Blog: Cover story: Scottish independence, Brexit all over again? – International Financial Law Review

In 2014,
the question of an independent Scotland was supposed to be put to rest for a
generation. Those against edged out those in favour by 55.3% to 44.7% and the
issue was deemed resolved: Scotland would remain a part of the UK, as it had
been since 1707.

just under two years later, the terms upon which this vote had been made drastically
changed. When the Leave campaign voted to remove the UK from the European
Union, the prospects for Scotland’s future outside of the bloc did too.

In the five
years since, there has been a growing dissent within much of Scotland and that which ought to have been
put to bed, the question of independence, has been a constant point of

failing to win an outright majority in the Scottish parliamentary elections
earlier this year, the ruling Scottish National Party (SNP) claims that there
is a growing mandate for a second referendum, which they refer to as
‘Indyref2’, and continues to push the UK parliament in Westminster to grant it.

However, in
an attempt to maintain the integrity of the union and keep Scotland united with
the rest of the nation, and to avoid being the leader to ‘lose Scotland’, UK
prime minister Boris Johnston has publicly quashed the idea and outright
rejected this request. Yet, with a significant majority of the ‘yes’ voting
Scottish public falling into younger age categories it seems likely that a
second referendum will arise at some point. It is a question of ‘when’ and not
‘if’, suggest experts.

So, with
the much-heralded COP26 event in Glasgow nearly upon us, which will turn the
world’s eyes momentarily onto Scotland, for this final edition of IFLR
magazine we have decided to focus on the implications of Scottish independence
for the financial markets, of course with a legal and regulatory twist, as we
do best at IFLR.

Like Brexit
before it, the financial implications of Scotland leaving the UK would be huge
and would likely take years or even decades to iron out. Key debates would
focus on how to break up the UK’s existing debt implications fairly; what
currency an independent Scotland would adopt; whether the new country would be
granted membership into the EU and how long that might take; establishing a
central bank, and the not-so-tiny issue of what would happen to the established
global asset management and banking institutions currently domiciled in
Scotland but not confined to its borders in terms of activities.

This is by
no means exhaustive and does not even consider some of the other – hugely
difficult – concerns, such as establishing a border or how to handle trade with
England (or the rest of the UK), currently Scotland’s biggest trading partner.

The 28th

Among the
most prominent debates is whether an independent Scotland would be able to join
the EU following its divorce from the UK. It has been touted as an obvious
solution by the SNP and those in favour of independence, but is certainly not a
simple proposition.

It is by no
means a secret that one of the biggest roadblocks hindering the Scottish
independence movement is the objections of Spain, the fourth-largest economy in
the EU. The Spanish region of Catalunya has been debating independence for
decades but is yet to be granted so much as a legitimate referendum of its own,
despite numerous unofficial victories for the separatist agenda and a
significant backing from its population. The Spanish government will not
entertain the idea of an independent Catalunya and fervently opposes Scottish
independence to avoid precedence.

This is a
major issue for Scotland and its separatist movement.

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membership would solve a lot of the issues that an independent Scotland might
face. It would allow the country to adopt the euro, remove the need to rewrite
an entire rulebook of civil laws and regulations, and generally ease the
financial burdens that a fledgling country might face.

Were it not
for Spain, there would be little to stop this from happening. Except, perhaps,
from within England.

“It would
not be easy at all, it would be a very serious thing indeed, and I don’t know
how the UK would react – I suspect extremely strongly,” one well known
anti-independent voice tells IFLR.

“The UK
could easily go to Iceland, Ireland, Cyprus or Malta and say, ‘come and join us
and we’ll protect you’, but if you’re starting to arbitrage states like that,
if you’re having that sort of discussion it’s completely the opposite
discussion of what it’s packaged up as being, which is Scottish independence.”

The only
way of making independence viable, they continue, is to have Scotland rejoin
the EU, which he suggests would be deemed constitutional arbitrage.

If Scotland were unable to negotiate terms of joining the EU prior to
leaving the UK, it would put the country into a transitionary period during
which it would have to establish its own financial system independent of both
the UK and the EU.

This is not
necessarily a roadblock.

“It’s only
when you are de jure independent that – formally speaking – you can apply to
accede to the European Union,” says Andrew Wilson, former Member of the
Scottish Parliament and shadow minister for finance and founding partner at
Charlotte Street Partners. “Countries may be able to have informal talks in
advance, and may be able to accelerate the process, but some academics say it
could take up to five years.”

would need to establish a financial policy position, deciding what happens
prior to independence and what happens the day after. The first step would be
to set up a central bank and a debt management office that mirror existing
fiscal rules and regulations in the UK so as to avoid legal divergence and a
potential meltdown.

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the Scottish central bank would be the regulator of Scottish financial
institutions, this would very quickly lead to significant balance sheet issues.
“Most of the Scottish financial institutions that are off scale have already
said that they will technically redomicile to London for the purposes of
regulation for their overall business,” adds Wilson, who adds that this would
not lead to job losses for Scotland.

“If you’re
a banking group the size the former RBS group was or even NatWest now, the bulk
of your assets (loans) and activities are outside Scotland and are best
regulated where they are focused, in this case London. The Scottish central
bank would focus on the domestic Scottish activities of banks in Scotland.”

It is hard
to see how losing your biggest financial players would be good for a new
country’s financial system, but in reality the prospects of a financially
independent Scotland – comprising just over 5 million people – would be nowhere
near that of the superpower that is London, and nor would it need to be.

Like the UK
has in the years following Brexit, an independent Scotland would be able to
build on the systems and regulations already in place. “There’s a recognition
that there would need to be a central bank and a financial regulator, the
assumption is that they would build upon what is already there in terms of
expertise,” says Stephen Phillips, partner at CMS in Edinburgh. “For instance,
the Financial Conduct Authority (FCA) actually has quite a big establishment in
Edinburgh. In the early days, it would be very much the case of Scotland trying
to mirror what the UK was doing and not trying to deviate too far away from

“That will
spill out if there is much more divergence between the UK and the EU because of
Brexit. It would be an issue for an independent Scotland because there would be
more of a pull towards Europe,” he adds. “There would certainly be an attempt
by Scotland to try to keep and keep as close as possible to the UK regulatory
methods but at the same time it would probably to try to leverage off the fact
that it would be seeking to join the EU, or at least have a closer relationship
with Europe.”

could look for market access, and perhaps even “act as a bridge between the
two”, he adds.

planning to serve the Scottish market would also have to establish subsidiaries
within the country to serve the Scottish market, but given that Scottish banks
deposit ratios are healthy in terms of safety – which impacts regulation –
excessive regulatory change would be unlikely.

wouldn’t see change in regulatory standards at all, it would be in everyone’s
interest to keep things the same and to sort of grandfather the UK position
into Scotland, providing stability for the financial sector through the
transition period,” adds Wilson.

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In 2014,
the financial situation in Scotland looked very different to how it does today.
While it is important to note that RBS has already confirmed intentions to
leave the country in the case of independence, following the bank’s merger with
NatWest it already moved a large part of its operations south of the border.

argument in 2014 was that the small Scottish economy could not withstand the
burden of this financial instability, because the balance sheet was 15 times
larger than the GDP of Scotland,” says professor Emilios Avgouleas, chair of
international banking law and finance at the University of Edinburgh’s Law
School. “Without this, financial stability is much, much less of a problem now
than it was in 2014.”

London’s dominance in the banking sector, the city of Edinburgh has an
established financial services sector. The asset management sector, for
instance, has seen some relocation of financial services activity, with large
institutions such as Abrdn and Scottish Widows currently based there.

Sarah Hall,
professor of economic geography at the University of Nottingham, suggests that
there would be significant benefits for the asset management industry, but it
would not be an easy ask.

“If independence
meant Scotland became a member state, then obviously financial institutions in
Edinburgh would be able to passport again, rather than relying on equivalents,
which would be hugely beneficial to Edinburgh’s asset management cluster,” she
says. “The issue is in the process of joining the EU, the evidence suggests
that that is a very long process.”

While the
end point of having single market access would be valuable to the industry,
there would be a significant period of uncertainty while that was worked out.

Regarding the UK banking system, Nicholas Macpherson, Baron Macpherson
of Earl’s Court, and former permanent secretary to the Treasury from 2005 to
2016, does not think “Scotland gives a damn any more about banks because they
are all in London anyway,” but agrees that there are issues around the
Edinburgh asset management industry and what happens to Standard Life, Abrdn,
Baillie Gifford, etc. Most of their assets are not in Scotland, despite being
headquartered there, but there would be issues.

“The big players might re-headquarter to London
while having serious businesses in Scotland, just as Baillie Gifford have
opened an office in Dublin to deal with aspects of leaving the EU – a lot of
businesses would ride two horses,” he says. “In the process, Scotland would
lose out more than London has lost out in leaving the EU.”

“At the moment, business regulation is
effectively tied to EU regulation, and Scotland would be tied to that,” he
adds. “Obviously, it would have to set up its own agency and depending on plans
to join the EU it could actually tie its regulation to the UK’s, but for
Britain, ‘taking back control’ means it is about to go out on its own and carve
out its own approach to regulation.”

In the end,
most regulatory issues will not be hugely problematic, as Scotland would either
choose to follow the British approach or to follow the EU approach. The EU sets
its own regulatory parameters, and it will be up to an independent Scotland to
interpret them in a way which it sees fit.

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Currently, that
would not require any work at all. Whether that changes would very much depend
on how long independence would take and how much divergence there has been in
the meantime between the UK and the EU.

issue of money

One of the
fundamental questions surrounding independence concerns is currency; namely,
what currency an independent Scotland would use. There are three potential
options: keep pound sterling, adopt the euro, or come up with an alternative.

aside, each of these options comes with its own set of legal issues and
contractual conundrums that make the question hard to answer without some form
of pushback. In 2018, the Sustainable Growth Commission – convened by SNP
leader Nicola Sturgeon and chaired by Andrew Wilson – recommended that an independent
Scotland kept the pound sterling as its currency for a “possibly extended
transition period”.

“In the
longer term, if it were in the rounded economic interests of Scotland to
develop its currency arrangements Scotland would, of course, be able to introduce
its own currency. The Commission recommends that such a future decision should
be based on a formal governance process and criteria set out clearly in advance
of voters making a decision on independence. Such an approach is an absolute
necessity to maximise certainty and stability and to minimise risks,” reads the

From a
legal perspective, taking into account contracts within Scotland that reference
the pound for example, this option would be significantly more straightforward
than any other.

economist and Oxford fellow John Kay agrees that the status quo would be the
best course of action and would likely cause the least problems.

financial issues that worry me seem to be greatly exaggerated, the currency
issue for one is straightforward,” he says. “The right thing to do is nothing.”

“It might
be that in due course trading patterns look different, it depends on what
Scotland’s relationship with the EU would be, but the idea that Scotland would
simply rejoin the EU is naïve,” he adds.

given the political gains that the independence movement has made in the
aftermath of Brexit, it seems unlikely that a referendum would be fought on any
grounds other than rejoining the EU as quickly as possible. This would be no
easy task and would require significant economic change, including joining the
Economic and Monetary Union (EMU) and therefore adopting the euro.

“In the
current world, an independent Scotland would make no sense whatsoever unless
there is an arrangement with the EU that their membership would be fast
tracked,” adds Edinburgh Law School’s Avgouleas. “Fast track membership for
Scotland would mean that the country joins the euro.”

“This would
resolve the issue of bank regulator – it would have to be the ECB [European
Central Bank],” he adds.

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conditions for becoming an EU member state, referred to as the Copenhagen
criteria, insist prospective countries have “the ability to take on and
implement effectively the obligations of membership, including adherence to the
aims of political, economic and monetary union”. While it would not be the case
that Scotland would be forced to join the euro immediately, all members that
have joined the bloc since the Maastricht Treaty in 1992 are legally obliged to
adopt the euro once they meet certain criteria.

which joined in 1995, is required to join at some stage.

if you want to join the EU, you’re supposed to sign up to joining the euro,”
says Thomas Sampson, associate professor at the London School of Economics. “If
the goal is to eventually rejoin the EU, then unless Scotland can negotiate a
waiver – the EU does give waivers in certain circumstances – it would have to
agree to work towards joining the euro.”

The euro
has evolved over the years and has become a very stable, major currency, which
would offer its advantages. The downside would be that Scotland would become a
very small part of the bigger European markets.

“The other
difficulty that would arise if Scotland were to join the euro, or to create his
own currency, would be the technical and legal difficulties of taking contracts
that were originally written in pounds, and converting them into a new
currency,” adds Sampson. “This would be a huge undertaking. But it can be

difficulties involved in creating a new currency mean it is probably the
riskiest option for Scotland. Investors and holders would be worried that the
currency would lose value in the initial days and weeks of independence, or
that there would be a run on the currency and Scottish people earning money in
the new currency would end up much poorer than they previously were,” he adds.

Some, however,
do advocate for an independent Scotland to form its own currency. Lord
Macpherson believes that despite the fact that Scotland spends more money
relative to its tax base, the SNP could implement independence reasonably
successfully, if it took tough decisions on tax and spending.

“The SNP
would not say that ahead of independence, but I would try to encourage them to
be fiscally careful so that Scotland doesn’t stand out,” he says. “It all
relates to the currency issue and the fundamental lack of clarity around that.”

He adds
that he struggles to see the benefit for the rest of the UK to enter into a
monetary union with a country that is seeking to become more independent.
“Scotland would have a choice, either try to peg the Scottish pound to sterling
– which could leave you vulnerable to the speculative attacks – or to just make
a virtue of necessity and float its own currency.”

“A Scottish
pound would probably depreciate in the short run but in the longer term if
Scotland can establish credibility there is actually no reason why it should be
weaker than sterling; it is similar to when Ireland stopped pegging the punt to
sterling,” he adds.

Made in

A further
consideration would be how Scotland’s corporates would react to this
uncertainty. It is fair to say that if a referendum were to result in a
positive vote for independence then many would question the value of relocating
to England to avoid the stresses of a potential Brexit 2.0.

however, would turn that argument the other way. “Historically, one of the
things Scotland has suffered from has been the migration of large corporates
out of the country,” he says. If you go back to the 1980s, he argues, there was
a change to competition policies so that the planned takeover of RBS by HSBC
was actually blocked on the correct grounds that it would damage the Scottish
economy. After that, the UK competition policy was changed so that the regional
issue was not grounds for blocking M&A. This allowed Irish giant Guinness
to acquire the Distillers Company, arguably against Scottish interests.

might mean more of a chance in the future for homegrown Scottish corporates,
but who knows, when Skyscanner left, for example, they didn’t go to London,
they went to Beijing,” says Kay.

The debate
tends to focus on wider macroeconomic issues.

Of course,
the impact would not just be felt by the larger corporates in the country, but
also by SMEs. Ross Brown, professor at St Andrews, believes that independence
would affect change that could alter Scotland’s economic growth in future

would suddenly have quite a range of different policy levers to do things
differently,” he says. “Rejoining the European Union would be one such
distinctive policy angle which would be very attractive for all of the small
businesses that are screaming at the moment, they now have non-tariff barriers
with the biggest single market which amounts to about 10% cost increase for

See also:
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A 10%
increase could influence whether companies bother trading at all, or not, he
argues. “Scotland could make a significant advance for the economy if it were
to rejoin as a separate country, not just for companies in the country but for
small companies in England which might consider relocation based on that
decision,” he adds. “Small businesses are mobile these days, a lot of firms can
move easily. It could prove very attractive, not just for indigenous Scottish
firms but for English ones.”

UK debt share

One of the
key economic implications of Scottish independence would revolve around the
newly formed country’s proportion of the UK’s existing debt, and how that debt
would be transferred – if at all – to the Scottish state.

At the end
of 2020, the UK had general government gross debt of £1,876.8 billion, which an
independent Scotland would be proportionality responsible for. A key question
would be formulating exactly how much of this total was Scotland’s
responsibility and how it would be serviced.

solution to this problem would be for Scotland to pay an annual solidarity
payment to the UK.

“This would
be annual payment to service the agreed share of debt interest, so that that
negotiation would need to weigh up both liabilities and assets which are
currently on a report published by the UK government once a year, called ‘Whole
of Government Accounts’,” says Andrew Wilson. The last published balance sheet
shows £4.6 trillion of liabilities, but this number will have increased
significantly due to Covid-19.

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to the report of the Sustainable Growth Commission, “an agreement should be
sought for a mechanism for Scotland to pay a reasonable share of the servicing
of the net balance of UK debt and assets”.

The Annual
Solidarity Payment is modelled at around £5 billion including debt servicing
contributions, 0.7% GNP contribution for foreign aid and a further £1 billion
set aside for other shared services, continued the report.

calculation would tell us a legacy sum of money that Scotland would agree to
service, which would be very important to begin with,” adds Wilson. “Over time,
the legacy sum of that would be eroded and refinanced, and run down.”

Tartan bonds

alternative to this would be for Scotland to transfer and take on a calculated
proportion of the UK debt directly. This would bring a whole host of legal
issues and concerns, not the least with the calculation of that number.

essential issue is that because the UK government has issued debt to finance
budget deficit and spending – some of which it can reasonably argue has taken
place in Scotland – a newly independent Scotland should assume its fair share
of the debt,” says Neil Shearing, chief economist at Capital Economics. “The
question is where to draw that line: is it a share of GDP, a share by
population, or by government spending. Either way, it is going to be a mess

“There are
no provisions in bond issues for this sort of event, it is not like UK
government bonds have clauses that say what is going to happen in the event of
an independent Scotland,” he adds.

What an
independent Scotland’s currency would look like is a key economic concern that
has been richly debated in the years leading up to and following the 2014 referendum.
The ultimate decision would also have a significant bearing on the outcome of
the shared national debt.

If – as is
widely suggested – the country were to use a pegged version of pound sterling,
it would mean there was significantly less risk for the holders of the debt
that was transferred to the Scottish sovereign.

“Of course,
you would still have to take on the debt, but it would mean less exchange rate
risk,” says LSE’s Sampson.

“It would
be subject to negotiation, but if Scotland was still using the pound there
would be no risk,” he adds. ”Suppose you use a new currency and set it up so
that one Scottish pound is worth one British pound, if afterwards that is not
what the market thinks it was and the Scottish pound were to depreciate, then things
would look very suddenly in terms of the value of that debt.”

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This issue
was also central in 2014, with the Scottish government suggesting that it would
continue to use the pound as a pegged currency. At the time there was some
suggestion that Scotland would renege on its share of the national debt if it
was not given access to the pound sterling by Westminster.

“They’re still
proposing that on some basis, at least until there is an introduction of a new
currency,” says Owen Kelly, deputy director of the Edinburgh Futures Institute
and one time CEO of the Scottish Financial Enterprise, the representative body
for Scotland’s financial services industry.

“As part of
that argument, there was a slightly silly suggestion that Scotland would refuse
to pay its share of any legacy debt, unless the UK government allowed Scotland
to use sterling on a dollarised basis,” he adds. “This could be a point of
political contention, there might be an attempt to use it as a bargaining chip
once you got into the business of negotiating the terms of the separation.”

Setting a precedent

Scotland to begin the process of preparing for independence, it would of course
not be the first time that a country has seceded nor the first time that
national debt be divided in such a manner.

Buchheit, sovereign debt restructuring veteran and honorary professor at
Edinburgh University, told IFLR that the public international law when a
constituent of a state secedes or leaves to join another state – as happened in
1846, when Texas joined the United States – the rule is that debts incurred by
the previously unified state have to be allocated between the two newly formed

“There is
no hard and fast formula for doing that,” he says. “The one thing that’s clear
is that as your debt was incurred, let’s say to build a hydroelectric dam in
the seceding province, then that debt stays with them, but the debt incurred
for general governmental purposes has to be allocated between them.”

says that when Yugoslavia broke up, this issue was not handled particularly
well, and that the handful of emergent countries are still quarrelling.

“As it
relates to UK guilds, the UK such as it might exist after Scotland left, would
remain wholly responsible,” he adds. “The UK would negotiate with Scotland for
what in legal terms is called a contribution, or they could say that something
like 70% of the guild is now the responsibility of the UK and 30% is

Sustainable Growth Commission and its Annual Solidarity Payment suggests the
second approach.

“I would be
astonished if they deviated from that if there is another referendum,” says Buchheit.
“The history of these referenda around leaving is not particularly good in
terms of debt.”


Of course,
all of the aforementioned arguments amount to no more than speculation. The UK
remains intact and Scotland remains a constituent member of that, regardless of
what the pro-independence population think. The current UK government appears
very unwilling to grant a second referendum, and the lack of the clear mandate
in the national elections came as a blow to the SNP’s arguments.

That being
said, many of the arguments used in 2014 to advocate for unity appear to have
dispersed, and the population of voters who would now vote differently has,
without doubt, grown. Empty supermarket shelves and growing despair at the way
the incumbent government in Westminster is handling the transition away from
the EU and the Covid-19 crisis, with the interweaving problems that brings, is
politically and socially pushing Scotland away from its southern neighbours.

For now,
the status quo remains intact, but in the years to come the pressure for change
is only going to grow.

© 2021 Euromoney Institutional Investor PLC. For help please see our FAQs.

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