Chavez’ original sin: Taking out funds from international reserves

May 16, 2010

The Venezuelan economy has been unraveling. Last year growth was -3.3% of GDP while official inflation was close to 26%. The Government was forced to issue US$ 12 billion in new dollar denominated debt in the last five months of the year and as the New Year began was forced to devalue, creating two rates, thinking that would take care of some problems. Instead, this introduced new distortions in the economy, as there was now a new level of discretion at CADIVI, which concentrated approvals at the lower rate of Bs. 2.6 per US$. This led importers and manufacturers to the swap market, which rose all year for the simple reason that demand (from importers and capital flight) simply outstripped the supply which was provided largely by the Government. (Nobody investigates this part!)

But these are just the consequences of what began way back when Hugo Chavez decided to take out “a millardito” (a little billion) out of international reserves, while allowing the Central Bank to print money in order to promote consumption. That was Chavez’ original sin and it is coming back to haunt him. Since then, Chavez took out US$ 60 billion in reserves,while increasing monetary liquidity by a factor of almost eight, while international reserves have barely increased from US$ 20.6 billion to US$ 27 billion, a scant 31%, versus the 800% increase in the amount of Bolivars in the Venezuelan economy (M2).

Since nobody trusts the Bolivar, everyone (including Chavez) wants some of those dollars at the Central Bank and allowing Chavez to take international reserves simply debased the Venezuelan currency.And you can see the folly on it, the 2003 exchange controls were established to control who you gave dollars to in order to protect reserves. In January of this year two rates were created to give preferential treatment to “political” goods: Food, medicines and, of course, Government expenses, once again in order to protect reserves. The first control did not work, the second one did not either. The solution? Start a third controlled rate, try to move the parallel market to BCV to once again establish who should and/or not get the foreign currency. How can it work? Experience shows these schemes never work.

The problem is that controls are always very inefficient, as the failure of CADIVI shows, it owes billions of dollars  to importers and the Central Bank has very limited resources to provide to this market what it needs unless, of course, it supplies this market more than it supplies CADIVI, a sort of masked devaluation, but I don’t think this is what they have in mind.

Why didn’t this happen earlier? Well, it did, but in slow motion because the sharp increase in oil prices covered the mistakes. Higher oil revenues gave the Government funds to keep the rate somewhat  in check, which was accompanied by issuing of debt to allow capital flight via Government and PDVSA bonds. But the rate always rose after the Government “intervened” with bonds and directly.

Like all crisis, you could see it was coming, but you did not know when it would explode, as it seems to be doing now. There has been no growth for over a year and inflation is accelerating very fast. It is stagflation at its best. And the solution chosen by the Government, to restrict the market rate that gave fluidity to the economy, will affect negatively both the “stag” and the “flation” side of the equation.

Because, to begin with, we will spend ten days to two weeks without a parallel market of any form, this slows down the economy. This will also result in some scarcity of products for companies that can not either import or manufacture because one component is missing. This adds to inflation, because it pressures prices up. Thus, both the “stag” and the “flation” will go up. To top it all off, there will be the repressed demand of two weeks without a market, which will certainly add to the “stag” side of things.

Once this new market at the Central Bank is formalized, not everyone will get dollars at these sales. If you are not one of the lucky few, or you don’t get the amount you need, you have to decide: Either you stop doing business, less employment, less economic activity, more “stag” or you find some way to get your hands on dollars at a higher price, which increases the “flation” side of things.

All of this would have been avoided if the Central Bank had not given Chavez international reserves that the Bank and the country sorely need today. If US$ 10 billion of the US$ 60 billion taken by Chavez were available, the swap rate could have been brought down in an instant. But the Central Ban should just not sell dollars, it should act on both sides without people knowing which side it is taking, but “markets” is a dirty word in Chavista-land and does not exist in Giordani’s brain.

So, if there are not enough dollars, what can you do?

Exactly what Chavez refuses to do:

1) Increase the price of gas from the cheapest in the world (1.1 US$ cent per liter) to cost (still the cheapest of the world at 12.6 US$ cents per liter if the barrel costs $20 to produce). This yields US$ 4 billion in savings to PDVSA, which is financing it.

2) Create a single official currency that floats, the equilibrium would be below Bs. 6, if not lower.Or

3) Have a controlled rate and a “market” value in which the BCV participates either buying or selling.

Of course, the Government is not ready to do any of this.

The consequences in the near future will simply be more stagflation. The commerce sector is likely to be hit more than the manufacturing sector, as the Government gives priority to large corporations. But things like spare parts and non-essentials will become scarce at any price, going up in price and stalling the economy.

Meanwhile Chavez wants to convince the “people” that this is not his fault, this is the consequence of speculation/US mortgages/Greek Crisis/US Conspiracy. Unfortunately, few Venezuelans realize that oil is u, but inflation is almost non-existent in the underdeveloped or developed world. Despite the oil windfall, Chavez and his economic team have managed to screw up the economy so much that Venezuela is one of the few countries showing very high inflation and a contraction of the economy, as the world recovers and oil prices have increased.

In fact, a country like Venezuela that has such a precious commodity like oil should be like Australia, Canada or Brazil, enjoying a strong currency and growth. Except that in Venezuela we have had Chavez and his empty XXIst. Century Socialism.

(Note added: To those that like graphs,Henkel Garcia published today the graphs for M2 and international reserves in his Blog de Economia y Finanzas:

as you can see, reserves have been essentially flat since 2006, while M2 has increased four fold.

Henkel also plots the “implicit rate” that rate, which arises from dividing all the Bolivars (M2) by international reserves in the same period:


Obviously, creating Bolivars at will, while holding reserves constant is dangerous to your currency. You can think of it in two ways, either there are too many Bolivars chasing too few dollars or the Central Bank does not have the dollars to satisfy the demand for foreign currency. The only caveats is that I usually don’t take into account the FIEM dollars in reserves, because the Central Bank can’t use them, they belong to PDVSA and the Government.

49 Responses to “Chavez’ original sin: Taking out funds from international reserves”

  1. A_Antonio Says:

    Eric,

    I am trying to not harm more than necessary, because we all know that in Venezuela everybody that is not Chavizta and think different from Chavez is in risk, more if is us to write it.

    I use this blog to release my frustration for a country that I consider dead, because Chavez destroyed MY country that I born, grow up, get education and live and worked for several years, and I hate to leave it because I think different and all the doors were getting closed. My and my family left, because my parents can not received the proper sanitary attention.

    Believe me, I hate Chavez like I hate Hitler, Stalin, Mussolini, Adi Amin, Sadam Husein, Nero and Caligula. The problem with Chavez that is the living representation of their piers.

    But sometimes, living out side Venezuela, I think that is not justice to make comments against Chavez in a blog that it is not mine.

    That why I ask the owner of the blog what to do.

    I do not have the knowledge or the time to make my own blog.

    I expect that clear out my line of thinking (maybe path of thinking).

    PD: I also the blog to practice my English. :-)

  2. A_Antonio Says:

    Sorry, I mean: “…his piers.”

    And Eric, My family participated in “EL PARO PETROLERO” most of them loose their jobs, and have problems to get another in Venezuela, and some were near of their retirement, loose all the retirement payments.

  3. Luis G Says:

    This is a great post. I wish there was a spanish version, I know people who can’t read english that would find it useful.

  4. An Interested Observer Says:

    A_Antonio, I believe you meant “his peers.” One of those errors that neither a spellcheck or a soundcheck would catch.

    Eric, I think you are confusing Antonio with Arturo. After time away from the blog, I do too sometimes, at least at a glance. If you don’t assume the worst when reading comments that could be interpreted more than one way, you’ll probably be OK.

  5. olibaron Says:

    Socialism my *##
    With the new currency controls venezuela will certainly default. Due to the nationalizations and controls, production in venezuela came to a halt. So there already is a shortage of goods. The new law will make sure that the import of goods also will come to a halt because there already is a shortage of dollars. Anyone who read one page of a book about macroeconomics knows that the new law will only make things worse. So stagflation at its best..

    Killing the swapmarket basically means the government is now trying to obscure the dollar exchange rate because there isn’t a market mechanism behind it anymore.

    If you look at the credit default swap market http://www.markit.com/cds/cds-page.html one can see that the cost of securing bonds is even higher than Greece. Even worse, it is higher than argentina which still is suffering from its default. What this says is that it is basically to expensive for the venezuelan governement to lend money. To only thing they can do is sell oil reserves and this is the only thing which is keeping Venezuela from bankruptcy.

    Hopefully somebody will do something to get rid of this governement of monkeys.

  6. A_Antonio Says:

    You are right I confuse pier (muelle) with peers (equals)

    Also I should use the past of “loose”, lost.

    Like I said I am practicing my English here. Sorry.

    I understand Eric, I am also see Chavistas everywhere.

    But, I am agreeing with Eric, I do not have a strong character; I take it like a reasonable critic. Maybe that’s why we left Chavez take the power.

    Ok, no more comments until next post.

  7. KillChavez Says:

    “Evolution does not necessarily reward intelligence….. it began to simply reward those who reproduced the most, and left the intelligent to become an endangered specie.”

    “The years passed, mankind became stupider at a frightening rate. Some had high hopes the genetic engineering would correct this trend in evolution, but sadly the greatest minds and resources were focused on conquering hair loss and prolonging erections“

    “ IQ Test: If you have a bucket holding 5 gallons and another bucket holding 8 gallons, how many buckets do you have?”

    Memorable quotes for the movie IDIOCRACY

    Any resemblance with our reality is pure coincidence; (no doubt that Chavez resembles the most to President Camacho).

  8. RWG Says:

    I have a Ph.D. in Economics and find this discussion easy to follow. Unfortunately, I do not vote in Venezuela.

    This discussion has to be put into layman’s words that can influence voters in Venezuela. It needs to be shown that Chavez does not care for Venezuela. For example, consider these points that focus on Chavez hurting the poor-

    *Chavez is taking over private businesses and destroying jobs and production. The poor cannot find jobs. Everything will eventually need to be imported.
    *Chavez is causing inflation hurting the poor the most.
    *Chavez is spending billions of dollars on Russian military hardware, guns, submarines, boats, tanks, and fighter jets that are more likely to be used against the people of Venezuela than against a foreign invader. shouldn’t this money go to help the poor with housing, food, and education?
    *Corruption is stealing billions of dollars from the poor in Venezuela and Chavez and his family and cronies are the problem.
    *Crime is costing the nation billions of dollars that could be spent helping the poor.
    *Chavez follows the Cuban economic model in which everyone but the leader is impoverished. Chavez does not even hide that fact that he wants everyone poor.

  9. moses Says:

    We have a saying in spanish that says:

    “El sentido común es el menos común de los sentidos”

    Which you could translate in:

    “Common sense is the least common of the senses. ”

    Maybe the original saying is in english and was translated, I will leave that to the quote experts….

  10. Gerry Says:

    Statement: In Venezuela the sum of all the I.Q’s. is a constant.

    Comment: The population is increasing.


  11. [...] Chavez’ original sin: Taking out funds from international reserves [...]

  12. Roberto N Says:

    Too funny Gerry!

    Except it is apparently all too true.


  13. I am 100% sure the Venezuelan black market for US Dollars is already in operation in the country.

    Does anyone have the rate for today? It should be around 8.5 to 9.


  14. Chavez can maybe get some Venezuelan blogs to stop posting the parallel rate, but, I am sure it will become available on Twitter and Facebook. He can´t touch those sites.

    In both Angola in the 1990´s and Zimbabwe a year or so ago, the parallel rate was freely available in the economy: by word of mouth and all other available forms of communication – by radio in 1995.

  15. marc in calgary Says:

    Nicolaas Smith, as this is illegal in Venezuela, and this site is monitored by the Chavistas it would be better to seek it out for ourselves rather than advertise it here, and at least push the Chav’s to do their own homework… :)

    there are sites that say what the rate is, but the invite to see them has become necessary.

  16. Andres F Says:

    I believe the bond rate was about 8.4 today.

    Miguel O., will this rate reflect the new parallel rate, considering the new “restricted” market?


  17. Thank you. I must apologize for asking: I realized after some time of no response that it is most probably illegal.

    It was illegal in Zimbabwe too, but, everybody knew the rate every day and the government agents were some of the most active in the market.

    I´m sure it is the same in Venezuela.

    The worst that can happen to Venezuela is that the population will refuse to accept the VEB for payment for anything. That will happen only some time in the future. Not at the moment: hyperinflation is still too low.

    The difference between Zimbabwe and Venezuela is that Zimbabwe has no oil. It only has lots of precious metals and minerals and other items underneath Zimbabwean soil: it takes time and money to get them to the market.

    Venezuela is one of the top players in the oil market. So, things will be different in Venezuela.

    As the economic situation worsens, Chavez will most probably arrange a scheme to print more and more VEB. That can only mean one thing: hyperinflation will increase a lot.

    The devastating effects of hyperinflation on the whole economy can be avoided as follows:

    If Chavez is clever and follows the Brazilian example, he would

    1. Accept a single parallel (market driven) rate against the $

    2. Supply the country with a DAILY non-monetary index – basically the daily $ rate – that everyone would use to update ALL non-monetary items DAILY – or whenever there is a transaction or any accounting to be done.

    It has to be a single DAILY index rate, namely, the $ rate determined in the market.

    Everybody has to update ALL non-monetary items at this DAILY rate: issued capital, retained profits, debtors, creditors, provisions, all items in the profit and loss account, taxes payable, taxes receivable, royalties payable and receivable, dividens payable and receivable, all non-monery payables and receivables, salaries, wages, rents, transport costs, water prices, gas prices, electricity prices, etc.

    Exactly like Brazil did for 30 years from 1964 to 1994. The Brazilian government supplied the population with a DAILY index rate: basically the $ rate determined in the market.

    What will happen?

    Obviously exactly the same as in Brazil for 30 years: a stable non-monetary economy (ALL non-monetary items are updated DAILY) with hyperinflation only in the monetary economy: hold no VEB money or monetary loans and you lose no real value.

    And your economy can grow like Brazil´s economy grew under up to 2000% hyperinflation per annum.

    The stable and growing non-monetary economy will give you time to sort out the problems in the monetary economy – exactly like it was done in Brazil.

    Chavez should discuss this with Lula.


  18. The Chavistas who are monitoring this blog should pass the above information on to Chavez and the BCV.


  19. Any company can immediately start doing what Brazil did for 30 years by doing all its business and accounting at the parallel rate today.

    If ALL companies and entities in Venezuela start doing this as from today, they will save themselves as well as the whole of the Venezuelan economy without the intervention of Chavez or the government or BCV:

    They will save Venezueala from further economic ruin and they will save themselves too.

    Chavez and all Chavistas would be very happy with this plan based on Brazil´s 30 years of success under 2000% hyperinflation doing exactly what I described above.

    Chavez would be very happy if all companies did that. All Venezuelans would be very happy if all companies did that.

  20. Miguel Octavio Says:

    Nicholas, Chavez will never implement a plan which follows logic, he likes to control things. He is now up to three controlled exchange rates, the firs one did not work, so we got two, the two did not work, we now have three. The probability of having four controlled rates is much higher than having only two. No policy implemented by Chavez has worked for more than any few months, he still thinks he is being succesful. Think Castro, not Brazil.


  21. Chavez meets with Lula every three months. Brazil´s 30 year indexing is well known. Someone should suggest to Chavez that he should talk to Lula about it. You never know: he may listen to Lula – Brazil is doing a lot of business with Venezuela.


  22. Sorry, Miguel, I was answering your comment :-) I forgot to address you.

  23. Eric Lavoie Says:

    Nicolas if Chavez had an understanding of economics Venezuela would not be in the current mess it is in. Chavez will never listen to Lula he will tell Lula how to do things right in Brazil he knows all.

  24. KillChavez Says:

    To Nicolas Smith

    Better to say : If Chavez WERE clever, he would follow.. something different. With this you clearly DONT expect any spark of intelligence from him..

    or Does anyone here think Chavez might be clever and …”can tolc to guachinton tuh??”

  25. KillChavez Says:

    Soon enough, the US currency rate in Venezuela might be very suitable for the chinese of Intercable: CACHI CHEN! What a tragedy!!.. :(

  26. CARLOS Says:

    MO:

    Que va a pasar con las casas de bolsas??? no en el mercado permuta sino en general, cuantas personas cotizan en el mercado exterior para ser rentables? cuantas personas trabajan alli relacionadas al mercado swap?
    cuantas personas estimadas para fuera? como chavez y su pito con los petroleros!

  27. moctavio Says:

    Si las excluyen del BCV, mas de la mitad cierran todas bajan personal fuertemente. Yo calculo unas 2000=2500 personas sin trabajo.

    If they are excluded from the BCV, half of them will shut down, all of them reduce the number of workers. I figure about 2000-2500 unemployed

  28. Canguru Says:

    First post from a long-time lurker.

    Nicolas — with respect, I don’t think you yet understand Venezuela. I have recently finished a 3 year work assignment in Venezuela as the CFO of a multinational company. Nothing I learned in the previous 25 years of work prepared me for doing business in Venezuela. Venezuela is unlike any other country, even Brazil (where I have also worked). Forget about rational exchange policies or economic policies. IMO there is not even an economic policy per se. Forget about GDP growth or controlling inflation or any other KPI we use elsewhere for monitoring economic health. Economics in Venezuela is purely a means for Chavez to progress his political agenda. There are no economic objectives, only ad hoc responses to economic circumstances that may harm his political objectives.

  29. Roger Says:

    All this Macro Economic stuff is fine but, for the average Venezuelan the majority of whom are poor and spend half their income on food, that luxury has inflated in the past month or so by 8.x% http://english.eluniversal.com/2010/05/14/en_ing_esp_inflation-in-the-poo_14A3881651.shtml Consider, that the majority of Venezuelans fall into this demographic even some who comment on this blog. When his supposed supporters, the poor, come down and protest on his door, only then will you see a change.


  30. Canguru,

    Continuous financial capital maintenance in units of constant purchasing power (what Brazil did for 30 years as a country) as approved in International Financial Reporting Standards in the Framework, Par 104 (a) would protect Venezuelan companies against most of the effects of hyperinflation.

  31. Arco Says:

    To know what the current swaprate is you can figure it out yourself:

    index CCS / index dowjones * 1.43

    So, no websites needed.

  32. Roberto N Says:

    With all due respect Nicolaas, you are assuming you are talking about a “sane” country.

    Most businesses operating in country have been using a “daily index” for years to protect real value, just as humans practice breathing to stay alive.

    The only shot you have to convince Chavez, is to have someone dress up and look 100% percent like him, then get them in a room alone for 24 hours to tell him about Brazil. Only the, maybe, will he listen.


  33. Roberto N,

    What do you mean with your “daily index”? The swap rate?

    It is not true that most businesses have been using daily indexing for years. If that was true, the real or non-monetary economy would be stable and growing. It is not. It is a complete mess and declining in growth.

    Daily indexing the correct way – as Brazil did (more or less) for 30 years – is inflation-adjusting ALL non-monetary items every time the index changes. That is not happening in Venezuela. There is not just one rate: there are at least three rates .


  34. Arco,

    Thank you very much: this is what I call the real value of the internet: usefull information sharing. Great stuff!!

    So:

    Index CCS /Iindex dowjones * 1.43

    = (62461.81 / 10625.83) * 1.43 = 8.4

    CCS Index: http://www.bolsadecaracas.com/eng/index.jsp

    DowJones: http://www.google.com/finance?client=ob&q=INDEXDJX:DJI

    Roberto, now you have to name it: The Caracas/Dow Implied Rate or CDIR

    So the CDIR for today is 8.4

    Thank you very much Roberto N.


  35. Sorry: I apologize: Arco supplied the CDIR – not Roberto. :-) :-) :-)


  36. I have started a blog to publish the Caracas / Dow Implied Rate every day.

    Here is the link: Venezuela Parallel Rate

    http://venezuelaparallelrate.blogspot.com/

  37. Arco Says:

    Thanx,
    I got the information through our Dutch community about Venezuela.
    http://www.freeopinionvenezuela.nl/forum

    and http://www.dolar.nu
    http://www.preciodolar.info


  38. Arco,

    There are so many parallel Dollar sites, I think I will delete my blog. I did not know there are so many sites already supplying the price.

  39. Arco Says:

    Keep it up just to annoy Chavez.

  40. Andres F Says:

    Thanks Arco,
    Do you know what does the 1.43 represent in that rate?

  41. island canuck Says:

    So we now have officially 4 rates:
    2,6
    4,3
    somewhere between 5 & 7
    & the black market

    Wow, the opportunities for corruption are so high right now that Recadi will seem like kindergarten.

    Goodbye dear Venezuela, goodbye!


  42. Andres F,

    It represents the short-cut factor to calculate the parallel rate based on the 4.3 exchange rate based on the value represented by the Caracas market compared to the New York/American market.

    The explanation – in Dutch – is on this thread

    “Komt er nog een wisselkoers?”

    on

    “Venezuela Algemeen (Nederlands)”

    on Forum Venezuela

    http://www.freeopinionvenezuela.nl/forum/

    You will have to register.


  43. “Venezuelan authorities arrested a man who posts black-market rates for currency on the Internet.”

    http://sify.com/finance/chavez-asks-venezuelans-to-tweet-on-speculators-news-international-kfrd4siihdf.html


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