Devaluing from Afar

Hugo Chavez hasn't been heard from for a while. To be precise, he hasn't been heard from since December 11, when he underwent surgery in Cuba. However, he apparently still directs economic policy from his sickbed.

His most recent action was to make Venezuela the latest entrant in the 'currency war' by devaluing the official exchange rate of the Bolivar by 32%. Venezuela's inflation rate is at about 22%, and the new Bolivar exchange rate of 6.3 to the US dollar still has a long way to go until it reaches the black market rate of 19.53.

The main reason for the – quite unpopular – official devaluation appears to be the country's growing budget deficit. Venezuela's government mostly lives off the country's oil revenues. Ever since Chavez replaced the former management of the state-owned oil company with his cronies and confiscated the oil assets owned by foreign companies, oil production has been in free-fall, but oil sales still provide the biggest chunk of government revenue even so. By devaluing the Bolivar by 32%, the dollar revenue from crude oil sales will increase commensurately in Bolivar terms. Presto, budget deficit problem solved.


Chavez uses the budget to distribute various goodies to voters, a very successful strategy so far. The last election seems to have strained the budget  quite a bit though. Devaluations are unpopular because they mean that things consumers like to buy (such as TVs) will cost a lot more henceforth.

On the other hand, there was actually a shortage of such goods anyway, as the  government had begun to ration foreign exchange. Moreover, since both the old and the new exchange rate are unrealistic, more devaluations are likely to follow later this year.



Bloomberg reports:

“Venezuela devalued its currency for the fifth time in nine years, a move that may undermine support for ailing President Hugo Chavez and his allies ahead of possible elections later this year.

South America’s biggest oil producer may have to call elections if Chavez, who hasn’t been seen for two months after undergoing cancer surgery in Cuba, dies or steps down. He ordered his government to weaken the exchange rate by 32 percent to 6.3 bolivars per dollar starting Feb. 13, Finance Minister Jorge Giordani told reporters yesterday in Caracas.

A spending spree that almost tripled the fiscal deficit last year helped Chavez, 58, win a third six-year term. The devaluation can help narrow the budget deficit by increasing the amount of bolivars the government receives from oil exports. Yet the move also threatens to accelerate annual inflation that reached 22 percent in January.


“While a weaker currency may stoke inflation, it may also ease shortages of goods ranging from toilet paper to cars because the government was restraining the supply of dollars it allocated to the private sector as it waited for a more favorable rate”, said Francisco Rodriguez, a Latin America economist at Bank of America Corp. in New York.

“Any tackling of the massive economic distortions, even if far more is required, is positively viewed by markets,” Kathryn Rooney Vera, a strategist at Bulltick Capital Markets, said in an interview from Miami. “We expected more, and more is indeed needed to correct fiscal imbalances and adjust economic distortions, but this is something and there may be more to come.”

The weaker exchange rate will give the central government an additional 84.5 billion bolivars ($13.4 billion) in revenue, mostly from oil sales done in dollars, according to Caracas- based research company Ecoanalitica.


Chavez last devalued in December 2010 when he weakened an exchange rate on so-called essential goods by 40 percent, unifying the two fixed foreign exchange rates it had at the time. In January 2010, he had created a multi-tier exchange system in an attempt to spur non-oil exports and curb the consumption of luxury imports. The move prompted Venezuelan consumers to rush to buy appliances including flat-screen televisions before prices were adjusted.

While Bank of America’s Rodriguez estimates that devaluing the currency will reduce the government’s budget deficit by half, he said the government will have to take further measures within the next year.

“It gets them through their most urgent problem which is to generate more bolivars to finance the current spending flow,” Rodriguez said. “This is a move that will turn out to be temporary. They will have to devalue again by the end of the year.”


(emphasis added)

An inflation rate of 22% p.a. usually doesn't just drop from the sky. It sounds as though the Bolivar printing press has been kept quite busy. Quite possibly the budget deficit was in part financed by the central bank.


Food Shortages

Let's consider those shortages for a moment though. “Ranging from toilet paper to cars”? Does Venezuela not even produce toilet paper? We somehow doubt it. However, there have been scattered reports about shortages of food and many other non-durable staple items of daily consumption in Caracas over a number of years.

The main reason for these shortages is simply that the economic policies imposed by Venezuela's government don't work. For instance, similar to what Argentina has recently done, Venezuela has tried to stymie inflation by imposing price controls on food and other items. This has driven many small businessmen to the wall – small butchers, bakers and the like had to close up shop, as the government-imposed maximum prices no longer covered their costs. Shortages of the items concerned are the inevitable result. No doubt the  distorted exchange rate and the rationing of dollars also play a role – see for instance this recent report on food shortages in Caracas

However, such reports already made the rounds in 2007, 2009 and 2011, well before the recent rationing of dollars began. Here is for instance an excerpt from a 2007 article (this was when oil prices had just rallied to all time highs, mind). It correctly blames the price controls for the shortages:

“Welcome to Venezuela, a booming economy with a difference. Food shortages are plaguing the country at the same time that oil revenues are driving a spending splurge on imported luxury goods, prompting criticism of President Hugo Chávez's socialist policies.

Milk has all but vanished from shops. Distraught mothers ask how they are supposed to feed their infants. Many cafes and restaurants serve only black coffee.

Families say eggs and sugar are also a memory. "The last time I had them was September," said Marisol Perez, 51, a housewife in Petare, a sprawling barrio in eastern Caracas.

When supplies do arrive long queues form instantly. Purchases are rationed and hands are stamped to prevent cheating. The sight of a milk truck reportedly prompted a near-riot last week.

Up to a quarter of staple food supplies have been disrupted, according to Datanalisis, a public opinion and economic research group. To Chávez's detractors the scarcity is evidence that his revolutionary "21st century socialism" is driving South America's oil power towards ruin.

Government price controls on staple foods are so low that producers cannot make a profit, they say, and farms and businesses hesitate to invest in crops or machinery, or stockpile inventories, for fear of expropriations.

"We've warned about this from the beginning – all of these price controls in the long run end up producing shortages," Ismael Perez, of the industry group Conindustria, told Reuters.”


(emphasis added)

Clearly, shortages of basic food items are nothing new for Venezuela. The devaluation from one unrealistic exchange rate to another, only slightly less unrealistic one, won't alter the fundamental problem. One wonders whether the looming ascendance to the throne of vice president Nicolas Maduro – Chavez' designated heir – will change anything. Probably not, considering that his slogan is “I am Chavez”.



chavez and maduro

Hugo Chavez and his heir designate, Nicolas Maduro: the two seem to have merged, as Maduro lately asserts: “I am Chavez”.

(Photo credit: Matilde Campodonico / AP)





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5 Responses to “Boli-Splat”

  • No6:

    Since socialism causes so much harm, why not a law against it, we have laws for everything else.

  • JasonEmery:

    roger said, “There will be more succumbing to this… the question is whether there will be a country that suddenly triggers global panic after succumbing to this kind of mayhem.”

    Yes, there will be more. Specifically, the USA, among others. The actual annual federal deficit for the fiscal year ending 09/30/2012 was $6.9 trillion, or 45% of gdp, using honest, GAAP accounting. So obviously, hyperinflation has already started here. The only question is when foreigners start parting with a portion of the trillions of liquid dollars floating around the world economy.

    It will not be very long. Certainly less than two years from now, but perhaps as little as two months.

    • roger:

      To be honest, for the kind of hyperinflation that Venezuela & Argentina are currently experiencing, I would look somewhere else first before the US. USD is the cornerstone of global trade & financial system. Basically if you’re expecting hyperinflation on USD, you’re expecting the world’s financial system to topple. Given the current policies, we will reach that point but it’s probably among the last, if not the very last, to happen among the major currencies. IMO, UK is more likely to reach that point first before the US.

      But what I’m really thinking of is one of the less major currencies…but consequential enough to set up a chain reaction/epidemic. What could it be?

      • JasonEmery:

        Net food importing countries are going to try to avoid high inflation at all costs, pun intended. In some cases this isn’t possible, but if there is a policy choice, it will be to avoid excessive currency collapse. Japan, for example, imports a lot of food and they will cannot tolerate the level of high food price inflation that is shrugged off here in the USA.

        So I would guess it will be a food exporting nation that leads the way. If I had to guess one or to nations, I’d say Brazil or maybe Argentina. Given their proximity to each other, maybe both together.

  • roger:

    Hyperinflation like this seems to become epidemic. Before the Venezuela news, Argentina announced price limits on supermarket goods. Egypt appears to be almost, if not already, at this stage. In some ways, it bears some similarities to the 1998 Asian crisis (one country after another succumbing to falling exchange rates), but there are major differences.

    There will be more succumbing to this… the question is whether there will be a country that suddenly triggers global panic after succumbing to this kind of mayhem.

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