Luxembourg – includes related article on fiscal policy assumptions underlying the projections – Developments in Individual OECD Countries
Economic activity slowed moderately in late 1995 and early 1996, but real GDP growth is projected to accelerate in 1997-98 – a cyclical evolution which largely reflects developments in neighbouring countries, although at a higher average growth rate. Employment growth is expected to remain robust but unemployment may decline only slowly, as most new jobs are likely to be taken by cross-border workers. Consumer price inflation is projected to average around 2 per cent. The general government budget is likely to remain in surplus.
The present economic situation. Economic activity slowed in the second half of 1995 and in the first half of 1996. Industrial activity actually declined as a result of a fall in production in the steel industry. This reflected both the ongoing restructuring of this industry – which is switching to electrical technology – and reduced demand for long steel products as a result of the weak conjunctural situation in continental Europe. Activity has remained buoyant in the service sector, and notably in banking. On the demand side, business investment seems to have been the most dynamic component, mainly as a result of heavy investment in the steel industry but also of a number of projects in telecommunications and transport. While imports have been boosted by the strength of investment, export growth has decelerated markedly, so that the contribution of the foreign balance to growth may have turned negative in 1996. The growth of private [TABULAR DATA OMITTED] consumption has been weak, reflecting a slowdown in real wage rises. Job creation, although slightly slower than in 1995, has remained robust in 1996. However, it has hardly increased national employment, as most new jobs have been taken up by cross-border workers. For 1996 as a whole, the unemployment rate may have averaged a little over 3 per cent – a historically high level although very low by international standards. Inflation – measured by the consumer price index – fell to 1.3 per cent over the 12 months to September 1996.
Policies and other forces acting. Conjunctural indicators point to continued weakness in the manufacturing sector, with order books at low levels. The restructuring of the steel industry into smaller and more capital intensive production mills should result in a reduction in its labour force from 7000 persons in 1996 to 4000 in 1998, mainly through early retirement. Banking, although confronted with increasing competition from emerging financial centres, may remain one of the most dynamic sectors. The government is expected to continue to pursue a prudent fiscal policy. According to the 1997 budget, expenditure is projected to grow by 4 1/4 per cent, slightly above the medium-term guideline. Priority will be given to investment, notably school building, environmental protection, and rail infrastructure. On the revenue side, major tax measures include a reduction of the corporate income tax rate by 1 percentage point a year from 33 per cent to 30 per cent in 1999. All considered, the general government budget may again show a surplus in 1997, albeit smaller than the 2 per cent of GDP expected in 1996.
Prospects. Real GDP growth is projected to accelerate to over 3 per cent in both 1997 and 1998. Exports are expected to be buoyant, reflecting the economic upturn in neighbouring countries and a more competitive steel industry. As a result, the contribution of the foreign balance to growth is likely to become positive again. On the domestic side, gross fixed investment should remain the most dynamic component of total demand. The growth of private consumption may pick up only moderately, in line with the evolution of real wages. Employment growth is projected to accelerate, but as most new jobs are likely to be filled by cross-border workers, the unemployment rate may decline only slowly, to slightly less than 3 per cent in 1998. Consumer price inflation is projected to edge up to 2 per cent. The main risks to the projections relate to the external side: a weaker than expected recovery in continental Europe would significantly depress economic activity in Luxembourg, especially in the steel industry.
Fiscal policy assumptions underlying the projections
According to the 1997 budget, expenditure is projected to grow by 4 1/4 per cent, slightly above the medium-term guidelines. On the revenue side, major tax measures include a reduction of the corporate income tax rate by 1 percentage point a year from 33 per cent in 1996 to 30 per cent in 1999. In 1998, expenditure is assumed to grow again broadly in line with the medium-term guideline, and it is assumed that no new tax changes will be introduced.
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