Chavista Guisonomics 101, part I: Why the Government never loses money with Argentinean bonds

June 19, 2008

The word guiso in Spanish means stew and is used as
slang  for those fraudulent transactions or deals that take place whenever
two or more parties find a way to fix things in such a way that they can make a
lot of money.

In the Chavez revolution, Guisonomics has truly become a
science thanks to the wonders and arbitrage provided by foreign exchange
controls. Simply put, the fact that the Government has access to or decides who
has access to foreign currency, allows it to generate huge amounts of profits
from the artificial arbitrage between the official and the parallel swap
exchange rate.

In fact, hiding behind the exchange controls, corrupt
Government officials can obtain illegal profits in magnitudes never seen before
in Venezuelas history of corruption. Sometimes, there is not even enrichment
involved, just the ability to use creative accounting and the artificiality
of the exchange rate to help the revolution and/or its friends without most
people noticing or even realizing what is going on.

In this first installment of Guisonomics 101, I will
describe the simplest transaction there is, in order to prepare you for some
transactions that I expect will be in the news in the next few days.

If you have been following the news lately fo example, Argentinean
bonds have
been dropping like a stone
in the last few days as the conflict between the
Kirchner Government and the farmers has intensified. In fact, talk of a second
Argentinean default in this decade have also
intensified
as that countrys debt levels reach historical highs once
again.

But if you have been following the news, it has been Chavez
and Venezuela that have been saving the day for Argentina buying close to US$
6.5 billion in the last three years of the countrys debt.

Only three weeks ago, Venezuela bought about US$ 1.4 billion
of that countrys bonds the so called Boden issue, of which between US$ 400 to US$ 600 million has
been sold by the Government in order to lower the parallel swap rate. Thus, there is about US$ 800 million left and their prices have been dropping.

But, you may wonder, has Venezuela lost money because these
bonds have dropped in the international markets?

The answer is no, because thanks to some of the elemental
principles of Chavista Guisonomics, for the Venezuelan Government it is very
difficult, if not impossible,  to lose money in
these transactions.

Say what?

This almost magical trick is possible, because
accounting-wise, for the Government all Bolivars are valued at Bs. 2.15 to the
US$, while it can manage to sell dollars at a much higher rate in the swap market.

Lets look at an
example:

Suppose the Government buys one million dollars of
Argentienan bonds. From an accounting point of view, only the exchange of
Bolivars is registered, thus, the US$ 1 million cost Bs. 2.15 million.

Let us assume, that the Venezuelan Government bought the
bonds at a price of 100% and that they drop 20 points to 80%. (These prices are
faked for illustration purposes). How can the Venezuelan Government make money
if they have dropped so much?

Easy. It can sell these bonds to a local bank at 110% of its
value, but at the official rate of exchange of Bs. 2.15 per US$. Thus, the Government bought the bonds
at 100% and sold them at 110% for a tidy 10% profit of 215,000 Bolivars, even as the
bonds dropped in price.

But why would the local bank buy them? Also easy. The local
bank paid 110% for them at the official rate of exchange or Bs. 2.365 million
(1.1×2.15).

But then it turns around and sells the bonds at 80% of their
value in the international markets. Thus, it receives US$ 800,000 for them.
Thus, the local bank paid in the end Bs. 2.956 (Bs. 2.365 million divided by US$ 800,000) for each dollar
it receives.

But since the swap rate is somewhere between Bs. 3.4 and 3.5
per US$, the local bank makes roughly half a Bolivar per dollar or 16.9% profit
in the sale of those US$800,000 to the swap market.

Thus, the Government makes money, the bank makes money and
there is indeed such a thing as a free lunch in Chavista Guisonomics.

Or is there?

More in Part II

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