Venezuela embraces radical devaluation
Barclays estimates 300% fall in bolivar; deficit should fall to 10%.
A 300% devaluation in Venezuela’s currency should enable the government to reduce the public-sector deficit, but PDVSA, the state-owned oil company, is expected to issue up to $6 billion in debt this year to help plug the remaining gap.
Last year, Venezuela had a public-sector deficit of 16% of GDP, one of the highest in the emerging markets, according to Barclays. This forced the central bank to turn on the printing presses: for the year to January, the broad money supply increased by 76%, which in turn led to 56% inflation, one of the highest rates in the world.
During the past two months, Venezuela has introduced reforms to its complicated exchange-rate controls, resulting in three official systems. Dollars are sold at the official rate by exchange control agency Cadivi (recently renamed Cencoex) and the official rate is currently Bs6.30 to the dollar.
In 2013, authorities launched the Sicad (the Spanish acronym for the complementary foreign exchange system), an auction process that is an alternative source of foreign exchange for firms and individuals that were not on the Cadivi list of priorities.
On March 24, the government introduced the Sicad II system, designed to be a free market in which individuals and firms can purchase foreign exchange without restrictions at the current price. Bids and offers are collected by authorized intermediaries, which submit them to the central bank. Currently, under Sicad I auctions, dollars can be purchased at around Bs11 each, whereas under Sicad II dollars can be acquired at around Bs51.80.
Initially, the government expected to sell around $60 million a day under the Sicad II system, but in practice it has been selling around $45 million. Venezuela also has a black market for the dollar; at the start of the year dollars were being sold on this at around Bs80. The latest reforms have caused a tightening in this market; it is now trading at around Bs67 to the dollar.
The government has not formally devalued the currency, but the changes have resulted in a de facto depreciation. Barclays estimates that this year the government will sell $12 billion under the Cencoex system, $7.4 billion under Sicad I and $11.6 billion under Sicad II.
| Workers demonstrate in
February over the lack of
dollars to pay for imported
Barclays says these auctions result in an overall implied exchange rate of Bs21.50 to the dollar, a 300% depreciation from the only official exchange rate available this time last year. “A huge devaluation is taking place,” says Alejandro Arreaza, Venezuela analyst at Barclays. “This should enable the government to gradually reduce the fiscal deficit, as one of the biggest sources of government revenue is oil exports and the government is now receiving many more bolivares once the dollars are converted. In time, inflation should also fall.”
Originally, Barclays estimated that the changes would increase government revenues by around 12%, but as smaller amounts are being auctioned under Sicad II than forecast, it says the rise will not be as high as first thought. It now predicts that the public-sector deficit will drop from 16% to between 10% and 11% of GDP this year.
Overall, Venezuela’s economic fundamentals are the worst of any emerging market economy. Barclays predicts economic contraction of 1.8% this year, combined with an inflation rate above 60%. The economic deterioration is largely attributable to a reduction in government expenditure that has been exacerbated by student protests this year that have paralysed large parts of the country. Some industries have also suffered big falls in production because they have not been able to access dollars to purchase inputs (for example, car production dropped by 80% during the first quarter, according to Barclays).
“It’s impossible to calculate the public deficit accurately,” says Alberto Ramos, Venezuela analyst at Goldman Sachs. “The government makes no concrete data available so everything is a wild guess. Furthermore, the inflation rate of 60% does not take into account many non-pecuniary costs that people suffer. One-third of goods are not available in supermarkets and often people have to queue for ages to attain those goods that are available.”
Venezuela has the highest yield on its sovereign debt among emerging market countries – in April yields on 10-year government debt stood at 12.77%. “We think this reflects a fundamental mispricing on the part of the markets,” says Francisco Rodríguez, Venezuela analyst at Bank of America Merrill Lynch. “Investors think the sovereign has a problem with its capacity to repay debt. However, the recent devaluation should help the fiscal position, and it should never be forgotten that Venezuela sits on the world’s biggest proven oil reserves.”