Archive for July 10th, 2008

Ignorance, incompetence and irresponsibility by the Government create a dangerous situation for the Venezuelan financial system

July 10, 2008

The Government seems to have realized the dangers of forcing the
banking system to sell the Bolivar denominated notes in the hands of
the Venezuelan Financial system all at once and is reconsidering what to do..

Recall that the Government issued a resolution ordering financial
institutions to sell all of the Bolivar denominated notes they held,
issued by foreign companies and banks. These institutions had set them
up in order to bypass the limitation that no bank may have more than
30% of its capital or equity in foreign currency.

The Government had clearly known about the existence of these notes, as
most of the banks holding them are considered to be those “close” to
the Government, but when the Government realized after the bond issued
in May that international markets had little appetite for the country’s
debt, someone came up with the idea that if they forced to have banks
sell their notes, they would have to sell the US$ bonds in the swap parallel
market and forcing the sale, would do the job the Government wanted at no cost.

Except that, the banks had incurred in large losses because most of the dollars
for the notes were bought at much higher prices and in many cases, the
banks had borrowed against the notes, thus in some instances, the notes
were worth essentially nothing.

At this point, Ali Rodriguez was named Minister of Finance. Rodriguez
who is practically ignorant on financial matters heard two points of
views. One, that from his predecessor and his team that told him this
had to be done and even had Rodriguez sign a resolution telling banks
they could not sell the notes without approval and; Two, that of the
“bankers” who are identified with the regime who were telling him that
this could create a financial crisis if banks were forced to sell the
notes by August 14th., suggesting some banks could go under.

Rodriguez’ decision was quite amazing for a Government that only a
year ago was ready to withdraw from the much hated multilateral
organizations: He actually asked the International Monetary Fund and the World
Bank to give the country technical advice on the matter during a
scheduled visit this week.

What these technical people will find is that six or seven banks are in
real trouble, if not bankrupt, and that either the owners capitalize
them or the Government will  have to take them over.

What is important here is that the Government should not drag its feet
like it does with everything, it should act, ask each bank if their
owners are willing to capitalize and if they are not, intervene the
banks with open doors. If the Government delays or postpones decisions
this could be very bad, because the Government ordered that the balance
sheet of banks should reflect the losses in these notes as of June
30th. However, for auditors and accountants there is only one exchange
rate: the official one, thus these balance sheets will have losses
which are much larger than reality, as these dollars could be sold in
the parallel swap market which is 75% higher than the official rate of

If you think that I am exaggerating, I am not. As of Dec 31st. 2007,
there were twelve banks, which had structured notes and for six of them;
the value of the notes was at least twice that of the equity or capital
of the banks. Thus, if the losses are 50% between the dollars purchase
and the underlying bonds purchased, they could have zero capital. In
that case, the owners would have to be willing to recapitalize and that
is the big if in this equation.

Additional evidence for this, comes from statements made by none other than one
of the persons most responsible for the situation former Minister of
Finance Rodrigo Cabezas. Cabezas resurfaced the day before yesterday at a
TV program in Chavez “official” station VTV. In the interview, Cabezas
actually said that maybe three or four institutions might be in
trouble, which to me suggests the matter has been discussed. (Cabezas
talked about a meeting between the new Minister of Finance and Chavez’
party PSUV on the subject, showing once again that information is only
available to Chavez and his party and that half of Venezuela is being
discriminated against in that information is being withheld from them)

Now, you have to take anything Cabezas with a grain of salt, because if
anything, Cabezas showed during the interview that he has yet to grasp
and understand the issue of the structured notes. Said Cabezas:

“It is probable that some banks, maybe three or four, have a large
share of its assets in structured notes, which would force the State to
do the corresponding evaluation, because it was the State that sold it
t them”

Wow! Where should I start? There is very little that is correct in that
statement. First of all, former Minister Cabezas makes a an error which
proves he does not even understand the issues involved: He mixes up the
structured notes sold by the Government which were dollar denominated,
with those denominated in Bolivars which have very little to do with
the first ones. In fact, it was the banks themselves who set them up
independently.Thus he is talking about pears, but the problems are the oranges.

Thus, the State bears no responsibility for selling them to the banks.
It only bears responsibility (with Cabezas at the top) for allowing
this to happen and grow to unmanageable levels. Second, what matters is
not the size of the notes, but the amount of losses these banks may
have incurred, Thus, Cabezas’ numbers must be something he heard, more
than anything he came up with. My numbers come form detailed examination of the balance sheets of the banks.

But even more remarkably is the fact that in the same interview,
Cabezas called the issuing of these notes as “dangerous and inadequate”,
blaming his predecessors for them, but forgetting that 1) He was Head
of the Finance Committee of the National Assembly when most of these notes were set up by the Government and 2) He was Minister of Finance
when most of the banks set up the bolivar-denomainted structure Notes
that are currently the problem.

Thus, besides the lies and the ignorance that the Government has
accustomed us to, there is the irresponsibility of passing the buck and
blaming someone else, while it was Cabezas that allowed the Bolivar
denominated notes to balloon out of all proportion and create the
problem facing the Venezuelan financial system today. The fact that he
has yet to understand the problem does not exempt him from being guilty
of not fulfilling his obligations as Minister.

And this ignorance and irresponsibility is reflected in the way that
Government officials work. They continue to issue resolutions
forbidding things that are already not allowed by the Banking Law, the
real problem is that regulators have done nothing about it. Banks should
sell structured notes, not because there was a resolution saying it,
but because banks may only have by law up to 30% of their equity in
foreign currency. Thus, banks should not have had them in the first
place and the Superintendent of Banks should have told them so.
Similarly, issuing a resolution forbidding the purchase of shares of
one bank by another or the merger of them, seems superfluous and that
seems to be one of the jobs of the regulator, to approve or not the
purchase of one bank by another one or their merger.

But Cabezas speaks as if he had been in the opposition for ten years
and it was “others’ that were involved in these decisions, which have
created a situation which has dangerous undertones unless the
Government acts, acts soon and acts efficiently and without a political

All of which seems too much to hope for, given ten years of exactly the opposite.