Today, July 5th, marks Venezuela’s Independence Day (1). Unfortunately, the country has little to celebrate. Venezuela is currently going through its seventh consecutive year of recession and its fourth consecutive year in hyperinflation that, although it has decelerated compared to previous years, is still in the four-digit per year range. Faced with this scenario, the country needs an urgent transformation with significant political and economic reforms.

In this context, the Venezuelan Finance Observatory organized the conference “Proposals to Resolve the Economic Crisis in Venezuela”, which consisted of a set of forums where prestigious Venezuelan economists presented their diagnoses, impressions, and possible solutions to the Venezuelan crisis in the short and medium term. On the second day of the event, Dr. José Pineda from DevTech presented his analysis on “Policies to defeat hyperinflation in Venezuela”(2), in which he explained the causes and dynamics of the hyperinflationary phenomenon that Venezuela has been going through since 2017, and its possible solutions. This note highlights some of the main points discussed during the conference by Dr. Pineda as a contribution to overcoming the significant challenges the country is facing.

Inflation in Venezuela is the most intense in Latin America, an unprecedented economic event both in terms of the levels reached and their duration (3). This situation is happening in a very adverse set of initial conditions, which are very different from those that preceded previous attempts at economic stabilization (4). One example of the severity of the current situation is that the size of Venezuela’s economy today is a quarter of what it was in 2013 (5). Today Venezuela has a high external debt (more than 300% of GDP), malnutrition in children (6), 96% of households in poverty (7), an uncontrolled Covid-19 pandemic (8), and extreme political polarization and institutional destruction. There is a humanitarian and migratory crisis with 5.4 million Venezuelans now outside the country’s borders according to data from the United Nations (UN).

Regarding the Covid-19 pandemic, many people doubt the official reports, and vaccination plans are uncertain, to say the least. Not only does the public lack confidence in the data provided by the Maduro regime, but also the mass vaccination process carried out since last May has been plagued with irregularities, such as the absence of a plan that specifies the priorities and criteria for vaccinating the population; the opacity on the availability of doses; the theft and illicit trade in vaccines; vaccination centers where bio-safety protocols are not met; de facto ineligibility due to not possessing the so-called “Carnet de la Patria” or the inability to access a cell phone; and the sudden suspension of vaccine days because the number of people who attend is greater than the (unknown) amount of available vaccines (9).

By way of comparison, within Latin America the most similar case to Venezuela is that of Nicaragua. Outside the region, the most similar case is that of Zimbabwe, which also suffers from hyperinflation and a collapse in production. Many countries with similar GDP collapse were in a state of war. Oil production, the engine of economic growth in Venezuela, has collapsed. This comes at a particularly unfortunate time for Venezuela, as the Paris agreement will imply a significant decarbonization in the world (10), so that the ability of oil to boost the economy will be compromised in the long term.

Hyperinflation in Venezuela is the consequence of the mismanagement of economic policy and exacerbated populism, where unsustainable fiscal deficits have been financed by a weak Central Bank. Therefore, eliminating hyperinflation implies making credible reforms to achieve fiscal sustainability. The credibility of the plan and its execution is critical to reduce its costs. If the plan lacks credibility with the public it will be correspondingly more difficult to implement. To enhance the credibility of the plan, Venezuela must be realistic about the financing that can be obtained from multilateral organizations and must set a plan that shows a feasible path towards fiscal sustainability.

Lack of credibility can compromise stabilization efforts even in the presence of a technically solid economic team. This happened in the recent case of Argentina under the Macri administration: the plan put forward lacked credibility despite that fact that great professionals were in charge of the economy. The main reason for that was that the economic team could not resolve fiscal sustainability, resulting in an inconsistency between the inflation target and a gradual fiscal consolidation. A similar phenomenon occurred with the implementation of the macroeconomic stabilization plan in Venezuela in February 1989, when then-president Carlos Andrés Pérez turned to professionals with high technical qualifications, but who lacked the political experience needed to create fluid and consensual communication with the other political actors in Venezuelan society (11).

In Venezuela’s hyperinflation process, the Central Bank of Venezuela (BCV) is the only entity that lends to the Government, voluntarily or by force (12). To reduce hyperinflation requires credible reforms to adjust fiscal accounts, and thus eliminate the idea that a demand for financing can only be covered by monetization. Appropriate fiscal policies and institutions, like a fiscal rule and a stabilization fund, are needed to solve Venezuela’s chronic fiscal deficit. Thus, Venezuela must launch a process of fiscal sustainability in the medium term. This process will be conditioned by the current humanitarian crisis, but any humanitarian efforts will not be effective if they do not take place within the framework of a credible plan to recover fiscal sustainability.

Inflation in Venezuela has also been fueled by the lack of public information. It is a challenge to design a plan with a flow of information that reinforces expectations and a program that gains credibility. Regarding the discussion of dollarization, it is important to recognize that it is never going to substitute for a credible path to fiscal sustainability, the absence of which is the main driver of inflation dynamics. This should be clear from the current situation where Venezuela experiences inflation even in dollar terms (13)”. It is worth noting that for the month of April 2021 the dollar lost 49% of its purchasing power compared to the same month of 2020 (14).

The key to eliminating hyperinflation is a process of restoration of fiscal solvency and fiscal consolidation that outlines a credible path toward fiscal sustainability. Today, as Venezuela marks the 210th anniversary of its Declaration of Independence, DevTech is pleased to contribute to the much-needed discussion of the long reconstruction process of Venezuela. Venezuela is a country with great potential if the right policies are put in place. The challenges are significant but so the payoffs. DevTech is prepared and happy to accompany and support the country on its path to prosperity.

References

  1. https://en.wikipedia.org/wiki/Independence_Day_(Venezuela)
  2. See https://observatoriodefinanzas.com/jose-pineda-abatir-la-hiperinflacion-en-venezuela-implica-hacer-reformas-creibles-para-lograr-la-sostenibilidad-fiscal/. For the complete presentation of Dr. Pineda (in Spanish) see https://www.youtube.com/watch?v=adsM3mfFSxs
  3. As of May 2021, Venezuela has accumulated 44 consecutive months registering annualized price increases of at least four digits, reaching its maximum peak in January 2019, when it reached the figure of 2,689,459.0% compared to the same month from the previous year. This would be the second longest period of hyperinflation in history, after the hyperinflationary process that Nicaragua went through between June 1986 and March 1991, lasting 58 months (source: Finance and Economic Development Commission of the National Assembly of Venezuela elected in 2015, Venezuelan Finance Observatory, Hanke & Krus (2012), own calculations).
  4. Reference is made to the attempt at economic stabilization carried out by the former president of Venezuela, Carlos Andrés Pérez in 1989, which consisted, among other measures, in the lifting of price controls on basic consumer goods and tariffs on imports, creation of new taxes, reduction of subsidies (including the price of gasoline) and free floating of the exchange rate (see: González, F. (1996). El Paquete de Carlos Andrés Pérez y su Costo Social (pages 50-54). In El éxito de la política económica de 1989-1993. Fondo Editorial Tropykos. Universidad Central de Venezuela, Facultad de Ciencias Económicas y Sociales. Caracas, Venezuela.
  5. Since 2013, the Gross Domestic Product of Venezuela has fallen by 77%, registering levels similar to those it reached in 1963 (source: Central Bank of Venezuela, own calculations).
  6. Source: FAO.
  7. Source: Encuesta de Condiciones de Vida de los Venezolanos 2019-2020.
  8. As of June 26, 2021, Venezuela has registered a total of 268,349 people infected by the COVID-19 virus, with a balance of 252,094 people recovered and another 3,055 people dead (source: https://www.worldometers.info/coronavirus/country/venezuela).
  9. See: https://transparencia.org.ve/saludcritica/2021/06/18/siete-irregularidades-de-la-vacunacion-anti-covid-19-en-venezuela/.
  10. https://unfccc.int/process-and-meetings/the-paris-agreement/the-paris-agreement
  11. See: https://prodavinci.com/cap-del-tranco-a-la-coronacion/.
  12. Since 2010, due to the late former president Hugo Chavez insistence, the National Assembly of Venezuela (with an absolute Chavista majority) approved the Partial Reform Law of the Central Bank of Venezuela where the state oil company PDVSA would no longer sell all of the foreign exchange obtained from the sale of oil to the Central Bank , but would sell a portion of them so that it can cover its operating expenses, its financing, and your payments for your expenses abroad; while the rest of them would be transferred monthly to the National Development Fund (FONDEN), which the Venezuelan Executive used as a parallel fund and without control or accountability. This reform constitutes a violation of article 320 of the current Venezuelan Constitution, where the authority of the Central Bank of Venezuela is subordinated to the directives of the Venezuelan Executive; and also in a violation of Article 36, where the Central Bank is not authorized to finance deficit fiscal policies. (see: “El rol del FONDEN en la corrupción venezolana” (October 2020). Transparencia Venezuela. Caracas, Venezuela).
  13. Strictly speaking, the “inflation in dollars” that Venezuela is going through is due to the fact that the speed of growth of prices (expressed in bolivars) is much faster compared to the progressive depreciation suffered by the nominal exchange rate (they are delivered more bolivars for a dollar), forcing people to give more dollars in exchange for the same good. In other words, a good becomes more expensive in bolivars, and it is paid for a greater amount in foreign currency (see: https://eldiario.com/2020/11/21/inflacion-en-dolares-venezuela-economia/
  14. See: https://www.elimpulso.com/2021/06/04/en-un-ano-el-dolar-perdio-49-de-su-poder-de-compra-para-adquirir-alimentos/.