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Sterlingization in Scotland

September 11, 2014
in Blog

Admittedly, I haven’t been closely following the vote for Scotland’s independence from Great Britain. Neither am I closely following the debates of what Scotland, should it vote for independence, do with its monetary institutions. Ryan Murphy pointed me in the direction of this piece by Sam Bowman from the Adam Smith institute where he proposes something very similar to what my first inclination for Scotland would be. Bowman’s proposal is built upon the  same idea as my own proposal with Adrian Ravier for a monetary reform in Argentina (posted here).

Bowman’s calls his proposal “sterlingization.” The idea is quite simple, as controversial as it may look for most policy makers. Scotland is already using the pound sterling (GBP) as its currency, and  it should keep doing so after independence (assuming that’s the result of the vote.) Some concerns arise because the British government says that it won’t come to an agreement with Scotland about the use of the GBP in the new independent territory. This, like Bowman’s argues, is not that important. A country can dollarize, or sterlingize, either with a bilateral agreement or just do it unilaterally. A bilateral agreement involves a treaty between the governments that contemplate seignorage, monetary policy, etc. In the unilateral case, Scotland would just use the GBP without negotiation of seignorage or monetary policy. GBP is already the unit of account in Scotland, so a unilateral sterlingization is feasible. Another potential benefit of a unilateral sterlingization is that it may give Scotland more flexibility to change its currency if the GBP does not perform well enough. Scotland’s economy, for instance, may find a it better to be plugged into the Euro network than the GBP network. That’s something that the market, not politicians, should decide. Think for a moment on the gold standard case.

On top of the GBP as the unit of account in Scotland, Bowman calls to keep (and expand) the private issuance of convertible banknotes in Scotland. The Royal Bank of Scotland, the Bank of Scotland, and the Claydesdale Bank are still allowed to issue their own private currencies (Ireland and Hong Kong are also cases where some private banks are also allowed to issue their own banknotes. See this study by Thomas Hogan.) There are two main benefits to this. First, it moves the seignorage from a central bank to competitive banks. Second, it provides more flexibility to the broad money supply, which depends on the behavior of the base money (GBP) and money bank creation (the private banknotes.) Changes in money demand in Scotland can be matched by changes in the circulation of private banknotes without need to rely only on the GBP.

The case of Scotland will be interesting to observe not only for its independence, if that’s what happens, but also (once again) for the monetary reform that might take place.