Latest News About England: Scottish referendum: Salmond offers the independence of a granny flat

It would be a strange sort of freedom in which all the decisions that matter are made in London

Scotland could make it as a fully independent country. It would be tough, especially at first, but there are plenty of examples of small rich nations. When it comes to economic success, size really doesn't matter. There are big countries that are basket cases and small countries such as Singapore and Switzerland with high living standards.

Real independence is not on offer to the Scottish people in this September's referendum. The yes campaign is really suggesting that Scotland becomes Britain's Massachusetts, lacking its own currency and central bank but using its limited autonomy to have higher taxes and public spending, and to be altogether more groovy than the rest of the country.

A number of issues arise from this, not least what constitutes real independence. To be fully independent a country must be in charge of its own affairs, be able to protect its own territory and run its economy. That means having its own currency, setting interest rates and having control over the budget. By this token, of course, eurozone members are not really truly independent. They have ceded some of their national autonomy to a central bank that sets monetary policy for all of them. This can make life hard, especially for some of the smaller members, but is seen as a price worth paying for the security it offers from currency fluctuations and speculation.

So would Scotland be better off with its own central bank in Edinburgh setting borrowing costs and operating a currency unshackled from the pound sterling? It might well be, but only after a painful period of transition during which Scotland's government established its credibility and the supply side of the economy was improved. This period is likely to be measured in decades.

The argument in favour of an independent Scotland setting its own monetary policy is the same as for Britain having its interest rates set by the Bank of England rather than by the ECB. It allows the central bank to set policy according to local conditions. There have been times when Scotland, and indeed all parts of the UK outside London and the south-east, have been adversely affected by monetary policy that has been too tight for their needs.

But cutting loose from the rest of the UK would entail costs. Here are just three of the many reasons for thinking that would be the case. First, the UK runs a big budget deficit and an independent Scotland would be liable for a slice of that. It would need to borrow in the financial markets to do so. As a newly established state, this would be more expensive than it currently is for the UK government, particularly given the tax and spending promises made by the yes campaign.

Second, if Alex Salmond succeeded in securing for an independent Scotland the lion's share of North Sea oil, Scotland would become a petro-currency. That would leave it even more vulnerable to fluctuations in the oil price than the UK currently is. When the price rose, the Scottish currency would rise and hot money would come flooding into the country. When it fell, the hot money would flood out again. These are the classic conditions for boom-bust.

Third, Scotland is home to two extremely big banks that were kept afloat by the Treasury during the financial and economic crisis of 2008. In any repeat of those conditions, a Scottish government would be overwhelmed, and have the dilemma previously faced by Ireland and Iceland: do you ask for help from the International Monetary Fund to bail out the banks or do you let them go to the wall?

Of course, a Scottish government could put curbs on the activities of the banks to prevent them behaving as foolishly as they have in the past. This would be no bad thing. T he risk, however, is that the banks would decide they no longer wanted to be domiciled in Scotland and would move somewhere they considered more congenial.

Again, it could be argued that in the long term, Scotland's economy would benefit from being less dependent on finance, with a stronger productive base. But the short-term costs in terms of lost jobs and output would be considerable. There will be Scots who say hang the cost. They will argue that in the long term Scotland will be better off running its own affairs, and if that means accepting higher mortgage rates and lower living standards for a period then so be it. That's a perfectly respectable point of view.

But as Salmond knows, there are not enough purists to win a referendum, so his pitch has been that Scotland can have the best of all worlds. It can be independent while using the pound. It can have most of the North Sea oil money while the rest of the UK picks up the tab for decommissioning fields as they run dry. It can have Scandinavian levels of public spending while the Bank of England provides Royal Bank of Scotland with a lender of last resort guarantee.

But this is fantasy politics. The idea that after a yes vote, Scotland could quickly negotiate a currency union with the rest of the UK, and be accepted for EU membership without lengthy debate about such issues as whether Edinburgh would be eligible for a slice of the UK's budget rebate, seems improbable. The misgivings of the Bank of England and the Treasury about a currency union are valid: the experience of the eurozone is that a currency union without fiscal and banking union is inherently unstable. In the case of an independent Scotland, the tensions would quickly become apparent because the country that formed the smaller part of the currency union would have a social-democratic bent while the bigger part would, by virtue of having lost Scotland, have a more conservative economic approach.

At the very least, there would be strict rules on Scotland's fiscal autonomy, with curbs on the size of its budget deficit. These sort of arrangements have proved burdensome for the smaller members of the eurozone and a post-referendum Scotland would find them difficult to accept. Perhaps that is the point: Salmond may be playing a long game in which Scots find a halfway house arrangement so unpalatable that they go for the real thing next time.

For, make no mistake, this is a halfway house. There is a case for an independent Scotland, but it is not being made in the current campaign. It would be a strange sort of freedom in which all the decisions that matter are made in London. It is an independence of sorts but it is the independence of the granny flat.

Larry Elliott