Archive for October 8th, 2007
My contribution to the Constitutional Reform Discussion in Daniel’s blog:
The proposed Constitutional Reform includes three articles that have to
do with monetary policy, the Central Bank and international reserves,
so that it makes sense to discuss them all at the same time, as I will
do in this post. The Articles to be modified are 318, 320 and 321.
start with Art. 318, which has the most extensive modifications. So
extensive in fact, that it is not even worth looking at the original
article except to note that the current Constitution grants the Central
Bank “exclusive, obligatory and…autonomous” power over the country’s monetary policy.
In contrast, the new text as proposed for Art. 318 says:
318. The national monetary system has to tend to achieve the essential
goals of the Socialist State and the well being of the people, above
any other consideration.
Executive Branch and the Venezuela Central Bank, in strict and
obligatory coordination, will fix monetary policy and will exercise the
monetary competence of the National Power.
specific objective of the Venezuelan Central Bank, jointly with the
Executive Branch, is to attain price stability and preserve the
internal and external value of the monetary unit. The monetary unit of
the Bolivarian Republic of Venezuela is the Bolivar. In the case that a
currency is established in the framework of Latin American and
Caribbean integration, that currency that is the subject of treaties
subscribed by the Republic can be adopted
Venezuelan Central bank is public law entity without autonomy for the
formulation and exercising of the corresponding policies and its
functions will be subordinated to the general economic policy and the
National Development Plan to reach the superior objectives of the
Socialist State and the greatest sum of happiness for all of the people.
the adequate fulfilling of its specific objectives, the Central Bank of
Venezuela will have among its functions, shared with the National
Executive Power, those of participating in the formulation and
execution of monetary policy, in the design and execution of foreign
exchange policy, in the regulation of the coinage, credit and fixing
Since they are so closely related (and maybe even repetitive), I will also list Articles 320 and 321, underlining what is new:
320 The state shall promote and defend economic stability, avoid the
vulnerability of the economy and watch out for monetary and price
stability of the economy, to insure social well-being. Equally, it will
watch out for harmony in fiscal and monetary policy for the achievement
of macroeconomic objectives (Two whole paragraphs disappear)
the framework of his function as administrator of international
reserves, the Head of State will establish, in coordination with the
Venezuelan Central Bank and at the end of each year, the level of
necessary reserves for the national economy, as well as the amount of
the excess reserves, which will be destined to the funds earmarked by
the national Executive Branch for productive investment, development
and infrastructure, financing of the “misiones” and overall, in the integral, endogenous, humanist and socialist development. (The FIEM,
the macroeconomic stabilization Fund disappears)
first consequence of the proposed reform is that as I mentioned before,
the Venezuelan Central Bank will no longer be independent.
What that does mean?
are roughly two ways of establishing monetary policy: You either have a
Central Bank, like most countries do or you have a Currency Board,
which is rare. In the Currency Board model, like Hong Kong, the
currency in circulation exactly matches the reserves of the country.
money is “backed” by the reserves, which may include gold, monetary
instruments and investments. In the Central Bank model, you have a
group of people who establish the policies to intervene in the
monetary, currency and interest rate markets.
Central Banks are
usually independent. That is, while the Government has representatives
on the Board of the Central Bank, they function independently and can
make independent decisions. The reason for this is that economic
studies have proven that when Central Banks are not independent, the
short-term political goals become a priority over the stability of the
currency and prices. Thus, most countries have found this to be the
optimum, if not perfect solution. As an example, if an election is
coming up, the Government may not care if it spends too much, because
it makes people feel that things are going well, but in the long run
this creates inflation.
Thus, the first negative aspect of the
reform is that the Venezuelan Central Bank will no longer be autonomous
or independent, but will have to reach all decisions jointly with the
Executive branch, allowing politics to get in the way. Of course, this
has already happened, since all member of the Board of the Venezuelan
Central Bank have by now been named by Hugo Chavez, the Central Bank
has not even complained about this change in the Constitution and
policy has become less and less independent in the last few years.
the last few years, economists in the Central Bank have resisted some
of Chavez’ policies and forcing the Central Bank to implement them, but
in most cases Chavez has gotten his way in the end.
the end, the policies set by the Venezuelan Central bank have not been
that great or independent in the last few years. Despite the mandate by
the Venezuelan Constitution to maintain price and currency stability,
the Venezuelan currency has devalued from Bs. 573.25 the day before
Chavez took office to Bs. 2,150 (official rate) or Bs. 5,600 (parallel
rate). Why? Because monetary policy has been out of control as the
amount of Bolivars in circulation has gone from US$ 5.5 billion to US$ 62.5 billion, a factor of 12, while in the same period international reserves have only doubled
[editor's emphasis]. That is why the currency continues to drop, to
devalue constantly. In some sense, Articles 318 and 320 are repetitive,
since some of the goals outlined in them are exactly the same, the goal
of price and monetary stability and harmony, which is already mentioned
in Article 320. This shows in part the level of improvisation in
writing the proposed reforms.
Thus, up to a point, the changes
in Article 318 and 321, simply formalize and institutionalize the
policies that have been carried out in the last few years, which will
simply allow the Government to do what it needs for political reasons,
which economic studies have precisely shown does not work in the medium
and long term.
These three articles also prove that the proposed
reform of the Constitution violates the procedure for changing it,
since in these articles everything is secondary to the aims and goals
of establishing a Socialist State, something Venezuelans have never
voted on. This should require a Constituent Assembly, as Art. 342
specifically says that a Constitutional reform can only be done when
the fundamentals and structure of the Constitution are not changed.
What could be more fundamental that restricting the country to being a
We could also say that Art. 321 could also have
been included in either Article 318 or 320. Essentially it incorporates
into the Constitution the concept of “excess” international reserves.
This concept “invented” by our current Minister of Finance Rodrigo
Cabezas, says that once a year the Government will “determine” what is
the optimum level of international reserves and any “excess” will be
taken away from the Venezuelan Central Bank and given to funds for
investment, development and infrastructure. This concept has no
economic basis and sealed the progressive devaluation of the currency
when it was first implemented. If it was absurd to make it into a law,
like it was in 2004, it is simply irresponsible to incorporate this
level of detail and precision into the Venezuelan Constitution.
this simply institutionalizes what the Government has been doing in the
last few years. For three years in a row, the Government has withdrawn
these supposed “excess” reserves and given them to Fonden, which by the
way has not really fulfilled its mandate to invest those funds in
infrastructure and development.
Additionally, the Macroeconomic
Stabilization Fund disappears from the Constitution. That fund, if well
managed, could represent the best option for the country to avoid the
boom and bust cycles of oil prices, which will certainly repeat one day.
conclusion, the changes to Art. 318, 320 and 321 of the Constitution,
formally remove the independence of the Central Bank which has been
somewhat questionable in the last few years anyway and place monetary
policy right in the hands of Hugo Chavez. This is exactly the opposite
of what economic theory suggests a country should do, it subordinates
monetary policy to social and political goals, and bodes badly for the
future of inflation and the currency in Venezuela, as even valid
structures to dampen the effect of oil fluctuations are eliminated.