14 May 2018

Venezuela: ineffective policy, endemic corruption

Arnold writes:*

The Venezuelan Bolivar, once a mainstay of stability and reliability in South American economies, has descended into a spiral of deflation, as a result of five currency devaluations. The Bolivar, then the Bolivar Fuerte, and soon to be redenominated the Bolivar Soberano or sovereign in June of this year, is the most inflated currency in the world, rivaling the Zimbabwean Dollar in its low value.

The economy of Venezuela is defined by institutional mismanagement under the Chavez-Maduro presidencies and the revolutionary ideology called the “Bolivarian Revolution.” A mainstay of the left-wing resurgence in the late nineties in South America, this method of populist governance included making use of high oil revenues to fund “Bolivarian Missions”, or socialist aid programs with questionable long-term sustainability as the economy remained undiversified. Not only did this spending, meant to keep Chavez popular in the public eye, get mismanaged, it also kept the country running a deficit during boom years, so these funds could not be used for fiscal policy should the prices of commodities such as oil collapse. Furthermore, many industries were nationalized using oil revenue and subsequently mismanaged. In a national economy experiencing a cyclical phase of growth, it is sensible policy to build up capital reserves and prepare for a recession. This did not take place in Venezuela, and the structurally imbalanced economy subsequently experienced a dramatic loss in revenue when oil prices dropped in the 2010s. A lack of focus on building up capital in terms of resources, arable land and machinery under nationalisation (with 95% of exports being oil and 80% of food imported) meant the country was dangerously vulnerable to market fluctuations.

As a result of reduced foreign purchasing power following the fall in oil revenue and inflation, resource imports previously necessary for the economy to function were near impossible to buy in their original quantities. Because of this lean supply, massive cost-push inflation occurred. Additionally, monetary inflation has occurred as a result of the central bank printing Bolivars in an attempt to fund spending and pay off foreign debt. The effects of this inflation have been worsened by the Chavez-Maduro-controlled central bank and courts, developing “bandaid” measures such as the new Bolivar Soberano, a redefining of the currency that will chop three zeroes off the value.  Furthermore, it has attempted to crack down on uncertainty by introducing harsh withdrawal limits on banks and has ceased economic reports from the central bank, having not published monetary figures in the last three years. Faith in the Bolivar has not returned, however, and the dollar is used as a measure for day-to-day transactions.

The Venezuelan government attempted to translate economic growth into development, but pervasive corruption, mismanagement of the informal economy and national capital, and unpreparedness for bust cycles including the lack of budgetary tools for a situation such as a drop in oil commodity prices, led to a situation wherein the country’s capital lies unused without the means to develop it, and sky-high debt plagues the economy (though inflationary finance has done its part to make this problem less.) Furthermore, the country is experiencing a loss of human capital or brain drain, as 10% of the population has fled since Chavez took power. Venezuela fell prey to Dutch disease in that its resource export dependency masked structural inefficiencies in the economy. In this case, sustainable development was not possible without growth.

Bottom line: Venezuela’s oil wealth was misspent in a mismanaged attempt to develop the country, and the nationalised economy’s currency was ill-equipped to survive a drop in revenues, causing hyperinflation.

* Please help my growth and development economics students by commenting on unclear analysis, other perspectives, data sources, etc. (Or you can just say something nice :)