Liechtenstein fights back as market conditions threaten Europe

Volatile market conditions in parts of Europe and beyond are posing challenges to Liechtenstein’s financial industry. The principality must adapt its focus to keep up with the changing demands

Liechtenstein Castle
Liechtenstein Castle, home of the Princes of Liechtenstein, in Vaduz. The country's financial industry is in the middle of a transformation process, which is not without its difficulties 

European financial markets became more relaxed in 2013 and the European economy was able to stage a recovery in the second half of the year. Liechtenstein’s financial sector was one of the beneficiaries. However, the risks faced by the financial system are still high – partly because of the continuing low interest environment and partly because European banks still need to hold a lot of capital, while government debt has not come down noticeably.

Tensions on the financial market have intensified again in 2014. Capital outflows from emerging markets, the crisis in the Ukraine and fighting in the Middle East have led to greater volatility on the markets and caused share prices to fall.

As all this is happening, Liechtenstein’s financial industry finds itself in the middle of a challenging transformation process. This process relates in part to the trend towards automatic exchange of information in tax matters and tax compliance for new business. Thanks to Liechtenstein’s excellent operating conditions, high degree of legal certainty, absence of government debt, modern and competitive tax law and attractive tools for asset structuring, the financial industry continues to play a major role in the country’s economy.

In 2013, Liechtenstein’s banks recorded a net inflow of new money, though persistently low interest rates are reducing earnings power. Customer assets managed by funds and asset management companies have also grown. These institutions have benefited from the rise in securities prices, while life insurance premiums have fallen.

The transformation process
Liechtenstein’s financial market is tightly connected with the rest of the world, so any crisis on the international markets quickly affects the principality. The next package of reforms should, therefore, ensure that banks are protected as much as possible from any crises. There are four sets of measures required: the first concerns prevention through high capital adequacy ratios, the second covers protective measures such as early intervention, the third concentrates on rescuing a bank’s system-relevant functions and the fourth concerns the bankruptcy process and bank liquidation.

Cooperation and transparency are increasingly important for market access and combatting abuse

It should be noted, however, that Liechtenstein’s banks already have very high capital adequacy ratios and have never had to call on state support.

Meanwhile, the transformation process continues. Cooperation and transparency are increasingly important for market access and combatting abuse. In November 2013, Liechtenstein set out its position on the future international standard for automatic exchange of information on tax matters. The main condition is that constitutional procedures and protection of confidentiality have to be guaranteed and thus that any information provided is used exclusively to clarify tax affairs. There are some key questions relating to automatic information exchange: what are the exact conditions for establishing tax compliance? How will constitutionality and data security be guaranteed in any bilateral agreement? Which data will be exchanged?

International standards have been established, but they still leave room for manoeuvre in actual implementation. Using this room strategically will play an important role in giving clients confidence in the Liechtenstein financial centre.

Securing market access
International cooperation goes beyond tax, however. Cooperation on financial market supervision, for example, has become crucial for market access.

Securing market access remains a challenge for the Liechtenstein financial sector, as can be seen from the temporary refusal to allow Europe-wide cross-border management and the sale of alternative funds from Liechtenstein. This regulatory blockage has been caused by constitutional problems that Norway and Iceland have had with the adoption of the EU ruling on the three European regulatory authorities in the European Economic Area. So even though Liechtenstein has put the legal conditions in place, it cannot yet reap the benefits.

As well as smart implementation of the regulations, the expansion of the network of double taxation agreements and a debate about developments in future years are vital to the future success of the financial centre.

One of the main topics for the future is the digitalisation of the financial world. The way information technology has changed our lives and work represents one of the most important social transformations in human history. The financial services sector wasn’t the only one to be taken unawares by the speed and depth of the digital revolution. Digitalisation calls into question many aspects of the relationship between clients and their financial institutions. It has also changed the entire working environment for financial companies.

Round the clock availability of services and more intense dialogue are central elements in the new relationship with clients. Questions of data protection and privacy have to be viewed through the new prism of the digital world. It is becoming extremely difficult to ensure total privacy, so it will become much more important to clarify with customers exactly which areas should be covered by enhanced protection and how this protection can be guaranteed. The interaction between legislation and the financial industry is crucial here. If it is used actively in the interests of clients, new opportunities will arise for Liechtenstein as a financial centre.