David Cameron was hailed as a hero by the British media and Westminster after his “success” in EU budget negotiations in February. However, one of the victims of the deal was the Structural Funds budget. (Structural Funds are concerned with improving the economic and social development of EU Regions). Overall, the deal implied a 3.3% reduction in the Structural Funds budget for the whole of the EU for the period 2014-2020, as compared with the previous seven year period. Moreover, a new formula for distributing the structural funds also agreed by the European Council in February could potentially have hit Scotland very hard. Initial calculations for the UK Department of Business, Innovation and Skills in February indicated that Scotland’s allocation of structural funds might fall over 30%, compared with 6% for the UK as a whole.

On 27th March, the UK government announced its final decision on how the UK structural fund allocation should be shared among the countries of the UK. What they decided is that Scotland, Wales and Northern Ireland should each suffer a 5% cut, relative to the preceding seven year period – saving Scotland some €228 million over the period, compared with the initial estimate.

For the Secretary of State for Scotland, LibDem Michael Moore, this was too good an opportunity to miss for proclaiming the benefits of the Union. “Scotland will now get €228 million more than it would if the EU formula was applied directly”, he thundered. “Now we can confirm that an independent Scotland would face that 32% cut – and only an independent Scotland – because it would not have the UK’s flexibility.” “On Structural Funds, €228 million is the price of leaving the UK family.”

Unfortunately, these ringing words are absolutely and completely wrong. As we showed in a report we published in 2007, as regards structural funds the UK union has cost Scotland dearly in the past, to the cumulative amount of almost £1 billion: and has inflicted damage which will continue indefinitely into the future. The damage done far exceeds Michael Moore’s claimed benefit from the recent adjustment to the within UK allocation.

The reason why this has happened relates to the way in which the Treasury’s approach to accounting for structural funds has interacted with the Barnett formula. There were two different aspects to this: the first occurring before 2006: the second thereafter.

Let’s look first of all at the position prior to 2006. In that period, expenditure funded from EU structural funds also counted as public expenditure against the relevant department’s Departmental Expenditure limit, (or DEL). A department cannot exceed its DEL limit: so if a department received an allocation of structural funds, but the UK government did not increase its overall DEL, then the structural fund expenditure could still take place, but it would have to displace other expenditure within the department’s DEL.

For English departments, this did not matter: they would normally receive an increase in their DEL to cover structural fund allocations. But for Scotland, (and Wales), the position was different. For Scotland and Wales, the DELs are determined by the Barnett formula. So if Scotland was granted an allocation of structural funds, it would not receive any increase in its DEL as a result: but, through the Barnett formula, it would receive a per capita share of any increase to the DELs of English departments resulting from structural fund allocations to England. Since, in the period prior to 2006, structural fund allocations to Scotland were proportionately larger than those to England, this meant that Scotland received inadequate extra provision in its DEL to cover the structural funds actually allocated to Scotland. In a paper we published in the Fraser of Allander Economic Commentary, (Vol 31, No.4, 2007), we estimated the resulting shortfall would have amounted to £810 million in total, over the years 1995-96 to 2005-06, and annual shortfalls, albeit at a lower amount, will have continued thereafter. (This estimate of £810 million is based upon publicly available information: a more accurate estimate would require the Treasury to open its books, something it has steadfastly refused to do.)

Note that spending on structural fund projects will still have taken place as planned. What the shortfall in DEL cover means is that £810 million of other expenditure during 1995-96 to 2005-06, which could otherwise have been funded within the Scottish DEL, will have had to be cut to provide the cover for structural fund spending. The loss to Scotland is just as real.

Interestingly, this aspect of the operation of the structural funds in Scotland did not seem to strike the collective consciousness of the nation. The Welsh, however, were much more on the ball. When they secured Objective 1 structural fund status for a large part of Wales in 2000, they realised to their horror that this was not actually going to be of much benefit to Wales, because the Barnett formula was not going to give them the required extra public expenditure cover in their DEL. The Welsh mounted a vigorous campaign, and the Treasury eventually made a special concession to give them extra DEL cover.

The perverse effect of the arrangements prior to 2006 is of course, a result of the UK union: it would not, and indeed could not, have taken place if Scotland was independent. This is because there would then have been a clear breach of the EU principle that structural fund allocations must be seen to result in actual additions to expenditure. But this principle of additionality only holds at the level of the EU member state. Hence the UK government has been able to ignore the principle as regards Scotland.

In 2006, the Treasury altered the way it accounted for expenditure funded through the structural funds – so that effectively, it no longer counted against a Department’s DEL. The change was intended to be neutral: so departmental DELs were simultaneously reduced by the amount of their current structural fund allocations, in order to compensate. This change was indeed neutral in the short term: since the gross spending power which would result from a department’s combined DEL plus structural fund allocation would be unchanged. In the longer term, since Scotland never received sufficient public expenditure cover in its DEL for its whole structural fund allocation, the effect is not neutral for Scotland. As structural fund allocations reduce, as they are planned to, Scotland’s gross spending power will end up permanently lower than it would have been if it had never had any structural fund allocations in the first place. An example in our Fraser of Allander paper illustrates this effect.

The effect of the 2006 change is to lock in forever, as a permanent reduction in Scotland’s DEL, whatever the current shortfall was at that time in Scotland’s DEL cover for structural fund expenditure. We estimate that this means that, in addition to the cumulative loss of £810 million before 2006, Scotland now suffers a permanent £54 million per annum reduction in its DEL: a reduction which will still be felt long after structural funds have been forgotten. Again, this effect would not have happened if Scotland was an independent EU member.

After we published our Fraser of Allander paper in 2007, we were informed, both by a Scottish government Minister, and by Scottish government officials, that the logic of what we were saying was absolutely right: officials even asked us what we proposed to do about it. We told them that it was really over to them to pursue the matter with the Treasury: we understand, however, that representations to the Treasury have had no effect.

For present purposes, the important point to note is that public services in Scotland suffered a hit over the period 1995-96 to 2005-06 estimated at a cumulative £810 million, and will continue to suffer indefinitely an annual hit estimated at around £54 million, precisely because of the perverse and anomalous arrangements for handling structural funds within the UK union. The existence of that union has enabled the UK government to ride roughshod, as regards Scotland, over the EU principle of structural fund additionality. The resulting costs to Scotland dwarf Michael Moore’s recent claim of Union benefits. If he had been aware of the true facts, perhaps he might have been better devoting his energies to ensuring that the Treasury actually took some steps to put things right.