The Scottish Government’s capital budget

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Capital spending is the money governments spend to create or improve public assets of long term value. This includes school buildings, transport infrastructure and NHS equipment. The long term nature of capital spending can result in its impact being overlooked, with headline figures around tax and ‘frontline’ spending dominating debate. But sufficient and effective capital spending is essential if the Scottish Government is to meet its ambitions around economic growth, net zero and public service delivery. 

“Scottish Government analysts have shown that investment in infrastructure can provide the largest GDP boost of any Scottish Government investment.” 

Source: Infrastructure Investment Plan 2021-22 to 2025-26, Scottish Government  

On the basis of current plans, the capital budget is set for a real terms fall of 20 per cent over a five year period. Ahead of the forthcoming five-year Medium Term Financial Strategy and Infrastructure Investment Plan review, this blog provides context for debates around the devolved capital budget – how is it determined, what is it spent on, and what flexibility does the Scottish Government have? 

What is the capital budget spent on? 

The 2024-25 Scottish Budget included capital funding of £6.2 billion (compared with £44.3 billion of resource funding). In cash terms, this is £170 million less than budgeted for in 2023-24. In real terms, this represents a 3.9 per cent annual decrease. 

Under UK fiscal rules, the Scottish Government must use its capital budget to support long term investments or to extend the life of existing assets, such as roads or school buildings. This funding cannot be used for day-to-day spending, for example, on public sector wages. 

Around a third of the capital budget is spent on transport. More than half of this (£1,139 million) is spent on rail services, around a quarter (£496 million) is allocated to roads, and 10 per cent (£212 million) is budgeted for active travel, low carbon and ‘other’ transport.  

The Wellbeing Economy, Net Zero and Energy portfolio receives around one fifth of the capital budget. Capital spending in this area includes funding for City Region and Growth Deals and the enterprise agencies, capitalising the Scottish National Investment Bank, and support for households to improve energy efficiency and decarbonise heating systems.   

Most of the remaining capital budget is spent on property and equipment in the NHS and education sector, as well as grant funding to support local authorities’ capital budgets. 

Outlook for the capital budget 

Looking ahead, the outlook for the Scottish Government’s capital budget is uncertain and challenging. Currently pencilled in is a 20 per cent real terms decline between 2023-24 and 2028-29.  

This reflects the UK Government’s plan to fix capital spending in cash terms in the four years up to and including 2028-29. But these spending plans remain highly uncertain. In January 2024, Richard Hughes, Chair of the Office for Budget Responsibility, told the House of Lords Economic Affairs Committee: 

“Beyond [March 2025], we know virtually nothing. It is just two numbers—one for total current spending and one for total capital spending by department. Some people have referred to that as a work of fiction. That is probably generous, given that someone has bothered to write a work of fiction, whereas the Government have not even bothered to write down their departmental spending plans underpinning their plans for public services.” 

The most recent UK Spending Review runs up to 2024-25 and the next review – currently scheduled to be announced “after the general election” – could change the outlook.  

“The OBR has highlighted how in the past the UK Government has generally increased planned spending as the next Spending Review approaches. If this were to happen there could be additional capital funding for the Scottish Government.” 

Source: Scottish Fiscal Commission 

The Scottish Government’s Medium Term Financial Strategy should provide further detail on how the Scottish Government intends to manage the outlook for the capital budget until 2028-29. This was initially scheduled to be published in May 2024, but has now been postponed until after the general election.

How the capital budget is funded 

The bulk of the Scottish Government’s capital budget comes from the UK Government’s Block Grant. At £5.4 billion, this represents 87 per cent of the 2024-25 capital budget. 

On top of this, the Scottish Government has some borrowing powers, which are agreed in the fiscal framework negotiated with the UK Government in August 2023. The annual borrowing limit is £450 million, which will now rise in line with inflation each year. The total amount of Scottish Government borrowing (known as ‘debt stock’) cannot exceed £3 billion, which is a figure that will also rise with inflation each year.  

In 2024-25, the Scottish Government’s debt stock is budgeted to be £2.7 billion. The Scottish Fiscal Commission have forecast that under current plans by the Scottish Government to borrow £250 million per year, it will reach 93 per cent of its permitted debt stock by 2027-28, up from 79 per cent in 2023-24. 

The other significant source of funding is Financial Transactions. Like the Block Grant, these are allocated to the Scottish Government by the UK Government. Whilst the Scottish Government has some discretion over how to allocate Financial Transactions, they must be used for equity or loan finance to private enterprises. In 2023-24, a one-off adjustment of £188 million to Financial Transactions funding was made to account for a historical error in how they had been allocated.  

How much flexibility does the Scottish Government have? 

The Block Grant, which makes up most of the Scottish Government’s capital budget, is derived by decisions taken by the UK Government on capital spending in other parts of the UK. The same is true of Financial Transactions. However, the Scottish Government does have some flexibility over the size of its capital budget. 

Some limited flexibility comes in the form of its borrowing powers. The Scottish Government is also free to divert funds from its revenue budget towards capital spending (see paras 1.60 and 1.61). It is not permitted to do the reverse, ie. it cannot transfer capital funding towards revenue budgets.  

However, this can be politically difficult when budgets are under pressure. As the Resolution Foundation pointed out: 

“It is easier to cut investment projects that people were never aware of than take unpopular decisions to reduce funding for core public services or increase taxes. Cancelling a bridge tomorrow is far easier than firing a nurse today.” 

Why capital spending matters for the economy 

Capital spending, from both the public and private sectors, is needed to grow the economy, raise productivity and improve living standards over the long term. But in all but two years this century, the UK has been placed in the bottom 10 per cent of OECD countries when it comes to capital investment as a percentage of GDP (this is public and private investment combined). The Resolution Foundation describe this as “a country living off its past, not prioritising its future”. 

Raising investment levels remains a long term challenge for economic policy makers and public sector investment has a key role to play. Some economists^{1, 2, 3} see it as essential to tackling low growth in productivity and living standards. For its part, the Scottish Government has the flexibility to boost its capital budget, but doing so would require difficult short term trade offs.  

The forthcoming Medium Term Financial Strategy and Infrastructure Investment Plan review should tell us more about how it intends to manage these trade offs. 

References

1. Boosting productivity: why doesn’t the UK invest enough? – The Productivity Institute
2. Chronic under-investment has led to productivity slowdown in the UK (lse.ac.uk)
3. New analysis by leading economists concludes that UK government should increase sustainable public investment by £26 billion a year to boost growth and productivity – Grantham Research Institute on climate change and the environment (lse.ac.uk) 

Rob Watts, Senior Researcher, Financial Scrutiny Unit