(Title image: empressa-journal.com)
Following the introductory piece, it’s time to take a more detailed look at some of the currency options, and I start with the status quo – a full currency union using the pound sterling.
The pound as we currently know it relatively young, having only come into existence in 1971 following decimalisation. Nonetheless, the “pound” as a unit of currency in Great Britain goes right back to Saxon times and is said to be the world’s oldest currency still in use.
It’s not quite clear when pound sterling started to be used in Wales, but Anglo-Norman coins are said to have been in circulation prior to the Laws in Wales Acts alongside some local currencies.
There are two major events that have shaped the pound as it is today.
Firstly, Black Wednesday (16th September 1992). Prior to that date, the UK was taking part in the mechanism designed to prepare EU member states for the introduction of the single European currency (known as the ERM). The pound was at a fixed exchange rate with the Deutschmark, but a combination of the fallout from German reunification and poor economic performance at home saw the UK withdraw from the ERM. This is significant because it dis-attached the UK from the euro and set the pound further apart as a stand-alone currency.
Secondly, independence for the Bank of England in 1998. Prior to then, the government set interest rates, but following the Bank’s independence, responsibility for monetary policy would rest with the Monetary Policy Commission. The UK Government retained a “leash” by setting inflation targets, which if exceeded or undershot by more than 1% require a written explanation from the Governor of the Bank of England to the UK Chancellor.
So the key message to take from this is the pound is a stable, stand-alone currency with minimal formal government interference in monetary policy.
A three-way formal currency union agreement between Wales, England and the Bank of England – This would have to be negotiated and finalised in the period between any successful independence referendum and independence itself, which could last 18 months to two years. Such an agreement could include:
- Measures similar to the EU’s finance and stability pact (which means Wales agreeing to keep budget deficits under control).
- Some measure of harmonisation of tax rates – in particular VAT and corporation tax (to prevent a “tax war”/race to the bottom).
- A Welsh appointee to the Monetary Policy Committee and the Bank of England’s executive board, with the Welsh Finance Minister treated equally (in communications on inflation etc.) to the English Chancellor of the Exchequer.
- Giving the Welsh Government the power to issue bonds/unlimited borrowing.
Retaining the Bank of England as the central bank – This could either be done literally (a sharing of the bank) or Wales taking a ~4.9% stake in the Bank of England as a shareholder, meaning Wales gets that percentage of everything in terms of representations, votes etc. This would effectively be a continuation of current arrangements, and leave the Bank of England responsible for providing liquidity (the ability to meet obligations) to banks, acting as a “lender of last resort” (when banks or other institutions can’t find enough finance privately), issuing currency itself, maintaining currency reserves and formulating monetary policy.
Fulfilling our obligations on the UK’s National Debt (totalling ~£1.8trillion) – It’s highly unlikely Wales would be allowed to join a “Sterling Zone” without taking an appropriate amount of national debt. Alex Salmond threatened to walk away from it had Scotland been denied a monetary union (which is a legitimate threat), but doing so would probably cause Wales long-term public borrowing problems. The Cardiff University “Welsh GERS” report from 2016 (pdf) estimated a proportional share of Welsh debt interest payments (within the UK) at £1.6billion in 2014-15. Having a stable currency union may reduce borrowing costs through an improved credit rating.
- Autonomy – As mentioned, monetary policy would be set by the Bank of England, which may or may not have Welsh representation and input. However, any decision – even with Welsh input – would likely be to the benefit of the majority interests of the currency union (i.e. England).
- Convertibility – The pound is a free-floating currency (like most of the world’s currencies) meaning its exchange rate is determined by market demand. There’s some uncertainty over the value of the pound since the EU referendum, having fallen to some of the lowest exchange rates seen for a long time and its status as a major convertible currency seems uncertain; but it’s not likely to be a huge problem. A post-Brexit weak pound may even be a more attractive option for Wales as we export more.
- Credibility – There are no doubts that it would be a credible option for Wales at a practical level. Although the pound sterling isn’t a global currency in the same way as the dollar it’s usually been above reproach and its longevity is a testament to that.
- Stability – The currency union itself would be asymmetrical (I come back to this later) and if there are sizable public spending deficits in an independent Wales, then that could cause problems in addition to the aforementioned concerns over Brexit – particularly if the UK can’t get a good free-trade deal with the EU. Best be on guard.
- Foreign trade – Again Brexit will have an impact, but it’s not as if the pound is “monopoly money”. As mentioned, a weaker-than-usual pound could be attractive to an export-reliant economy like Wales, but that doesn’t mean it’ll last forever.
- Identity – It would be possible for Wales to have a “Welsh pound” in terms of appearance, much like Scottish bank notes or currency on the Isle of Man and the Channel Islands. In practical terms, however, it would be no different to the pound used now.
- Mobility – Movement between Wales and England (as well as any other part of the “pound area”) would be seamless, so there would be no inconvenience in terms of travel, purchasing or monetary transfers. Mobility beyond Great Britain would be as currently – meaning a requirement to exchange currencies.
- Synchronicity of economic cycles – There would have to be at least some alignment of fiscal policy (tax and spending) and business cycles. It’s almost certain there would need to be a banking union too, with shared or aligned financial regulations, deposit guarantee schemes and access to a lender of last resort and liquidity facilities. Again any decisions here would likely be to the benefit of the majority interest (i.e. England); this wouldn’t necessarily be in Wales’ interest, particularly if we want to create a banking and financial sector of our own.
Minimum disruption – As the risk of repeating myself, a sterling currency union would be virtually seamless. It would provide some measure of reassurance to businesses and the population that, for example, you won’t have to change currencies to shop in Bristol or Chester (though with the increasing use of debit and credit cards it’s unlikely to matter much anyway). The only real disruption, if any, would be to government as part of the negotiation process.
A currency union with our largest trading partner – A pound currency union would maintain Anglo-Welsh trade (and trade with the rest of the former UK if Scotland and Northern Ireland keep the pound too). It would also maintain capital movement between Wales and England through a uniform set of financial regulations (this won’t always be to Wales’ benefit) and create an “economy of scale” when it comes to liquidity, investment and competition.
Historic stability – Wales would be relieved of the administrative burden of setting up our own Central Bank. Tthe Bank of England has a pretty good reputation and would be in a better starting position than the euro zone. In terms of on-the-ground stability, it would be the easiest option due to the continuation of current fiscal conditions. The Bank of England’s independence (for now) also means there’ll be little political interference and the Governor and their committees can maintain a level of objectivity – so there’s no prospect of a sudden devaluation or rampant hyperinflation, but there’s always a risk that the UK Treasury would take the functions back in house, which could mean Welsh monetary policy being decided by the English government.
Would Wales really be independent? – Keeping the pound would do just as much if not more to cede sovereignty to another place (in this case the Bank of England) than EU membership. Wales wouldn’t be able to set interest rates; we would be fixed into a, perhaps unfavourable, exchange rate and strong currency; we would be unlikely to have the ability to regulate our own finance sector; taxes, borrowing and spending would have to be kept on a tight leash to placate both the English government and Bank of England – over which we would have little to no influence. In many respects, a currency union would be “independence-lite” or “devo max-plus”. This may, however, be enough to convince independence sceptics that there would be some measure of stability.
Is the pound (historically) valued too high for Wales? – The pound has dropped in value since the EU referendum and, in theory, this should help Welsh exporters – the preliminary evidence suggesting it has. That hasn’t always been the case and for the last 15-20 years you could argue securing the position of the City of London as Europe’s premier financial city has come at the expense of manufacturing through a “strong pound” (Part I). In terms of fiscal transfers (the “subsidy” Wales receives from the rest of the UK), this means a managed economic decline in Wales has been offset by increased tax take and spend (until the Great Recession), but it also means Wales has been locked into a monetary policy that doesn’t play to our strengths. For example, the incremental increase in the vale of the pound since Black Wednesday could’ve contributed to Wales’ current productivity crisis/Offa’s Gap due to the effect it would’ve had on the steel industry and inward investment.
Asymmetry; it’s not in England’s interest – Much like the euro zone, accommodating member states of a monetary union with a very broad range of economic performance and no political union has the potential to cause instability. In the event of a major fiscal crisis, England (and/or Scotland and Northern Ireland) would have to bail Wales out by virtue of being 20 times our size, but it would be impossible for the opposite to happen; it’s not as if Wales could bail England out on anything other than natural resources and military manpower. So while it’s the easiest/most obvious option, it’s not necessarily the best one for a newly independent country.
Maintaining a currency union/a pound zone (which sounds like a discount retailer) is a perfectly legitimate option and, if you’re minded to “play it safe”, arguably the best option of the ones on the table. We know what to expect from it and it’s stable.
Immediately following independence it probably would be the best option, even if it’s a temporary measure until Wales decides differently. Wales could probably negotiate a rolling 5-10 year deal whereby we keep the pound under review until the state apparatus is at such a level as we can consider other, more suitable, options.
The major drawback would be economically chaining ourselves to England when we should be trying to look outwards, not inwards. That fear of taking a risk could lead to money continuing to be sucked out of Wales (banking, for instance) and keeping a currency that plays to England’s strengths and suits England’s needs, but not our own.
Part III looks at a whether Wales could use a substitute currency.