Here the American flag flies higher the lower the dollar sinks. In the spacious showroom of General Motors' largest Belgian dealer, the stars-and-stripes flutters ironically over bill-boards proclaiming that the dollars fall has now put luxury American cars within the reach of even modest European budgets.

"Because of the dollar's drop, you can now buy a magnificent American luxury model from GM on really advantageous terms," boasts the showroom ad. Bad news for the dollar could not, in fact, be better for the European market potential of the Detroit automobile industry.

The influx into Europe of dollar-cheapened American models has dramatically underscored the parlous competitive state of the car industry in the nine countries which make up the European Economic Community, and its growing vulnerability to imports from the USA and Japan.

And these problems are likely to aggravate. In the future "competition will get more fierce," predicted Viscount Etienne Davignon, the EEC's top industrial strategist, in a speech last week to British automobile manufacturers, adding the warning that "the survival of the EEC car industry depends on your will to succeed."

A major challenge to these survival prospects is "the unique industrial strategy" of the U.S. said Davignon, especially as it affects the market for compacts Europe's traditional niche in the international automobile market. "Between now and 1985 American plans to invest more than $70 billion on down-sizing alone," warned the Common Market's industry policy chief, alluding to Detroit's massive investment program for small cars triggered by higher energy costs.

But the Common Market's response to this "American challenge," as it is termed here, is unlikely to be protectionist. "Shutting the doors of the European Community would be both dangerous and stupid", claims Davignon, only too aware of the contribution to EEC employment of firms like Ford, whose subsidiaries here provide work for some 130,000 Europeans.

Instead, EEC policy-makers appear to want concentration of European manufacturing potential in fewer hadns. "U.S. companies have shown that industrial concentration offers numerous advantages" they point out. So they feel that development like this summer's take-over of Chrisler's European operations by Peugeot-Citroen, a major French motor manufacturer, are "highly desirable."

But Europe's strategic response to the parallel threat posed by the flood of Japanese cars into the Common Market could well be harsher.

Unlike the massive job-creating investments made in Europe by Ford and GM, leading Japanese compainies simply export direct from home-base. The situation is acutely worrying to those seeking in an industry providing 5 million European jobs. "The major reason for our concern," says Davignon, "is that for one European car sold on the Japanese market in 1977, 24 Japanese cars were sold on the European market."

Faced with this challenge, European subsidiaries of American motor industry and EEC companies have a common interest to defend, it is suggested here in well-informed policy circles. Japan's annual production of private cars, which has grown "at a vertiginous rate," they say, has now reached 5 million, or as much as 50 percent of the combined output of automobiles in all nine common market countries, including those manufactured here by GM and Ford.

Some EEC countries, notably Britain, already have responded to this burgeoning threat by slapping on import ceilings on Japanese cars. But another possibility under discussion at EEC headquarters, where earlier this year senior executives from Ford and GM have met with Davignon, is negotiating new international trade rules which would allow safeguard action against unfairly competitive exporters. Such rules could be used "to take action against cheaters and not penalize everyone," said Davignon recently.