Luxembourg

   

Economic Policies

#7
Key Findings
Having recovered swiftly from a series of financial-sector setbacks, Luxembourg receives a high overall ranking (rank 7) for its economic policies. Its score on this measure has improved by 0.6 points since 2014.

Growth has been robust, with projections for the coming years remaining strong. A pre-Brexit exodus of financial-services firms from the United Kingdom has benefited the country disproportionately. The banking sector currently contributes about 20% of government revenue.

Unemployment rates are moderate and declining, with cross-border commuters accounting for a very high share of the workforce, enabling a high degree of flexibility. Youth unemployment has declined particularly sharply. Government spending has risen faster than tax revenues, with long-term budgetary estimates looking increasingly unsustainable.

New EU and OECD tax regulations have forced transparency on Luxembourg’s famously secretive banks. The country continues to offer preferential tax-incentive deals to most global companies. However, the country is no longer listed as a tax haven by the Global Forum. The adoption of EU rules on e-commerce taxation produced significant revenue losses, resulting in increases in the overall VAT rate.

Economy

#2

How successful has economic policy been in providing a reliable economic framework and in fostering international competitiveness?

10
 9

Economic policy fully succeeds in providing a coherent set-up of different institutional spheres and regimes, thus stabilizing the economic environment. It largely contributes to the objectives of fostering a country’s competitive capabilities and attractiveness as an economic location.
 8
 7
 6


Economic policy largely provides a reliable economic environment and supports the objectives of fostering a country’s competitive capabilities and attractiveness as an economic location.
 5
 4
 3


Economic policy somewhat contributes to providing a reliable economic environment and helps to a certain degree in fostering a country’s competitive capabilities and attractiveness as an economic location.
 2
 1

Economic policy mainly acts in discretionary ways essentially destabilizing the economic environment. There is little coordination in the set-up of economic policy institutions. Economic policy generally fails in fostering a country’s competitive capabilities and attractiveness as an economic location.
Economic Policy
9
Ten years after the outbreak of the financial crisis, the financial markets regained trust and the economy grew strongly. In particular for Luxembourg’s exports and services, the euro zone’s economic recovery has resulted in a stronger GDP growth than before the crisis. The economy of the Grand Duchy is strengthening, domestic demand is increasing and the workforce is expanding.

According to the figures forecasted by STATEC, the National Institute of Statistics and Economic Studies in Luxembourg, economic growth in Luxembourg will reach a peak over the next four years of 4.5% in 2018/2019, before converging toward 3% in 2022. This forecast for the Grand Duchy is well above the average forecast growth for the euro zone.

Based on a hypothesis of 2% to 2.5% growth across the euro zone in 2018 and 2019, as well as the very favorable development of the European stock market index, STATEC has predicted a strong and balanced expansion scenario for Luxembourg’s economy. Luxembourg’s economy should thus grow by around 4.5% this year and next year. Nevertheless, in the medium term, there probably will be a slowdown, due to a rise in interest rates and a general weakening of the cycle, bringing Luxembourg’s economic growth rate to around 3% by 2022.

In 2018, the real gross domestic product in Luxembourg is estimated to grow by about 4.3% over the previous year.

The vote for Brexit in June 2016 may hamper access to European markets for banks and financial institutions based in the United Kingdom. Consequently, some companies have announced plans to relocate their activities from London to other favorable locations in Europe. Thirty-one companies have already announced or implemented plans to relocate to the Grand Duchy. A large proportion of these companies are engaged “in the areas of insurance and fund management,” according to an economic survey published by STATEC.

“Compared to other EU countries, this is a relatively high number: 18 in Ireland, 15 in Germany, ten in France, nine in the Netherlands,” comments STATEC. The statistical institute estimates that these relocations have already created around 250 jobs in Luxembourg. This is by no means insignificant compared to the 1,280 jobs created in the financial sector last year.

Luxembourg is a small and open economy. For some time, it has ranked highly on international competitiveness indexes. Similar to last year, Luxembourg was ranked 3rd in the Comparative Performance index (World Economic Forum, 2018/ Advances economies).

Since 2015, changes to EU legislation regulating VAT rates across the European Union reduced Luxembourg’s VAT revenue from e-commerce. Following negotiations with the European Commission, the policy will be fully implemented in Luxembourg by the end of 2018. In response, Luxembourg’s government has increased general VAT rates and new business clusters have been created to generate new revenue.

The financial sector remains an important driver of economic growth and sustainable development. At the same time, the proportion of cross-border workers to resident workers continues to increase. To expand the national labor force, Luxembourg changed its immigration and naturalization policy in 2017, making it easier for foreign nationals to be naturalized. It now only requires five years of residence (with interruptions) to qualify for citizenship. In addition, a new regulation voted on in February 2017 aims to offer investors a residence permit to set up family offices or to manage assets.

Nevertheless, the country’s generous welfare model must be reformed to adapt to the reality of reduced public resources. Luxembourg’s long-term fiscal sustainability is moderately secure. In the evaluation of its Stability Program of 2020, the European Commission highlighted concerns over the country’s overly optimistic economic growth outlook and its inability to address age-related expenditures and resilient growth. Furthermore, in 2017, industrial output dropped by 0.9%, indicating considerable diversification deficiencies within an economy that focuses excessively on finance and banking.

Citations:
World Economic Forum: The Inclusive Development Index 2018. http://www3.weforum.org/docs/WEF_Forum_IncGrwth_2018.pdf. Accessed 23 Oct. 2018.

“2018 geht es wieder aufwärts für Luxemburg.” L’essentiel. 3 May 2018. http://www.lessentiel.lu/de/luxemburg/story/2018-geht-es-wieder-aufwarts-fur-luxemburg-26189369. Accessed 23 Oct. 2018.

“Des projections économiques à moyen terme encourageantes – Le STATEC publie dorénavant les projections sous forme d’une étude annuelle.” STATEC Luxembourg. 8 February 2018. http://luxembourg.public.lu/fr/actualites/2018/02/13-statec/index.html. Accessed 23 Oct. 2018.

“Luxemburg: Wachstum des realen Bruttoinlandsprodukts (BIP) von 2008 bis 2018 (gegenüber dem Vorjahr).” https://de.statista.com/statistik/daten/studie/14545/umfrage/wachstum-des-bruttoinlandsprodukts-bip-in-luxemburg/ Accessed 17 Dec. 2018.

Labor Markets

#4

How effectively does labor market policy address unemployment?

10
 9

Successful strategies ensure unemployment is not a serious threat.
 8
 7
 6


Labor market policies have been more or less successful.
 5
 4
 3


Strategies against unemployment have shown little or no significant success.
 2
 1

Labor market policies have been unsuccessful and rather effected a rise in unemployment.
Labor Market Policy
9
The labor market in Luxembourg continues to prosper and grow. It also attracts many cross-border workers from neighboring countries. Workers from Belgium, France and Germany are particularly prominent. Furthermore, thanks to its continuous economic growth, Luxembourg has seen a steady increase in jobs (with an increase of 3.2% in 2017).

The number of jobseekers registered with the Employment Agency at the end of September 2018 was 14,582. That is 7.7% or 1,208 fewer than at the end of September 2017. The seasonally adjusted unemployment rate is now at 5.4%. This is the lowest level since May 2009. The 2008 financial crisis had driven the unemployment rate to over 7%. It has only begun to decline continuously since 2014, due to improved economic performance. Youth unemployment has fallen particularly sharply at 15.5% year-on-year to only 2,799 people in 2018. Furthermore, the number of low-skilled jobseekers dropped significantly, by 9.3%. However, this category of jobseekers represents more than half of the total population with 7,596 registered people. The number of people enrolled in a job creation program totaled 4,704 in 2018, 6.4% fewer than in September 2017. In addition, there are also 3,234 job vacancies, 60 vacancies less than a year ago.

Luxembourg has a very dynamic labor market. In the period 2005 – 2016, employment increased by 36%. Compared to neighboring countries, this growth is particularly remarkable. In the same period, employment grew by 11% in Germany, 9.5% in Belgium, 4.7% in France and 5% across the European Union. While employment fell across the European Union as a result of the 2009 economic crisis, employment in Luxembourg continued to rise considerably, although growth has slowed slightly since 2009.

In the third quarter of 2017, 406,102 people employed in Luxembourg were subject to social security contributions. This is 3.3% more than in the third quarter of 2016. In addition, around 26,000 people work in non-social insurance-related employment (e.g., self-employed and assisting family members). This employment group increased by 1.8% last year. Cross-border workers (i.e., people who do not live in Luxembourg but work there) account for 45% of employees subject to social security contributions in Luxembourg.

Luxembourg’s economy is dominated by the financial and service sectors. For example, 71% of employees work in the service sector, while only 6% work in the industrial sector. About 10% of employees work for central or local governments, while 12% of the total workforce work in the financial sector. The banking sector generates about 20% of government revenue. Including indirect taxes, such as income taxes paid by banking sector employees, the overall contribution by financial institutions accounts for about 30% of government revenue. This highlights the importance of financial services to public spending. In recent years, the structure of the Employment Agency (ADEM) has been reformed by the government. The authority is now better positioned.

A new EU scheme to regulate unemployment benefits for cross-border workers stipulates that in the future people will settle their money (and their application to the Employment Agency) in the country where they worked, regardless of their place of residence. Luxembourg has been given five to seven years from 2018 to fully implement the reform. In return, Luxembourg has made several financial concessions. From 2019, the Grand Duchy will contribute 60% to the unemployment benefit of a cross-border worker, which will increase to 80% in 2022 and 100% in 2023.

Citations:
“Le nombre de demandeurs d’emploi diminue de 7.7% sur un an,” ADEM, 22 October 2018. http://adem.public.lu/fr/actualites/adem/2018/10/Chiffres-cles-sept-2018/index.html. Accessed 23 Oct. 2018

“Vue globale,” ADEM, 19 March 2018. http://adem.public.lu/fr/marche-emploi-luxembourg/faits-et-chiffres/vue-globale/index.html. Accessed 23 Oct. 2018

Taxes

#8

To what extent does taxation policy realize goals of equity, competitiveness and the generation of sufficient public revenues?

10
 9

Taxation policy fully achieves the objectives.
 8
 7
 6


Taxation policy largely achieves the objectives.
 5
 4
 3


Taxation policy partially achieves the objectives.
 2
 1

Taxation policy does not achieve the objectives at all.
Tax Policy
7
Over the last years, Luxembourg has struggled under new EU and OECD tax regulations that make it difficult for the country to maintain its largely secret and advantageous tax deals for companies. However, after a series of delaying tactics, the country accepted the new international transparency rules, seeking to avoid greater damage to Luxembourg’s role as a financial center.

On 20 March 2018, France and Luxembourg signed a new bilateral tax treaty to avoid double taxation and to prevent tax reductions in income taxes. The new Double Taxation Agreement (DTA) between Luxembourg and France, following the BEPS measures (OECD Action Plan on Profit Reduction and Profit Shifting – BEPS), includes the so-called Principal Purpose Test (PPT), which states that abusive structures are denied the benefits provided for in the agreement. The agreement applies to natural and legal persons resident and taxable in France or Luxembourg. Taxable French companies, such as SCI, may benefit from the agreement, which may result in reduced tax withholding rates. The new agreement is expected to enter into force in 2019, once it has finally been ratified by France and Luxembourg.

In 2016, most global players in the country had negotiated deals that exempted them from corporate income taxes (2017: 19%), municipal business taxes (6.75%), a special contribution (solidarity surtax 7%) and net wealth taxes (0.5%). More than 50,000 companies had negotiated tax deals with the government which allowed them to channel profits through Luxembourg and to reduce their overall tax obligations. The European Union’s penalty payments of Fiat Chrysler, Starbucks and the European headquarters of Amazon (with 1,500 employees, one of the big players in Luxembourg) were unexpectedly beneficial for Luxembourg as the penalty payments (totaling €250 million) benefited the state treasury. Nevertheless, to clarify the principle of legal certainty, Luxembourg appealed to the European Court of Justice against the ruling.

The effects of these proceedings and ongoing audits under the new rules will have a major impact on state revenues over the long term. The European Union and OECD are working toward harmonizing the tax systems of EU member states. After being listed as a tax haven in 2013, the Global Forum removed Luxembourg from its blacklist in October 2015.

In 2015, the European Commission implemented new e-commerce rules for the European Union, which state that value added tax is payable in the country in which the services are carried out or the product is sold, effectively undermining Luxembourg’s business-friendly e-commerce VAT regime. To boost public finances, Luxembourg has implemented new tax rates. Several tax rates were increased, including the general VAT (from 15% to 17%). The higher VAT rate and low interest rates will lead to a slight increase in the inflation rate (about 1.7% in 2017). Nevertheless, Luxembourg continues to have the lowest VAT rate in Europe.

Important milestones during the period under review include a major tax reform in 2017, which focused on harmonizing individual (including cross-border worker) taxation with higher allowances (pension plans and building loan contracts) to increase second earners. Furthermore, the government implemented a corporate tax system and a restructuring program to attract more foreign investment. In 2015, the process of declaring VAT was simplified by the introduction of an electronic system. Long outstanding tax arrears were used to consolidate the 2017 budget. Despite losses in e-commerce (€225 million in 2017) and tax reform cuts, CIT arrears and an early 2017 index tranche are compensating lost tax revenues.

Luxembourg is known for its fast framework conditions and flexibility in global competition. For example, in 2014 Luxembourg introduced a so-called freeport, a VAT free zone at Luxembourg airport and reduced tax rates by 8% on imports and intra-EU acquisitions of antiques, art and collectibles. In 2016, Bitstamp opened the first EU compliant cryptocurrency exchange in Luxembourg. In addition, Google may open a new €1 billion data center in Luxembourg. In addition, Luxembourg, as an early adopter, has covered another niche product, so-called asteroid mining, offering a regulatory legal business framework. While this may sound very futuristic, Spire Global has already announced plans to open a European headquarters in Luxembourg with 250 employees, with strong support from the Luxembourg Future Fund.

Luxembourg’s financial center (mostly foreign owned) is the most important locus of the so-called renminbi trade. Luxembourg’s global fund management industry is the second most important location for investment funds worldwide after the United States. In October 2017, the Luxembourg investment fund industry was home to €4,135 trillion in net assets (€3,664 trillion in Oct 2016), with 4,098 funds, including 14,711 fund units. Following a massive slump in the previous year, Luxembourg’s investment funds deposits increased by 9.8% since January 2017. Furthermore, Luxembourg is the European leader for responsible investment fund management. Overall, the number of employees in the financial sector rose from 45,097 in 2016 to 47.411 in June 2017.

The PwC 2017 business report ranked Luxembourg in top place. The total tax rate (TTCR), after deductions and exemptions, is currently 20.5%. This is the lowest total tax rate among European and European Free Trade Association (EFTA) countries, before Croatia (20.6%) and Cyprus (22.7%). Luxembourg’s taxation system is very attractive for businesses, with only 20% of companies paying business taxes. In 2012, property taxes accounted for 1.3 % of GDP and represented 3.3 % of tax revenue. At 0.1% of GDP, Luxembourg’s recurrent property taxes is the third lowest by GDP share among EU member states after Malta and Croatia. However, in terms of administration, Luxembourg and Cyprus lag behind other OECD countries.

Luxembourg has the highest capital-tax-to-GDP ratio among EU member states. This demonstrates the size and systemic importance of the financial sector in Luxembourg. To maintain the competitiveness of the financial sector, the government has decided not to introduce the Tobin tax on financial transactions. Following international standards on tax competition, Luxembourg has reduced the corporate tax by 2% to 19% in 2017 with an additional reduction to 18% in 2018. Meanwhile, higher personal tax allowances and income tax reductions will benefit middle class taxpayers.

Citations:
18th Update of the Stability and Growth Programme of the Grand Duchy of Luxembourg for the 2017 – 2021 Period. Le gouvernement du Grand-Duché de Luxembourg, 2017. https://mfin.gouvernement.lu/fr/publications.html. Accessed 23 Oct. 2018.

“General government gross debt.” Eurostat, www.ec.europa.eu/eurostat/tgm/table.do?tab=table&init=1&plugin=1&pcode=teina225&language=en. Accessed 23 Oct. 2018.

“Le journaliste au coeur de Luxleaks.” Luxemburger Wort, 23 November 201. www.wort.lu/de/business/portrait-le-journaliste-au-coeur-de-luxleaks-5a159fe5c1097cee25b77aef. Accessed 23 Oct. 2018.

“Luxembourg opens art freeport to lure super-rich.” Reuters, 17 September 2014. www.reuters.com/article/art-luxembourg-idUSL6N0RI3CI20140917. Accessed 23 Oct. 2018.

Budgets

#9

To what extent does budgetary policy realize the goal of fiscal sustainability?

10
 9

Budgetary policy is fiscally sustainable.
 8
 7
 6


Budgetary policy achieves most standards of fiscal sustainability.
 5
 4
 3


Budgetary policy achieves some standards of fiscal sustainability.
 2
 1

Budgetary policy is fiscally unsustainable.
Budgetary Policy
8
In 2018, government revenue is estimated to be around €24.8 billion, while government spending is around €24.3 billion. Tax revenues increased significantly in the first quarter of 2018. In addition, the public sector took 6.4% more than a year ago.

However, government spending is growing even faster. In the first three months of the year, the public sector spending grew by €4.5 billion, an increase of 8.5%. The Ministry of Finance attributes rising government spending to high investment “with regard to sustainable and qualitative growth.” Compared to the first quarter of 2017, the state made 11.7% more investments. About a quarter of the money is invested in climate and environmental protection projects.

The bottom line of the central administration in the first quarter amounted to €174 million. At the end of the year, the deficit is expected to grow to just under €900 million. If the finances of the social security system and the municipalities are added up, Luxembourg will achieve a total surplus of €333 million in 2018, according to the economic forecast.

The National Finance Council (CNFP) expressed concerns in 2018 that, with policies remaining unchanged, government debt in 2041 will exceed 30% of GDP. This would lead to a debt of 156% of GDP in 2060 and 286% of GDP in 2070.

In 2018, Yves Nosbusch, president of the CNFP, warned that the long-term sustainability of Luxembourg’s public finances is at severe risk. This risk is associated in particular with an aging population, which affects pension and long-term care insurance. According to the study, age-related expenditure would increase by 2.6% per year from 2060 to 2070 and reach 28.8% of GDP in 52 years, compared to only 17% of GDP in 2018.

Citations:
“CNFP warnt vor Anstieg der Staatsverschuldung.” 15 June 2018.
http://www.lessentiel.lu/de/wirtschaft/story/CNFP-warnt-vor-Anstieg-der-Staatsverschuldung-19604238. Accessed 23 Oct. 2018.

“Ehrbare Staaten? EU-Nachhaltigkeitsranking 2017.” Stiftung Marktwirtschaft. December 2017. https://www.stiftung-marktwirtschaft.de/fileadmin/user_upload/Pressemitteilungen/2017/Ergebnisse_kurz_Ehrbare_Staaten_2017_12_12.pdf. Accessed 23 Oct. 2018.

Obermayer, Bastian/Obermaier, Frederik (2016): Panama Papers. Die Geschichte einer weltweiten Enthüllung, KiWi-Paperback.

Research, Innovation and Infrastructure

#12

To what extent does research and innovation policy support technological innovations that foster the creation and introduction of new products?

10
 9

Research and innovation policy effectively supports innovations that foster the creation of new products and enhance productivity.
 8
 7
 6


Research and innovation policy largely supports innovations that foster the creation of new products and enhance productivity.
 5
 4
 3


Research and innovation policy partly supports innovations that foster the creation of new products and enhance productivity.
 2
 1

Research and innovation policy has largely failed to support innovations that foster the creation of new products and enhance productivity.
R&I Policy
8
With regard to its Europe 2020 strategy, Luxembourg set a goal of raising public expenditure on research and innovation to between 2.3% and 2.6% of GDP, of which 0.7 to 0.9 percentage points are earmarked for public use (0.73% in 2015) and 1.6 to 1.7 percentage points earmarked for private research. The overall European goal is 3% of GDP.

Luxembourg supports private research projects: innovation and research can benefit from financial support up to 35%. Private sector innovation can receive grants up to 50% and feasibility studies up to 75% of funding.

Luxembourg has a high proportion of high-skilled workers, with 59.5% of jobs demanding a high level of education or training. More than 40% of the working age population has achieved a tertiary level of education and/or is employed in the science and technology sector. This creates synergies between public research and industry. Luxembourg ranks among the top ten on the Innovation Output sub-index and is number 12 in the overall assessment of the 2017 Global Innovation Index (GII).

In the World University Rankings of 2018, the University of Luxembourg ranked 179 out of 1,000 universities. The new Belval campus, designed for 7,000 students, 3,000 researchers and about 6,000 residents, is one of the largest urban conversion projects in Europe. The relocation to Belval (with the exception of parts of the Faculty of Law, Economics and Finance) will be completed in 2019.

However, the campus has failed architecturally and looks quite sterile. The university does not own the buildings, but has to rent them from a “Belval Fund (Le Fonds Belval)” and conflicts exist between the two institutions. The lack of a university atmosphere in Belval may undermine the university’s ability to attract professors and students from outside the country.

Citations:
“2018 Index of Economic Freedom.” Heritage. https://www.heritage.org/index/pdf/2018/book/index_2018.pdf. Accessed 23 Oct. 2018.

“Uni.lu: Unistart dürfte Investitionen in Belval Auftrieb verleihen.” https://www.wort.lu/de/lokales/uni-lu-unistart-duerfte-investitionen-in-belval-auftrieb-verleihen-
55fc3c7d0c88b46a8ce60554. Accessed 8 Nov. 2018.

“Country information – Luxembourg.” European Commission. www.ec.europa.eu/digital-single-market/en/country-information-luxembourg. Accessed 23 Oct. 2018.

“World University Rankings 2018 – 2019.” Times Higher Education. https://www.timeshighereducation.com/world-university-rankings/2018/world-ranking#!/page/0/length/-1/sort_by/rank/sort_order/asc/cols/stats. Accessed 23 Oct. 2017.

Global Financial System

#13

To what extent does the government actively contribute to the effective regulation and supervision of the international financial architecture?

10
 9

The government (pro-)actively promotes the regulation and supervision of financial markets. It demonstrates initiative and responsibility in such endeavors and often acts as an international agenda-setter.
 8
 7
 6


The government contributes to improving the regulation and supervision of financial markets. In some cases, it demonstrates initiative and responsibility in such endeavors.
 5
 4
 3


The government rarely contributes to improving the regulation and supervision of financial markets. It seldom demonstrates initiative or responsibility in such endeavors.
 2
 1

The government does not contribute to improving the regulation and supervision of financial markets.
Stabilizing Global Financial System
6
Since the opening and creation of the single European market in the 1970s, Luxembourg has been the most important actor in the European debt capital market, playing a major role in stimulating the international financial architecture.
Luxembourg performed relatively well in the global financial crisis. After saving DEXIA and Fortis, two domestically important banks, tax revenues have begun to rise again in recent years. Yet as a small country, Luxembourg’s economy remains strongly influenced by the general economic climate and international trends.

Luxembourg is a major financial center, with the banking and financial services industry (non-bank financial institutions), directly and indirectly contributing an estimated 30% to GDP. Consequently, the country was exposed to the effects of the economic crisis within the European Union. Furthermore, Luxembourg’s treatment of offshore accounts and capital assets by non-resident customers came under international scrutiny during that period. As a consequence, Luxembourg has developed new clusters, such as FinTech (new financial technology), to complement the traditional fields of work of the financial industry.

In the 2018 Index of Economic Freedom, Luxembourg is ranked 14 out of 186 countries. In the 2018 World Bank’s Doing Business report, Luxembourg ranked 63 out of 190 countries (2016: 61). Reflected in these rankings is the perception that Luxembourg has difficulties encouraging the founding of startups and creating new professions. In response, Luxembourg set up several opportunities for employees and created innovation centers to support startups.

The House of Startups (HoST), founded by the Chamber of Commerce in September 2017, opened its doors on 1 June 2018. With its central location in the capital, HoST is said to be an “innovation-fueling community” with an area of almost 6,000 square meters. The HoST’s missions are based on the following pillars: attracting and developing startups, and facilitating their integration into Luxembourg’s economy.

Citations:
Index of Economic Freedom 2018. https://www.heritage.org/index/pdf/2018/book/index_2018.pdf. Accessed 23 Oct. 2018.

“Doing Business Report 2018.” World Bank Group 2018.
http://www.doingbusiness.org/content/dam/doingBusiness/media/Annual-Reports/English/DB2018-Full-Report.pdf. Accessed 23 Oct. 2018.

Sinner, Michèle: “Geplant, geplant, geplant.” Land.lu, 14 October 2011. www.land.lu/page/article/847/4847/FRE/index.html. Accessed 22 Oct 2018.
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