Dec. 22 (Bloomberg) -- For six decades, Andorra prospered by catering to skiers, smokers and wealthy people trying to avoid taxes. With those revenues drying up, the mountain principality between France and Spain is now putting itself up for sale.

The government is opening up investment in resorts and other businesses to foreigners for the first time in seven centuries to plug a budget deficit that was financed by loans from Andorra’s five commercial banks until rising defaults curbed lending.

“Everyone’s talking of the global crisis, but this is purely an Andorran crisis,” said Jean-Christophe Queyroux, general manager at Pyrenees SA, Andorra’s largest retailer. “We’ve been living very expensive lives, had the best of everything, and now it’s time to pay the bills.”

Andorra’s 83,000 people occupy a Pyrenees mountains region that’s less than a fifth of the size of Rhode Island. They rely on revenue from about 10 million visitors a year for more than two-thirds of their $4.1 billion economy, less than half the size of Malta’s, the smallest state in the European Union.

As tourist numbers dwindle and clients pull money from Andorra’s banks amid tax-evasion probes by the U.S. and other governments, the state is facing its first recession in at least half a century, said Albert Pintat, Andorra’s prime minister.

Along with Monaco and Liechtenstein, the country is classified as one of three global “uncooperative tax havens” by the Paris-based Organization for Economic Cooperation and Development. After Liechtenstein formally agreed to share tax information with the U.S. this month, Andorra is under pressure to crack down on people trying to hide assets.

Image Shift

“We need to change the image the world has of us from tax haven to investment haven,” said Pintat, 65, in his office, which boasts a view of rocky peaks surrounding the capital, Andorra la Vella. “For a long time we’ve been closed off to the outside world. Now we need to open up.”

With the slowdown threatening state spending on schools and medical centers, Pintat on Nov. 7 pushed through legislation to ease seven centuries of restrictions on outside cash.

Foreigners, previously restricted to owning no more than a third of any Andorran company, can now hold up to 49 percent in its main industries, including luxury-clothing retailers, real- estate developers and ski resorts.

They will be able to own 100 percent of companies in 200 industries the government wants to develop, such as research firms and Internet commerce. Pintat said the government aims to remove all foreign-investments restrictions within six years.

‘Key Moment’

More than 40 companies from the U.S., Israel, Italy, the U.K., France and Spain inquired about investing in Andorra’s media, information technology and energy industries in the two weeks after the law change, according to the country’s Office for Business Innovation.

“This is a key moment for us,” said Xavier Altimir, president of a group representing about 400 of the country’s businesses. “My members are complaining that banks have shut off the tap to new business loans.”

That has prompted a shift in how businesses view outside investors.

“People have to stop seeing the outside world as a threat,” Altimir said. “We don’t have the economic clout to survive on our own. We’re a tiny village in a global economy.”

Andorra is an independent state, though French President Nicolas Sarkozy and Joan Enric Vives Sicilia, bishop of the small Catalan town of La Seu d’Urgell near Andorra’s southern border, share the role as official head of state.

Winter Resort

Once isolated and poor, the collection of valleys and snow- capped peaks has thrived since World War II because of its location as a winter resort and lack of an income tax. Gross domestic product per capita was about $50,000 this year, according to data from Standard & Poor’s. The EU average is about $35,800, based on figures from Eurostat.

The main shopping street in Andorra la Vella boasts electronics stores selling discount digital cameras, laptops and MP3 players. The road through the narrow valley leading to the capital is lined with malls owned by Pyrenees, which sells cut- rate perfume, clothes, sunglasses and cigarettes. Andorra’s tobacco prices once made it a favorite stop for smugglers.

Three-quarters of government revenue comes from taxes levied on such consumer goods, and Pyrenees’s Queyroux predicts a “tough season,” with sales dropping as much as 20 percent this winter.

Andorra provides free education and health care, and state spending on those services and public works projects doubled between 2003 and 2005.

‘Deeply Anxious’

In August, S&P cut Andorra’s long-term credit rating to AA- from AA, citing Andorra’s “narrow focus” on tourism and the “sharp rise” in state spending.

The country’s privately owned banks traditionally have loaned the state money to finance spending. Now, with defaults rising, “there isn’t as much room for the banks to lend to the government,” said Antoni Armengol, director general at the Andorran Banking Association. “With things as they are right now, banks have to be more careful.”

“People are feeling deeply anxious,” Pintat added. “We just aren’t diversified enough. We’re dependent on tourists coming in, and we’re dependent on snow.”

To contact the reporter on this story: Gareth Gore in Madrid ggore1@bloomberg.net

Last Updated: December 21, 2008 18:05 EST