Friday, December 31, 2010

Venezuela to Devalue Currency Again

By Kejal Vyas and David Luhnow
The Wall Street Journal
Friday, December 31, 2010

CARACAS—Venezuela will devalue its "strong bolívar" currency on New Year's Day, the government said Thursday, the second such devaluation within a year and at least the fifth major devaluation during the decade-long populist government of President Hugo Chávez.

Hugo Chávez, center, visits a homeless shelter in Caracas this month. Devaluation is likely to spur inflation, hitting the poor—a key constituency.
News of the devaluation came just after the central bank said the Venezuelan economy contracted 1.9% in 2010, the second consecutive year of declining output in the oil-rich nation after a 3.3% decline in 2009.

Both pieces of news suggest Mr. Chávez is having an increasingly difficult time balancing his populist policies with economic reality, according to economists. His government's widespread nationalizations of private industry have sapped economic growth, while public spending has sparked inflation that the government has tried to contain by measures such as price controls.

One such price control is the exchange rate. In January 2010, Mr. Chávez's government devalued the strong bolívar from its previous official rate of 2.15 per dollar to 4.3 per dollar. To help the poor, however, the government set up a stronger rate of 2.6 per dollar for imports of food, medicine and other essentials.

On Thursday, the government said it would scrap the 2.6 rate—and keep the higher 4.3 per dollar rate.

It will also keep intact another exchange rate, called the SITME, of 5.3 bolívars per dollar, which is used to provide companies with limited access to greenbacks.

The move will help "simplify transactions," Planning and Finance Minister Jorge Giordani said in a news conference broadcast on state-run television. He added that the changes will help Venezuela achieve its target of 2% economic growth for 2011.

Economists were skeptical, saying the measure will do little to tackle the country's financial constraints.

The devaluation is aimed at strengthening the economy and public finances by providing more bolívars for every dollar of Venezuelan oil exports.

Venezuela's finances have been stretched by increases in public spending, even as oil prices have weakened in the past few years.

In addition to the devaluation, Mr. Chávez is planning to push through an increase in the value-added sales tax in coming months to lift government revenues. Shoring up public finances would also improve Venezuela's capacity to repay its debts.

The devaluation, however, will add to inflation by raising the cost of imported goods. Venezuela's annual inflation rate of 26.9% is already among the highest in the world.

Barclay's Capital estimated that the latest overall devaluation of the bolívar was about 23.5% of the average weighted exchange rate. Goldman Sachs estimates about 40% of dollar sales in Venezuela have been at the stronger rate of 2.6 bolívars to the dollar.

Rising prices are likely to hit the poor hardest, making life more difficult for Mr. Chávez's key constituency. Economists had been expecting some kind of devaluation, saying Mr. Chávez would want to take a political hit well in advance of 2012 elections. The former army officer, in power since 1999, is running again.

Ordinary Venezuelans reacted to the move with a mixture of dismay and resignation. "We don't have an economy based in reality," said Francisco Holinek, a furniture salesman in Caracas, the capital.

Despite the coming devaluation, the bolívar will still be overvalued against the dollar, economists say, leading to a scarcity of dollars. The lack of dollars at official rates has led to a thriving black market, where the dollar currently fetches more than 8 bolívars.

"The government will continue to tightly ration foreign dollars to guard reserves," said Tamara Herrera, an economist with Venezuelan research group Global Source Partners.

The new devaluation will do little to address Venezuela's underlying economic problems. In the past few months, Mr. Chávez has stepped up the pace of nationalizations, further weakening the private sector.

A long recession has done little to damp the president's antics on the global stage. He recently refused to accept the credentials of the man nominated to be U.S. ambassador to Caracas, causing Washington this week to revoke the visa of Venezuela's U.S. ambassador. Analysts say the tit-for-tat isn't likely to affect Venezuelan oil exports to the U.S.

Populist policies are returning to haunt some of Mr. Chávez's allies, too. In Bolivia, President Evo Morales is facing widespread street protests after cutting back on fuel subsidies. Mr. Morales explained the move as an attempt to boost domestic fuel production, which has lagged since he effectively nationalized the energy industry in 2006.

For further reading:
"Chavez Devaluation Too 'Timid' as Bolivar Remains Overvalued, Goldman Says", Bloomberg, December 31, 2010
"Venezuela's Chavez devalues bolivar currency again", Reuters, December 30, 2010

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