Luxembourg

Research guide to European Monetary Union

A special report prepared by Dresdner Bank Luxembourg SA

The heads of state and government confirmed this at the EU-Summit held in Dublin in December. Here, they adopted the legal framework for the euro, accepting the proposal put forward by the European Monetary Institute for the organization of currency relationships between the euro countries and those who will not be participating at the outset. Furthermore, they reached an agreement on the plans for a “stability and growth pact”, which demonstrates their desire for sustained budgetary discipline in Emu.

Although at present only Luxembourg meets all the requirements for entry into Emu, we still believe the most likely scenario is that Emu starts on time in 1999 with Luxembourg, Belgium, the Netherlands, Germany, France, Austria, Finland and Ireland. There are numerous indications that economic data in these countries will become even closer during the course of this year. Assuming the trend towards lower inflation continues this year, Portugal might also satisfy the convergence criteria, as the only southern European country to do so.

However, since the choice of countries will be a political decision, we cannot exclude the possibility that Emu will start with a larger group of countries. Should Italy and Spain succeed in meeting their budget projections and inflation targets for 1997, they might come close enough to be included.

But what is the economic rationale behind the euro-project? Increasing globalization in the markets means that it is essential if Europe is going to be able to compete successfully in the long term. Competition with other enlarged economic areas will become more intense in future and new competitors ­ especially in south-east Asia – are rapidly making inroads into world markets. A large economic and monetary union in Europe will create additional opportunities for generating growth, for developing new markets and for creating jobs, thereby strengthening Europe’s competitiveness in the global markets.

Since 1993 the EU has had a single market. However, only with a single currency we can reap all the benefits of the common market. A monetary union will reduce transaction costs. It will enhance the efficiency of trade in goods and services and of capital flows, which tends to reduce prices over time. It will also facilitate long-term investment planning, making it easier for capital to flow where it can be used in the most efficient way. Above all, the elimination of exchange rates will improve the transparency of markets, thereby further increasing competition.

The increasing competition among the various financial centres, following the globalization of markets, is a major challenge for the Luxembourg financial community. With the regulatory environment straightening out even more the playing field, labour cost and taxation are attracting more attention.

The Luxembourg financial sector has always benefited from the progressive liberalization of the financial markets and the competition-driven growth of financial innovation which occupies an important place in any major financial centre. Its success is the result of a skillful niche policy. An advantageous fiscal and legal framework, a stable and liberal economy, the central location in Europe, an advanced technological infrastructure and the existence of a qualified multilingual workforce have all contributed to the financial sector’s growth and overall health. This favourable environment continues to be attractive, but it needs to be adjusted to fast changing surroundings and increased competition.

Luxembourg may thus continue to rely on the experience which it has acquired in a wide range of financial activities, such as syndicated loans, eurobonds, asset management, administration of investment funds and private banking.

The government is exploring new ideas and legislation is already in parliamentary process or in preparation. These ideas include “European pension funds made in Luxembourg” and “mortgage bonds made in Europe”. The same applies to the hot issue of taxation. Understandably enough, any government is by nature opposed to the income squeeze resulting from competitive defiscalization. But the Luxembourg authorities are known to contribute in a smooth way by adjusting tax burdens, both private and corporate, to more competitive levels.

As in the past, the evolution of the financial centre will be neither programmed nor decided upon in a centralized manner. The future of the financial centre of Luxembourg depends on how the financial operators, the government and the banking supervisory authority face the challenge of the single currency. It will be their work, the outcome of their imagination and their dynamism.

In 1996 the Luxembourg financial centre dedicated itself increasingly to Emu. With a view to the Grand Duchy’s EU Presidency in the second half of 1997, this topic will continue to gain significance.

The looming structural change is regarded by all participants as a challenge. The banking community is certain that it will be able to convert the risks into opportunities and to make the best of the benefits held out by monetary union for such well-established financial centres as Luxembourg, which has stood the test up to now.