Why an independent Scotland's deficit may be good for a healthy economy

This is important in the context of fiscal deficits (spending in excess of tax revenue) because Scotland will have a fiscal deficit when we become independent and it will certainly increase because the new independent Scottish Government will have a long list of essential things to be spending on, not the least of which is to establish all the new functions and departments of government and employ additional staff to run them.

A fiscal deficit is not the same as “government debt”. A fiscal deficit occurs when government spending is greater than tax revenues. Government debt is incurred when borrowing is used to make up the difference between spending and tax. However, with our own currency the government can borrow in that currency and is always able to pay the debt back by drawing on the resources of our own central bank. Borrowing in sterling on global money markets will no longer be necessary.

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Unionists are focussing one of their attacks on independence on the fiscal deficits issue, arguing that Scotland will have an unsustainable deficit and will have to adopt a policy of austerity. It is a mistake to respond to this by engaging them in a number-crunching battle – trading statistics only causes confusion in the general public and undermines confidence in the case for independence.

The truth is that deficits don’t matter provided certain conditions apply. As a general rule of macroeconomics, government deficits are beneficial for a healthy and growing economy.

Why are deficits a good thing? The answer is derived from the basic principles of double-entry book keeping. Someone’s spending is someone else’s income. When the government spends, individuals, households and businesses in the private sector of the economy receive the total amount spent by the government as income. That income then goes into circulation as people and businesses in turn spend their incomes.

If the government stops spending then the level of income in the private sectors falls and the economy starts to shrink, jobs disappear and unemployment increases.

If all the government spending and all private sector income is plotted on a graph over time the picture which emerges is that government spending and private sector income are mirror images of one another. In macroeconomics the term used to describe this relationship is the “sectoral balance”.

The “sectoral balance” between government (public sector) spending and private sector incomes always totals zero. If government spending goes up (an increasing deficit) private sector incomes go up (an increasing surplus).

So, what are the conditions under which we need not worry about deficits? Firstly, if government spending is not stoking inflation then they are not a problem. Inflation risk only arises once the economy of nearing full capacity and when there is full employment. At that point deficits need to be reduced in order to control the amount of money circulating in the economy.

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Secondly, deficits are not a problem if the money is being spent to produce the goods, services and infrastructure we all depend upon to live well and in harmony with nature. Choosing the priorities is a matter for democratic decision making, with the involvement of the public in the various institutions we have for democratic participation and accountability. If given a choice a majority of people in Scotland would not choose to spend public money on nuclear weapons, for example.

Thirdly, the government spending must be effective – in other words, we get “value for money”. The public purpose of a Scottish Audit Office (currently Audit Scotland) is to monitor the effectiveness of government spending, to prevent money being wasted and to help hold the government to account.

Deficits are a good thing because without them the economy cannot grow. However, we know that an economy cannot grow indefinitely as there are limits to the resources that are available even if productivity increases. There are limits to the size of the working population, to the physical resources we have access to and, crucially, a limit to what the planet can sustain. This means that Scotland’s future government spending and economic strategy must be used to foster better management of limited resources within planetary limits, reduce waste, increase recycling of materials, produce long-lasting goods and decarbonise our transport, heating and manufacturing processes.

In the future Scottish Government deficits must result in an increase in the quality of what we produce rather than in the quantity of what we produce.