Medium-Term Financial Strategy: Ministerial statement

Presiding Officer,

Today, I am publishing the sixth Medium-Term Financial Strategy, my first fiscal statement as Deputy First Minister and Cabinet Secretary for Finance.

It is very clear that sound public finances are key to ensuring that we can tackle poverty; build a fair, green and growing economy; and improve our public services for the needs of future generations.

However, I recognise that our current financial situation is amongst the most challenging since devolution. Scotland has faced a succession of economic shocks, with the Covid pandemic, the war in Ukraine and soaring inflation.  All of these are driving significant pressures on the economy, society and the public finances. 

To some extent, these are global challenges. However, the impact of these challenges is felt more keenly in the UK, as a result of the UK Government’s damaging  decisions – not least a decade of austerity, Brexit and the disastrous autumn mini-budget, which sent borrowing costs to a 20 year high and led to the Bank of England having to intervene with a £65 billion package to stop pension funds from collapsing.

Despite this increasingly challenging context, we have successfully balanced the Scottish Budget every year; while taking clear, decisive, action to protect the most vulnerable. With the Institute for Fiscal Studies having noting that “the tax and benefit system in Scotland is considerably more progressive than in the rest of Great Britain.”

In this statement I will set out our approach to meeting the challenges ahead.

I will turn first to the outlook for the Scottish economy and public finances.

I wish to start by extending my warmest thanks to Professor Graeme Roy and the commissioners of the Scottish Fiscal Commission for providing the forecasts that accompany this publication.

The use of entirely independently generated forecasts on the economy and the Government’s funding outlook is one of the great strengths of the Scottish fiscal landscape. Where independent forecasts are not available, we are transparent and open about the assumptions that we have made.

Although the Scottish economy has proven more resilient than expected; the economic outlook remains extremely challenging.

Despite both the SFC and OBR forecasts projecting that inflation will fall sharply – reaching 2.9% at the end of 2023 – it will still remain high – on average at 6.1% across 2023.

While I welcome the announcement yesterday that inflation is now falling, low inflation cannot reverse the increasing pressure on households.

Indeed, real disposable income per person is falling cumulatively by -4.1% across 2021-22 to 2023-24. These are record falls in living standards, which are not set to recover to pre-pandemic levels until around 2026-27.

While resource funding is projected to grow in real terms between 2023-24 and 2027-28, we still face a real terms reduction in the resource Block Grant in 2024-25.

At the same time, resource spending is projected to grow and this means our resource spending requirements could outstrip our funding by £1 billion in 2024-25, rising to £1.9 billion in 2027-28.

In addition to inflation, the key drivers for this pressure are in social security, the public sector pay bill, and health and social care.

These also affect the current budget year. Since the 2023-24 Budget was set, we have agreed pay settlements for teachers, fire-fighters and NHS staff, which of course recognise the impact the cost-of-living crisis is having on our valued public sector workers.

This will require us to carefully manage our limited resources, with any changes clarified via the Autumn and Spring Budget Revisions.

The pressures are more severe for capital spending, where the price of infrastructure projects has risen by 14.1% this year, according to the Office of National Statistics. Combined with the UK Government’s failure to inflation-proof our capital budget, we are facing a real terms cut every year up to 2027-28. This challenge is particularly acute in 2024-25, where funding will reduce by 3.7% in real terms.

On the current trajectory, we expect the divergence between capital funding and expenditure to grow to around £900 million by 2025-26.

This is unsustainable and we will need to reset our spending for both capital and resource in the 2024-25 budget to which I will return.

This MTFS sets out three pillars to underpin our approach to managing the public finances over the medium-term.

The first pillar is a laser-like focus on ensuring that spending is focused on achieving our three critical missions.

I will not back away from the tough choices for the decisions I can control; but I will point out where the levers available to me are insufficient.

I call again on the UK Government to increase capital funding in line with inflation.  

I also call again for the UK Government to provide additional funding to cover reasonable pay settlements for our public sector workers.

But I cannot rely on the UK Government to take action so I am fully committed to prioritising our resources towards realising this Government’s strategic missions.

Our first mission is to tackle poverty and I am proud of our record here. Our expenditure on social security benefits is expected to grow from 10% of our resource budget in 2022-23 to nearly 15% in 2027-28. 

In fact, in 2027-28 we are investing £1.3 billion more on social security than we receive through the Block Grant Adjustment. This money will support families with their living costs, help older people to heat their homes in winter and enable disabled people to live full and independent lives.

I will ensure the continuation of public sector reform in order to achieve effective and person-centred, fiscally sustainable public services.

In order to prioritise the programmes, such as early learning and childcare, which will have the greatest impact on delivery of our three missions, we will need to deprioritise programmes that make a less meaningful contribution to our central missions.

Today, I commit to refreshing both our resource and capital multi-year spending envelopes as part of the 2024-25 Budget, through which I will set out this Government’s plans to put our public finances on a more sustainable path.

Our policy choices and priorities will be clearly set out for all to see and if others disagree with these, they can of course bring forward alternative spending plans as part of the budget process.

Choices over tax policy and the strength of the Scottish economy are key to our ability to invest in public services.

This is why generating economic growth by supporting businesses to invest and create new jobs is the second pillar of our strategy.

The Scottish Government has limited powers with which to pursue this objective.

Our borrowing powers are constrained – and have been further eroded through this period of high inflation.  We also lack the powers to tackle Scotland’s historically slower population growth relative to the rest of the UK, such as powers over migration policy  – which we are trying to mitigate as best we can through the creation of the Talent Attraction and Migration Service.

Even with limited powers, we are already making Scotland wealthier. Since 2007, whilst GDP per capita has only grown by 5% in the rest of the UK, it has grown by 9% in Scotland.

As we deliver our National Strategy for Economic Transformation – we will prioritise those policies and actions with the greatest potential to transform Scotland's economy.

For example, we need to help parents to access more and better paid work so childcare provision has a vital role to play here, particularly when integrated with other local services. Ensuring we find the fiscal headroom to expand our childcare offer will be a key part of our approach. 

This brings me to our third and final pillar and that's maintaining and developing our strategic approach to tax policy.

The most recent forecasts show that tax devolution will add an extra £574 million to the Scottish Budget in 2023-24, increasing to almost £1.7 billion by 2027-28.

The tax policy choices of the Scottish Government are, however, limited by the current devolution settlement. The revenue for the Scottish Budget is heavily reliant on Scottish Income Tax, which is only partially devolved.

I currently do not hold all the levers necessary to make the Scottish tax system work in the most effective way.

There are, however, choices for this government around who and what to tax, and by how much. 

Scotland already has the most progressive tax system in the UK. Ensuring that the burden of taxation is placed on those with the broadest shoulders will continue to be the cornerstone of our approach.

I commit today to publishing an updated tax strategy alongside the next MTFS, which will build on the principles we set out in the Framework for Tax in 2021. In order to support this work, I will also chair an external tax advisory group to ensure our future tax strategy is informed by a broad range of views.

I recognise that this parliament is at its best when we work together. I therefore wish to take this opportunity, given the scale of the challenge, to invite my colleagues from across the chamber to work with me in identifying how we can advance the three pillars of this strategy.

Presiding Officer, these are incredibly challenging times, not helped by the limited levers at my disposal, or the actions of the UK Government.

However, I am committed to taking the tough decisions required to deliver focused, ambitious and affordable measures which protect our environment, promote business growth and improve wellbeing through the reduction of poverty for the people of Scotland.

The MTFS sets out how we will manage our public finances over the medium term to ensure we deliver on these key priorities for Scotland’s people.

In doing so, we will continue to make the very clear and compelling case for Scotland to have the key fiscal powers and levers that other countries have to enable us to meet the fiscal challenges now and into the future.