As usual it was an irresponsible and perverse performance by Hugo Chavez. The President that likes to go on nationwide TV to announce the most trivial things, from phantom death threats against him to handing out fake loans to people, did not dare to do the same to announce a dramatic devaluation which is a consequence of his own irresponsible policies. But he even dared to call Venezuela’s foreign exchange controls “efficient”, despite the fact that he was taking this dramatic step and that the exchange controls have been not only the biggest corruption racket in the country’s history, but also represented a perverse subsidy to the rich, via preferential rates for travel and the import of some luxury goods.
And as if the old system was not bad enough, Chavez announced a dual Government exchange rate, triple if you take into account the swap rate, devaluing the official rate of Bs. 2.15 per dollar to Bs. 2.6 per dollar, a 20.9% devaluation, which will be applied only to foodstuffs, medicines, machinery and certain remittances abroad. The remainder of imports will suffer a 100% devaluation to Bs. 4.3 per US$, including supposedly travel allowances and airline tickets, although this was not included in the formal announcement.
Based on last year’s imports of goods, this implies that 45.9% of the goods imported will have a price increase of 20.9%, while 54.1% will have a price increase of 100%, for a weighted average of 63.7% for the increase in price of all of the country’s imports. Thus, the inflationary impact of the devaluation will be very high, much higher than the irresponsible estimate by the Minister of Finance that this will only represent a 3-5% increase to the CPI. It is my understanding that technical people in the Ministry of Finance were not even asked to calculate the impact of the devaluation, another demonstration of the primitive nature of this administration.
And as if the devaluation itself was not the result of the irresponsible economic policies of the last few years, the Government guaranteed that this will be only the first of such announcements to come, as it announced that the Central Bank will transfer US$ 7 billion of the country’s international reserves to the development fund Fonden, leaving reserves at US$ 28 billion, while monetary liquidity stands at a record Bs. 236 billion. Just to give you some perspective, the last time the official rate was devalued in 2005, M2 stood at Bs. 46 billion and international reserves were at US$ 24 billion. Thus, at the time there were practically 2 Bolivars per dollar of international reserves with the official rate at Bs. 2.15 to the dollar, while today there are Bs. 8.42 to the dollar with the lowest official rate at Bs. 2.6. (Although the weighted average of imports stands at Bs. 3.51 per dollar)
This is simply unsustainable, you can not increase monetary liquidity (M2) by a factor of 5, while maintaining international reserves constants and expect inflation to go down or the exchange rate to be sustainable at current levels. The laws of economics can be stretched but not violated (or raped really).
Given that inflation was already going to top 30% in 2010 and if we assume that the import component of goods consumed in Venezuela is almost at 50%, then one would expect an additional 30% spike on inflation from the announced devaluation. Not a pretty picture. The impact of the devaluation may be slightly smaller on the poor quantitatively, because since most food imports are done at the lower rate, and the poor spend more of their income on food, they will feel it less, even if still a huge effect.
There is, of course, a third rate, the swap parallel rate, which people think will actually jump on Monday. The Government said it will intervene in that market and that the Central Bank will be allowed to do so. With PDVSA selling dollars at Bs. 4.3, there is less pressure on the oil company to sell dollars in the swap market. But Chavez also said something like “the Government will control (or monitor?) imports with dollars from company’s own resources”. This seems to suggest that the Government may be planning to limit imports that are not made with CADIVI dollars. Just the initial confusion on this issue may actually lower demand in the swap market initially. (But the policy would be suicidal as shortages would soar) Thus, I would epexct a drop at first and then the swap rate is likely to rise, not only because there are more Bolivars out there and less dollars, but because the Government has practically approved the swap rate as a third rate, when it says the Central Bank will intervene, which should give more confidence to those that are still hesitant to buy dollars aggressively at the swap rate.
But additionally, there is the effect of the sharp drop in demand induced by the 60-plus increase in the price of imports. For the first few months, this should relieve some of the pressure in the swap rate as importers are more cautious on how much to import and the consumer contracts.
Combine the effect of the devaluation with that of the banking crisis and the already high levels of inflation and economic contraction and you now have stagflation on steroids and a very difficult political year for the Government. Hugo Chavez who based his popularity on the delay of implementations of realistic economic policies during the Governments of the so called Fourth Republic, has met his own Red Friday. Unfortunately, he is once again attacking the consequences and not the origin of the problems. Even worse, he is exacerbating them once again by removing US$ 7 billion from international reserves.
While it is true that this improves the ability of Venezuela’s industry to export, such exports were down 50% last year and the inflationary impact of the measure itself may block any ability to compete. Recall that many of these exporters, like the Government’s industrial complex, are forced to sell their dollars at the official rate, now Bs. 2.6 per $, while enduring the high levels of inflation of the country.
Finally, about the only positive aspect that this creates is that the country’s debt is likely to enjoy a huge rally in the upcoming days, as foreign investors perceive that the ability of the country to fulfill its international commitments has improved dramatically with the devaluation. And it has indeed. With this devaluation, PDVSA and the Government will have much more Bolivars, which relieves the pressure on the dollars the Government has, as well as on the need to issue new debt, which is music to the eras of foreign investors. Most investors find Venezuela’s debt quite attractive at even higher levels than these, but it is the specter of the Government issuing new debt constantly that has kept them away from it in the recent past. This eases this concern, at least until the end of the year.
Not a pretty picture for the Government, particularly because this is only a short term solution. Once again, if oil prices do not go up significantly, a year from now, we may be witnessing a similar performance of a new adjustment to the exchange rate. Amazingly, it is incredible that these same measures were not undertaken in September so that their inflationary spike would have been felt last year and not in 2010, an electoral year. The Government now has more money in its hands, but the people will have less, by the end of the year the same distortions and needs of the Government of a month ago, will once again be present.
The Devil's Excrement 
October 28, 2010 at 11:15 am
[…] En Venezuela Hugo Chavez sufre su propio Viernes Rojo y devalua la moneda 63.7% Enero 9, 2010 (In English here) […]
January 10, 2010 at 2:47 am
I have a huge little factoid that seems to be overlooked: Since ‘government’ is a gang of thieves writ large, you’re basicly investing in crime when you buy ‘government’ bonds. Save the world, save the planet! stop buying maffia bonds!!
January 9, 2010 at 7:47 pm
From talking with people that import for their business, it seems that most are loath to rely on the undependable and tardy CADIVI to get the USDs that they need to run their operations. Of course these businesses still try to get USDs at the official rate and some of them eventually receive the dollars, albeit after months of delays. Thus, for those lucky enough to have their request for USDs approved, apparently the common practice is to purchase USDs at the “black market” rate to make their imports while keeping VEFs in cash to pay for the USDs from CADIVI when they are eventually delivered.
Therefore, I think the biggest issue here is at what rate CADIVI will sell the hundreds of millions (anyone have a good estimate for the amount?) of USDs that have been approved but yet to be delivered to Venezuelan citizens and corporates. If these are to be sold at the new, weaker exchange rate then this will take out a big chunk of cash in Bs that would have otherwise been used for future USD purchases. This would mean that the swap rate would fall, with the “black market” VEF strengthening.
Additionally, as its correctly pointed out above, the devaluation takes a large out a large subsidy for the Venezuelan consumer and should make importers hesitate to buy USDs in order to restock their inventories to normal levels.
While the decision to transfer reserves to FONDEN is indeed negative for the value of the VEF on a medium-to-long term horizon, this is money that once converted to Bs. will take time to reach the hands of those willing to purchase USDs at the parallel rate with them. Therefore, it should not have a short term negative effect on the swap FX rate.
January 9, 2010 at 6:42 pm
Pet stores hid the imported food…
January 9, 2010 at 6:39 pm
Miguel:
The lines at the stores in Chacao (Caracas) that sell VCR, Plasma / LCD TV´s, etc. were huge, in fact by 5:00 pm some had shut the doors, and only let customers in one by one, when anothe customer exited. They told me that at Sambil Shopping center you could see similar lines in appliance stores and in cell phone stores.
January 9, 2010 at 6:33 pm
In my opinion, the fact that exporters can now keep 30% of their US$ from their revenues, wil make more US$ available in the market. And Cadivi might now be more willing to provide dollars at Bs.4.30 than before at Bs.2.15. Wouldn’t these two factors actually push the swap rate down?
January 9, 2010 at 6:24 pm
On friday I went to buy an airline ticket to Asia and have to pay for it by next Friday. The coast was BS.F 7.180 and I guess this will now double to Bs.F. 14.360?
If more importers can receive dollars at 4.3 then they are not paying 6.0+ for their imports. I doubt if prices will go down. For example I remember buying tires for my daughter’s car – 4 for Bs.F 550 in January 2008. Now the same tires including balancing cost around Bs.F. 380 each. The swap rate has not varied that much (by three times) since that time so how can these prices be justified?
Cáhez did say that there would be more dollars available this year from Cadivi and it remians to be seen if prices in Mercal and PVÇDVAL rise by 21% or not. This was predicted by the guest economist on Globo but I think he is wring since the political cost is too high to up thes prices.
Good analysis.
January 9, 2010 at 6:12 pm
While the devaluation is a long overdue travesty, the transfer to Fonden is election year routine, correct?
I have a sneaking suspicion that the Fonden money is going to be thrown at Chavez electorate, as usual, and he will be successful this year in the elections, while the country continues to go to crap. We always wonder “well just how bad can it get before he’s ousted.” And it just continues to get worse.
January 9, 2010 at 5:16 pm
What I have seen on the shelves are items reflecting the parallel rate, whether or not that is actually what the merchants had to use to purchase the items initially. If they are lucky enough to receive official rate dollars to purchase imported items, they damn sure are not selling it at a offical rate price. Everything floats on the swap rate. The merchants are either recovering costs or making a profit, depending on their relation with Cadivi.
January 9, 2010 at 2:27 pm
I am agree with Miguel. The impact could be 100% in the whole economy. If you can check, just do this: Try buy something cheap [old price], like new car in a local Venezuelan agency [or car vendor]. This inventory rise to double in one single day. In a “under development country” like Venezuela, the problem with devaluation is the same as previous ones. How Do I realize the new exchange rate in a country where 71% of all the goods are imported? Not less than 8Bs per $. If not, I will buy a this price right now. [Put your money where your mouth is]
January 9, 2010 at 1:31 pm
“Only if CADIVI opens the coffers & gives $$ to the importers.
I don’t see this happening.”
That’s why they have to get rid of CADIVI- the corruption has become too entrenched. I expect they’ll get rid of CADIVI and have the import companies register with Banco de Venezuela… and just solicit and pay directly from BdV.
Yes, it will shift the corruption to another area, but it will get it out of the control of the people in pickle-suits… which has some huge political implications in terms of absolute power-politics.
January 9, 2010 at 1:20 pm
Great analysis, Miguel. But then what I see is that the people won’t have money but the state will be able to distribute huge amounts of foods for nothing to them and blame it all on people like you and me.
January 9, 2010 at 1:09 pm
I tend to agree with the first and forth comments. Most prices were already calculated using the swap exchange rate. Theoretically foods and medicine should be the most affected but CADIVI has been so slow and erratic about the approvals that I believe most of those items were already priced at the swap exchange rate. There will be some impact because of the increase in duties but I have calculated that to be 3.5%-6.5% depending on the applicable tariff.
I doubt however that the swap rate will go down and, if it does, it will be momentary. I don’t think CADIVI approvals will get any better. Also, we have to wait for the new lists of HS Codes (codigos arancelarios) specifying which items will receive dollars at 2.6 or 4.3. Then we will have to wait to see which items will require proof of insufficient local production. Nah, it won’t go down.
MO. I also saw you tweet earlier about the seeming discrepancy between the published and calculated devaluation %’s. The WSJ calculates it (2.6-2.15)/2.6. I don’t know why but it is not the first time. They’ve used the same method when they’ve announced big movements in the swap rate in the past.
Cheers.
January 9, 2010 at 12:53 pm
Only if CADIVI opens the coffers & gives $$ to the importers.
I don’t see this happening.
January 9, 2010 at 12:47 pm
If that is the case the swap rate would go down.
January 9, 2010 at 12:40 pm
I agree with IC. My impression is that the vast majority of products in stores (excluding price controlled items) are already priced to reflect swap market exchange rates. Regardless of increases in customs duties… there are probably a bunch of companies that might actually have a chance of getting some preferential Dollars in the future, as opposed to the last year or so… when they got nothing.
I know multiple importers of electronics, vehicles, spare parts, appliances, etc., who have been told by CADIVI for over a year: “food and medical only” and “Don’t call us, we’ll call you.”
If these guys could get preferential Dollars at 4.6 they’d throw a party because it would be a savings of almost a third over what they’re paying for their Dollars now.
January 9, 2010 at 12:22 pm
IC: Then you are saying if the swap rate stays constant prices will not increase? Wrong, because at the new prices you ahve to pay higher custom duties at the new rate. The calculation is from the official CADIVI dollars which does not inlcude everything brought in at the swap rate.
Luigimenx: I think the effect on the Casas de Bolsa as almost nothing. Most of them were neither long nor short at the beginning of the year, Venezuela’s bonds in dollars will go up due to devaluation, which helps them if they had them in their portfolio and definitely helps them in terms of having more Bolivars.
January 9, 2010 at 12:15 pm
At least they did a good job in keeping in a suprise, until yesterday afternoon that is.
I wonder how this affects the local casas de bolsa?
January 9, 2010 at 12:13 pm
Miguel said:
“while 54.1% will have a price increase of 100%, for a weighted average of 63.7% for the increase in price of all of the country’s imports.”
My impression here in Margarita is that most of the imported products are already priced using the parallel rate as CADIVI has not been giving out preferential dollars to importers.
The price of consumer goods here has sky rocketed with everything from cel phones to TVs to computers at twice the price in BsF as they were a year ago.
As the government dollar situation has not improved I would assume that CADIVI will continue to hold back $$ from importers and the price of goods will follow the parallel market.
This is probably why he is saying that they will hold this market to BsF.5 and why they are saying it will only have a 3 to 5% impact.
Of course they will not be able to keep the rate at BsF.5 so it’s all just more propaganda & spin for the VTV crowd.
Another question which no one probably has the answer for yet.
At What rate will we have to declare $$ received outside – 2,6 or 4,3??