Scots Defying Osborne on Union Still Want His Rates: U.K. Credit

Scottish politicians pursuing independence are determined to defy Chancellor of the Exchequer George Osborne by keeping the pound. They also want his borrowing costs, which are near record lows.

“I would be expecting to be borrowing at the same kind of rates,” Scottish Finance Secretary John Swinney said in an interview in Edinburgh two days ago. “That assists in the judgment that’s made about Scotland as a place to invest or a place that would be a source of bond finance.”

Winning independence is the cornerstone policy of the Scottish National Party, which dominates the semi-autonomous legislature in Edinburgh and is holding a referendum on Sept. 18 next year. The two governments are embroiled in public disagreements about whether Scotland would be able to enter a formal currency union with the rest of the U.K.

Yields on U.K. 10-year government bonds dropped to a record 1.41 percent 10 months ago as the European debt crisis worsened and investors turned to places perceived as havens. While yields have increased 48 basis points since then to 1.89 percent today, that’s still about two percentage points less than the average of the past decade and 46 basis points more than benchmark German bunds, data compiled by Bloomberg show.

“That is wishful thinking,” Stuart Thomson, chief economist and a fund manager at Ignis Asset Management in Glasgow, which oversees 68 billion pounds ($103 billion), said by telephone yesterday. “In the unlikely event of independence the reality would be very different.”

Currency Union

The prospect of the rest of the U.K. agreeing to a currency union to enable an independent Scotland to keep the pound was “highly unlikely,” Osborne said in Glasgow on April 23 when he published a Treasury paper on the issue. The study said that a joint currency wouldn’t work well without political union.

An independent Scotland can expect to be able to sell bonds at rates similar to the rest of the U.K. because of the sound financial management since the Scottish Parliament was re-established in 1999, according to Swinney.

That credibility would also appeal to ratings companies, Swinney said at his office in the parliament, which legislates on matters such as transport, health, justice and education, while the U.K. government controls the purse strings.

In a report published in October, Fitch Ratings said it was impossible to make any judgment on a possible rating because of the lack of information about the terms of any potential independence agreement. David Riley, the author of the report, declined to comment further when contacted this week.

Rarity Value

New sovereign borrowers in the capital markets can often be attractive to investors, Jim Leaviss, a bond manager at Prudential Plc’s M&G unit, which oversees 228 billion pounds, said in a telephone interview two days ago.

“Rare names often trade at a premium,” Leaviss said. “You should not automatically assume it would have to pay more than existing borrowers with a similar credit rating.”

Ten-year yields are lower than they were three months ago when the U.K. lost its AAA credit rating at Moody’s Investors Service, which lowered the country one level to Aa1. Fitch stripped Britain of its top grade on April 19.

Economic Levers

The Scottish government wants independence to gain control of all the economic levers to spend more money on projects to revive growth. Swinney has control over a budget of 28.5 billion pounds this year, mainly financed by a grant from the U.K. Treasury. Total public spending in Scotland in the fiscal year through the end of March 2012, the latest available figure, was 64.5 billion pounds, government figures show.

So far the SNP’s arguments haven’t found favour with voters. Opinion polls show a consistent lead of 20 percentage points for those wanting to retain the status quo and stay in the U.K. The debate has centred on issues such as North Sea oil, Britain’s Trident nuclear deterrent as well as the economy, taxes, debt and the currency.

The devolved administration in Edinburgh is responsible for about half of public spending in Scotland.

In 2011-12 Scotland’s budget deficit, including a geographic share of North Sea oil and gas revenue, would have been 2.3 percent of gross domestic product, according to the Government Expenditure & Revenue Scotland published in March. The U.K.’s deficit was 6 percent of GDP, the report said.

Borrowing Power

New powers approved by the U.K. government, which will come into effect in 2015, will allow Scotland to borrow 200 million pounds a year up to a maximum of 2.2 billion pounds.

“You could see a relatively stronger financial position giving us choices about what we would do with our relative strength and one option would be to borrow less,” Swinney said.

The Scottish government accepts that in the event of a formal currency union that the Bank of England, as the monetary authority, would be able to impose limits on how much an independent Scotland could borrow in a single year or how much total debt it could have, Swinney said.

The pound has fallen 3.2 percent against nine developed-market peers this year, the worst performer after the yen, according to Bloomberg Correlation-Weighted Indexes.

“Those are entirely legitimate and understandable issues for an independent monetary authority,” he said. “Yes we would have a limitation on our level of debt, yes I would envisage us having a limitation on the level of our borrowing.”

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