Scotland Independence: As Banks Make Dire Warnings, Economists Wait For Details

Just a week before Scotland’s citizens vote on whether or not to remain a part of the United Kingdom, Lloyds Banking Group PLC (LN:LLOY) and Royal Bank of Scotland Group (LN:RBS) made headlines when they said Wednesday that they planned to move their headquarters from Scotland to England in the event of a “Yes” vote.

As of Friday, the latest polls show that the “No” camp has a two-point lead, within the margin of error, with 51 percent -- a race that still could go either way.

But economists say economic devastation isn’t the certain result of an independent Scotland, especially when it comes to banking -- where the new currency policy will be one of the biggest predictors.

“One of the big challenges post-independence will be who stands behind the Scottish banks and other financial institutions,” Capital Economics’ chief global economist Julian Jessop said.

Currently the Bank of England and the London government play that supporting role. An independent Scotland would have two options if it wants to keep the pound as its currency; either keep the pound through an agreement with the UK, or use it informally, a process called “sterlingization.”

The first option is less appealing , economists say.

According to Jessop, if Scotland’s independence movement follows its plan to keep the pound without an agreement with the London government, “it won’t have the reserves or ability to print money to act as a lender of last resort,” and will face tighter restrictions on lending.

Though it won’t be a problem for banks, who will likely shift their headquarters to London, “this exodus will damage Scotland’s economy,” Jessop said, adding that the “best hope” is that the UK does agree to share the pound, and to underwrite Scottish banks.

This option would require Scotland to follow the dictates of the British government in fiscal policy.

It’s possible that Scotland would continue to use the British pound as legal tender while negotiating the terms of a new currency union with the rest of the UK. But during that time, “an independent Scotland would face higher currency policy risk by having no representation in the UK Parliament, the HM Treasury or at the [Bank of England,] i.e. all of the institutions that influence national, and Scottish, currency and therefore economic policy,” Lena Komileva, economist with G PLus Economics, wrote in a recent note.

“A de-integrated Scotland in policy terms would also be a less independent Scotland in economic terms,” she wrote.

Some have argued that Scotland could also create and float its own currency to solve this problem. Others have considered joining the euro, but these options are less popular.

“What I can tell you is that there are some economic consequences from the relocation,” BBC economics editor Robert Peston wrote on Thursday. “But quantifying them is hard.”