Currency has been one of the independence debate’s hottest issues, and one of the reasons the question is so important is that any change in currency could have significant implications for both existing and future contracts.
The Scottish Government’s proposal, its “Plan A“, is to retain Sterling via a currency union with the rest of the UK (“rUK”). However, that would be entirely dependent on agreement with rUK, and the UK Government has suggested that that would be an unlikely prospect.
First Minister Alex Salmond gave a speech in the Isle of Man in July from which many inferred that ‘Plan B’ would be a ‘sterlingisation’ approach, in which Scotland used the pound in an unofficial capacity like the Isle of Man does (and as El Salvador and Panama do with the US dollar, and Kosovo and Montenegro do with the Euro). This suggestion was heavily criticised, however, as an inappropriate option for an economy the size and complexity of Scotland’s. Mr Salmond shortly afterwards denied that there is in fact any Plan B.
There is also the entirely separate but equally thorny issue that a commitment to join the Euro is generally a condition of EU membership.
A House of Commons paper on currency published earlier this week sets out the pros and cons of an independent Scotland’s currency options, though interestingly omits ‘sterlingisation’ as, presumably, not a viable option. The paper provides a detailed analysis of each option in terms of monetary policy, financial constraints, central bank governance and financial stability.
So it would seem the possibility of a currency change in the event of independence cannot be ruled out. Any change in currency could have significant implications for contracts, and may result in them being redenominated (i.e. obligations are converted into the new currency, usually at an official conversion rate). Charles had a piece in Monday’s Scotsman about that, which you can find here. The key points:
- Past examples of countries changing their currency have seen contracts redenominated into the new currency, but in those examples the old currency ceased to exist. Sterling would continue to exist even if Scotland changed its currency, so what would this mean for Sterling-denominated contracts?
- An independent Scottish Parliament could require that obligations in Scots law contracts automatically convert into the new currency at an official conversion rate.
- Even contracts not subject to Scots law could be affected, if the contract related to Scotland and a court decided that obligations were in Sterling because that was the currency of Scotland at the time. The contract would likely then be redenominated into the new Scottish currency.
- A change in currency could therefore add a foreign exchange risk into existing contracts. While the parties could agree to change obligations back into Sterling, in many cases one party would benefit from the redenomination and so would resist changing back. For instance, while a creditor may wish to protect the underlying value of the debt from exchange rate fluctuations, a Scottish debtor may prefer to have the obligation denominated in the currency he’s paid in.
- Unlike many of the other areas of uncertainty arising in the independence debate, businesses can take steps to mitigate currency risks at this stage through careful drafting of new contracts and revisiting key existing ones.
On September 6, 2013