Photographer: James Glossop/WPA Pool/Getty Images
Photographer: James Glossop/WPA Pool/Getty Images

The campaign over Scotland's referendum on independence just got ugly, with the U.K. government ruling out any possibility that a newly separate Scottish state would be allowed to keep the pound in a currency union.

In a speech this morning, Chancellor of the Exchequer George Osborne in effect played the German card: Under no circumstances, he said, would the rump U.K. agree to a currency union with Scotland, whereby an economy roughly one tenth the size of the rest of the U.K. would maintain its own fiscal policies and economic sovereignty, and get bailed out if it ran into trouble.

Scottish nationalists say Osborne is bluffing, and that government policy will change overnight if the Scots opt for independence in September's referendum. I doubt that. Osborne rallied all the major U.K. political parties behind his position and had the Treasury produce a detailed case for it. This would be hard to row back from, even if the politics of asking the English to accept a mini-version of the despised euro-area weren't so poisonous.

Osborne is limiting Scottish choices to two, both uncertain if not downright unappealing. A newly independent Scotland could float its own currency, taking a step into the unknown that might prove rocky and expensive at the start. Or it could use the pound in the way that Montenegro uses the euro, accepting that it has no voice in setting monetary policy and that its banks have no lender of last resort. Later, of course, Scotland could join the Eurozone, but only after negotiating EU membership and meeting the euro's entry criteria.

In truth, the unionists had to act. Since the "yes" camp, led by the artful leader of the Scottish National Party Alex Salmond, put out their 650-page case for independence in November, they have been closing the gap in opinion polls. The most recent put the pro-independence vote at 46 percent -- within spitting distance of the just over 50 percent needed to win.

Scottish nationalists have gained supporters in part by glossing over the hard questions and insisting that a newly independent Scotland would be allowed to keep the best of everything. Ludicrously, Salmond's White Paper suggested Scotland could form a currency union with the U.K., but would be free to leave whenever that looked like a good idea. No successful currency union could be based on such shifting sands.

From today, Scots should know that if they choose to divorce the rest of the U.K. it will be messy, marked by vicious disputes over who gets to keep the kids, the bank account and the nuclear submarines. As a column in the Glasgow Herald said in anticipation of Osborne's speech, this was a "Dirty Harry" moment. Osborne was saying: Go ahead, make my day -- if you leave, you don't get to keep the pound; if (as Salmond has threatened) you react by refusing to take on your share of the U.K.'s national debt, you will begin life with "one gigantic default" and the cost of borrowing will cripple you.

It isn't a given that markets would treat a refusal to share debt in the same way as a default, but a Scottish government would have to pay higher interest rates to borrow even without default -- between 0.72 and 1.65 percentage points more, according to the National Institute of Economic and Social Research.

These are hardball tactics and high risk for the unionists. If taken as bullying, they could reinforce the appeal to gut issues of identity and history on which, ultimately, Salmond is relying to win. Scots may decide that for a small, relatively wealthy country with energy resources, the prize is worth the economic risk. They may come to view aggressive tactics from London in the same way that Ukrainians saw Russia's efforts to blackmail them into a customs union.

I still suspect that Scots will shy away from breaking up the U.K. in September, simply because they aren't oppressed, limiting the obvious benefits of independence, but not the risks. Even so, a perception that they were blackmailed into the decision may create a legacy of resentment and ensure that the nationalists would, at some relatively near point, be in a position to try again. That would a bad, and sad, outcome.

Still, this "Dirty Harry" moment had to happen, and better now than a few weeks before the vote. Very few places in the world value democracy enough to guarantee a free and fair vote on secession to minority nations -- Spain, to name just one example, is refusing such a choice to the Catalans. Even so, Salmond and the Scottish nationalists would have to be naïve to think their opponents wouldn't use every pressure point at their disposal to prevent a breakup of the U.K. Osborne may not be Dirty Harry, but he just fired the starting gun on the real referendum campaign.

(Marc Champion is a Bloomberg View editorial board member. Follow him on Twitter @MarcChampion1)

To contact the writer of this article: Marc Champion at +44-20-3525-8737 or mchampion7@bloomberg.net

To contact the editor responsible for this article: Nisid Hajari at +65-6311-2473 or nhajari@bloomberg.net.