Arcaya & Asociados
Economist Intelligence Unit
October 7ht, 2007
Government officials continueto insist there are no near-term plans to adjust the official exchange rate, despite the bolívar's ever-greater overvaluation Macroeconomic policymaking in Venezuela continues to centre on efforts to contain inflation and the spiralling parallel exchange rate. Neither the timid fiscal and monetary adjustment measures implemented by the authorities in recent months, nor the promised sales of more dollar-denominated securities, have been able to stop the slide in the value of the bolivar in the free market.
However, government officials continue to deny any plans to adjust the official exchange rate, despite its ever-greater overvaluation. Following the nationalisation early this year of Venezuela's largest telecommunications company, CANTV, which ended trading of its ADR shares in New York, the main reference point for currency transactions outside the official market has become the rate for swapping bolívardenominated bonds for dollar-denominated government bonds. This rate almost broke through the Bs5,000:US$1 barrier in late August, reaching Bs4,950:US$1, before falling back slightly to Bs4,875:US$1 on the last day of the month. The end-August rate represents a huge premium of 127% over the fixed official rate of Bs2,150:US$1. The gap between the two rates constitutes an irresistible arbitrage opportunity, and foments unproductive rent-seeking activities. It is, hence, a source of many distortions and inefficiencies. At the same time, the depreciation of the currency in the unofficial market is helping to fuel inflationary expectations.
Is Central Bank autonomy over?
Against the backdrop of excess liquidity in the domestic financial market, two factors triggered the renewed depreciation of the currency in unregulated trading in August. The first was the announcement that in the proposed new constitution, Central Bank independence would be formally eliminated and international reserves put under the management of the president.
The other factor was the postponement of the Bono del Sur III auction, which, like previous placements of dollar-denominated securities payable in local currency, would have temporarily relieved pressure on the parallel rate. Earlier, investors had been unnerved by proposals in Congress to eliminate the only remaining legal mechanism for trading in the parallel market, the "permuta" (swapping) of government bonds, (the Bono Sur III auction was finally completed on October 3rd).
The government has tried to play down the importance of the weakening of the currency in the parallel market. In late August the finance minister, Rodrigo Cabezas, claimed that the soaring free-market rate had no bearing on economic policy. He also claimed that only 5% of imports were made through the parallel market, a figure well below the 15% estimated by local analysts. The finance minister did add, however, that in addition to relaunching the Bono del Sur III the government was contemplating the sale of US$1bn of structured notes held by the Fondo Nacional del Desarrollo (Fonden, the national development fund). Apart from helping Fonden to meet its commitments in local currency, the sale of these dollar-denominated securities would go some way to satisfying the pent-up demand for foreign currency.
Officials from both the Ministry of Finance and the Central Bank continue to deny strenuously that the government plans to devalue the bolívar any time soon. In particular, the suggestion that the official exchange rate will be adjusted at the time of a planned currency reform (lopping three zeroes off the value of the bolívar) at the start of 2008 has been repeatedly rejected. However, in July Finance Minister Cabezas for the first time referred to the possibility of a future devaluation. Although he emphasised that it would not happen this year or next, he said that such a move could not be ruled out for 2009 should economic conditions warrant it.
The minister added that as the government has no cashflow problems (thanks to continued strong inflows of oil-export revenues) there is no need to devalue in the short term. This suggests that the fiscal motive for devaluation is uppermost in the authorities' thinking, rather than the balanceof- payments motive. He also argued that movements in the parallel rate would not be a factor in determining policy as regards the official rate.
Devaluation delay until 2009.
An unchanged official exchange rate will leave the parallel market premium at over 100% of the official rate, raising the risk that the eventual adjustment will be harsh. Although the government claims not to be worried about the ever-wider gap between the parallel and official rates, officials have indicated that additional sales of dollar-denominated assets are planned. Such operations should help to steady the parallel rate. However, in the absence of any comprehensive fiscal and monetary adjustment programme, and given the government's anti-market stance and growing fears of creeping socialism, there will be little let-up to capital flight. That said, robust oil revenues should allow the authorities to prevent the bolívar from going into complete free-fall in the parallel market, for example by ensuring that that there is an adequate supply of dollars at the official rate.