IMF Executive Board Concludes 2021 Article IV Consultation with Luxembourg

Washington, DC: On May 14, 2021, the Executive Board of the International Monetary Fund (IMF) concluded the Article IV consultation with Luxembourg. [1]

Luxembourg has weathered the pandemic relatively well, thanks to the unprecedented policy support, both domestically and globally, and a quick adjustment to teleworking. To support the economy, the government implemented in 2020 a large and multi-pronged policy package, followed by more targeted stimulus in 2021. Accordingly, the economy experienced a mild contraction in 2020 (-1.3 percent), driven by weak domestic demand, and is expected to rebound by about 4 percent in 2021.

The outlook is for recovery, but the output is expected to remain below its pre-crisis trend over the medium term, partly reflecting some impairment in corporate balance sheets and scarring in the labor market. Risks to the outlook are tilted to the downside and are dominated by the virus dynamics in the near term. On the upside, a quicker containment of the infection could bring back activity significantly faster. On the downside, a prolongation of the health crisis into 2021 could delay the recovery. Broader risks, such as tightening of global financial conditions, the acceleration of de-globalization, and revenue risk from changes in international taxation, could weigh on economic prospects.

Executive Board Assessment [2]

Executive Directors agreed with the thrust of the staff appraisal. They commended the authorities’ timely and broad-based policy response to the pandemic, which supported households and firms and limited the economic fallout. While the outlook is for a recovery, global uncertainty remains, particularly related to the evolution of the virus in the near term. Directors stressed the importance of maintaining targeted policy support until the recovery is firmly established, addressing rising financial system risks, and focusing structural policies on mitigating scarring while supporting an inclusive recovery.

Directors emphasized that the unwinding of policy support should be state contingent and well calibrated to the economic conditions. As the recovery strengthens, fiscal policy should pivot toward further greening the economy, digitalization, and closing infrastructure gaps. It will be important to preserve buffers to guard against fiscal risks from changing international taxation and reaching CO2 targets. Directors recommended continuing to diversify revenues while reducing the carbon footprint, as well as strengthening public investment management and the procurement framework.

Directors highlighted the importance of continuing to address rising risks in the financial sector, in line with the FSAP recommendations. While the banking sector would remain resilient given its large capital and liquidity buffers, solvency risks could, as in other countries, materialize if state support is withdrawn prematurely or the recovery is delayed. Directors welcomed the intensification of the oversight of the investment fund sector and encouraged further strengthening the macroprudential surveillance and regulation of the sector. Directors stressed the need to continue monitoring high household indebtedness, and to revisit the loan-to-value limits and explore other tools in the legal framework if indebtedness continues to rise. The macroprudential stance may need to be revisited if pressures in credit markets reemerge as the recovery gains ground. Noting welcome steps taken by the authorities, Directors recommended further strengthening the AML/CFT framework.

Directors commended the authorities’ efforts to support employment, particularly of the most vulnerable workers. As the recovery strengthens, the focus should shift from preserving jobs to facilitating the reallocation of workers to dynamic sectors, including through training programs. Directors encouraged further steps to increase housing supply, while improving inclusiveness in the housing market. Deepening the market for sustainable finance will help diversify the financial sector.

Table 1. Luxembourg: Selected Economic Indicators, 2019-22

Projections

2019

2020

2021

2022

Real economy (change in percent)

Real GDP

2.3

-1.3

4.1

3.6

Domestic demand

3.3

-4.4

4.4

3.5

Foreign balance (contr. to GDP growth)

0.2

1.3

1.9

1.3

CPI (national definition)

1.7

0.8

1.8

1.9

GDP deflator

3.4

2.3

3.3

2.5

Public finance (percent of GDP)

General government balance

2.4

-4.1

-1.6

-0.6

Revenue

44.7

43.7

43.2

42.8

Expenditure

42.3

47.8

44.8

43.4

Structural balance (percent of pot. GDP)

2.1

-3.3

-1.3

-0.5

General government gross debt

22.0

24.9

26.7

27.3

Labor market (percent change)

Total employment

3.6

2.0

1.6

2.4

Resident labor force

2.7

2.8

2.2

2.0

Unemployment rate (percent)

5.4

6.3

6.7

6.4

Credit growth (percent)

Growth of credit to the private non-financial sector

7.2

5.0

11.3

9.4

Balance of payments (percent of GDP)

Current account

4.6

4.3

4.9

4.9

Balance on goods

5.0

3.8

4.1

4.0

Balance on services

33.7

33.1

33.2

33.5

Net factor income

-33.4

-31.1

-32.7

-32.9

Balance on current transfers

-0.7

-1.5

0.3

0.3

Exchange rates

U.S. dollars per euro, period average

1.1

1.1

NEER, CPI based (2010=100, +=appreciation)

101.5

103.2

REER, CPI based (2010=100, +=appreciation)

99.5

100.8

Potential output and output gap

Potential output (change in percent)

3.2

1.0

3.1

3.0

Output gap

0.6

-1.7

-0.8

-0.2

Sources: Haver Analytics, INSEE, Banque de France, and IMF Staff calculations.


[1] Under Article IV of the IMF’s Articles of Agreement, the IMF holds bilateral discussions with members, usually every year. A staff team visits the country, collects economic and financial information, and discusses with officials the country’s economic developments and policies. On return to headquarters, the staff prepares a report, which forms the basis for discussion by the Executive Board.

[2] At the conclusion of the discussion, the Managing Director, as Chairman of the Board, summarizes the views of Executive Directors, and this summary is transmitted to the country’s authorities. An explanation of any qualifiers used in summings-up can be found here: https://www.imf.org/external/np/sec/misc/qualifiers.htm .

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