Publish in Perspectives - Wednesday, February 17, 2016
A default will most likely lead to a sharp decline in oil exports, leaving the government with no money to buy food, and hunger will become pervasive in the streets of Caracas. (Photo: George Miquilena)
Venezuela’s imminent default will be much worse than Argentina’s.
BY WALTER T. MOLANO
President Maduro is living on borrowed time. Venezuela’s policy mistakes are coming home to roost, as the price of oil languishes.
President Chavez’s so-called Bolivarian revolution, as well as the missteps of his successor, is mostly to blame for the country’s woes. However, they are not the sole causes. The development of the first oil fields, almost a century ago, embarked the economy on a process of over-concentration. Prior to the development of the oil industry, the Venezuelan economy focused on mining and agriculture. The Orinoco River valley teems with mineral deposits. The discovery of gold led to a sizeable immigration of Europeans at the end of the 16th century, along with a similar importation of slaves. Gold has always been significant in Venezuela, and it is the reason why the precious metal is an important component of the country’s international reserves. Agriculture is another traditional sector. Venezuela was a major coffee and cocoa producer during the 19th century and it is still considered to have some of the highest quality cocoa beans in the world. Later on, the country began to transform the vast grasslands in the west into a thriving cattle industry. Vestiges of the cowboy culture are still in plain view at some of the old steak houses in Caracas. Unfortunately, the oil bonanza eclipsed mining and agriculture at the end of the 1950s, when the country began displaying all of the symptoms of Dutch Disease.
Interestingly, the government understood early on that it was on a dangerous path, with too much concentration in a single sector. There were several brave attempts to diversify. During the early 1960’s, President Romulo Betancourt inaugurated Corporación Venezolana de Guayana (CVG) to develop extraction industries along the Orinoco. Headquartered in Ciudad Guayana, the state-owned company had a mandate to develop the rich deposits of bauxite, iron ore, gold and diamonds. CVG built a huge hydro-electric plant over the Caroni River in order to provide cheap electricity to the mining, smelting and processing facilities. During the 1970s, the government set in place incentives to develop an auto industry in the industrial heartland of Valencia, providing cheap inputs, such as metals and heavily subsidized electricity. However, the easy profits produced by the oil sector dimmed the allure of alternative industries.
Moreover, the arrival of Hugo Chavez, and his Bolivarian movement, only made matters worse. Bolstered by the spike in oil prices, due to the reintegration of China into the global economy, the radical socialist used the windfall to launch an economic battle against the nation’s capitalist and bourgeoisie classes. One of the first victims was PDVSA, the state-owned oil company. A strike by the company’s workers in 2002 led to a virtual destruction of the firm. More than 18,000 workers, or 40 percent of the workforce, were fired. This included senior management and most of the engineers. Up to then, PDVSA had been one of the world’s leading oil companies, with a high degree of sophistication. The move was a blow to the country’s industrial capacity, reducing oil output by almost a third.
Chavez then moved against other key sectors, such as telecommunications, banking, electricity and agriculture. Businesses were nationalized, often paying owners handsomely, but allowing the operations to wither away. The bulk of the population did not notice. Soaring oil prices allowed the country to increase imports five-fold between 2002 and 2013. An aggressive debt issuance program also brought in further resources. However, it set the stage for one off the worst economic tragedies that will soon hit the planet.
Many pundits warn that Venezuela’s imminent default will be similar to Argentina’s. Unfortunately, it will be much worse. Argentina defaulted on its external obligations in 2001, but it survived thanks to its vibrant agro-industrial capacity. No one starved during the financial crisis in Argentina. Much of its industry came back to life, producing consumer goods, pharmaceuticals and industrial products. Yet, Venezuela’s industry has been gutted. There are widespread shortages of consumer staples and medicines. Multinational companies are refusing to allow their cargo ships to approach Venezuelan waters to prevent them from unloading their wares.
A default will most likely lead to a sharp decline in oil exports, because the country will be unable to import the light crude it needs to mix with its heavy hydrocarbons so that they can be exported. As a result, the government will have no money to buy food, and hunger will become pervasive in the streets of Caracas.
This will become an economic nightmare that will trigger widespread social unrest. Venezuela’s policy mistakes are coming together into a singularity that will produce a tragic outcome.
Walter Molano is head of research at BCP Securities and the author of In the Land of Silver: 200 Years of Argentine Political-Economic Development.