Monday, 20 April 2015

Oil Price and Scottish Tax Generation

It's highly frustrating when the debate on Scotland's economy is reduced to a simplistic "when the oil price recovers we'll be fine".

Take this example from Gordon McIntyre-Kemp of "Business for Scotland" (who have given up any pretence of being anything other than SNP cheerleaders as evidenced in detail here);
Labour are feverishly promoting the £7.6bn black hole scare-story to put people off FFA but it’s a myth; firstly because it assumes oil prices won’t ever recover, and even a moderate increase to $70/80 would wipe out any additional deficit.
This is nonsense.

First of all let's look at recent history.  In 2014 the average oil price was $99 and Scotland generated £2.6bn of North Sea tax revenue.  That's £2bn more than the £0.6bn assumed in the IFS forecast that leads to their £7.6bn "black-hole".  So based on recent history a $99 oil price fills about a only quarter of the back hole, leaves us still with over £5.6bn to find.

As an aside: if you doubt the existence of the black-hole I suggest you read Full Fiscal Autonomy for Dummies which explains that the black-hole is a long-term structural deficit difference that is simply revealed by falling oil revenues

Secondly let's consider whether there might be more to our North Sea tax revenue generation than just the oil price.  Of course there is;  it's profit that gets taxed which means tax revenue generation is a function of  [production volume] x [profitability] x [tax rates].

First let's look at (inflation adjusted) North Sea oil tax revenues and oil price on the same chart

Notice how there's a clear relationship but particularly in recent years the revenue line declined even when the oil price held up?

Take a few seconds to think about the following graph because it tells us an awful lot. I've plotted the ratio between the two lines; the ratio of N Sea oil revenue generated (£m) to the average $ oil price in that year. So what we're able to observe here is the real terms relationship over time between $ oil price and actual Scottish tax revenue generated - it's a measure of North Sea oil's tax generation productivity

Is it just me or can you see a trend emerging here?

We shouldn't be surprised by this. As the most economically attractive reserves become depleted production moves to less economically attractive ones - profit per barrel reduces even if the $ oil price doesn't move. Combine that with production volume declines and reductions in tax rates to protect the viability of North Sea activity (and jobs) and you'd expect to see exactly what we can empirically observe; we get less bang for the oil price buck over time.

To quote Oil & Gas UK
After more than a decade of spiralling costs, over-taxation and weak regulation, the UK offshore oil and gas industry is now bottom of the league in terms of the cost of producing a barrel of oil and gas.  The UK’s difficulties have been greatly exacerbated by the sudden drop in oil price but it would be a grave mistake to believe that the price fall is the cause of the problem.  A recovery in the price, even to $100 per barrel, would not resolve matters
This might be forcing the data a little -  but based on the trend line above it would seem reasonable to suggest £40m/$ is an optimistic forward assumption (the last three years have been 44, 26 and 13 respectively).  To get the £8.2bn oil revenue we'd need (the £0.6bn the IFS already forecast + the £7.6bn "black-hole") we'd need an oil price of 8,200/40 = $205.

This is clearly an extremely crude (ahem) analysis but I think my point is made; to suggest all will be well for an FFA Scotland if the oil price just recovers to $70/80 is just ridiculous.

In case you're thinking "what about exchange rates" or "is this maybe a function of absolute oil price" here's that same productivity graph with UK GDP inflation adjusted average oil price on it

As you can see the productivity decline has happened independent of whether the exchange rate adjusted oil price has been rising or falling - absolute oil price and exchange rate are not the tax productivity drivers.


I suppose I'd better address the other points that Gordon McIntyre-Kemp raises in that article. This won't take long.
Secondly FFA will give the Scottish Government powers to balance income and expenditure [...] FFA is the key to rapid economic growth and prosperity for Scotland. Here are five key ways Scottish FFA can balance the books, cut the deficit, raise revenues and create jobs
Sounds great doesn't it?  Gordon's found the silver-bullets that will fix our economic woes.

1. "Refocusing the Economy on SMEs"
Sounds reasonable. But don't all government's want a successful SME sector? What's Gordon's innovative idea? "Targeted tax incentives". Fair enough, tax cuts for SMEs might work - it's hardly ground-breaking but we've got another four ideas to go

2. "Targeted Tax Incentives"
Within this idea he goes on to explain that "SMEs hold the key to rapid economic growth".  So this is the same as number one really - tax cuts for SMEs. Maybe he was rushing when he wrote these.

3. "Increasing Research & Development". 
Sounds like a great idea. I mean there are plenty of incentives for this already like R&D tax credits and patent boxing but maybe Gordon's got a new idea. Guess what? It's "targeted tax incentives". This is getting a little silly

4. "Abolishing Air Passenger Duty"
This is a targeted tax incentive - reducing a guaranteed tax take in the hope of a net gain from boosting tourism. It might work - but of course the Smith Commission recommended that this tax be devolved anyway so we'll find out soon enough; no need for FFA.

5. "Reducing VAT on Tourism"
Well this a targeted tax incentive too. We lose a guaranteed tax take through VAT on tourism in the hope that the economy net gains from the boost in tourism that could result.

I'm afraid that's it.  It's basically one idea; reduce taxes in the hope the net effect will be beneficial to the economy.

Now I'm not saying that isn't a chance that some business and consumer tax reductions could result in net economic improvement. They might be beneficial or they might be detrimental, it's a tough call. Not for our Gordon though. He concludes - with the spectacular confidence that comes from knowing you'll never be held to account -
If Scotland had FFA we would have the power to do all of the above and grow our economy at unprecedented rates, thus demonstrating conclusively that Scotland would be better off as an independent partner to the other countries of these isles but worse off by remaining a devo-lite region without fiscal autonomy. 

Would grow our economy at "unprecedented" rates - so by definition at rate that have never been known before.  Just by reducing some taxes.  There will be finance ministers all over Europe kicking themselves that they hadn't thought of this. "Thus demonstrating conclusively" - he's hypothesised an outcome which he admits would be unprecedented and continues as if he's proven something. Extraordinary.

There's more
Just the few policies highlighted above would make 5% growth attainable for Scotland 
Well he plucked that number out of his nether regions didn't he?

You'll forgive me if I don't waste more of my time on this - if you believe that some tax reductions will deliver 5% growth because Gordon says so then I'm afraid you're beyond my reach.


Ron Sturrock said...

Hope you get a response from BfS, i'm still waiting.

VAT will remain a reserved matter even with FFR, they can of course argue the case for a reduction. But I would have doubts that any reduction would apply only for Scotland, so bigger picture to consider.

APD, being devolved, there is the hint that this may come under the microscope of the "Carlisle" polcy idea announced today. Basically this is intended to monitor the fiscal effects that devolved fiscal arrangements may have, i.e. detrimentals say for the airports in NE England etc. Which may prompt WM to institute a counter.

OIl you covered it.

No-one is saying FFR would never work, but we can all see it has been kicked into the long grass.

jason hoffman said...

So basically what you're saying and have been saying in all of your posts, is that the Scottish economy, as run from Holyrood, is a basket-case.

So what's the alternative?

End devolution now.

Banish the snp

Hand over all control of everything to Westminster. Again.

Go away and only speak when spoken to.

Put Labour back in charge of Scotland with a smattering of liberals and tories to jolly things up

Kevin, I admire your relentless pursuit of truth (as you see it), but your blog is so one-sided that I'm getting jaded reading it. I and probably many thousands of others want to see some truthful insight into what we currently have with UK. And no-one is giving us that.

People are disaffected for good reason with the current state of play. We no longer trust what Westminster or the MSM tells us. We are not living in a world of milk and honey, and there has to be a better, more equitable way.

Westminster will not change unless they are forced to. This is why people are going to vote SNP.

Anonymous said...

Mr Hague, I admire your forensic destruction of the SNP and their fantasy land economics but lets be honest here, this has long since passed beyond the point of facts having any bearing on the politics.

It is now about an almost semi religious, faith based dogma for the people of Scotland who support the SNP.

No amount of facts, however compelling, will reach them. They seem to be past caring about such things.

Only once the tax demands and bills start to drop through the letterbox will they wake up to the reality, by which time it will already be too late.

Scary times ahead.

Terry Summers said...

< I and probably many thousands of others want to see some truthful insight into what we currently have with UK. And no-one is giving us that.>
So does this mean that you think the SNP, as main critics of the Union, are not telling the truth?

Anonymous said...

Re comment 3 from anonymous. I agree with your sentiment, however regarding this point >>

"Only once the tax demands and bills start to drop through the letterbox will they wake up to the reality..."

No, they won't worry about this too much at all. The rabid Nats don't care about the financial implications, they assume that they can always hike up taxes on "the rich" and "big business" and borrow money to cover any funding gaps. Brilliant!

Anonymous said...

This. Exactly. Scary times indeed.

jason hoffman said...

What is the truth Terry?

Kevin has given us a clear analysis of SNP economics using their own data.

Where is the same treatment of Labours policies?

Or a look back at five years of ConDem government?

Or what we potentially have in store from a conservative minority administration with ukip?

By simply proving that SNP policies won't work doesnt automatically mean that what we'll get by voting in labour or tory governments will be better.

It's not as simple as snp =bad. Everyone, anyone, else = good.

Anonymous said...

Couple of small typos:
First of all let's look at recent history. In 2014 the average oil price was $99 and Scotland generated £2.6bn of North Sea tax revenue. That's $2bn more than the £0.6bn assumed in the IFS forecast that leads to their £7.6bn "black-hole". So based on recent history a $99 oil price fills about a only quarter of the back hole, leaves us still with over $5.6bn to find.

I'm guessing you meant £2bn and £5.6bn respectively.

Anonymous said...

It is now about an almost semi religious, faith based dogma for the people of Scotland who support the SNP.

No amount of facts, however compelling, will reach them. They seem to be past caring about such things.

This is unfortunately the reality of the SNP voter now. There is no way to persuade them that economics matter.

Any argument presented is met with "everything you say is irrelevant because it says nothing about how Scotland would perform if it had control of all economic levers".

I've tried time and time again over on wings to get answers to how Holyrood would improve things but all I get are fantasy answers and an attempt to turn the question into "the UK economy is just as bad".

It's very interesting to me how the SNP have basically put Salmond "into a cupboard". He did briefly surface a couple of weeks ago to promote his book but he's been conspicuously absent from all the big events around the debates. Makes you wonder if Nicola Sturgeon was the leader of the Yes campaign last year would the result have been different and we'd be sitting here a year from an IMF bailout.

Just trying it out said...

For anyone interested in the details of oil tax (and that should be anyone who lives in Scotland, especially those who look to oil tax revenue to fund our ongoing public expenditure) this is a brief summary:

The details are a little complex, but the general point is that they are all taxes on the profits generated from oil and gas production.

This means that while, in the short term, the main determinant of revenue is the oil price, over the longer term costs play an increasingly important role. If costs fall, then a given price per barrel yields more tax, if costs rise, then the tax yield falls.

If one thing should have been clear from the referendum debate, it is that forecasting oil prices in the short to medium term is impossible.

It feels as if it should be easier to make accurate long-term forecasts by referring to underlying economic fundamentals, but I'm not so sure. On the up side, continuing demand plus dwindling supplies might push prices up. On the down side, renewable energy and fracking could push prices down, possibly compounded by the impact of rising production costs. Conflict in the Middle East could restrict supply, pushing prices up, or could weaken central government control over prices, pushing them down. We have no way of knowing in advance which of these factors will dominate or how they will interact. (And there will, inevitably, be other factors that we haven't even thought of.)

In practice, this means that there is no way of knowing what oil prices and oil tax revenues will be in 15, 10 or even 5 years time. It is therefore either reckless or dishonest to propose an economic strategy that is reliant on prices and revenue being at a given level.

Philip said...

@Jason Hoffman,

You have made a number of comments asking that Kevin should shine his torch on Westminster/UK wide governance. This seems odd to me because it is the SNP who want to tear up the status quo. We know that what we have isn't milk and honey but surely the onus is on nationalists to show that they offer something better and not on unionists to show that things are perfect as they are - which they don't claim anyway.

Just trying it out said...

@jason hoffman "We are not living in a world of milk and honey, and there has to be a better, more equitable way. Westminster will not change unless they are forced to. This is why people are going to vote SNP."

I happen to agree with the first two sentences here. However, Kevin's point is that the SNP's 'solution' will actually make things worse.

He doesn't say that the Scottish economy is a basket-case, just that we generally spend more than we generate in revenue.

The reasons for this are quite complex, but it's also absolutely normal for there to be distribution of resources in this way within a state (whether unitary, devolved, federal or whatever). If you break that state up, then the redistribution obviously ends. (Actually, FFA/FFR seeks to end the redistribution without breaking up the state.)

So you either have to be clear that you can carry on meeting your spending commitments without the redistribution - Kevin puts forward some pretty strong arguments that this would not be the case - or you accept reduced spending as a price worth paying for independence/FFA/FFR.
It's not incumbent on Kevin to explain how to square that circle - that's a question for the SNP.

If Kevin's arguments about the revenue/spending imbalance are right, then anyone looking for a radical solution for Scotland has a difficult choice to make.

If you are a 'fundamentalist' nationalist (I really don't mean that in a derogatory sense) then you might believe that the dignity, self-esteem etc. to be derived from self-determination outweighs any financial benefits of union. (Although in this case you really should be upfront with all of those people who are voting SNP to save the NHS; Kevin's analysis suggests that independence/FFA/FFR would herald massive spending cuts, on a scale that would dwarf any possible reductions at the UK level over the next 5 years.)

If your main concern is social justice then, hard as it may be to accept, the best way forward is to work within the UK for policies designed to promote economic growth, redistribute wealth and address poverty.

Kevin Hague said...

Thanks Finarne yes that should have been £bn not $bn - corrected now

Anonymous said...

If you lost the chip you might see things differently.

What it shows at least financially in the short to medium term is that there is a union dividend, and that the snp were dishonest when they campaigned for independence.

Nial said...

"jason hoffman said...
So basically what you're saying and have been saying in all of your posts, is that the Scottish economy, as run from Holyrood, is a basket-case. "

What he is pointing out is that because Scotland is a geographically distributed country, which is inherently more expensive to run that other areas of the country, that we get a higher than average share of the 'pot'.

As do Northern Ireland (fact) and Wales (I presume), and other rural areas of England(I presume).

This is all part of the Barnett formula. If we have FFA or independence we will lose the extra spending per head and drastic spending cuts, or extreme tax rises would be the consequence.

The Scottish economy is only doing slightly worse than the rest of the UK.

Just trying it out said...

"I'm afraid that's it. It's basically one idea; reduce taxes in the hope the net effect will be beneficial to the economy."

I suspect that if you ran these "policies for economic growth" past your average voter and asked them to guess which party had drawn them up, they would say Conservative.

It doesn't make the policies wrong, of course, but it does lead one to question the SNP's claims to be offering a left-wing alternative to the right-wing status quo.

Martin said...


Yet again you do sterling work. It's so depressing that it's not having much impact (but don't stop trying!) because we're now far too into the realm of people voting with their hearts rather than their heads.

What we really need is some bravery from Labour, a gamble even, to change the dynamic. They need to focus the issue on FFA (or FFR as it's now called I suppose) and make people aware of the consequences of it happening, and that it can happen. The only way to do this is to short-circuit the belief that it'll never happen.

A digression.

Paul Keating, when he was the Australian PM in 1993 faced a very similar issue. The opposition were proposing a GST (i.e. VAT) and he took a gamble by making a big speech saying:

"If the Leader of the Opposition thinks, or if the cynics in the Liberal Party think, that you can go to a national election saying, `Vote for us but the GST won’t get up’ . . . . We are making it abundantly clear that. . . if the people elect you [the Coaltion] the GST will get up . . . . If the people vote for you they will get it as surely as someone will get influenza from standing in the cold"

Keating's argument was that a defeated Labor Party would not frustrate the people's will, would recognise the Coalition's mandate on GST and not use their votes in the upper house to obstruct a democratic outcome.

The political message was that voters couldn't vote for the GST and rely on Labour stopping it from happening. This is much the same situation now with the SNP and FFA.

I think it'd be a gamble, but if Ed Miliband said to the people of Scotland that, "Yes you can vote for the SNP, but their policy is FFA, and if they're democratically elected we won't stand in their way, we'll even help them along", I think it might concentrate a few minds, if there's any left. It wouldn't hurt Labour in the rest of the UK, either.

But absent that, thanks again for fighting the good fight.

Ron Sturrock said...

From the SNP manifesto, could not be clearer:

As we set out in our submission to the Smith Commission, the Barnett Formula should continue to be used to determine Scotland's resources during the transition to full fiscal responsibility and for as long as the Scottish Parliament's financial powers fall short of full responsibility.

Martin said...


Exactly. So why not call their bluff and ask them directly, if FFA was offered to you on an 18 month timetable, just like your timetable for indepence, would you accept?

Sturgeon is currently able to get away with answering that no such offer is going to happen. This needs to change.

Terry Summers said...


A disciple at last?
I am still a seeker and like Mulder, I believe it is 'out there'.

Ron Sturrock said...

Hi Martin,

To offer FFR immediately after the GE (both Lab & Con have ruled it out) would appear make sense as a tactic, however.

The SNP, know that FFR in the present and medium term economic climate, if you go by forecasts, is not an attractive proposition. Not that they will ever admit of course.

Instead I could see the SNP line as being something like, "Westminster wanted us to stay in the Union, and now, when the economic conditions are tough they want to get rid of us"
Then they go into full filibustering mode, meanwhile continuing the "grudge and grievance" narrative.

But they cannot and will not say, as you point out, why Indy would have happened by 24.03.16 and yet FFR will take years.

I would imagine this scenario is being "gamed" somewhere.

Anonymous said...

HMRC revenues 2014-15 (stats released 23-Apr-2014)

£2.1bn UK oil & gas

OBR 1 month ago estimated £2.6bn!

Ron Sturrock said...

Oil CT & PRT was £2.148bn for year. Row 23 Columns K & N.
OBR forecast applied annual average price of $98.9 (£60.00) bbl for 2014/15.
For 2015/16 the forecast is based on $62.1 (£40.3) bbl.

Anonymous said...

As produced by the SNP government April 2015

Oil & Gas Statistics 2014 Q4

£25.621bn UK total revenues
£24.203bn UK oil & gas expenditure

£1. £1.418bn pre tax profit
of which
£1.110bn England
of which
£308m Scotland

£25.621bn UK total revenues
of which
£23.987bn oil & gas revenues
of which
£20bn Scotland
of which
£3.987bn England

£1.634bn other income
of which
£1.394bn Scotland
of which
£239m England

£24.203bn UK oil & gas expenditure
of which
£9.486bn operating costs
of which
£7.849bn Scotland
of which
£1.637bn England

£14.717bn capital costs
of which
£13.238bn Scotland
of which
£1.479bn England

of which
£1. £1.418bn pre tax profit
110bn England
of which
£308m Scotland

Anonymous said...

It's all pretty straightforward and scientific; right?.

Well no its not..

In order to accurately establish whether or not you believe Scotland could go it alone in either an indy or a FFA scenario, you have to take 'oil' completely out of the equation.

Kevin Hague said...

Yes taking oil out is required to really understand the underlying (onshore) deficit gap to rUK. I do that most simply in this post FFA explained in 700 words

Anonymous said...

The cheek of you harping on about Islay again. You no more speak for Islay than the Conservatives do for Scotland. Yet you constantly spout your 'business' speak as if we should listen to you. We don't forget the money men who had taken over the distilleries threatening - yes THREATENING us during the Referendum that our jobs were at risk in the whisky business - as if! They scared enough of the old folk on the island.
And now you, lived there for 5 minutes and think you can talk with credibility about the island and what it needs. Enough.

Anonymous said...

Anonymous - you shouldn't listen to Kevin. In fact, you shouldn't listen to anyone. You should collect your own facts on the finances of Scotland and judge for yourself. GERS has all the data you need. Please go right ahead. Once you have found where his figures are incorrect, let him know ASAP and I'm sure he would be more than happy to amend his blog.

Your reply comes across as extremely bigoted. How DARE he have an opinion of a place he's lived for all his adult life? The nerve! He wasn't even BORN here!! He pays his taxes and most likely more of a contribution than you. He has every right to talk about the place he lives.

When 'money' (in the shape of businesses) get ready to leave a country, you should be very afraid. GERS (supported by the IFS, OBR, and the SNP) already proves we are ~£8bn shy under FFA, we would need every penny to help support our country.

Kindly wind your neck in and make yourself useful by asking your local SNP MP how they plan to deal with this instead of posting pointless comments on a blog.

Anonymous said...

@Anon 2/6/15
So, you're saying that the "old folk" were more concerned about your job than you were. That seems strange, but very nice of them all the same.