Archive for August 8th, 2010

The tale of Venezuela’s free gasoline and PDVSA’s free (fake) profits

August 8, 2010

One way to start a conversation about the bizarre Venezuelan economic system under XXIst. Century Pseudo socialism is to talk about gasoline prices. The conversation may go something like this:

Foreign Friend who does not follow Venezuela closely (call him F): How expensive is gas in Venezuela?

Devil: Gasoline is essentially free in Venezuela.

F: Free? Are you nuts? How can they give it away?

Devil: Ok, I lied, it’s not free, it’s 50 cents…

F: Woa! 50 cents a gallon that is truly cheap, almost free.

Devil: no, no, not for a gallon, it takes about 50 dollar cents to fill the full gas tank of a medium to large size car. It’s easier to calculate it that way than to figure out per liter or per gallon cost, but basically it is 1.1 cent per liter or 4.2 cents per gallon.

F: (puzzled look, glassy eyes): but this makes no sense, the poor have no cars, it is the rich that benefit from this. You can’t produce gasoline at that price.

Devil: You are absolutely right. Chavez says that profit is a capitalistic concept and the “people” own the oil anyway, so he has kept the price fixed for 11 years as inflation has hit 1,000% in the same period.

F: But still, it’s not a matter of profit, but cost. You are selling the gas way below cost and someone is paying for it. And on top of that such cheap gas promotes wasteful use of the oil, if it does not cost anything, then why drive less? In any case, how much does it cost to produce the gas in Venezuela?

Devil: You are right on all counts, gas consumption has doubled in six years and the estimate is that the subisidy is about $35 per barrel or about 10 billion a year, but it is hard to know the cost of producing oil in Venezuela, the company’s financials are hard to undestand. For example, the company makes free or fake profits when it buys and sell its own bonds.

F: Wait, wait! What do you mean free profits? That makes no sense.

Devil: Well, few economic things make much sense in Venezuela. But let me try to explain the free profits at Pdvsa:

You see, last year in Venezuela we had two exchange rates (This year we have more, but that is a different story) In November PDVSA sold about US$ 3 billion in bonds to local investors in exchange for Bolivars. The bonds were sold at about 140% of their face value, so PDVSA got 3 billion x 1.4 x 2.15 Bs. in the sale or Bs. 9.03 billion. People essentialy bought dollars at Bs. 5.3.

A few days later, PDVSA bought something like 300 million dollars cash value of its own bonds in the international markets and used it to pay debts it had with contractors for Bs. 1.6 billion and in that way it made $445 million dollars.

F: This makes no sense, how did it make so much money? Buying 300 million, they made 445 million?

Devil: it’s the magic of exchange rates. See, Pdvsa had debt in the amount of Bs. 1.6 billion with contractors. The cost of a dollar for PDVSA is Bs. 2.15 each (official rate) it “bought” 300 million dollars of bonds at Bs. 2.15 or Bs. 645 million, but it paid the contractors with the bonds at a different rate of Bs. 5.3 per dollar. So, it “made” a profit of the difference between the two or 1.6 billion minus 645 million or about 955 million Bolivars, which through the magic of PDVSA’s accounting in US$ is 955/2.15= 445 million dollars. Voila, free profits!

F: Wow! But doesn’t this mean they could do this as many times as they wanted?

Devil: Yes, but if there is a devaluation, those Bolivars are worth much less. With January’s devaluation, half the profit simply evaporared for example. In fact, all of PDVSA’s Bolivars were worth half after the devaluation. It’s all smoke and mirrors, doing this is in fact a devaluation, Pdvsa sold dollars at Bs. 5.3, repurchased them at Bs. 2.15 and then sold them again at Bs. 5.3, that is the key, It’s all fake profits in the end. It could do it again and again.

F: Well Devil, this is too bizarre for me to understand, let’s go back to looking at those beautiful mountains.

(Note, the numbers are all approximate, I invented them to fit the profits claimed by PDVSA as closely as possible)