Why Does Venezuela Think Russia Is Its Friend?
Venezuela
is in crisis. Due to the falling oil price, maintaining the complex
triple exchange rate system is draining its FX reserves, and President
Maduro’s public expenditure plans are fast becoming unaffordable.
In October, the Venezuelan government set a budget which increased public spending by 35%, nearly all of it on social programs. From the independent website Venezuelan Analysis:
It is difficult to see how such a large increase in spending on social programs could be affordable at present. Venezuela’s government is completely dependent on revenues from oil exports: it needs the oil price to be above $100 per barrel to support spending plans. The budget deficit is already at 16.9% and revenues are falling fast due to sharply worsening terms of trade and general economic weakness. The Venezuelan government claimed that its plans had priced in the oil price fall:
But it seems Maduro has a plan. On January 3rd, changes to the complex triple exchange rate system will be announced.
This is welcome. Reform of exchange controls is desperately needed. Supporting the bolivar at too high a rate puts the government’s fiscal position at risk due to exchange valuation losses. And Venezuela’s external position is even more precarious than its domestic finances. Its FX reserves currently stand at $21bn despite recent measures to increase them. That is only sufficient to meet foreign debt repayments for two years. Draining them to support the bolivar exposes Venezuela to the risk of external default – a risk now widely priced in.
The bolivar needs to be substantially devalued. Ideally the bolivar should be allowed to float, but the outlook for Venezuela’s economy is grim and inflation is high, so it would probably be necessary to retain some form of peg to the US dollar at a much lower rate, along with capital controls to stem dollar outflows. But that might not go down too well with Venezuela’s closest ally – the wounded bear in the North.
The dollar value of Venezuela’s trade with Russia increased hugely after the exchange rate system was reformed in 2010, as this chart from Delta Economics shows:
This is not simply an exchange effect. Daniel Workman reports that Venezuela’s imports from Russia have increased by an astonishing 2,081% since 2009: the fastest growing imports are turbo-jets and electricity-generating machinery, which is perhaps not surprising in a country which has persistent energy supply outages.
In October, the Venezuelan government set a budget which increased public spending by 35%, nearly all of it on social programs. From the independent website Venezuelan Analysis:
The plan, totaling 741.7 billion bolivars (about $117.7 billion at the official exchange rate of 6.3), represents a 35 percent overall increase from the 2014 budget. Proportionally, 34 percent more funds will be invested in social programs in 2015 than this year.
The programs which will see the most growth will be the Amor Mayor mission, which provides elderly pensions, the Barrio Adentro mission, which provides free healthcare and clinics in poor areas, and the Sucre Mission, which funnels money into the country’s Bolivarian community colleges.
It is difficult to see how such a large increase in spending on social programs could be affordable at present. Venezuela’s government is completely dependent on revenues from oil exports: it needs the oil price to be above $100 per barrel to support spending plans. The budget deficit is already at 16.9% and revenues are falling fast due to sharply worsening terms of trade and general economic weakness. The Venezuelan government claimed that its plans had priced in the oil price fall:
The vice president of the National Assembly’s financial commission, Jesus Faria, explained that to be “cautious,” the government calculated its budget assuming oil prices will be at US$60 a barrel, recognizing that “our economy is very vulnerable to changes on the international market.”But it then shot itself in the foot:
Faria insisted that the budget, by the will of the Bolivarian government, will continue to expand the “buffer” that protects popular sectors from being negatively affected in the areas of food, education, health, and housing.Ring-fencing expenditures on popular but expensive categories makes it very hard for governments faced with serious budgetary pressures to find savings. Maduro, promising to “fix” the economy, says that “unneeded expenditures” will be cut: Bloomberg speculates that this might mean cutting back embassy staff. It’s a drop in the ocean compared with public entitlement programs and subsidies that have so far been entirely funded from oil receipts and international borrowing. Unless the oil price recovers, the commitment to protect them cannot possibly be supported.
But it seems Maduro has a plan. On January 3rd, changes to the complex triple exchange rate system will be announced.
This is welcome. Reform of exchange controls is desperately needed. Supporting the bolivar at too high a rate puts the government’s fiscal position at risk due to exchange valuation losses. And Venezuela’s external position is even more precarious than its domestic finances. Its FX reserves currently stand at $21bn despite recent measures to increase them. That is only sufficient to meet foreign debt repayments for two years. Draining them to support the bolivar exposes Venezuela to the risk of external default – a risk now widely priced in.
The bolivar needs to be substantially devalued. Ideally the bolivar should be allowed to float, but the outlook for Venezuela’s economy is grim and inflation is high, so it would probably be necessary to retain some form of peg to the US dollar at a much lower rate, along with capital controls to stem dollar outflows. But that might not go down too well with Venezuela’s closest ally – the wounded bear in the North.
The dollar value of Venezuela’s trade with Russia increased hugely after the exchange rate system was reformed in 2010, as this chart from Delta Economics shows:
This is not simply an exchange effect. Daniel Workman reports that Venezuela’s imports from Russia have increased by an astonishing 2,081% since 2009: the fastest growing imports are turbo-jets and electricity-generating machinery, which is perhaps not surprising in a country which has persistent energy supply outages.
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