. The precise form it takes is maybe something for another day.
Q182 Mr Christopher Chope: What will happen if there is not any agreement? Ultimately it is a matter for the Scottish Government to decide whether or not a deal is one to which they can sign up and there is nothing compulsory about this. If they do not wish to go down this route, they do not have to. What do you see happening if the Scottish Government decide for one reason or another that what is on offer is not acceptable to them?
Greg Hands: That is an interesting question, Mr Chope, and I obviously remain confident of a deal. I personally think it would be unhelpful to speculate what could happen in the event of not getting a deal. The Scottish Government have set a deadline of 12 February. I am not saying that I disagree with that deadline. I am saying that I am working as hard as I can to make sure that we get this deal as soon as we possibly can and a deal that will be defensible in both Parliaments and will be fair to taxpayers in Scotland and in the rest of the UK.
Q183 Mr Christopher Chope: Can I ask you a specific question about reserved spending: will there be any changes to how Scotland contributes to spending on reserved matters as a result of this round of devolution?
Greg Hands: No. Reserved areas will still be financed by reserved taxes. You will have your whole panoply of reserved taxes that we have already discussed: national insurance; actually parts of income tax will remain reserved. It is going to be a shared thing so investment income on income tax will be reserved. There will be a set of reserved taxes including oil and gas, fuel duty, corporation tax, national insurance and so on, and there will be a set of reserved services, the two most obvious ones being defence and pensions. That situation would be unchanged by the devolution of most of income tax.
Chair: I know we have not got much more of your time, Chief Secretary, but we have some questions on welfare, if that is all right.
Q184 Margaret Ferrier: The Scotland Bill will see approximately £2.5 billion of spending powers devolved to Scotland. Going back to the indexation, is a per capita method suitable for the devolution of spending powers?
Greg Hands: It is a similar debate. Rather than looking at the specific models and their applicability, I think consistency is very important. At the end of the day, the Deputy First Minister and I have to justify the fiscal framework to our respective Parliaments and respective peoples. He has to justify to Scottish taxpayers and I have to justify to UK taxpayers. Having a consistency of approach is something to be strongly commended between all of spending and tax and welfare. I would say to that that the most important thing there is to have, if at all possible, the same model across the different areas. I think that is consistent and explicable.
Q185 Chair: Just to clarify that, you would seek to have the same indexation applied to the welfare powers as you would to the block grant adjustment. Is that correct?
Greg Hands: I am not saying I am necessarily seeking precisely the same thing. I am saying that in an ideal world there is a strong argument in favour of having consistency. There may be cases where it is difficult to have a consistency of approach but my default position, Mr Chairman, is to go for consistency, explicability and the fact that it is mechanistic rather than determined by any external or internal opinion.
Q186 Margaret Ferrier: Going back to if disability benefits were devolved to local government to build up social care support, do you feel that there should be an element of needs assessment to account for differing demographic trends in Scotland?
Greg Hands: In terms of devolution from the Scottish Government to local authorities?
Margaret Ferrier: Yes.
Greg Hands: I am not sure it is helpful, Mr Chairman, for me to go down that road of speculating on the relationship. Local government is clearly a purely devolved matter. I know it is quite controversial at the moment; I saw some coverage in the last few days. There seems to be a bit of a row going on in Scotland about local authority funding and I don’t think it is up to me to try to steer how devolution should happen between the Scottish Government and Scottish local government. The Scottish Conservatives, which is not the same as me, are strongly in favour of local devolution of as much as possible to local councils, but I do not think it is helpful for me to go down that road of the relationship between the Scottish Government and Scottish councils.
Q187 Maggie Throup: Just following on from that, there has been some concern about the interaction between reserved and devolved benefits. If the Scottish Government changed the eligibility criteria for devolved benefits such as PIP, would that have a knock-on effect on the eligibility for reserved benefits?
Greg Hands: I think we have to be really careful across different benefits. Mr Chairman, I do not know if you are going to come on to talk about spill-overs but spill-overs is a very important area of the agreement. In other words, what happens if you change one thing and that has an immediate impact on something else? If you tweak a devolved benefit or change it substantially, what impact does that have on a reserved benefit or what impact does, say, changing a devolved tax have on a reserved benefit? All of these things are within the parameters and the remit of the fiscal framework, so when we look at spill-overs, which is a key part of Smith, 95.4(a), we have to make sure that we get those right in assessing both the direct spill-over and the indirect or the behavioural effect.
The easier ones are things where there is a direct read-across to a change somewhere else, so you change a devolved benefit and there is straight away a change in a reserved benefit as a consequence. The more difficult areas are where there is a behavioural impact, so you change a devolved benefit that could have a behavioural impact rather than a direct impact on a reserved benefit or a reserved tax. You could get cases where a devolved tax could have an impact on a reserved tax somewhere else in the UK and sometimes even a potentially different tax. If you changed one of the devolved taxes and perhaps had an impact on VAT, for example, that could be something, and all of these are totally within the realms of the fiscal framework. But precisely the solution we find between the two Governments is something for the negotiation.
Q188 Maggie Throup: If one is changed, do you feel that the UK Government should be consulted if it is going to be affecting the reserved matters? Also, who is going to pay if it has an impact on a reserved benefit?
Greg Hands: I hope the fiscal framework would set out what the mechanism would be. You have to be always careful to get the balance right between proper devolved decision-making, reciprocity and fairness between the two Governments, and also the degree of the impact there might be. But always I think the best thing to go for is something that can be assessed mechanically between the two Governments, based on an agreed set of criteria, which I hope would be laid out in the framework.
Q189 Maggie Throup: What measures would be put in place by the UK Government to make sure that nobody is disadvantaged by having the devolved and reserved matters and any confusion that may arise? This goes back to the people actually receiving the benefits to make sure they are not disadvantaged.
Greg Hands: I see. In terms of say somebody in Scotland getting a UK benefit or a devolved benefit or potentially either?
Maggie Throup: Having perhaps a bit of a conflict between a reserved and a devolved benefit and making sure that they know which is which and what they can claim for.
Greg Hands: I see. In terms of the information?
Maggie Throup: Yes.
Greg Hands: That is a reasonable point. I think the onus will be on the Scottish Government, the UK Government, DWP, HMRC and everybody else involved to make sure that people know which benefits are being administered by which Government. I can totally understand that. Believe me, even in my local area in London people get confused from time to time as to who the council tax goes to, who the GLA precept goes to, all these kinds of things, so clarity and transparency, something that people understand. It is clear, however, in Smith which benefits he wants devolved and that is in the Scotland Bill going through at the moment. The onus is probably on all of us as constituency MPs as well to get across to our constituents who is responsible for each benefit.
Q190 Chair: We get the devolution of about 12 different benefits and I am quite surprised that there has not been any work done on this, given the interaction and relationship between what will be devolved benefits like PIP and gateway benefits. You are saying we will just have to work together and hopefully something will come out of all this, but we are days away from getting a solution and there does not seem to be any sort of suggestion as to what—
Greg Hands: Mr Chairman, I am happy to write to you and the Committee with some more precise detail about the work being done by DWP and HMRC on this. When I was in Edinburgh in December, I think it was, I visited both an HMRC office and a JobCentre Plus in Edinburgh and in both cases staff there were happy about the rollout of the Scottish rate of income tax, a key part of the 2012 Act reforms. They were happy with how that was going and people understood what was going on and they felt very comfortable about that, and also at JobCentre Plus about the prospect of further welfare devolution. I was encouraged that the staff seemed comfortable with the situation and comfortable with explaining what may be coming down the road. That probably does not speak for every single HMRC office or JobCentre Plus, but I was encouraged. I specifically went out of my way to visit both of those just to make sure we were on track. I am happy to write to the Committee about the detail of those discussions, as much as I can reveal.
Chair: I think the Committee would be very grateful to see how far we are in working out these issues.
Q191 John Stevenson: There has been a lot of talk about the tax side of it, but also very important is the borrowing situation and the powers that will be granted to the Scottish Government. There is obviously borrowing for current expenditure and borrowing for capital expenditure. What are your proposals on that?
Greg Hands: Here again, Mr Stevenson, I think it is important to read Smith. In our favourite paragraph 95, in this case 95.5, there is a clear section all about borrowing powers and how they should be carried out and conducted. There are two parts of the borrowing powers: there is what is called resource borrowing and capital borrowing. The resource borrowing is there to deal with things like, say, if there is a shortfall in the Scottish budget as a result of a Scotland-specific shock or a Scotland-specific economic problem. It is also to deal with things like forecast error, if simply the tax revenue for that year did not turn out as forecast. There is already forecast powers in there. On capital borrowing, which is obviously a separate thing, there are also existing Scottish Government capital borrowing powers. I think off the top of my head how that works is it is £2.2 billion or about 10% of the current capital grant in each year given by the UK Government.
Coming back to how they might change, Smith is interesting here. When he talks about resource borrowing he says, “Scotland’s fiscal framework should provide sufficient additional borrowing powers to ensure budgetary stability”. I emphasise the word “additional”, sufficient additional borrowing powers. On capital he says, “The Scottish Government should also have sufficient borrowing powers to support capital investments”. There is an important distinction between the two. I think what he is saying is that he is recognising that the risks in the Scottish budget on a resource basis have gone up as a result of the tax devolution that we are proposing, which is entirely understandable. The more risk that you take on within the budget, you should be able to have the ability to borrow to insulate yourselves from that risk.
Q192 John Stevenson: Do you envisage actual limits to this, specific limits set out in the fiscal framework?
Greg Hands: Again, that is a matter for negotiation, but what I can say is that with international best practice in this area, when you look at countries that have powerful devolved parliaments like, say, Canada and Germany, they have limits. I am not sure the Scottish Government necessarily want to go on a massive borrowing spree but the last thing I think we want to see is some kind of a borrowing spree. But the other thing, to be fair, that Smith says, which is really important in understanding the interaction with the UK, in paragraph 94, is that, “The fiscal framework for Scotland should be consistent with the overall UK fiscal framework”. The Deputy First Minister is also quite clear on this, that the fiscal framework must be consistent with our fiscal framework, so must be consistent, for example, with the fiscal charter that we all voted on in the autumn. I appreciate, Mr Chairman, that you and I were in different lobbies in the vote on the fiscal charter, but nevertheless Smith is clear that both Governments are signed up to the Scottish Government fiscal framework and the borrowing powers being consistent with UK Government borrowing policy.
Q193 Kirsty Blackman: Specifically on the fiscal charter, if the rest of the UK over-borrows on its share of the fiscal charter, does that mean that Scotland’s borrowing will be constrained as a result of the fiscal charter or will we still be allowed to borrow up to the limits that have been set in the fiscal framework?
Greg Hands: For a start, if the UK over-borrows then the UK would be breaking its own fiscal charter, which has its own consequence.
Kirsty Blackman: Sorry, can I clarify, if you don’t mind?
Greg Hands: Yes.
Kirsty Blackman: I don’t mean over-borrows in terms of borrows more than the fiscal charter. I mean over-borrows as in borrowed more than it would allow Scotland to borrow up to its maximum limit.
Greg Hands: If I understand your question correctly, I can’t envisage a situation in which the UK would remove the Scottish Government’s borrowing powers to use for itself. Is that maybe helpful? In terms of the negotiation of the precise rules, quantum and how these things would be done would be a matter that would be laid out in the framework, but it is my clear intention to match Smith that there should be sufficient borrowing powers on capital and sufficient additional borrowing powers on resource to meet the risks that would be within the Scottish Government budget. I can’t envisage a situation where the UK Government is going to come along and say, “We will take those powers back” because they will be in the fiscal framework.
Q194 Kirsty Blackman: The other question is in relation to Scotland having an annually balanced budget and the borrowing powers in relation to that. It has to be balanced annually just now but because we are going to be taking more economic risks, is it sensible to be renegotiating that and to be thinking about it over a longer period rather than a 12-month period?
Greg Hands: Two things on that. If I am not mistaken, I think the Deputy First Minister said that he thought it was good to have an annually balanced budget. The second thing is I think this will have to be consistent with the Scottish fiscal framework and with the UK fiscal framework. Smith is absolutely clear on that and I am confident that the fiscal framework will meet that.
Q195 John Stevenson: The Scottish Government borrows money. Are they taking it at the market or are they going to be underwritten by the British UK Government?
Greg Hands: That is a good question, Mr Stevenson. I think the answer is potentially both. I think at the moment they can do both.
Q196 John Stevenson: How can you do both, because who is lending the money will want to know who is going to ultimately be responsible for repaying that?
Greg Hands: Yes. I think they can do both.
Lindsey Whyte: They can borrow from markets and commercial lenders for capital purposes but only from the national loans fund for resource purposes.
Q197 Chair: Can I ask about exogenous shock? It is still unclear about what happens. If there is an issue that is for Scotland and it arises there and something goes badly wrong, who bears the responsibility for a specific exogenous shock? Is it one Government or the other that is responsible for that?
Greg Hands: I think it would ultimately depend what kind of a shock one is dealing with. The point behind fiscal devolution is to give the Scottish Government the tools to grow the economy and create opportunities in the Scottish economy but also to take the responsibility if it makes decisions that turn out not to be the right ones. I think there it should be clear that if that were to happen then it is the Scottish Government that bear the responsibility for that.
Q198 Chair: There was quite compelling evidence from Lord Darling in front of the House of Lords Committee when he said it would be absurd to suggest that if something went badly wrong in Scotland that the UK would not be bail out Scotland. He made the point that we are all still citizens of the United Kingdom and the fact that the UK Government would not come out to rescue Scotland in some sort of bailout package would be an absurd suggestion. I don’t know what you feel about that.
Greg Hands: To be fair, Mr Chairman, at the end of the day I am a unionist and I believe in the union and in an extreme situation, particularly I think you mentioned an entirely external shock, which would be ultimately the responsibility of the UK that the UK would step in. But the important thing is that the Scottish Government be responsible for a Scotland-specific event and the UK Government be responsible for a UK event or a wider event.
Q199 Chair: On borrowing, do you see that the Scottish Government should have additional capital borrowing powers and will there be a prudential borrowing regime as a result?
Greg Hands: A prudential borrowing regime is something that Smith asked us to look at. There is a big difference, effectively, between prudential borrowing, say, of local authorities where a local authority income stream is far less than the income stream of the Scottish Government. I think that is a key factor in determining whether a prudential borrowing regime is the right one for Scotland.
On your question about additional capital borrowing, I go back to Smith and I stress the difference there between what he said about resource and about capital borrowing. On resource he used the word “additional”; he did not use the word “additional” on capital. The other thing I would point out to you, Mr Chairman, is that the Scottish Government have just had a very good capital settlement for this spending review period, up 14% over the spending review period. I saw the announcements about new schools, Aberdeen airport is being refurbished, and I think it is fantastic to see the Scottish Government announcing these things with the generous capital increase that I gave them at the spending review.
Q200 Chris Law: I wanted to turn the attention to the issue of compensation under the second principle of no detriment, which I am sure you are in full agreement with. What has been interesting is that when speaking to various witnesses, including Professor Muscatelli, Professor David Bell and Professor David Heald, they all agreed, in a recent inquiry on Scotland, that it is basically unworkable and fraught with problems. David Phillips—you were talking about the Institute of Fiscal Studies just a little while ago—added that he thought, “This is a bit of a can of worms in terms of implementing it as a day-to-day feature of the fiscal framework”. Can you give evidence to this Committee, please, of examples of circumstances where you think it will be necessary to compensate and how it will be defined? Also, how will it be implemented and by whom? Will it be an independent arbiter, for example, and who would the costs be borne by?
Greg Hands: There were a lot of questions in there, Mr Law.
Chris Law: I can go over them again if you like.
Greg Hands: Let me try to take them all and come back to me if I have not answered each of them. The first one about the consequences is, if I am not mistaken, referring to what I referred to earlier as the spill-overs or the no detriment, 95.4(a) I think. This is where policy changes have a direct consequence for other policy matters, for example that are reserved or have some kind of other direct consequence. I think you should be able to find a mechanism that would allow the compensation that is outlined in Smith who says that there should be such a thing.
The second area, where you raised an interesting question, is finding a way of properly assessing the spill-overs that are indirect or behavioural. In terms of how you try to find a solution there, I think you have to find a solution that is as mechanical as possible and as well informed as possible. You don’t want to have something giving rise to very frequent disputes. It should be of a certain magnitude in terms of the change, almost like a regular contact about a relatively small amount of money. It is all going to be in the fiscal framework. It is all part of the negotiation but my feeling on this is that it will be possible to get an agreement on how we deal with these policy spill-overs.
I don’t think this really works in terms of international best practice on arbitration. I think we need a mechanical and effective way of looking at it. The memorandum of understanding between the UK and the devolved Governments works well and that kind of mechanism is one that could continue.
Q201 Chris Law: So you do foresee this being workable and achievable despite the fact that all the witnesses that we have spoken to say—in fact, I remember when I asked the question, “Would it work?” the answer I got back was, bluntly, “No”.
Greg Hands: I am not sure who gave that to you.
Chris Law: It was Professor David Bell.
Greg Hands: I think this will be something that will be in the fiscal framework and we will solve it to the satisfaction of both Governments and all taxpayers. All five parties in Scotland signed up to Smith. Smith clearly envisaged that this would be possible and I am confident that it is possible to get a solution here as well.
Q202 Kirsty Blackman: On the subject of shocks, there has been a worldwide shock at the moment in relation to the oil price, which is having a disproportionate effect on Aberdeen particularly, and we did mention it earlier. When you commented you said that it would be the responsibility of the UK Government to pick up that and help in that instance rather than the responsibility primarily of the Scottish Government because it is a worldwide shock. Are you going to be looking at something specifically to help Aberdeen and the oil industry at this time?
Greg Hands: I am going to tell you about something that happened last week, which is that the Prime Minister went to Aberdeen—it might have been the week before—and announced an Aberdeen city deal of £250 million of UK Government money going into Aberdeen.
Q203 Kirsty Blackman: No, it is £125 million from the UK Government. It is £250 million from both Governments combined, so it is not £250 million from the UK Government. The Scottish Government are in combined total giving £379 million to the area and the UK Government are only giving £125 million. Scotland is taking the lead on this even though it is a worldwide economic shock that disproportionately affects Aberdeen.
Greg Hands: As I said, the Prime Minister was up there and made the commitment. We recognise that and we recognise that oil and gas taxation will remain a reserved tax, for example, which I would say to you, Ms Blackman, perhaps is just as well. We could have been only five weeks away from independence and the Scottish Government forecasts were predicated on an extremely high oil price and the collapse in that oil tax revenue by 98% would have led to a disastrous start of an independent Scotland. In answer to your question, the UK Government are ready to help, have been ready to help and are already helping.
Q204 Kirsty Blackman: The Scottish Government barrel price was actually lower than the UK Government’s forecast at the time.
Greg Hands: But that does not obviate from the fact that what has happened has led to a 98% collapse in the revenue.
Q205 Chair: It is an important and interesting debate but it is not why we have the Chief Secretary here, and I know you have to go. Just a couple of last questions. I was trying to get a sense of where we are in being able to conclude some sort of deal and arrangement here. What I am hearing is that most of these other issues about borrowing and some of the welfare powers seem to be in hand and there seems to be some sort of resolution and process, but it is the block grant adjustment, isn’t it? This is where you are miles apart from the Scottish Government when it comes to your preferred option and the Scottish Government’s option. What I am hearing is that you are favouring the indexed deduction or the levels deduction and what we heard from the Deputy First Minister is that his preference is the per capita indexed deduction. How do you solve that?
Greg Hands: We have done it before, Mr Chairman. We did it in relation to the Scotland Act 2012 and the Scottish rate of income tax. The two Governments came to an agreement as to how to index the block grant adjustment then. It can be done; it was done only a few years ago. I remain optimistic.
Q206 Chair: It is great that you are remaining optimistic but I do not think we are hearing much optimism about getting a solution. We did not get an answer from you for this, but if, as in the Scottish Government’s view, this would cost the Scottish budget billions of pounds over a series of years, do you believe that they are right not to sign up to a fiscal framework if that is the result of this?
Greg Hands: Again, Mr Chairman, I don’t agree with the premise of your question because all of those costs—
Chair: It does not matter what you think; it is what they think. We heard very clearly from the Deputy First Minister that they had that.
Greg Hands: It all depends, first of all, on the assumptions that you make going forward. The second thing, what we are talking about here is the devolution of income tax and huge new opportunities there for the Scottish Government to grow the economy and take advantage of the new powers, the new levels that are there to do things that will increase the tax base and increase the tax rate. Sorry, I should say vary tax rates rather than necessarily increase tax rates.
Q207 Chair: Having heard your evidence, which we are very grateful for, and the Deputy First Minister, there does seem to be some distance to go in getting an agreement on this and you both have very different perspectives about the indices that are going to be applied.
Greg Hands: I am ready to deal, Mr Chairman. As I say, I’m off to Edinburgh on Monday and I remain upbeat on that possibility, notwithstanding we have talked about some of the difficult and important issues. There are difficult and important issues there but the UK Government remain absolutely committed to getting that deal.
Chair: Let’s hope your optimism is infectious and you get a solution. Everybody around this table has been through the Scotland Bill. We want this to succeed and we recognise that goodwill will have to be deployed in order to achieve it. We are very grateful for you coming along this afternoon. I know you have promised to write to the Committee on a couple of issues. If there is anything further to keep us informed about how things have been progressing, we would very much welcome that. Thank you very much.
Oral evidence: Revising Scotland’s fiscal framework, HC 660