Oil and gas make Scotland’s underlying public finances particularly volatile and uncertain

This statement provides new information about Scotland's overall financial situation, taking into account the most recent predictions from the Office for Budget Responsibility made at the time of the March 2024 Budget. Unfortunately, these forecasts represent a continued trend of reducing revenue projections for oil and gas, bringing them lower than previously forecasted in November 2022.

On 6 March, the Budget was announced and the Office for Budget Responsibility (OBR) came out with its latest predictions for the economy and public finances. According to their report, the United Kingdom's financial situation is projected to slightly improve for the current year, but there won't be much difference in the long-term future.

Going further into the topic, the most recent predictions have lowered the expected amount of taxes received from the production of oil and gas. This has happened for the third time in a row, as can be seen in Table 1. It is important to note that in 2022, there was an initial increase in revenue forecasts due to Russia's invasion of Ukraine and the resulting spike in gas prices across Europe. However, these bright prospects have since dwindled due to falling prices and future projections, particularly for gas production. This has led to a significant decrease in the originally estimated revenue levels, which were much higher back in November 2022.

Table one displays the British revenue for oil and gas from past and predicted years, with values presented in billions of pounds and several different forecast dates.

Different documents published by the Office for Budget Responsibility on economic and financial forecasts are the source of this blog.

During the years from 2015 to 2021, the UK only earned an average of £0.6 billion per year from the oil and gas industry. However, in 2022-23, this number skyrocketed to £10 billion, and the forecast for 2023-24 is £5 billion. Compared to the small earnings from the late 2010s, these figures are equal to a 0.4% and 0.2% increase in national income for the UK.

Since the majority of oil and gas extraction happens in the waters surrounding Scotland, the effect it has on Scotland's revenue is significant. In comparison to the late 2010s, it has resulted in a rise of more than 4% and 2% of the country's overall income.

Although there has been a significant increase in oil and gas profits compared to the late 2010s, the current financial year of 2023-24 predicts that the revenue will be only one-fourth of what was expected in November 2022, which is £21 billion. This decrease is valued at £16 billion, which is approximately 0.6% of the UK's total income, but as much as 7% of Scotland's national income.

This shows that since most of the oil and gas production takes place in Scottish waters, Scotland's tax revenues and its financial situation are more affected by the unpredictable and unstable revenue from this sector compared to the entire UK.

In the current constitutional arrangement, the notional financial position of the public does not carry much weight. This includes oil and gas revenues which are merged with revenues from the rest of the UK, and any borrowing to finance Scotland's deficit is done by the UK government as part of the overall financial deficit of the UK. However, the success of the oil and gas sector does affect Scotland's economic performance in regions like the North East and Highlands & Islands. In complete fiscal autonomy or independence, the underlying fiscal position of Scotland would be more important. This is because the Scottish Government would have full responsibility for taxation, public spending, as well as new borrowing and debt.

Forecasting Scotland's Fiscal Health

To obtain the most accurate details on Scotland's fundamental public finances, the Scottish Government's legitimate Government Expenditure and Revenue Scotland (GERS) publication should be consulted. Although it looks back in time, and relies on current tax and spending policies from both the UK and Scottish governments, as well as economic performance, it offers valuable insights into what a financially self-governing or independent Scotland could potentially experience.

The future of Scotland's and the UK's financial status is uncertain and will depend on both economic factors (especially for Scotland, oil and gas prices and production) and policy decisions. To account for this, we have used the latest GERS figures (2022-23) and projected them forward based on the OBR's March 2024 fiscal forecasts for the UK as a whole. Our projection assumes that Scotland's tax revenues and government spending per person will follow the OBR's projections for the entire UK, and that Scotland's portion of oil and gas revenues will return to 100% of the UK total by 2027-28, as the contribution of oil and gas production to such revenues approaches levels seen before Russia's incursion into Ukraine. As we have stated earlier, we believe these assumptions provide a reasonable basis for our projections.

In this section of the blog, we can see a comparison between the predictions made for Scotland's net fiscal balance (represented by the dark blue line) and the estimates made for the entire United Kingdom (represented by the dark red line), as depicted in Figure 1. Additionally, the graph also displays past projections, which are in lighter shades of blue and red and were made in August 2023 and November 2022.

Let's start by looking at the United Kingdom. According to the graph, the country's net fiscal balance is expected to improve (meaning less borrowing) each year. It's estimated to go from just under –£2,000 per person in 2022-23 to just under –£560 per person in 2028-29. This is due to a mix of higher taxes compared to national income and carefully planned reductions in both daily expenditures and investments during the upcoming term.

If we look at the most recent predictions for Scotland, the situation is not the same. According to the OBR's March estimates of oil and gas earnings, Scotland's hypothetical net fiscal balance is anticipated to have worsened in the present financial year and remain relatively stable for the following five financial years. This is due to the fact that even though Scotland is expected to observe increases in taxable revenue from onshore activities and limits in public spending, these developments are offset by the predicted drop in oil and gas revenue.

Scotland is facing a challenging financial year in 2023-24, with an expected net fiscal balance of -£4,100 per person, amounting to a total of -£23 billion. This is a significant increase from the previous year's figure of -£3,500 per person (-£19 billion). The underlying net fiscal deficit is expected to be approximately £2,450 higher per person than the UK average, compared to £1,550 higher in the previous year. This is mainly due to the projected decline in oil and gas revenues.

Reworded: The illustrated data showcases the predicted fiscal balances per person for Scotland and the UK from the years 2021-2022 to 2027-2028.

The author conducted calculations based on numerous publications such as the Office for Budget Responsibility Economic and Fiscal Outlook, GERS 2021-22 and 2022-23, along with a range of population estimates and projections from the ONS. The assumptions discussed throughout the text were also considered during the calculations.

When we compare the most recent projections to our previous estimations, we can see that there have been some changes in the UK's net fiscal position. In particular, the forecasts for 2022-23 and 2023-24 are looking better than before. However, the same cannot be said for Scotland. In fact, there has been a negative shift in Scotland's net fiscal position when compared to the previous projections. For instance, in November 2022, we thought that Scotland's net fiscal balance would be around -£2,350 per person this fiscal year, which was just £300 more than the UK's average. By August 2023, this number had increased to a difference of over £1,600 per person (-£3,575 compared to -£1,940). And, as we mentioned earlier, this projection is expected to go up to £2,450 per person.

The numbers for upcoming years are uncertain, especially in Scotland due to the unstable nature of oil and gas revenues. However, using the current predictions from the OBR, we estimate that Scotland's net fiscal balance per person in 2028-29 will be -£3,640, which is similar to the levels in 2023-24. In contrast, the UK as a whole is expected to have a net fiscal balance of around -£560 per person. This means Scotland's basic fiscal deficit is expected to be approximately £3,100 per person more than that of the UK as a whole, which adds up to a difference of about £18 billion in total.

To achieve a net fiscal balance per person in Scotland that matches the UK's, oil and gas revenues would need to reach £20 billion in 2028-29, assuming all of these revenues were from Scottish waters. This is four times higher than the forecasted revenues for this year. While not impossible, it would require the highest real-terms revenues since the mid-1980s, when oil production was much higher. Therefore, improving Scotland's net fiscal balance compared to the UK will need improvements in the country's onshore economic performance and revenues, as well as public spending changes.