The International Monetary Fund (IMF) undertook a Financial System Stability Assessment (FSSA) of Luxembourg and released its findings in its 2002 Report on the Observance of Standards and Codes. According to the report, Luxembourg has a high level of compliance with all of the Basel Core Principles (BCPs), however the report does not specifically address Luxembourg's compliance with each individual principle and their respective BCP. Furthermore, the report noted that the preconditions for effective banking supervision were in place, and that the supervisory framework of the Commission for the Supervision of the Financial Sector (CSSF), which is responsible for the prudential supervision and regulation of credit institutions, was comprehensive. However, according to a subsequent IMF 2004 Article IV Consultation report, important weaknesses were identified regarding procedure and implementation in the area of anti-money laundering and combating the financing of terrorism, and remedial actions were needed. The legal framework for banking supervision in Luxembourg is mainly based on the 1998 Law Creating a Supervision Commission of the Financial Sector, and the 1993 Financial Sector Law.

General Overview

Given Luxembourg's high level of compliance with all of the Basel Core Principles, the IMF did not make any substantial material recommendations as part of its 2002 FSSA. This 2002 IMF report noted that the preconditions for effective banking supervision were in place, and that the supervisory framework of the CSSF was comprehensive. In a subsequent 2004 Consultation IV report, the IMF noted that a series of measures had been taken in Luxembourg following the 2002 assessment to improve financial supervision. Luxembourg authorities enhanced the scope of supervision, increased staff and on-site inspections, and adopted an internal Code of Conduct for bank supervisory staff regarding the trading and holding of securities. Important weaknesses remained, however, regarding procedure and implementation in the area of anti-money laundering (AML) and combating the financing of terrorism (CFT), and remedial actions.

Laws governing the banking sector include the 1993 Law on the Financial Sector (Financial Sector Law, or FSL), which was last amended in November 2004, and the 1998 Law Concerning the Supervision of the Markets of Financial Assets (as amended). Furthermore, according to a 2007 U.S. Department of State (DoS) International Narcotics Control Strategy Report, Luxembourg's financial sector legislation is based to a large extent on European Union (EU) directives. The CSSF started its activities on January 1, 1999, under the authority of the Minister of Treasury and Budget. It is an independent agency, integrating the supervisory tasks of the Central Bank of Luxembourg (Banque Centrale du Luxembourg, or BCL) and the Exchanges Commission. The CSSF is responsible for the prudential supervision and regulation of credit institutions, including banks, securities markets, undertakings for collective investment, operators of payment or securities settlement systems, and pension funds. The CSSF's supervisory responsibilities and objectives are regulated under the 1998 Law Creating a Supervision Commission of the Financial Sector, and the 1993 FSL. Furthermore, regulatory work is the responsibility of the CSSF's internal committees, which include internal and external representatives.

Luxembourg is one of the most important financial centers in the world, and, according to the 2005 U.S. Department of Commerce (DoC) Country Commercial Guide, has a strong and sound banking system. The U.S. DoC report further noted that "cross- shareholding" and "stable shareholder" arrangements were nonexistent. As of September 2006, per the 2007 U.S. DoS Report, there were 154 banks, with total assets amounting to €824 billion. Furthermore, foreign bank subsidiaries from countries such as Germany, Belgium, France, Italy, and Switzerland, constituted the majority of banks registered in Luxembourg.

The Principles

1. (1) Clear responsibilities and objectives for each supervisory agency.

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The IMF's 2002 assessment concluded that Luxembourg maintains a high level of compliance with all of the Basel Core Principles. Further, the report indicated that the CSSF's supervisory responsibilities and objectives are regulated under the 1998 Law Creating a Supervision Commission of the Financial Sector, and the 1993 FSL. Responsibilities include the prudential supervision and regulation of banking activities, as stated in the IMF's 2002 report. Despite the above conclusions there is little information directly addressing Luxembourg's compliance with this principle.

1.(2) Operational independence and adequate resources.

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According to the IMF's 2002 assessment, the CSSF is given full operational independence to conduct prudential supervision of the banking system under the 1998 Law Creating a Supervision Commission of the Financial Sector, and the 1993 FSL. However, there is little information publicly available specifically addressing Luxembourg's compliance with this principle.

1.(3) A suitable legal framework for authorization and ongoing supervision.

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The CSSF's supervisory responsibilities and objectives are regulated under the 1998 Law Creating a Supervision Commission of the Financial Sector, and the 1993 FSL. In its 2002 report, the IMF notes that "laws are current and revised as necessary" (p. 35). Nonetheless, there is little information publicly available directly addressing Luxembourg's compliance with this principle.

1.(4) A suitable legal framework to address compliance with laws as well as safety and soundness concerns.

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See Principle 1.3.

1.(5) Legal protection for supervisors.

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There is insufficient information publicly available addressing Luxembourg's compliance with this principle.

1.(6) Arrangement for sharing of information between supervisors and protection of confidentiality of shared information.

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There is insufficient information publicly available addressing Luxembourg's compliance with this principle.

2. Clearly defined permissible activities for banks and control of the use of the word 'bank'.

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Permissible activities for banks are defined under the 1993 FSL, which also restricts the use of the word "bank" to licensed banking institutions. Apart from the above statement from the 2002 IMF report, there is little information publicly available directly addressing Luxembourg's compliance with this principle.

3. Criteria for structure, directors, operating plan, controls, financial condition and capital base.

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As stated in the IMF's 2002 assessment, the Minister of Treasury and Budget, within the Ministry of Finance, approves licensing upon recommendation of the CSSF. Criteria for licensing are set out in the 1993 FSL. Per the same report, banks operate either as locally incorporated banks, or branches of foreign banks. However, the IMF assessment does not directly address Luxembourg's compliance with this principle.

4. Authority to review and reject transfer of ownership.

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There is insufficient information publicly available addressing Luxembourg's compliance with this principle.

5. Authority to review major acquisitions and investments.

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There is insufficient information publicly available addressing Luxembourg's compliance with this principle.

6. Minimum capital adequacy requirements (meet Basle Capital Accord for internationally active banks).

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Prudential regulations and requirements are in place, according to the IMF's 2002 assessment and the report indicated that Luxembourg maintains a high level of compliance with all of the Basel Core Principles. However, there is little information publicly available specifically addressing Luxembourg's compliance with this principle.

7. A method exists for the evaluation of procedures related to loans, investments and portfolio management.

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See Principle 6.

8. Policies, practices and procedures for evaluating the quality of assets and the adequacy of loan loss provisions and reserves.

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See Principle 6.

9. Prudential limits and management information system on concentration of exposure.

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See Principle 6.

10. Arm's length rule and monitoring for connected lending.

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See Principle 6.

11. Policies and procedures for country risk and transfer risk.

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See Principle 6.

12. Measuring and monitoring market risk. Limit and/or specific capital charge on market risk exposure.

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See Principle 6.

13. Comprehensive risk management processes.

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See Principle 6.

14. Adequate internal controls.

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See Principle 6.

15. Strict "know-your-customer" rules and high ethical and professional standards.

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In 2004 the IMF released its assessment on Luxembourg's compliance with the Financial Action Task Force (FATF) AML/CFT Recommendations. Accordingly, Luxembourg is broadly compliant with almost all of the FATF's recommendations. However, this assessment was based on the 2002 methodology for assessing compliance with the FATF recommendations. In 2004, the FATF released a revised methodology to assess compliance with its recommendations. Since, there has been no comprehensive assessment publicly available as to Luxembourg's compliance with these requirements. The 2004 IMF report notes that Luxembourg has a well developed supervisory framework that encompasses AML/CFT preventive measures broadly in line with international standards" (p. 7). Furthermore, the AML/CFT preventives measures are regulated under the AML law, and the CSSF conducts regular and detailed onsite inspections of banks in this area. Per the same report, banks are required to establish adequate internal control procedures for AML/CFT and to submit a copy of the procedures manual to the CSSF on an updated basis. However, the 2004 IMF assessment reported that important weaknesses were identified in procedure and implementation, and that remedial actions were needed. A 2007 International Narcotics Control Strategy Report by the U.S. Department of State does indicate that Luxembourg had a lead role in the drafting of the Third EU Money Laundering Directive, which contains the requirement for all EU member states to implement the FATF's recommendations. However, there is little subsequent information publicly available as to whether Luxembourg adopted the Third EU Money Laundering Directive into legislation. Luxembourg has a Financial Intelligence Unit, which is under the supervision and operation of the Prosecutor's office, and AML/CFT activities are criminalized under the 2004 AML/CFT Law. Despite the above information, there is little information publicly available pertaining to Luxembourg's actual compliance with this principle.

16. Effective supervisory system consisting of on-site and off-site supervision.

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According to the IMF's 2002 assessment, the CSSF is given powers under the 1993 FSL to require all information needed to conduct both on-site and off-site supervision. Nonetheless, there is little information publicly available directly addressing Luxembourg's compliance with this principle.

17. Regular contact with bank management and understanding of bank's operations.

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As stated in the IMF's 2002 assessment, there was a lack of regular dialogue between the CSSF, the auditors and the banks. The IMF report recommended convening tripartite meetings more frequently to discuss and analyze report findings. Nonetheless, there is little information publicly available directly addressing Luxembourg's compliance with this principle.

18. Analytical reports and statistical returns on solo and consolidated basis.

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There is insufficient information publicly available addressing Luxembourg's compliance with this principle.

19. Independent validation of supervisory information through on-site examination or external auditors.

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The 2002 IMF report notes that although Luxembourg relies heavily on the use of external auditors for on-site supervision, this has not resulted in any apparent cases of conflict of interest. Per the same report, the CSSF works closely with external auditors, which "provide independent verification on corporate governance (including risk management and internal control systems), and validate supervisory information" (p. 36). Under the 1993 FSL, banks are subject to an annual audit by one or more external auditors, and the CSSF is required to check the competence of auditors and, if needed, remove them from their functions. Nonetheless, there is little information publicly available directly addressing Luxembourg's compliance with this principle.

20. Ability to supervise on a consolidated basis.

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According to the IMF's 2002 assessment, "the CSSF imposes prudential requirements on a consolidated and individual basis for the banking group and subsidiaries" (p. 38). However, the IMF assessment does not directly address Luxembourg's compliance with this principle.

21. Consistent accounting policies and practices that provide a true and fair view of the financial condition of the bank.

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As stated in the IMF's 2002 assessment, banks were required "to produce annual audited financial statements based on accounting principles and audited in accordance with internationally accepted audit practices and standards" (p. 37). The IMF report encouraged the CSSF to review its relations with external auditors, and organize period review meetings with them regarding their long-form reports.

As of 2005, according to the May 2007 update available from the Deloitte & Touche IAS Plus website, Luxembourg companies listed on an EU/European Economic Area stock exchange, including banks and insurance companies, are required to comply with International Financial Reporting Standards (IFRSs) as adopted by the EU. Deloitte & Touche further note that the IFRSs "will be introduced into the local Luxembourg commercial law as an alternative to the current Luxembourg accounting principles." However, there is insufficient information publicly available regarding Luxembourg's compliance with this Principle subsequent to these changes.

22. Adequate supervisory measures to ensure timely corrective action.

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According to the IMF's 2002 assesssment, the CSSF "has an adequate range of informal and formal corrective measures" (p. 37) that it can impose against supervised institutions and individuals. The CSSF collaborates with bank management in applying informal measures, including additional reporting requirements and special audits, to improve the financial position of the bank. The IMF report notes that failure to comply with the required legal, regulatory, or statutory provisions can result in the potential suspension of the board or even the banking business if institutions do not make timely corrections. In addition, the CSSF has the authority to review the qualifications of the auditors, and, if needed, remove them from their functions. However, there is little information publicly available specifically addressing Luxembourg's compliance with this principle.

23. Banking supervisors must practice global consolidated supervision over their internationally-active banking organizations.

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The 2002 IMF report notes that "there appear to be no impediments to direct or indirect supervision of all affiliates and subsidiaries of banking groups foreign or domestic" (p. 38). However, there is little information publicly available specifically addressing Luxembourg's compliance with this principle.

24. International exchange of information with other supervisors.

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As noted in the IMF's 2002 assessment, the CSSF holds regular bilateral meetings with home country supervisors, including Belgium, France, Germany, Switzerland, Ireland, the Netherlands, the United Kingdom, Italy, Denmark, Sweden, Norway, and Finland to exchange prudential information on supervised banks active in both countries. Furthermore, the CSSF has concluded a trilateral Memorandum of Understanding (MoU) with foreign supervisors with respect to the larger financial groups. Although the CSSF does not have MoUs with the supervisory authorities of countries such as the United States, Brazil, Hong Kong, Singapore, and Japan, it maintains regular contacts with them. At the time of the assessment, Luxembourg had signed 12 MoUs with foreign supervisory authorities that set out principles for cooperation and information sharing regarding prudential supervision. Per the same report, MoUs with Poland and Turkey were still pending. Despite the above descriptive information, there is little information publicly available directly addressing Luxembourg's compliance with this principle.

25. Supervision of local operation of foreign banks and information sharing with home country supervisors.

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The 2002 IMF report notes that "there appear to be no impediments to direct or indirect supervision of all affiliates and subsidiaries of banking groups foreign or domestic" (p. 38). However, there is little information publicly available specifically addressing Luxembourg's compliance with this principle.