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Rating Action:

Moody's affirms Luxembourg's Aaa rating; stable outlook

03 Mar 2017

London, 03 March 2017 -- Moody's Investors Service, ("Moody's") has today affirmed the Aaa senior unsecured and long-term issuer ratings of Luxembourg. The outlook is stable.

Luxembourg's long-term local and foreign currency bond and bank deposit ceilings remain at Aaa. Its short-term country ceilings for foreign-currency bonds and bank deposits also remain at Prime-1 (P-1).

RATINGS RATIONALE

The key drivers for the affirmation of the Aaa rating are:

1) The resilience of Luxembourg's economy as reflected in its robust growth performance in recent years, which has exceeded other euro area countries and many Aaa-rated peers.

2) Luxembourg's sound and transparent institutions, reflected in its effective financial regulatory framework and strong governance indicators which have safeguarded the country's credit fundamentals in the face of several shocks over the past decade.

3) Luxembourg's very high fiscal strength, supported by fiscal surpluses which have supported Luxembourg's low public sector debt levels.

The stable outlook reflects Moody's expectation that Luxembourg's Aaa credit profile will remain resilient to risks associated with potential changes in global and EU-wide tax regulations and other challenges in the future. Moody's expects that the government would exercise the necessary flexibility in order to protect public finances in the event that changes in tax regulations were to result in lower fiscal revenues.

RATIONALE FOR THE AFFIRMATION

FIRST FACTOR -- THE ONGOING RESILIENCE OF LUXEMBOURG'S ECONOMY

Luxembourg's very high economic strength, reflecting both its very high GDP per-capita and a resilient economy, will support robust growth of around 4% on average over the next two years, outperforming euro area countries and many of its Aaa-rated peers. This follows full year growth estimated at around 3.8% in 2016. A greater balance in growth drivers, with both domestic demand and net exports equally contributing, supports the resilience of Moody's forecast.

Following Luxembourg's sharp output contraction during the global financial and euro area crises, real GDP growth rebounded quickly, and has averaged more than 4% from 2013 to 2016, significantly outpacing the growth trajectory of other euro area countries. Luxembourg's dynamic cross-border and diversified financial services industry has been vital to this recovery, owing to the country's established position as a financial hub that intermediates a significant share of private and institutional financial flows from around the world. In particular, the investment fund industry which is second only to the US globally, has expanded rapidly since the global financial crisis—with Luxembourg accounting for some 20% (€1.2 trillion) of all new net inflows into investment funds globally—on the back of the expansionary monetary policies of major central banks. Underpinning Luxembourg's financial services industry are a highly conducive business environment, a stable and predictable policy environment, an effective financial regulatory framework and a high level of investor protection.

Moreover, Luxembourg's strong growth track record over an extended period of time has also allowed the country to build up significant levels of wealth, with GDP per capita of close to $100,000 in purchasing-power-parity terms (2015), materially above the euro area median of $36,000, and indeed among the highest in the world.

SECOND FACTOR -- STRONG INSTITUTIONS SAFEGUARD COUNTRY'S CREDIT FUNDAMENTALS

Luxembourg demonstrates a very high level of policy credibility and effectiveness which have allowed the economy to withstand the global financial crisis and the euro area debt crisis in recent years. In particular, an effective prudential supervisory framework has supported the recovery and expansion of the financial services sector since the global financial crisis. In response to the specific features of Luxembourg's financial sector and the expected future of EU regulation, the authorities have undertaken significant reforms to strengthen the oversight of the financial system and support its resilience.

Specifically, the Commission de Surveillance du Secteur Financier (CSSF) has significantly increased staffing resources in order to continue fulfilling its supervisory mandate. In addition, the Central Bank of Luxembourg (BCL) and the CSSF have been granted broad collaborative responsibilities in the supervision of liquidity positions of Luxembourg-based financial entities. At the European level, these two institutions are also playing an active role in Basel III and the European Banking Authority (EBA) working groups (including the Board of Supervisors) on liquidity risks and on the revision of related prudential rules governing quantitative aspects.

Moody's also notes positively that Luxembourg's newly created Systemic Risk Committee -- a body comprising representatives from the Ministry of Finance, the BCL, the CSSF and the insurance supervisor Commissariat aux Assurances -- has recently added the analysis of linkages between banks and investment funds to its work program, in addition to its main task of macro-prudential supervision of the financial sector.

At the same time, the authorities' proactive stance—for example, regarding early and full implementation of multiple European and international standards, such as the Bank Recovery and Resolution Directive, and the Deposit Guarantee Schemes Directive, both of which were approved in parliament in December 2015—are vital to the economy continuing to head-off potential risks from its exceptionally large financial sector.

On an international level, Luxembourg adopted the fully phased-in Basel III solvency ratio and introduced a capital conservation buffer of 2.5% in 2014. And the government has taken several steps towards improving transparency in the banking sector, such as through its participation in tax transparency initiatives at the EU and G20/OECD level. In January 2015, the automatic exchange of information for savings accounts came into effect, thus increasing the transparency in the banking sector. In addition, from 2017 onwards the exchange of information will be widened to cover all financial income and assets of non-residents.

According to the Worldwide Governance Indicators which support Moody's assessment of institutional frameworks, Luxembourg ranks in the 90th percentile or above in Moody's rated universe for government effectiveness, rule of law and control of corruption, consistent with other sovereigns that carry Moody's highest government rating.

THIRD FACTOR -- PRUDENT FISCAL POLICY AND LOW DEBT LEVELS

Luxembourg's very high fiscal strength is supported by a long track record of fiscal surpluses coupled with general government debt levels, estimated at around 22% of GDP in 2015, the lowest among Aaa-rated peers. Additionally, the social security system is backed by a significant level of assets worth over 32% of GDP.

Luxembourg exhibits very robust government finances compared to most Aaa-rated peers, underpinned by its strong economic performance and prudent fiscal policies. With the exception of 2009 and 2010, the general government consistently recorded fiscal surpluses over the past decade. Following small surpluses in 2011-13 (average of 0.6% of GDP), the government's fiscal position has strengthened over the past three years. Historically, deficits at the central government level have been compensated for by surpluses at the social security level as well as the local government level. For 2017, Moody's expects a smaller general government surplus (0.2% of GDP) compared to previous years owing to a reduction in government revenue (-0.8% of GDP) as a result of the implementation of tax reforms in 2017.

Going forward, Moody's expects continued surpluses at the general government level, rising from a projected 0.2% of GDP in 2017 to 0.7% of GDP by 2020, which in Moody's view the authorities are likely to achieve in light of their commitment and strong policy track record.

Moody's expects the debt ratio to increase this year to around 23% of GDP, mainly reflecting the expected deficit at the central government level of 1.7% of GDP.

Luxembourg's prudent fiscal policies are supported by a transparent and well-defined fiscal framework. In particular, the draft budget's rigorous reviews by both the national Court of Auditors and the BCL support our assessment of public-finance transparency, which in turn ensures healthy political debate about budget orientation and upholds policymakers' accountability.

In recent years, national economic and fiscal policymaking has become increasingly integrated into the EU agenda in order to reinforce policy coordination and control over macroeconomic and fiscal imbalances. This integration has resulted in the implementation of a medium-term budgeting framework, balanced budget rule over the economic cycle as well as the establishment of an independent fiscal council, the "Conseil national des finances publiques" to monitor compliance with the fiscal rule. These measures further increase the level and frequency of controls over domestic policies and the transparency and predictability of the fiscal framework.

WHAT COULD MOVE THE RATING DOWN

Downward pressure on Luxembourg's Aaa rating could be exerted if we were to observe a large increase in the government's debt burden. Luxembourg's debt level is low relative to peers, but the country's small size limits its ability to take on significant quantities of additional debt.

Additionally, downward pressure on the rating could emerge in the unlikely scenario where political risks in the euro area were to fully materialize, thereby threatening the stability of the monetary union. In such a scenario, we would expect an adverse impact on Luxembourg's growth outlook, and therefore its economic strength, which in turn could weigh on fiscal strength via reduced revenues, while any resulting increase in global financial volatility could put pressure on the country's cross-border financial sector, thereby increasing susceptibility to event risk.

GDP per capita (PPP basis, US$): 99,506 (2015 Actual) (also known as Per Capita Income)

Real GDP growth (% change): 3.8% (2016 Estimate) (also known as GDP Growth)

Inflation Rate (CPI, % change Dec/Dec): 1.1% (2016 Estimate)

Gen. Gov. Financial Balance/GDP: 1.6% (2016 Estimate) (also known as Fiscal Balance)

Current Account Balance/GDP: 4.7% (2016 Estimate) (also known as External Balance)

External debt/GDP: [not available]

Level of economic development: Very High level of economic resilience

Default history: No default events (on bonds or loans) have been recorded since 1983.

On 01 March 2017, a rating committee was held to discuss the rating of Luxembourg, the Government of. The main points raised during the discussion were: The issuer's economic fundamentals, including its economic strength, have not materially changed. The issuer's institutional strength/ framework, have not materially changed. The issuer's fiscal or financial strength, including its debt profile, has not materially changed. Other views raised included: The issuer's governance and/or management, have not materially changed. The issuer's susceptibility to event risks has not materially changed.

The principal methodology used in these ratings was Sovereign Bond Ratings published in December 2016. Please see the Rating Methodologies page on www.moodys.com for a copy of this methodology.

The weighting of all rating factors is described in the methodology used in this credit rating action, if applicable.

REGULATORY DISCLOSURES

For ratings issued on a program, series or category/class of debt, this announcement provides certain regulatory disclosures in relation to each rating of a subsequently issued bond or note of the same series or category/class of debt or pursuant to a program for which the ratings are derived exclusively from existing ratings in accordance with Moody's rating practices. For ratings issued on a support provider, this announcement provides certain regulatory disclosures in relation to the credit rating action on the support provider and in relation to each particular credit rating action for securities that derive their credit ratings from the support provider's credit rating. For provisional ratings, this announcement provides certain regulatory disclosures in relation to the provisional rating assigned, and in relation to a definitive rating that may be assigned subsequent to the final issuance of the debt, in each case where the transaction structure and terms have not changed prior to the assignment of the definitive rating in a manner that would have affected the rating. For further information please see the ratings tab on the issuer/entity page for the respective issuer on www.moodys.com.

For any affected securities or rated entities receiving direct credit support from the primary entity(ies) of this credit rating action, and whose ratings may change as a result of this credit rating action, the associated regulatory disclosures will be those of the guarantor entity. Exceptions to this approach exist for the following disclosures, if applicable to jurisdiction: Ancillary Services, Disclosure to rated entity, Disclosure from rated entity.

Regulatory disclosures contained in this press release apply to the credit rating and, if applicable, the related rating outlook or rating review.

Please see www.moodys.com for any updates on changes to the lead rating analyst and to the Moody's legal entity that has issued the rating.

Please see the ratings tab on the issuer/entity page on www.moodys.com for additional regulatory disclosures for each credit rating.

Rita Babihuga
Vice President - Senior Analyst
Sovereign Risk Group
Moody's Investors Service Ltd.
One Canada Square
Canary Wharf
London E14 5FA
United Kingdom
JOURNALISTS: 44 20 7772 5456
SUBSCRIBERS: 44 20 7772 5454

Yves Lemay
MD - Sovereign Risk
Sovereign Risk Group
JOURNALISTS: 44 20 7772 5456
SUBSCRIBERS: 44 20 7772 5454

Releasing Office:
Moody's Investors Service Ltd.
One Canada Square
Canary Wharf
London E14 5FA
United Kingdom
JOURNALISTS: 44 20 7772 5456
SUBSCRIBERS: 44 20 7772 5454

No Related Data.
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