The fiscal problem in Venezuela

These days Maduro is flying around the world as a beheaded chicken.  Why? He has no cash, no economy, and his only hope for political survival is to have oil go back to 80 USD a barrel. Hat in hand, default threats in hand, he is a sorry sight.  But 80 is not going to happen; and even if it were to happen it would not be enough.

I may want to digress as much as I want on a productivity problem in Venezuela, but there is a fiscal problem that looms even larger. Readers of this blog must remember that it has been quite a while we have started to discuss that the crazed currency problem is not been addressed as it should. Devaluations come late, incomplete and without a plan to avoid a new one. Budget deficits kept happily expanding as the regime needed more and more cash to buy voters that asked more and more for their vote. And now that the oil prices have collapsed we are about to consider eating our pets. But there are some solutions that could go a long way to stabilize the country and allow it to negotiate better surrendering terms with the IMF, WB or China (1).

Interestingly, in spite of the coming financial cataclysm, the regime has finally taken two tiny measures that, let's be generous, may solve 2% of the problem (2). And then they sent Maduro to Russia and China and Qatar to ask for money. Of course, the cash he asks for is to run the electoral campaign next year. Donors have not been fooled apparently. China will invest "in the future", and sand ridden Qatar will make joint agricultural ventures with Venezuela, a diplomatic mockery if I ever so one.

Before reading further you need to make sure you understand the chaotic and out of reality way the regime proceeds. You also need to understand that what I propose below has no chance to be developed rationally by the regime and will only happen when it is cornered, in a bad way. Because, let's face it, any serious non-populist measure will be the death knell of the revolution as, among other things, chavismo would break up. Or does anyone think that Maduro can go to the IMF without political consequences?

The local deficit problem

I am going to divide the rest of this post in two parts: this first one about the government deficit in local currency.

This one must be solved fast because the regime cannot fire bureaucrats and misiones beneficiaries fast enough. Never mind  that cutting off 20% of its payroll in bureaucracy or welfare would push  us further into recession, with even less consumers, more social instability.

The regime is seriously considering increase taxes further which in today's context would be lethal for the economy as businesses still alive barely make it through. Reminder; if you have 60% inflation your business must have benefits of 61% or start losing its value. That is, if your business does not make more than inflation you erode your capital and you are better off closing up the shop. I can assure you that in Venezuela today no one makes 61% return today. We are heroes just by keeping payroll.

No, the ONLY way to at least solve in part the cash problem at home is to (drum roll) increase the price of gas. The good news here is that gas is so cheap and inflation so high that actually bringing the price of gas to at least its cost of production and distribution will not affect much companies costs. I am willing to bet that even transport companies have their gas cost below 1% of all of their other costs. Bringing up that cost item to 5 or even 10% will not force them to increase their prices much. Do the math.

Granted, you may not want to go from zero to actual cost in an instant but you could explain to the country that there will be gas price increases every month for a year until people start paying the true price of gas.

But this such a self inflicted political hot potato that even talk of gas hikes have disappeared! Reminder: Chavez said that as long as he was president gas will not increase. Perhaps the lone promise he kept, even if it wrecked the country.

Another easy measure that will cost nothing and that would go a long way is to return to previous owners a lot of the nationalized business. They are costing a fortune, they are producing less than what they did, if at all, they are a source of corruption. Since they have also been looted, give them back to the old owners for free and allow tax exemption for all the cash required to build back the business. Trust me, you will find takers- And the taxes the state fail to collect? Who cares! As long as business remains state owned there would be no taxes to collect anyway. But at least privatization would get you sales taxes again.

Just these two measures allow for the regime to maintain crucial welfare programs and the bulk of public payroll while the real necessary reforms can be designed and taken.

UPDATE
This morning I read a recent article from the Economist about energy subsidies versus education expenses. Dramatic picture on the right on how gas subsidies helped wreck Venezuela as a whole.

The foreign currency problem

With the price of oil down and a huge debt in USD, what can the country do? Very little, but there are things that it should try anyway.

Clearly, a devaluation is long overdue. And it should be, on paper, at around 60 to one USD, Depreciating the currency by 90% in a swell swoop would mean that we all go bankrupt at once, that the country simple stops to function.We have been under currency control for soon a decade and a half and the system is so twisted that you just cannot get out of it like that. Still, you need to do it. A possible solution is not too complicated, and if applied may already bring indulgences from lenders.

Set a plan to go back to free convertibility over a year, two top.

We start with a devaluation of the 6.3 official to 15 and merge it to the 12 SICAD 1 rate that is basically useless (3). Today most business calculate their costs at 25 and plus if they can get away with it. So, bringing it up at 15 and letting is float up by, say, 25 cents of bolivar a week could begin a necessary correction without bringing a crushing inflation or total economic paralysis.

While this new official currency rate is set, strictly for food and medicine, keep the SICAD 2 and let it slide slowly but surely away from 51. Bring most items not covered at preferential 15 to SICAD 2.

And, MOST IMPORTANT allow for a fee legal exchange rate where people who have no access to official or SICAD 2 can buy USD at whichever rate their are crazy enough to buy. I, for one, think the current 175 is crazy, but if the regime does not make adjustments and keep printing money the 175 will be cheap in a matter of a few weeks. My guess is that if the black market were to be made legal within a few weeks, if the other reforms are undertaken, the free bolivar may be less than 140. At any rate, start pulling away from SICAD 2 items and let them go free, one by one.

The objective is to merge by January 2016 SICAD2 and free Bolivar at whatever value results. And then plan to bring in final free convertibility  by the first semester of 2016, or as soon as recession weakens.

Of course, I am not entering in what percentage of what goes to what exchange rate. I cannot. What I am writing above is the kind of currency scheme that could be tolerable for private business to weather the worst of the crisis and perhaps start growing already by the last quarter of 2015. Unfortunately this is not going to happen because 1) too many corrupt folks benefit too much from the 6.3/170 arbitration and 2) thus you would need to take currency control AWAY from political hands, like in a real independent central bank.

Never mind that this would require special loans from IMF and the like....

But there is another problem that could kill any attempt at restoration.

Private business has several thousand of millions of dollar in outstanding debts. These, the business have the bolivars to pay for it but the regime has not allowed for the USD to be transferred to providers. These providers have run out of patience and now refuse to send raw material unless paid IN ADVANCE, IN FOREIGN CURRENCY. Something that the regime, well, does not have anymore. Those billions have disappeared in thin air and yet they are owed, there is no way around. What to do?

Again there is a way. As I have written above most business already calculate their prices above 20 bolivares per USD (or more, depending on the area).  Thus we can ask them to take a hit and chip in financially to save the country and not go bankrupt outright as no one will sell them a grain of raw material to work.

Negotiate with the IMF a special loan strictly to pay well documented private debt. That loan, maybe 6 billion USD, will be used by an independent agency to pay the providers debt with, say, a 20% hit. What does the private business gets in exchange? Payment of their debt in a few weeks and the ability to start importing raw material again with loans but this time at a more real currency figure. Yes, it is not a great deal but it would allow for a lot of companies not to go bankrupt and maybe revive within a year or two. That loan of course would be paid by the state long term and since there is no asset its backing would be a political one signed by both opposition and chavismo. Again: its functions will be handled AWAY from government hands. Business that do not want to take that 20% hit can be left waiting for the regime to pay for them at 6.3 some imaginary day in the future.

CONCLUSION

There is a productivity and a financial problem in Venezuela. Both need to be addressed away from the chavista model. There is no way around. The revolution is dead, or must become a sanguinary dictatorship which is a death of its own anyway.

What I presented in these tow posts are partial measures that would allow for the private sector not to die and start a recovery, the only way Venezuela can retain some economical independence in the future. Many other structural reforms are needed to make Venezuela gain a viable state: decentralization, tax reform, judicial independence, true accountability, a nations' development guidelines, etc, etc...  But all of these take years and that is a luxury we do not have. Yet taking what I explained in these two entries would be more than a mere band-aid. And would allow for better negotiation terms with any lender, be it the IMF or a consortium of countries.

Going around like Maduro does pathetically will not work.

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1) I must remind readers that I am no economist but I am writing from ground zero, about the obvious, but an obvious that apparently chavismo is unable to perceive even in broad daylight. Thus what follows is not a discussion of macro economic packages that could be taken, but rather simple measures that the regime could already do that would lower the pressure and maybe, besides proving its good intentions, allow to get better deals from prospective lenders.

2) The first measure are to start a devolution of some functions to the states, functions that had been centralized by Chavez when all knew that it would never work. They start reestablishing tolls on highways and let the proceeds go to regional authorities to at least clean the roads and patch the worst potholes. Besides being the first major rebuke to Chavez policies, we must note that unless tolls are adequate there is little the regions will be able to do. Let's not look forward for safer roads any time soon.

The other measure is the novel concept that people should actually save to be able to afford overseas travel, that the government has no business subsidizing vacation travel. As such, what should have been done two years ago has started: travel expenses will now be payed for at SICAD2, which is the worst exchange rate at 51 for a USD. Note that the black market is at 171 but I digress.  Let's focus on the positive: you have lost your "right" to go shopping to Miami. Now you need to save for a few years to be able to go, like everyone else does around the world. Innovation bolivarian style!

3) Reminder, the country has today 4, FOUR exchange rates. An official one at 6.3 that almost no one has access to it. A SICAD 1 at around 12 that is all but imaginary. A SICAD 2 floating between 50 and 60 which is basically the lone one with some meaning. And the black market one at 170!!!!!! I let you imagine how graft is encouraged through that crazy scheme.