Morningstar DBRS has reaffirmed Luxembourg’s AAA credit ratings with a stable outlook, stating the country’s credit fundamentals remained very strong despite a challenging macroeconomic environment.

The credit rating agency stated that Luxembourg’s economy returned to growth in 2024, with real GDP increasing by 1.0% after two years of contraction. Growth was driven by strong private and public consumption and a positive contribution from net exports, although investment remained subdued due to weak construction activity.

However, Morningstar DBRS cautioned that the near-term outlook was clouded by geopolitical tensions. Although direct trade with the United States is limited, the imposition of US tariffs and retaliatory measures could affect the economy indirectly. The agency warned that resulting financial market volatility might weigh on Luxembourg’s large financial sector, further dampening growth prospects.

Morningstar DBRS cited Luxembourg’s advanced economy and global financial role as key rating strengths. GDP per capita reached €126,910 in 2024. Financial services accounted for 25.5% of nominal gross value added, while business services contributed 13.0%. The agency noted that Luxembourg’s appeal as a financial centre was supported by a skilled workforce, strong legal and regulatory frameworks and political stability. The report also highlighted the country’s high gross national income per capita as a buffer against economic shocks

Fiscal performance

Luxembourg recorded a general government budget surplus of 1.0% of GDP in 2024, outperforming the forecast deficit of 0.6% and reversing the 0.8% deficit in 2023. Morningstar DBRS attributed this to stronger-than-expected revenues, with income tax receipts rising 10.3% compared to a 6.1% increase in spending. As a result, the central government posted a near-balanced budget against a projected deficit of 1.7% of GDP. Local governments and the social security system also recorded surpluses.

For 2025, the government forecast a general government deficit of 0.6% of GDP, easing to 0.5% in 2026. Morningstar DBRS linked this to new tax measures, including a 2.5% indexation adjustment to personal income tax brackets and a one percentage point reduction in the corporate income tax rate. The agency noted that weaker-than-expected growth could affect future revenues.

Planned public investments included up to €500m in housing acquisitions through 2027. Defence spending was also expected to rise, with Luxembourg targeting 2% of GNI by 2030, up from an estimated 1.3% in 2024. Morningstar DBRS concluded that medium-term budgetary pressures would remain elevated compared to the pre-pandemic period.

Resilient banking sector

Morningstar DBRS assessed Luxembourg’s banking sector as strong, citing robust capital buffers, sound liquidity and low non-performing loan levels. However, it warned that higher interest rates had raised asset quality risks, though these were easing.

By February 2025, average interest rates on loans to households had fallen to 3.9%, down from a peak of 4.1%. For non-financial corporates, the rate declined to 3.8% from 4.4%. Household debt stood at 62% of GDP at the end of 2024, above the EU average of 49%, but the agency noted this was offset by high household assets, a resilient labour market and wage indexation.

The housing market stabilised after a downturn in 2023-2024. Luxembourg’s investment fund industry also rebounded, with net assets rising 10% in 2024 and net inflows returning after two years of redemptions. Still, Morningstar DBRS noted that prolonged global financial volatility and elevated rates could weigh on the financial system.

External position

Morningstar DBRS reported a current account surplus of 13.8% of GDP in 2024, with the IMF projecting a medium-term average of around 8.0%. The net international investment position stood at 37.6% of GDP.

Luxembourg’s direct investment creditor position was attributed largely to special purpose vehicles, while its negative portfolio position reflected foreign ownership of investment fund shares. The agency noted that although the economy’s small size and euro area membership limit external adjustment, deep financial and trade ties across Europe reduce external risk.