Scottish Government

The Council of Economic Advisers has been created to advise the First Minister on how to increase Scotland's sustainable economic growth rate. The seventh meeting of the Council will take place on 18 September, 2009.

Download a pdf version of the minutes

MINUTES OF THE SIXTH MEETING - 15TH MAY 2009 - EDINBURGH

Introductions, minutes & actions arising

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

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

Update since the last meeting

3. The First Minister noted that the discussions the Council has had at its last two meetings - particularly on borrowing - were becoming increasingly and immediately relevant due to current financial pressures and the implications for capital investment. The Budget projections of public finances predicts a fall in capital spending of two-thirds over the next five years in the UK - implying an unprecedented collapse in public sector investment. The lack of capital will be a critical problem in the years ahead and therefore the issues the Council has discussed are fundamental in ensuring that Scotland emerges from the current downturn stronger and fitter.

Update on the Scottish economy

4. The Chair invited Dr Andrew Goudie to provide an update on the Scottish economy.

5. Dr Goudie reviewed recent trends, key indicators and evidence from business surveys and official statistics to assess the severity and projected length of the current downturn. The full presentation can be found on the Scottish Government website at: http://www.scotland.gov.uk/Topics/Economy/state-economy/latest.

6. Dr Goudie's assessment concluded that:

• since the last meeting there has been a synchronised decline in output across the advanced economies, with export-orientated economies hardest hit;
• there have been continued declines in employment and sharp rises in unemployment;
• evidence suggests the Scottish economy has been in recession since mid-2008;
• future growth expectations across the world have been revised down repeatedly and significantly over the past year, not least in the UK;
• the decline in output is expected to continue throughout 2009 and into 2010, but some signs of a slower rate of decline are emerging;
• employment has declined in recent months and is expected to continue to decrease through 2009 and 2010. This will be reflected in continuing upward trends in both unemployment and economic inactivity;
• the impact of the international monetary and fiscal response will be key, as weak levels of global demand will continue to depress economic activity in Scotland; and
• there remains a high level of uncertainty regarding global economic conditions.

7. Discussion followed on the deterioration in lending terms that companies now face compared to pre-credit crunch times. Banks are willing to lend to companies with good proposals but often with restrictive covenants untenable for companies who wish to take advantage of these loans. The Council determined that there were two issues to deal with:

• A lack of new demand for bank lending due to worries about the growth of the economy and future demand levels. Demand for finance should increase as the economy improves;
• Unfavourable lending terms which companies are not prepared to take on and which show no signs of improving. Banking in Scotland has historically been largely dominated by a small number of institutions which are understandably intent on restoring their own financial health. There is therefore a need to rebuild the Scottish banking sector by attracting institutions which do not currently have large operations in Scotland and may be willing to lend in more innovative ways.

8. The Council recommended that:

• there should be continued liaison with banks which currently have a stake in the Scottish banking sector to further improve lending conditions; and
• there should be promotion of the opportunities that exist for other institutions to lend in Scotland.

Borrowing I

9. The Chair invited the CEA lead to present the Council's initial thoughts on borrowing powers. The CEA lead set out:

• the case for borrowing powers i.e. why governments may find it helpful to borrow;
• experiences of borrowing by regional governments in other countries; and
• some questions for the Council to consider concerning potential borrowing by the Scottish Government.

10. Governments borrow in order to achieve greater flexibility, and hence greater expenditure impact, in the timing and scale of their expenditures. This will enable them to adjust their expenditures quickly and effectively in the face of unexpected (or predictable) shocks; to smooth their expenditures over time when revenues are variable or uncertain; or to make capital expenditures in infrastructure or development projects, at the pace and according to the priorities they choose, before the additional revenues are earned.

11. At present the Scottish Government is unable to borrow for any of these purposes. A very limited amount of borrowing is allowed to cover temporary shortfalls of cash and this must be from the Treasury on terms set by the Treasury.

12. The Local Authority Prudential Scheme was set up to allow/facilitate borrowing by local authorities, or any UK statutory body, to invest in capital works and assets. The local authorities are free to borrow at the prices they can obtain from the UK Government's Debt Management Office, or from the capital markets themselves. If the Scottish Government had borrowing powers then a similar borrowing arrangement to that which exists for local authorities could be set up: it would have the option of managing its own debt (at some cost in terms of diseconomies of scale since a separate Treasury function would have to be set up for the purpose); or it could subcontract its management to the UK Debt Management Office.

13. All national governments, and most regional governments within the same monetary or political jurisdiction, have the ability to borrow. In fact, a recent study by the OECD showed that only Denmark and Korea among the OECD economies forbid their local governments from borrowing; and none forbid their regional governments from borrowing.

14. As a minimum position, the Council recommended allowing borrowing for capital spending under a "Golden Rule" principle and recommended that more thought be given to borrowing for stabilisation purposes.

15. It was recommended that as the Scottish Government pursues greater borrowing powers, that it considers way to do so that build up credibility.

16. The First Minister thanked the Council and asked that it provide further advice to the Scottish Government on this topic.

17. The Council agreed to continue this work with a presentation and discussion at its next meeting in September.

Scottish Government Electricity Policy

18. The Chair welcomed David Wilson, Director for Business, Enterprise and Energy to the meeting and invited John Swinney, Cabinet Secretary for Finance and Sustainable Growth, to present the Scottish Government's policy on electricity as a key part of its wider energy policy. The presentation covered:

• history and current structure of the electricity system;
• the objectives of government policy;
• the assumptions underlying government policy; and
• the challenges that government policy is seeking to address.

19. John Swinney highlighted the fact that the electricity sector is one of Scotland's most productive sectors and that it will make a considerable contribution to the Government's growth and productivity targets. Innovations in the electricity sector will also contribute significantly to the sustainability target and solidarity and cohesion will be tackled by addressing energy efficiency and fuel poverty through electricity sector policies.

20. The Scottish Government is confident that its renewable energy targets (31% of Scottish electricity demand to be generated from renewable sources by 2011; 50% of Scottish electricity demand to be generated from renewables by 2020) will be achieved given the infrastructure and consents already in place.

21. Scotland has outstanding natural advantages for renewable electricity generation, with huge development potential. Scotland is estimated to have 25% of the EU's potential wind resource, both onshore and offshore, 25% of the EU's potential tidal resource and 10% of the EU's potential wave resource. Overall it is estimated to have 60GW renewable energy resources, equivalent to up to ten times Scotland's energy needs.

22. However, a major obstacle to maximising the development potential of the renewables sector is grid infrastructure and transmission charging. There are substantial constraints on the transmission system within Scotland and between Scotland and England, so full renewable potential will only be achievable with major transmission investment and an overhaul of the current transmission charging regime.

23. The Council raised six points that need to be considered:

• the challenges of the target;
• the consequences for the whole generation system if renewable generation is developed substantially;
• the security of electricity supply;
• incentive schemes;
• transmission charges; and
• CO2 emissions.

24. The First Minister thanked the Council for its views on the government's current electricity policy. There was discussion about the energy study recommended in the Council's Annual Report. Work is underway to commission this.

Second Key Sector Report - Food and Drink

25. The Chair invited the CEA lead to present on Food and Drink, the second key sector that the Council has discussed.

26. The CEA lead gave an overview of the agricultural sector, food manufacturing and drink manufacturing and highlighted a series of questions about the sector for the Council to consider in terms of its competitive advantages and weaknesses.

27. The Scottish agricultural sector has been dominated by domestic markets though it has a significant export presence, particularly in livestock. Export markets and prices have been very volatile in recent times which have led the agricultural sector to focus increasingly on short term issues rather than its longer-term competitiveness. Recent high prices for livestock have led to a worrying depletion of breeding stock as farmers take advantage after a period of slump. Other concerns in the agricultural sector are problems of access to finance and the lack of new entrants and apprentices into the sector.

28. With regard to the food manufacturing sector, it was noted that it was highly fragmented, especially compared to drinks manufacturing, and mainly focused on domestic rather than export markets. Productivity is also low when compared to the drink manufacturing sector. There is concern that the fragmented nature of the sector has hindered the sector's growth potential. The strength in the sector appears to lie in the international perception of product quality and premium goods. However, there has been limited joint branding and marketing of premium food products The key issue is how to nurture leadership in the sector to market niche premium products together and establish Scotland as a premium food producer.

29. In contrast, the drinks sector, particularly whisky, has been very successful in overseas markets. However, the Council questioned how much the success of Scotch Whisky translates into benefits for the Scottish economy. The industry is predominately in foreign hands and therefore much of the value added of the industry leaves Scotland e.g. brands tend to be held outside Scotland for tax reasons. Despite this issue, foreign ownership by multinationals has also been beneficial for the whisky industry as it has enabled Scotch to be effectively marketed as a global brand

30. The Council discussed how niche food products could be promoted collectively in overseas markets to help develop the food manufacturing sector. The Council also considered how more value added from the whisky industry could be retained in Scotland. The Council agreed to do more work on this key sector.

Schools as a driver of economic growth

31. The Chair welcomed Fiona Hyslop, Cabinet Secretary for Education and Lifelong Learning, to the discussion.

32. The CEA lead began the discussion by highlighting how important education is to the Government's Economic Strategy. For Scotland to stay ahead of other countries in the medium to long term, there is a need for both high participation in education and a high quality of education.

33. Comparison of Scotland's schools system using three sets of international indicators shows that Scotland holds the middle ground in the OECD. Examination of the relationship between spending and attainment from 1999 shows that the Scottish Government has increased spending on primary and secondary schools significantly. The impact of the spending might be expected to be lagged, and to date the expected upturn in attainment has been limited.

34. The quality of education in Scotland is crucial to its future prosperity. Its contribution depends on more than raising the numbers of people educated to a basic level. It is vital that the education system also allows the very brightest students to be challenged, so that they enter higher education with the appropriate skills and motivation to face yet greater challenges. Thus educational policy must aim to raise average levels of education by raising the performance levels both of those at the bottom and the top of the ability distribution.

35. As part of the global economy, Scotland needs to be able to attract foreign investment. In terms of direct investment, a key signal in global markets is the quality of the education system. Scotland therefore cannot ignore how it appears on international metrics as the perceived quality of Scottish education is an important signaling device to investors in terms of what they might expect of labour quality in Scotland. Consequently there is benefit in Scotland having an education system that readily lends itself to international comparisons.

36. International empirical evidence about the factors which determine the quality of education and the productivity of the overall workforce shows that:

37. The Council discussed these findings and raised the following recommendations with examples of actions to address them:

Second Annual Report and Work Programme

38. The Council discussed the content of the Second Annual Report and the implications for the forward work programme.

Next Meeting

39. The Chair noted that the Council next meeting will take place on Friday 18th September 2009.

The following members of the Council were present:

First Minister
Sir George Mathewson ( Chairman)
Mr Crawford Beveridge
Ms Frances Cairncross
Professor Andrew Hughes Hallett
Professor John Kay
Professor Alex Kemp
Professor Finn Kydland
Sir James Mirrlees
Mr Jim McColl
Professor Frances Ruane
Lord Smith

Also present:

John Swinney, Cabinet Secretary for Finance and Sustainable Growth
Fiona Hyslop, Cabinet Secretary for Education and Lifelong Learning (Schools discussion only)
Dr Andrew Goudie
David Wilson
Dr Jennifer Steedman
Lucy Proud
Sean Neill
Simon Forrest
Jennifer Erickson
Colin McAllister