ESSAY OF THE WEEK: Once lauded as Scotland�s great hope, the small independent European nations are in economic meltdown. Iain Macwhirter packs his duffel bag to tour these countries and reconsider our own prospects for going it alone

IT is almost three years since SNP leader Alex Salmond called on Scotland to join what he dubbed the "arc of prosperity": those small, independent nations, such as Iceland, Ireland and Norway, which were then among the world's wealthiest countries. At the time, Latvia, the fastest-growing economy in Europe, appeared to show that independent nations could thrive within the new Europe.

Today, the arc of prosperity has turned into an arc of insolvency, as many of these countries have been hit hard by the financial crisis.

But are things really as bad as the depressing statistics suggest in the bankrupt wee nations of the north? The tiger economies of the Baltic, Nordic and Celtic fringes have certainly had their claws removed. But are they any the less for that? How are they coping with austerity? Has it destroyed their sense of national self-confidence? And how might Scotland have fared had we been independent when the credit crunch hit? There is only one way to find out ...

It is 7.45am on a bitter May morning in rain-lashed Prestwick Airport. How appropriate that my tour of the damned nations of northern Europe should begin in the most depressing tourist portal on the planet. Pure Dead Brilliant? The concrete and tin railway station under a grey sky is about as welcoming as Auschwitz. Awaiting a flight to Riga, the Latvian capital, at a dirty table in the bilious light of the departure lounge, I can't help wondering: who are all these people flying between the two ends of Europe?

A surprising number are tourists, returning to Latvia. Some have been visiting relatives here. A few spiky-haired Scots lads look as if they are on a stag weekend - lap-dancing and shooting AK-47 rifles are very popular in Riga, though ideally not at the same time. A couple of suits pass leading trolley-bags and looking as though they haven't slept in a week. And then there is me: a low-cost hack on a credit crunch odyssey.

LATVIA: THE HAIR-SHIRT REVOLUTION

SCOTLAND and Latvia go back a long way - about 800 years in fact, to when Scots migrants first started arriving in the Baltic. Burns Night is one of the biggest events of the social calendar in Riga, and all the politicians attend. Only recently did Riga council revoke a municipal by-law dating from the middle ages which said that "vagabonds and Scotsmen" must be off the streets by dusk. They thought this might encourage Scots to support the Latvian football team in the Euros.

Nowadays, the migration traffic is the other way, and many Latvians are working in Scotland. On the flight to Riga I meet Vanek, a joiner who now lives in Glasgow. When I ask him if he's looking forward to seeing his homeland he shakes his head. Vanek's best friend, who started a building business in Riga which has just gone bust in the crash, has been hospitalised with depression. "He's lost everything - even his mind," Vanek tells me. These are hard times.

But Vanek is doing OK in Glasgow. "Still plenty of work. I've married and bought a house and now my mortgage repayments in Scotland have halved, so I'm doing pretty well." He gives an ironic shrug. His friend lost his business because he lost his house in the Latvian property crash that was fuelled by irresponsible bank lending. You can't help thinking that there is an essential unfairness here. Scotland had HBOS and RBS - two of the biggest and baddest banks on the planet, yet we are getting mortgage windfalls.

The Latvian government has decided to go through a hair-shirt economic reconstruction: paying down debt and letting prices drop to more manageable levels. It's a story I will hear again and again during this tour of what has become known as the arc of insolvency. They can't devalue in Latvia because their currency is pegged to the euro (though there are fears they may be forced to do so). In the meantime, the government is deflating like mad, cutting wages, slashing spending, throwing thousands of people out of work. The city is surrounded by unfinished building projects.

The Latvian economy, which was the fastest growing in the EU in 2006, has shrunk by 18% in the first quarter of 2009. Property prices plunged 50% year-on-year in the same period - the biggest fall in the world. The official unemployment rate will be at 15% by the end of the year, but so many are leaving the country that accurate figures are impossible. The new government plans to cut public spending by 40%. Public sector salaries, already slashed by 10%, are to be cut by a further 20%.

The city of Riga scrubs up well, though. Walking among its meticulously restored mediaeval buildings, it is hard to believe this is a country on the rocks. On the way from the airport, I pass the largest BMW dealership I have ever seen. The streets of Riga are so choked with big black SUVs with smoked windows, it's as if the whole town were on a funeral. Perhaps it is.

"They just didn't see it coming," says economist Vjaceslavs Dombrovskis of Riga's Stockholm School of Economics. "Even as late as the fourth quarter of 2008, Latvian politicians were convinced that the boom could continue and they were throwing money at prestige projects like national libraries." Latvia has very little industry and few resources, except trees, but Riga was marked out as the financial hub of the new Baltic economy. "Lithuania, Estonia and the rest of the post-communist north - they were the new frontier," says Dombrovskis. Now they are the frontier of debt and looking nervously over the border at Russia, Latvia's imperial overlord until 1991. There is still a large and disaffected Russian-speaking population here who don't have full Latvian citizenship.

But as we chat in a pavement café in the afternoon sun in Riga's art nouveau-inspired academic quarter, we could almost be in Paris or Barcelona. It's hard to believe there were riots here only two months ago. Riga, home to half of Latvia's population, still looks far more prosperous than Glasgow. There are none of the tell-tale signs of poverty etched on people's faces - no beggars or homeless people on the streets. Yet they must be somewhere: there is virtually no welfare state in Latvia. Soon, there may be hardly any state at all.

At the Latvian parliament, the Saeima, I am nearly arrested by spiky-headed security police when I try to walk into the MPs' offices with my backpack. They are still very jumpy here. The MP I have come to meet, Miroslavs Mitrofanovs of the leftish Human Rights Party, looks pretty uncomfortable, too, as he explains what cutting public spending by 40% actually means. "Half of the schools and hospitals in my constituency are scheduled to close," he says. So what happens then? "These are the main employers in the whole region so when they go, it's, well ... pfft!"

The tourist people call this country "the land of song" because one of the main modes of national resistance to Russia was collective singing of traditional patriotic Latvian anthems, which the Soviets failed to suppress. But you can't live on song. So Latvia discovered debt, peddled by big Swedish and German banks. This fuelled one of the most astonishing property bubbles in the world as Stalin-era flats began to earn big money. It seems crazy, but perhaps a nation recently liberated from communist rule can be excused a little irrational exuberance; the real lunacy was shown by the big Swedish banks that financed the bubble and have now lost a fortune.

Latvians are resilient, however. After 150 years of invasions they have had to be. "Yes, Latvians were greedy during what we call now the fat years'," says investigative journalist Sanita Jemberga of the Latvian newspaper Diena. "But any society that has put up with communism and remembers surviving on food parcels can put up with a lot."

I hope she is right. All I know is that no politician in Scotland would dream of supporting an economic contraction on the scale upon which Latvia has embarked - and I'm not sure if Latvia really knows what it is in for.

ICELAND: DRINKING TO FORGET

IN downtown Reykjavik most of the buildings are made of corrugated iron, like those schools and village halls you used to see in the Scottish Highlands. It looks great, but a little, well, rickety. In the bars, people really do not want to talk about their experience of the economic crisis. However, I bump into a voluble American photographer and film-maker who spends half the year in Reykjaviik and is hoping to make a vampire film here.

Just below the surface, he tells me, there is real desperation. "People are really suffering, they've lost life savings, homes. I love this place, but there's a kind of madness around, especially among young people - their drinking is incredible. Above all, they hate being made to look foolish in the eyes of the world. People don't really know what comes next."

Iceland certainly is in hot water. It bubbles to the surface all over this craggy volcanic island, and people gather most days in the "hot pots" - warm spring baths that proliferate in the capital. In the Blue Lagoon, a group of par-boiled businessmen are talking about the euro. The new Social Democrat-Green government of Johanna Sigurdadottir, which took over following street riots in January, is determined to join the euro zone. It is the keystone of the government's recovery programme.

But Hallmar (everyone is on first-name terms in Iceland) is not keen. "We have a lot of natural resources, energy, our fishing grounds, they've discovered oil here, too. Why would we want to give all that up?" For one reason, I suggest - because the charges at the Blue Lagoon are all in euros, as are most things in Iceland. It is not the right thing to say. "We don't need them," shouts another red-faced bather. "We are Icelanders and we are best on our own, even without the banks."

Maybe, but tourism is a mainstay of the economy and a valuable earner of hard currency, especially now that Iceland has become a much cheaper holiday destination. Along with fish and cheap energy, tourism is about all that is keeping Iceland from destitution.

For such a little country, Iceland has acquired a mountain of superlatives. In the 1950s it was the poorest country in Europe, yet at the height of the boom, in 2007, Iceland officially had the highest standard of living in the world according to the IMF. Now, since December 2008, it has suffered the biggest banking crisis, relative to population size, of any country in history thanks to the crash of the Kaupthing, Landsbanki and Glitnir banks. House prices plunged and the Icelandic krona lost half its value. The country has been thrown on the less than tender mercies of the IMF. Britain used anti-terror legislation to freeze Icelandic bank deposits. And no, they haven't forgiven us.

At the bonsai Icelandic parliament, the Althingi, they are still mending the windows broken during the "pots and pans revolution" - the January street demonstrations that brought down the old Independence Party government of Geir Haarde.

How do you go from being immensely rich to really rather poor overnight? How do people adapt? The new welfare minister, social democrat Arni Pall Arnason, dismisses the question out of hand, as if I'd asked him the way to the nearest lap-dancing bar. "Everyone must make sacrifices," he says, "but the worst off will be protected."

But what is going to replace the banks as the mainstay of the Reykjavik economy, I ask - more aluminium smelters? "Soviet solutions based on big industrial projects are dead," he replies, not really answering the question. "We aren't in the business of looking to any one industry. We need to create a diversified market environment based on the euro." What lessons can be learnt from the banking disaster? "Our banks weren't bad," he says. "We just lacked the discipline of the single currency."

OK, then. What does Scotland have to learn from Iceland? He looks impatient. "Alex Salmond went too far in using Iceland as a model for independence. It wasn't helpful. Our problem was not independence but the illusion of sovereignty." And before I can work out what he means, the interview is over.

There is clearly a lot of soul-searching going on here, in a country whose bestselling book is currently Dreamland - A Self Help Manual For A Frightened Nation by Andri Snaer Magnason, with a foreword from Bjork. The author urges Icelanders to cast aside the hypermaterialism of the boom years and live on "a bag of fishmeal, some flour and two sheep". But, somehow, I don't think the highly fashion-conscious Icelanders are really in the market for austerity - except, perhaps, for the lifestyle sort. The magazines are full of articles on knitting and making haggis.

Icelanders rightly pride themselves on their rugged self-reliance - just living in this remote island with its storms, earthquakes and dark, dark winters is a struggle. But the economic storm that has hit these 300,000 souls is something else. They have a debt many times national income, and no obvious means of repayment. Still, they are not giving up. And if anything, judging by the attitudes of those Blue Lagoon bathers, their sense of national solidarity has increased.

IRELAND: CRISIS, WHAT CRISIS?

EVERY time I visit Dublin I am struck by how English it looks. All those brick-built Georgian terraces remind me of Downing Street. You know from the fashionable bustle on the streets that you are in one of the great cities of the world. And Dublin lacks the intense security of London. You can still more or less walk into the Irish parliament, the Dail, after a quick phone call to arrange a visit. No interrogation. No swaggering policemen with machine guns. No airport-style security scans. This nation is still very much at ease with itself, even during the greatest economic crisis the Republic has experienced.

In the fusty Dail debating chamber, the beleaguered Irish finance minister, Brian Lenihan, is fielding questions about the country's wrecked economy with a world-weary air. Labour MPs scold him for handing billions of euros to the banks - just as British Labour MPs would be doing if they hadn't had the misfortune to be in government. The session is fascinating for the air of bewildered incomprehension among MPs of all parties as they struggle to come to terms with the collapse of their Celtic version of dreamland.

National income is down by 13%, and next year unemployment is expected to reach 17%: a national record for Ireland, where one in four men were until recently working in the flat-lined construction industry. Wages are being reduced by 7% all round with more cuts to come. Like Latvia, Ireland is embracing deflation with open arms. There is almost a national consensus that - as Lenihan puts it: "Irish people have a capacity to take pain that would lead to riots in the streets in many other countries." I hope he is right.

"We were the success story of Europe, now we're the whipping boy," says one senior diplomat. "It's hard." He has seen his pay shrink by 20% over the last year in loss of bonus, pension levy and salary cuts. Mind you, Irish civil servants had been paying themselves 50% more than comparable civil servants in the UK. The Taoiseach, Brian Cowan, earns more than the president of the USA. Even the unemployed are well paid in Ireland: a single person on Jobseeker's Allowance gets more than three times the UK rate.

This is a small country that still believes it has laid the golden egg. Irish politicians deeply resent UK newspapers such as the Sunday Times - which sells a lot of copies here - publishing articles such as the recent magazine story which graphically described Ireland's descent from Celtic tiger to drowned kitten. The Irish department of foreign affairs has even set up a kind of propaganda unit to counter press hostility from the UK. "The boom wasn't all bad," an official tells me. "One thing Ireland did do, that Britain didn't, is build houses for its people".

Certainly, all those new housing developments are highly visible, especially on the approach to Dublin airport. Unfortunately, many of the blocks of flats are half-finished and some may have to be demolished before they are complete. The infrastructure of airports, roads and ports has been vastly improved in recent years, and the country is better educated than ever before. But what use is that if nearly a fifth of the workforce is unemployed?

"Thank God for the euro," says economics professor John Fitzgerald. "Without it we would be like Iceland." Perhaps. But can Ireland cope with being Ireland? It's like conducting a huge experiment in economic masochism. British eurosceptics scorn Ireland for sticking with the euro, but Europe is still seen as the saviour and the people are expected finally to endorse the Lisbon Treaty in the next referendum. Perhaps they know something we don't?

SCOTLAND: LESSONS FROM THE ARC

ARRIVING back in Edinburgh, it feels as though I have landed in a country called RBS. The entire wall of the airport's multi-storey car park is one big advertisement for the worst bank in the world. Do we have no shame? Everywhere the talk is of green shoots, the FTSE rising, property prices stabilising. Even the bus driver tells me that "we're through the worst".

I wonder if we are all living a collective delusion here in Scotland, imagining that, somehow, the crisis that has afflicted the arc countries simply does not apply here. The UK has decided to spend its way out of recession, and it seems to be working - at least for the moment. The Bank of England is printing money to pay colossal debts - something which smaller countries cannot do. Nor do they want to. They are dabbling in deflation, while we are depending on debt. We may just be delaying the pain by spending our children's taxes in advance.

But for the moment, at least, Scotland is being insulated from the economic storms that are ravaging the Celtic, Nordic and Baltic fringe. And there is no doubt that if Scotland had been independent when the crunch hit, its economy would have been destroyed by the debts of our delinquent banks, HBOS and RBS, just like Iceland's. The losses on their multi-trillion-pound balance sheets would have wiped out the £30 billion Scottish economy in half a day.

Of course, it wouldn't have happened quite like that because we are bolted on to England. Even if Scotland were nominally independent, and had a separate currency, there would have had to be a UK-wide recovery plan for the banks because most RBS branches and deposits are actually in England, and called NatWest. There is no escaping the English connection. Geography is destiny.

First minister Salmond's mistake was to get carried away by Celtic neo-liberalism, and start thinking that Scotland's future was as a small open economy with low taxes and very big banks. That would have led to a very big disaster and decades of pain. Other small northern countries - Denmark, Norway, Holland - have not had to plunge into deflation because they didn't join in the debt binge. If the SNP had stuck with their traditional social democratic role models, instead of becoming cheerleaders for the Scottish banks, then they would not now be finding themselves trying to explain why the arc of prosperity became the arc of insolvency.

It would be a mistake, however, to use these countries' experiences to draw conclusions about the future of nationalism, or the prospect of independence in Scotland. Nationhood, the will for independence and self-reliance, is not affected by economic statistics. Iceland, as we have seen, is a small northern nation that remains fiercely independent.

And no matter how bad it gets, or how long the recession lasts, you will never hear anyone in Dublin saying that they want to be back in the UK.