President Hugo Chávez returned to Venezuela on Monday after a more than two-month stay in Cuba for cancer surgery, but his arrival failed to dispel doubts about his health and ability to exercise power.
Similarly, government efforts to shore up the economy with a big devaluation of the bolivar earlier this month have failed to lift concerns about the country’s economic outlook. The 32 percent devaluation should help narrow the government’s budget deficit in the short term, but it does little to address the country’s fundamental economic imbalances and will stoke inflationary pressures, say analysts.
Chávez arrived in the early hours of Monday morning and was not seen in public. Aside from a single photo released last week of the president recuperating in a Havana hospital, he has not appeared in public or spoken to the Venezuelan people since the surgery on December 11, his fourth operation for cancer in his pelvic region since mid-2011. He missed his swearing into office for a new presidential term, which was supposed to take place on January 10, but the country’s Supreme Court ruled that he could take the oath on a later date.
Since that time, Nicolás Maduro, the vice president and foreign minister, has been nominally in charge. He has been seen regularly visiting Chávez (and Fidel and Raúl Castro) in Havana.
Some members of the opposition want Chávez declared permanently incapacitated, in which case the speaker of the National Assembly, Diosdado Cabello, would assume power and new presidential elections would be held within 30 days. Others says Chávez should be declared temporarily incapacitated, which under a different constitutional provision would allow the vice president to take over for up to 180 days.
The political uncertainty is provoking capital flight from the country, although Venezuela’s capital and exchange controls are slowing the outflows.
In a sign of the pressure, the Central Bank of Venezuela announced on February 8 that it had devalued the official exchange rate, known as Cadivi, to 6.3 bolivars per dollar from 4.3. This is the first time the rate has been adjusted since January 2010, when the prevailing 2.15 rate was split into dual rates of 2.6 bolivars to the dollar for preferential imports like food and medicine and 4.3 for all others. The dual rate was reunified at 4.3 at the end of December in 2010.
In conjunction with the devaluation, the government also said that it would stop selling dollar bonds in the Sitme, an alternative foreign exchange platform managed by the central bank and based on local currency transactions in Venezuelan debt and dollar-denominated bonds of the state-owned oil company, Petróleos de Venezuela (PDVSA). The Sitme had allowed companies in strategic sectors to get dollars at an implied exchange rate of 5.3. The government has not yet announced a replacement for this system but analysts believe it will be forced to do so.
Yield spreads on Venezuelan government bonds remain elevated, with five-year bonds trading at roughly 650 basis points over U.S. Treasuries. The devaluation had little impact on spreads as the markets had largely factored it in.
“The fundamental imbalance of the Venezuelan economy is that the government is spending more money that it is receiving,” says Alejandro Arreaza, Venezuela analyst at Barclays Capital. “This creates an inconsistency between the fiscal and exchange rate policies because 50 percent of government revenues come from oil exports. If it does not devalue the currency and if international oil prices remain flat, half of its revenues remain fixed. In the end, it is forced to devalue.”
Barclays expects that the recent devaluation, which will boost the bolivar value of the country’s oil exports, will knock about 4 percentage points off the central government budget deficit, which was roughly 8 to 9 percent of gross domestic product last year. The total public deficit, which includes PDVSA, the national development fund Fonden and other government agencies, hit 19.6 percent of GDP last year, says Barclays.
Analysts at Royal Bank of Scotland contend that even after the devaluation, the bolivar is overvalued by nearly 38 percent. Analysts are skeptical that capital flows will improve at the new foreign exchange rate and expect the rate on the black market — where the dollar has been fetching more than 20 bolivars — will remain under pressure.
Analysts think that some kind of alternative market to the Sitme is likely to emerge as a way to channel more U.S. dollars to the private sector. In scrapping the Sitme, the government left the door open for the central bank to buy and sell securities denominated in foreign currency whenever it considered that necessary. It also said other public agencies, such as PDVSA and Fonden, could undertake similar operations if they were coordinated with the Ministry of Finance and the central bank.
Currently, PDVSA says it has no plans to issue a U.S. dollar bond and would prefer to issue in the domestic market, where there is plenty of liquidity because of stringent exchange and capital controls. The last time the oil company issued a dollar bond, in May 2012, it had to pay a relatively high coupon of 8 percent for a $3 billion issue maturing in 2035.
Venezuela is the world’s fifth-largest oil exporter and has the largest reserves of heavy crude oil, but production has slipped because of insufficient investment. It produced 2.33 million barrels a day in October, down from as much as 3 million in 2000.
“If PDVSA wants to increase production it will need to invest more, and for this it would need more financing,” says Daniel Sensel, a fixed-income analyst covering Latin American oil and gas and other commodities at J.P. Morgan. The company may have to issue dollar debt to meet its requirement, he adds. “The local market doesn’t have enough liquidity to fund the Republic and PDVSA’s needs.”
The bolivar depreciation will have a strong inflationary impact because Venezuela relies on imported goods for roughly one third of domestic demand. Prices rose by 3.3 percent in January and 3.5 percent in December, implying an annualized inflation rate of about 50 percent, according to Barclays. The consensus forecast for inflation this year is about 30 percent.
Analysts don’t expect the devaluation to boost the economy much because Venezuela is not in a position to pursue export-led growth. Crude oil makes up 95 percent of the country’s exports and production has hit capacity constraints. The manufacturing sector is too small to drive a recovery, analysts say. The International Monetary Fund forecasts that economic growth will slow to 3.2 percent this year from 5.7 percent in 2012.
Whoever’s running the country will have their hands full trying to restore the economy to health.
