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Country Commercial Guides FY 2000: Luxembourg Report prepared by U.S. Embassy Luxembourg, released July 1999 Note*

CHAPTER II. ECONOMIC TRENDS AND OUTLOOK

MAJOR TRENDS AND OUTLOOK

Luxembourg's economy is stable and prosperous with positive growth in 1998; it had modest inflation (1.2%) and the lowest unemployment rate (2.9% in 1998) in the EU. Banking and insurance, steel, and light industry are the dominant sectors. GDP rose by 5.7 percent in 1998 and growth is estimated at 2.5 percent for 1999. In foreign trade, overall imports and exports rose between 1997 and 1998. Luxembourg's standard of living and per capita income are the highest in the European Union. Luxembourg's economy, while robust, is nevertheless affected by the economic performance of neighboring countries. The industrial sector, until recently dominated entirely by steel, is increasingly diversified. The steel sector has reduced both employment and output substantially from peaks of the early 1970's. Crude steel production grew over 60% in 1998. However, Luxembourg's steel producers have experienced depressed steel prices due to the Asian financial crisis, which has negatively affected the industry.

Luxembourg and Belgium still maintain an inter-exchangeable currency even after the introduction of the euro on January 1, 1999. The Belgium-Luxembourg Economic Union (BLEU), which allowed the two countries to share custom facilities, was dissolved with the advent of the EU Economic and Monetary Union (EMU) in 1999. As a result of the EMU, Luxembourg also created its own central bank, Banque Centrale du Luxembourg.

Luxembourg's dependence on exports of goods and services has made it favorable to open borders and free-flowing commercial activity. Most trade is with Luxembourg's immediate European neighbors. The trade balance with the United States fluctuates widely depending on purchases of large capital goods, such as planes or satellites; otherwise steel exports to the United States dominate bilateral relations. Although the country usually registers a deficit in trade of goods, a surplus in earnings from financial services contributes to a very large current account surplus.

Employment increased marginally between 1997 and 1998, primarily in the service sector while employment in industry remained stable. The unemployment rate is the lowest in the EU. Unemployment is an important issue in national politics, since the economic policy of Luxembourg is to provide full employment. In fact, Luxembourg is a net exporter of employment-over 30 percent of the workforce lives outside Luxembourg and over 50 percent of the workforce are non-Luxembourgers. Many of the workers in Luxembourg live in neighboring France, Belgium, and Germany. Luxembourg also hosts a large Portuguese community, which is about 13 percent of the population, the result of a labor shortage during the postwar economic boom.

The Saar-Lor-Lux region which is comprised of Saarland, Lorraine, Grand Duchy of Luxembourg, Luxembourg province of Belgium, Trier, and Western Palatinate. Straddling the crossroads of European trade, this region is exceptionally positioned in a key area at the center of Europe. The Saar-Lor-Lux region has taken full advantage of its privileged location, which offers unusually promising prospects in the Single European Market. A dense and diversified communications network puts the Saar-Lor-Lux region directly in touch with every major European city. Paris, Lyons, Frankfurt, Milan, Barcelona, Brussels, and London can be reached directly by highway, railroad, or airplane. In addition, a European network of waterways offers inexpensive transport facilities for heavy goods. The infrastructure continues to be modernized. For example, an ultra-rapid railroad linking Paris to Lorraine, Alsace, Luxembourg, and Germany is scheduled for completion in 2005. The international airport of Luxembourg links the Saar-Lor-Lux region to most major cities in the world.

The Saar-Lor-Lux region takes full advantage of the presence of leading banks and international financial institutions. Owing to this concentration of activities and capital, the Saar-Lor-Lux region, especially Luxembourg City, is an important financial and monetary center in the European Union. The presence of big multinationals has contributed considerably to the spectacular growth of the Luxembourg Stock Exchange. Its ideal position in Euro-issues has transformed it into one of the leading financial markets.

The greater region provides a base for most major automobile manufacturers, as well as international leaders in the metal, chemical, pharmaceutical, glass, ceramics, plastics, textile, paper, food, and biotechnology industries. More than 5000 researchers are employed by some 500 laboratories in Metz, Nancy, Trier, Saarbrucken, Kaiserslautern, and Luxembourg, making the Saar-Lor-Lux region one of the leading research areas in the world. Over 130,000 students and engineers are being trained at six universities and more than twenty technical and management schools in such varied subjects as data processing, electronics, engineering, medicine, law, management, and economics.

PRINCIPAL GROWTH SECTORS

Luxembourg's economic growth rate rose in 1997 and 1998, after a slight decline in the early 1990's, due to recession in neighboring countries and weakness in demand for steel products. The steel sector has undergone major restructuring over the past few years. The last blast furnace in Luxembourg's remaining steel mill shut down in 1998, and Luxembourg steel is now solely produced by an electric arc process. Luxembourg's steel producer ARBED is currently the world's fourth largest, with a highly diversified product range and production sites in Luxembourg, Spain, France, Germany, Belgium and the United States. ARBED successfully diversified in the 1980's and 1990's, and continues to search for further niche markets for processed or semi-processed, highly specialized steel products. It is a market leader in a variety of products such as galvanized metal sheet and galvanized metal wire. The fluctuating steel sector was balanced by continued growth in the financial sector, so that Luxembourg continued to experience positive growth throughout the last decade. GDP increased by 5.7 percent between 1997 and 1998, but the rate of increase is expected to slow down for 1998 and 1999. In 1998, GDP amounted to $17.2 billion, resulting in a per capita GDP of $40,595.

Exports are expected to accelerate, reflecting a stronger performance of the steel industry and more buoyant economic conditions in neighboring countries. Luxembourg has made a successful transition from an industrial to a service-oriented economy, especially banking services. In fact, exports of services, mainly from the financial sector, account for much of Luxembourg's strong economy. Luxembourg coordinates most trade and financial matters with Belgium and the Netherlands. Luxembourg's banking sector is not only strong but it is also growing. Luxembourg's 215 banks now employ over 9.5 percent (21,458) of the domestic working population (226,500).

Luxembourg has a thriving economy with five world-class business sectors: fund management and offshore banking, cargo shipping, steel, satellite transmission, and television/radio broadcasting. Located in the heart of Europe, Luxembourg serves as the springboard for many corporations in Europe. American businesses have done extremely well in Luxembourg. It is a very prosperous country, and its economy is expected to continue to grow significantly. It will provide increasing opportunities to advance U.S. economic prosperity through U.S. exports, investment and services. The dynamic U.S. manufacturing, banking and service businesses in Luxembourg already provide employment to some eight percent of Luxembourg's workforce.

In other sectors, financial services' assets grew by 10 percent between 1997 and 1998. The construction industry, showed a small increase of 1.2 percent between 1997 and 1998, is back in a modest growth pattern following a decline between 1996-97. Retail sales remained stagnant between 1997 and 1998, unable to recover from a downturn in the early 1990's. The number of farms declined from 5,173 in 1980 to 2,974 in 1997. Total farming production remained approximately stable. The trend in 1998-99 is similar, as high agricultural production costs and high employment in Luxembourg are causing more people to leave the farming industry and farmland has been converted to other uses.

GOVERNMENT ROLE IN THE ECONOMY

Luxembourg is active in the World Trade Organization (WTO), Organization for Economic Cooperation and Development (OECD), the Council of Europe, and other European and worldwide organizations.

With nearly 90 percent of the country's GDP foreign-trade related, Luxembourg's economic well-being depends largely on the economic strength of its EU partners and on the free world economy in general. The current account balance grew slightly between 1997 and 1998, due to continued strong performance from the service sector. Fiscal policy throughout the 1990's has been prudent, with the present government instituting some reforms in corporate and personal income taxation. The result has been the abolition of corporate capital gains tax, a 15 percent overall decrease in personal income tax, and a reduction of 30-40 percent in corporate tax. In 1998, the total maximum effective tax rate stood at 37.45%, which consisted of a 30% corporate income tax plus municipal business tax. New companies producing new products may apply for tax relief, while investments made by existing companies may be subject to tax credits.

BALANCE OF PAYMENTS SITUATION

Until 1996, Luxembourg's balance of trade and payments statistics was included in those of the Belgium-Luxembourg Economic Union (BLEU). Since 1996, they are published separately, a requirement to meet convergence criteria for EMU. Luxembourg's balance of trade has been in deficit over the last five years: 72 billion LUF in 1996, 84 billion LUF in 1997, and 81.4 billion LUF in 1998. Luxembourg's economy depends heavily on imports mainly from its EU neighbors. With the decline of Luxembourg's steel industry, the overall current account surplus is achieved by a strong service surplus of 76.6 billion LUF in 1996 and 81.3 billion LUF in 1997. The strong service sector therefore accounts for the overall current account surplus of 87 billion LUF in 1996 and 73.1 billion LUF in 1997.

In June 1998, Luxembourg's Monetary Institute, a regulator for financial activities in Luxembourg, was transformed into Luxembourg's first national central bank (NBL), in order to comply with EMU convergence criteria. Luxembourg, as a participating nation in EMU, has a representative at the European Central Bank (ECB) in Frankfurt, Germany, and the NBL is a component in the European Central Bank Mechanism (ECBM).

INFRASTRUCTURE SITUATION

Luxembourg is an attractive market for U.S. products due to its high per capita income, growing financial sector, and heavy dependence on imports for most industrial and consumer goods. Demand is greatest for quality products in the growing services sector and in traditional industries that are modernizing to boost productivity.

Most industrial and consumer imports to Luxembourg enter in small quantities. Consequently, U.S. exporters generally group Luxembourg with marketing efforts in one or more of the larger neighboring countries, such as Belgium, Germany, or France.

The railway network has been fully electrified and waterways have been developed to link the Grand Duchy to other European waterways such as the Rhine and the North Sea through the now canalized Moselle River. The tonnage transported in 1997 at the river port of Mertert was 1,378,878 tons.

A 1995 agreement provides "open sky" aviation rights between the U.S. and Luxembourg. According to the Department of Transportation, the all-cargo carrier, Cargolux, benefits most from the agreement. Cargolux has several direct flights between Luxembourg and the United States. Currently operating ten Boeing 747-400F aircraft in addition to five more chartered aircraft, Cargolux is Luxembourg's largest airline and ranks among Europe's top ten air cargo carriers. In 1998, Cargolux transported a total of 321,982 tons, and generated roughly 3 percent of the Luxembourg government's revenue. Cargolux's management predicts further growth, and plans to expand its routes.