Carney: post-Scottish independence currency union would require "some ceding of national sovereignty"

In a speech in Edinburgh (20-page / 310KB PDF), Mark Carney said that there would be "clear risks" to the financial stability of the 'Sterling Area' proposed by the Scottish Government without some degree of agreement on economic policies, such as tax and spending.

In the event of a vote for Scottish independence in September, the two Governments would "need to consider carefully what the economics of currency unions suggest are the necessary foundations for a durable union, particularly given the clear risks if these foundations are not in place", he said.

"Those risks have been demonstrated clearly in the euro area over recent years, with sovereign debt crises, financial fragmentation and large divergences in economic performance," he said. "The euro area is now beginning to rectify its institutional shortcomings, but further, very significant steps must be taken to expand the sharing risks and pooling of fiscal resources."

Carney stressed that the central bank did not take a position on Scottish independence, but would provide "technical" analysis of the issues ahead of the referendum and any negotiations between the Scottish and UK Governments. The Scottish Government has set out its preferred terms for a currency union in its White Paper, but intends for Scotland to fully control its own economic policy.

The Bank of England Governor spoke to a business audience while in Edinburgh to meet Scotland's First Minister, Alex Salmond, for the first time. Although the discussion was a private one, Salmond said afterwards that Carney had "confirmed his willingness to continue technical discussions, inaugurated by his predecessor" in advance of the referendum.

The Scottish Government proposes that an independent Scotland would retain the pound as part of a "formal monetary union" with the rest of the UK, with monetary policy set by the Bank of England based on the economic conditions across the Sterling Area. The White Paper states that Scotland would participate in "ownership and governance" of the central bank on a shareholder basis.

Scottish Finance Secretary John Swinney said that Careny's speech provided a "serious and sensible analysis of how a currency union can work in practice", which recognised the benefits of such arrangements between Scotland and the UK "for both sides". However, he added that an independent Scotland would "control 100% of our own revenues, compared to the 7% of our tax base we are currently responsible for" along with "tax policy, employment policy, social security policy, oil and gas revenues, immigration policy and a range of other levels".

In a statement, a spokesperson for the UK Treasury said that the speech highlighted the "principled difficulties of entering a currency union: losing national sovereignty, practical risks of financial instability and having to provide fiscal support to bail out another country". "This is why the UK Government have consistently said that in the event of independence, a currency union is highly unlikely to be agreed," the spokesperson said.

In his speech, Carney highlighted three elements that he said were essential to a successful currency union: an integrated economy, including free movement of labour, capital and goods; a banking union; and a strong fiscal pact.

"Without a banking union, cross-border capital flows can be restricted, the effectiveness of monetary policy impaired and, in the extreme, the viability of the union itself undermined," he said. "It is in the interests of all countries to sever the link between banks and sovereigns by ending too big to fail."

"The existing banking union between Scotland and the rest of the United Kingdom has proved durable and efficient. Its foundations include a single prudential supervisor maintaining consistent standards of resilience, a single deposit guarantee scheme backed by the central government, and a common central bank, able to act as a lender of last resort across the union, and also backed by the central government," he said.

He added that the extent of any fiscal rules or risk-sharing mechanisms would be a matter for the two parliaments, if a formal currency union was to go ahead. The Bank of England would "implement whatever monetary arrangements were put in place", he said.