Scottish Government

The Council of Economic Advisers has been created to advise the First Minister on how to improve Scotland's sustainable economic growth rate. The Council meets on a quarterly basis and the minutes of its meetings are released within weeks of a meeting taking place. The third Council meeting is scheduled for 13 June 2008.

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MINUTES OF SECOND MEETING - 8 FEBRUARY 2008 - STIRLING CASTLE

Introduction

1. The Chair welcomed all members of the Council to the second meeting.

2. The Chair referred members to the minutes and matters arising from the first meeting. Members indicated that they were content.

Achievements and Priorities for 2008

3. The First Minister informed the Council that the Scottish Budget had been endorsed by Parliament earlier that week - a significant achievement for a Government operating without a majority. The First Minister highlighted three features of the Budget as being particularly significant:

• it has changed the relationship between Scottish Government and local government, marking the end of a significant proportion of ring fencing and the central prescription of what local authorities will spend money on. A new approach to Government is now in place which involves national and local tiers of government working together to implement the Government's key commitments and to achieve agreed outcomes. It gives local authorities greater freedom to fine-tune policy and resource allocations to deliver these outcomes, in line with prevailing local conditions;
• it makes full use of all levers available to the Scottish Government to give Scotland a comparative advantage. Although the Scottish Government is currently limited to using the devolved powers, it does have many key levers. For example, it does have the ability to vary small business rates and these have been reduced/removed to reduce the fixed costs of small businesses in Scotland; and
• it has simplified the public service landscape and reduced the number of national public sector organisations - to remove organisational barriers between policy and delivery, remove duplication, streamline decision making and increase transparency and public connection, all of which are designed to reduce the costs in terms of time and money of dealing with government.

4. In looking forward, the First Minister noted that the global economic outlook had deteriorated since the Council had last met and welcomed views on counter cyclical initiatives that could be taken.

The Scottish Budget - Delivering the Government's Purpose

5. The Chair invited John Swinney, Cabinet Secretary for Finance and Sustainable Growth to give an overview of the Scottish Government's spending plans for 2008-09 to 2010-11.

New approach to Government

6. John Swinney started by noting that the Scottish Budget is designed to support the delivery of the Government's overarching Purpose:

To focus the Government and public services on creating a more successful country, with opportunities for all of Scotland to flourish, through increasing sustainable economic growth.

7. The Government Economic Strategy (GES) sets out how we will deliver the Purpose and the Scottish Budget provides the detail of how resources will be allocated over the next three years to deliver that Purpose. The strategic thinking behind the GES - to which the Council contributed - therefore had a significant influence on the allocation of spend.

8. The Scottish budget publication also sets out a new National Performance Framework which explains how progress will be measured. The Government Economic Strategy and the National Performance Framework define a new age of ambition in Scotland and promote a shift in culture away from excessive monitoring of inputs to a focus on outcomes. The focus is on what we are trying to achieve and we are working closely with partners in local government to take forward this approach.

9. To this end, a critical element of the new approach is the Scottish Government's Concordat with local authorities. The Government and local authorities will work in partnership to deliver a number of the Government's key commitments. For the first time, we have an agreed set of outcomes and alignment in policy priorities between local and central government.

Delivering in Tough Times

10. John Swinney noted that the Budget was set against a challenging background of inherited pressures and that the settlement received from the UK Treasury is the worst since devolution. Total spending for the coming financial year (2008-09) will rise in real terms by only 0.5%. This compares with a real terms increase of 3.4% for 2007-08.

11. To maintain financial discipline, the Scottish Government has had to:

• Make difficult choices over competing spending priorities;
• Negotiate an agreement with HM Treasury over access to accumulated under-spends held on Scotland's behalf by the UK Government;
• Adopt a more disciplined approach to financial planning;
• Place greater emphasis on the drive for improved public sector efficiency.

Budget highlights by strategic priorities

12. John Swinney summarised planned spending under the five Strategic Priorities identified in the GES: Learning, Skills and Wellbeing; Supportive Business Environment; Infrastructure Development and Place; Effective Government; and Equity. International evidence suggests that these are the channels through which economic growth is most effectively driven and the Scottish Government has committed its budget accordingly.

13. John Swinney highlighted the fact that the Government has been criticised for the amount of spending it has allocated to the further and higher education sector. Although the Budget secures investment totalling £5.24 billion over three years to this sector - a cash increase of almost 11% and a larger share of overall government spending than in previous years - and an additional £100m will be invested in the university and college estate this year, the Government has been challenged to invest more to deliver stronger economic outcomes. In response, a decision has been made by Cabinet to give higher and further education first call on additional resources from Barnett consequentials if and when they become available.

Views of the Council

14. The Council explored a number of issues covered in the presentation, including:

• Further and higher education sector - the Council recognised the important contribution Scottish Universities make to the Scottish economy and the need to ensure that this contribution is being optimised. The Council also discussed the ability of Universities to generate income and investment without relying on the public purse and some of the limitations around the current fees structure, including fees for international students and the comparative position in relation to the rest of the UK. Members suggested that this would be a fruitful area to explore more fully within the Council;
• Skills - Council members noted that growth in some sectors was being constrained by skill shortages (e.g. life sciences sector, oil and gas sector) and stressed the need to ensure that further and higher education establishments are teaching the skills required to address skill shortages. The Council agreed that this should be considered as part of a wider discussion on the further and higher education sector in Scotland.

15. John Swinney noted that the Cabinet Secretary for Education and Lifelong Learning, Fiona Hyslop, has convened The Joint Future Taskforce on Universities. This taskforce is jointly chaired by Ms Hyslop and Sir Muir Russell and consists of representatives from Government and Scottish Universities. The taskforce has agreed to focus on 3 key issues over the next six months:

• How to optimise and shape the contribution which the Scottish university sector can make during the next 20 years to the Scottish economy, to Scottish culture and society, and to the political priorities of the Scottish Government;
• What opportunities can be created and what barriers will need to be overcome to achieve that;
• What resources will be needed and how they will be provided.

16. The Council welcomed this and agreed that Fiona Hyslop should be invited to lead a discussion on the further and higher education sector and alignment of skills at the next meeting of the Council.

Update on the Scottish economy

17. The Chair invited Dr. Andrew Goudie, the Chief Economic Adviser to the Scottish Government, to give an update on the Scottish economy.

18. Dr Goudie noted that he would set out the most recent figures and trends in the key economic variables and then consider the future prospects for the Scottish economy in light of recent developments in the global economy.

Quarterly GDP growth by sector

19. Scottish GDP figures for the third quarter of 2007 were issued on 23 January and showed that Scottish GDP rose by 0.5% and UK GDP by 0.7%. The strongest growth has been in the service sectors which dominate Scotland's economy. Output on the production side has been flat but some sectors within manufacturing have exhibited strong growth (e.g. food drink and tobacco).

Annual growth rate by sector

20. Scottish GDP grew by 2.1% over the year compared to 3.2% in the UK. Again, growth has been strongest in the service sector - which grew by one percentage point more than the UK - and weakest in the manufacturing sector. Within the services sector, although financial services have shown a decline for a second successive quarter, growth has been strong over the year as a whole.

Scotland v UK GDP growth 1999-2007

21. Over the last thirty years (1975 to 2005) Scotland's annual average growth rate was 1.8%, which is below the UK average of 2.3%. Over the last 8 years, although Scotland has grown on average by 2.1% - significantly above its long term rate - this is still below the UK average annual growth rate over the same period (2.7 %). Further, the latest figures for the third quarter suggest a slight widening of the growth gap between Scotland and the UK at this point in the cycle.

Scottish Manufacturing Exports

22. Export figures for the third quarter of 2007 showed a decrease of 5.1% in real terms. Over the year, however, manufactured exports have grown by 4.3%.

Employment and Unemployment Rates 1999-2007

23. Over the last 8 years, Scotland's labour market has been strong and has outperformed the UK in terms of employment and unemployment. The latest data for September to November show the employment rate in Scotland has risen slightly over the quarter to (76.4%) and remains above the UK rate (74.7%). There has been a slight rise in the unemployment rate over the last quarter to 4.9% but it remains lower than the UK rate (5.3%). Economic activity rates have been flat over the last quarter but, over the year as a whole, Scotland's economic activity rate was 80.5% compared to 79% in the UK.

24. Overall, therefore, Scotland scores well on employment measures. However, the position over the most recent quarter has weakened slightly and this may indicate the start of a slowdown.

Confidence

25. A number of business surveys in Scotland are reporting a general decline in business confidence reflecting adverse financial and economic conditions in the global economy. The latest consumer confidence data for October 2007, however, do not show any signs of weakening. Indeed, they show a slight improvement from the previous quarter of the previous year and remain stronger than the UK.

Housing

26. The Scottish housing market seems to be exhibiting some weakening, though house price indicators show a mixed picture. UK Government statistics for December 2007 show a rise of 11% in house prices in Scotland over the past year compared to 9% in the UK. Growth was concentrated in the first half of the year, with prices in December at July 2007 levels. As a measure of housing activity, the latest data from the Council of Mortgage Lenders on the number of loans for house purchase in Scotland showed a fall of 18% in December 2007 (on December 2006), following a fall of 12% in November 2007 (on November 2006). The decline for the year as whole was smaller - 3.4% - suggesting that some momentum was lost from the market in the latter part of 2007.

27. The key question is the extent to which Scotland will be affected by recent economic and financial developments in the global economy.

Growth Forecasts

28. Projections for global economic growth have been revised downwards in light of the global financial crisis and a weakening US economy. The IMF has reduced its world growth projection for 2008 by 0.3 percentage points to 4.1%. A recession is not forecast but a slowdown is expected.

29. Independent forecasts for the UK and Scotland predict a slowdown in 2008 before rebounding in 2009 and 2010. Independent forecasts for the Scottish economy predict, on average, growth of 2.1% in 2008 and 2.3% in 2009 - and convergence with the UK consensus of forecasters. However, some of the Scottish forecasts were produced before much of the recent market turbulence which suggests that they may be liable to downward revision - and the reopening of the divergence with the UK - in the future.

30. Dr. Goudie concluded that, as with other advanced economies, the impacts on the Scottish economy from the turbulence in international financial markets and the incipient global economic slowdown will very likely be negative. The most recent data suggest there has been a slight weakening in some key economic variables but no major impact on the Scottish economy as yet.

Key Areas of Work for the Council

31. The update on the Scottish Economy set the context for the Council's discussion of the four areas of work which were identified at the first meeting as those the Council would focus on in future:

• Promoting Short-term Economic Growth over the Life of this Parliament;
• Developing Scotland's Comparative Advantage;
• Addressing the Inhibitors of Scotland's Economic Growth; and
• Enhancing Scotland's Economic Statistics.

Promoting Short-term Economic Growth over the Life of this Parliament

32. The Chair noted that the Council's experience and expertise is pivotal in helping the Scottish Government deliver on the targets set out in the Government Economic Strategy, in particular, the immediate growth target of matching the UK economic growth rate by 2011. The Chair invited Dr. Andrew Goudie to introduce the discussion on achieving the short term growth target.

33. Dr. Goudie identified a number of factors that need to be taken into account when considering the short term growth target:

• there is a short term and a longer term target for growth - while the immediate challenge is to achieve the 2011 growth target, this should be seen as an important milestone in the delivery of the longer term target;
• the growth target is relative and therefore has some built-in protection from developments in the global economy. The challenge in achieving the short term target will be to ensure that Scotland weathers any downturn better than the rest of the UK and that change is sustained beyond the cycle;
• as noted above, Scotland's economic growth has historically lagged behind that of the UK. Scotland would need to increase its annual growth performance by one third to close this long term structural growth gap;
• there have been years in which GDP growth in Scotland has exceeded the UK as a whole - this has tended to reflect a less pronounced cyclical pattern in Scotland and has not been sustained. Consistent with this, and as noted above, the latest independent forecasts for the Scottish economy predict, convergence with the UK consensus of forecasters. However, there are health warnings associated with these forecasts and even if the target were met as a consequence of cyclical performance, the divergence is likely to re-open in future years, in the absence of further structural change in the Scottish economy;
• the achievement of an additional target over the same timeframe - to reduce emissions over the period to 2011 - implying that policies to achieve short term growth and achieve climate change should be mutually supportive;
• an understanding that interventions to achieve the short term target should support delivery of the overall Purpose - and the other Purpose targets - over the longer term.

34. Dr. Goudie presented the Council with a series of propositions which have the potential to accelerate growth in the short term while contributing to Scotland's longer-term sustainable economic growth:

• policies to pursue population growth through in-migration and retention;
• a supportive business environment;
• targeting key sectors, markets and projects;
• land-use planning as an enabler of growth;
• more effective government as purchaser and provider; and
• targeting increases in participation where the potential gains are greatest.

35. Each proposition comprises a number of key approaches/policies within the Government Economic Strategy.

36. The Chair invited the Council's views on initiatives that would:

• impact counter-cyclically at this time - to ensure Scotland weathers the downturn better than the rest of the UK; and/or
• accelerate structural change in the Scottish economy - to ensure a sustainable increase in growth by 2011 and beyond.

Views of the Council

37. There was discussion of the relative impacts of a global downturn on the Scottish and UK economies. Council members noted that two issues may assist Scotland's relative growth position in the short term:

• Possible continued growth in the oil and gas sector. While some moderation in demand is expected, it is possible that prices may remain high due to a sluggishness in supply. Scotland may therefore benefit from sustained buoyancy in the oil and gas sector which will provide opportunities for Scottish based suppliers; and
• The actions of government. The public sector acts as an automatic stabiliser in the economy and, as such, the policy response from government - how it spends a relatively fixed pool of resources - is important and significant. Two key policies which will have an immediate impact are the reduction/removal of business rates for 150,000 businesses across Scotland and the freeze in council tax. Both of these will take effect from 1 April 2008. The Council also noted that the size of the public sector in Scotland could also assist Scotland's relative growth position at this particular time.

38. The Council agreed to consider the key propositions presented by Dr. Goudie in more detail and to advise on where most emphasis should be placed to achieve a step change in growth in the short term, which can be sustained in the longer term. The Council agreed they should return to this issue at the next meeting after the development of input from members of the Council in the intervening period.

Developing Scotland's Comparative Advantage

Planning and Sustainable Economic Development: Follow-up to discussion at first meeting

39. At the first meeting, the Council considered how:

• the Government's overall purpose of increasing sustainable economic growth could be reflected in implementing the planning reforms;
• local authorities and central government bodies could be equipped and encouraged to weigh economic considerations in making planning policy and taking planning decisions;
• Scotland might learn lessons from other countries' approach to planning;
• The National Planning Framework could provide the right environment for sustainable economic growth;

and, requested that further work be conducted on these issues.

40. The Chair invited Jim Mackinnon, the Chief Planner, to summarise the key results of the work that had been conducted since the first meeting and to give an update on the National Planning Framework.

41. Jim Mackinnon summarised the key results of work which had examined the critical path of planning applications in Scotland (to identify sources of delay) and compared the planning system in Scotland with that in Ireland, Norway and Iceland. He then gave a presentation on the Draft Second National Planning Framework (NPF2) which was issued for consultation on 8 January.

42. Jim Mackinnon explained that the Planning Act makes provision for the NPF to identify certain projects as "national developments". The essential test in deciding whether a project is a national development is whether it is of strategic importance to Scotland's spatial development. The Draft NPF 2 proposes nine national developments:

• Replacement Forth Crossing;
• Edinburgh Airport Enhancement;
• Glasgow Airport Enhancement;
• Grangemouth Freight Hub;
• Rosyth International Container Terminal;
• Scapa Flow Container Transhipment Facility;
• Grid Reinforcements to Support Renewable Energy Development;
• Glasgow Strategic Drainage Scheme; and
• Commonwealth Games facilities and Infrastructure.

Council's recommendations on increasing the contribution of planning to sustainable economic development

43. The Council discussed a number of issues raised in presentation and agreed that they would like to see:

• the relevant public bodies and agencies take a more proactive stance towards sustainable development;
• a reduction in existing disincentives for local authorities to encourage development which contributes to the Scottish Government's overarching goal of increasing sustainable economic growth in Scotland.

44. As a result, the Council made the following recommendations to the Scottish Government.

• The National Planning Framework is making improvements to the overall planning system and further work could be done to make planning services across Scotland more responsive, more efficient, more timeous and better geared to improved outcomes. A more proactive approach is needed which takes into account the economic potential and opportunity around planning and infrastructure;
• This should include incentives for local authorities to promote and facilitate sustainable development projects. Reducing barriers and creating incentives for business will give Scotland the competitive advantage to attract local, national and international investment; and
• Planning should always be part of the creative process that adds to the environment we live in. The environmental, economic and social impact of planning cannot be underestimated or overlooked. It has a fundamental role in securing the future economic success of Scotland - and should be seized upon as a significant driver for increasing the level of sustainable economic growth.

Future work on Developing Scotland's Comparative Advantage

45. The Council noted an interest in examining the key sectors identified in the Government Economic Strategy as those with high-growth potential and the capacity to boost productivity:

• Creative Industries;
• Energy (with a particular focus on renewables);
• Financial and Business Services;
• Food and Drink;
• Life Sciences;
• Tourism.

46. The Council also noted an interest in examining:

• Science and Innovation (including the creation and commercialisation of new technologies);
• Education and skills (in particular, the alignment of skills with the key areas of economic activity in Scotland);
• Healthcare;
• Voluntary sector;
• Productivity in Scotland.

47. The Council will consider each of these sectors/themes at future meetings.

Addressing the Inhibitors of Scotland's Economic Growth

48. At the first meeting, Council members were struck by the concentration of economic inactivity, particularly in Glasgow and around west central Scotland.

49. The Council returned to this issue at the second meeting and noted that if this problem could be addressed, it could make a substantial contribution to growth in the short term and the longer term. It was recognised that a considerable amount of resources have already been devoted to addressing this issue over the last 40 years with limited success. Further, that considerable efforts are currently being made by the City of Glasgow Council to help address this issue which is focusing on addiction as well as worklessness.

50. It was also recognised, however, that there are likely to be measures which the Scottish Government could take to speed up and intensify the impact of the work currently being taken forward by the City of Glasgow Council. The Council requested that preparatory work be undertaken on this issue over the coming months ahead of a more substantive discussion at the next meeting of the Council.

Enhancing Scotland's Economic Statistics

51. At the first meeting, the Council requested clarification on what is included in GDP statistics and what is excluded, particularly in relation to North Sea Oil and profits generated by the financial services sector overseas.

52. In response to that request, it was noted that:

• North Sea Oil. The current practice for Scottish GDP is based on the UK ONS Regional Accounts in which North Sea output is treated as being 'extra-regio' and not allocated to any of the four nations within the UK. Therefore, North Sea oil and gas output are excluded from current official estimates of Scottish GDP. On-shore support activities located in Scotland, however, are included;
• Profits generated by the Financial Services sector overseas. GDP statistics, by definition, encompass economic activity undertaken domestically (i.e. on the Scottish mainland and islands). In the case of Scotland, this relates to all economic activity serviced within Scotland, including that undertaken by foreign firms and excludes the economic activity of Scottish firms in the rest of the UK or in international markets. These flows would be captured in the wider measure of Gross National Income (GNI). However, it is not feasible to produce estimates of Scottish GNI at this time;
• During 2001/02, a scoping study was undertaken to determine whether it would be possible to enumerate investment and income flows from the rest of the UK and the world through a survey of companies operating in Scotland. The companies which responded to the survey reported difficulties in providing this information as their accounting systems did not distinguish between nations of the UK. Rest of World investment flows were also found to be difficult to provide as this information would generally be held for a company's operations UK-wide and could not be provided at a lower level. It was decided at that time that generating estimates of Scottish GNI was not feasible given existing accounting arrangements.

53. The Council agreed to explore ways of overcoming the data problems in the financial services sector.

Next meeting

54. The date of the next meeting is 13 June 2008 and will take place in Glasgow.

The following members of the Council were present:

First Minister

Sir George Mathewson (Chairman)

Professor Andrew Hughes Hallett

Professor John Kay

Professor Alexander G Kemp

Mr Jim McColl

Sir James Mirrlees

Professor Frances Ruane

Sir Robert Smith

Frances Cairncross

Apologies: Professor Finn Kydland

Mr Crawford Beveridge

Also present: John Swinney, Cabinet Secretary for Finance and Sustainable Growth

Dr Andrew Goudie, DG Economy and Chief Economic Adviser, Scottish Government.

Jim Mackinnon, Chief Planner, Scottish Government (part of meeting only)

Fiona Robertson, Head of Economic Strategy Directorate.

Dr Jennifer Steedman, Economic Strategy Directorate, Scottish Government.

Claire M. Smith, Economic Strategy Directorate, Scottish Government.

Stephen Noon, Senior Policy Adviser, Scottish Government.