Venezuela Slashes Currency Value

Venezuela Slashes Currency Value
Devaluation Aims to Ease Shortages

CARACAS—Venezuela devalued its currency against the dollar on Friday, a move made by the government of ailing President Hugo Chávez to ease deepening shortages, but is also expected to stoke inflation and further weaken the economy.

Venezuela's government has had strict currency exchange controls since 2003 and maintains a fixed, government-set exchange rate.

The bolívar—whose official name is the Strong Bolívar—was slashed by nearly a third of its value to 6.3 per dollar from a previous rate of 4.3 per dollar, Finance Minister Jorge Giordani told a news conference.

The move will help narrow the Venezuelan government's budget shortfall, but will also spur inflation that is already among the world's highest—highlighting the increasingly difficult trade-offs faced by Mr. Chávez after a more than a decade of populist economic policies.

The devaluation was widely expected sometime this year after the government ramped up spending in 2012 ahead of October's presidential election. In that vote, Mr. Chávez handily won re-election before falling ill again to an undisclosed type of cancer.

The spending helped Venezuela's economy to grow by more than 5%, but also deepened the budget shortfall to anywhere from 8% to 17% of annual economic output, depending on the estimate.

It also drove a shortage of dollars as Venezuelans anticipated their bolívars would soon be worth less and began snapping up greenbacks on the black market, where the value of the bolívar has slid to 18 per dollar.

A lack of dollars needed to buy imports also has led to widespread shortages of some staple foods, such as cornmeal, chicken and sugar, spurring discontent.

What was something of a surprise was the timing of the currency move, with Mr. Chávez in a hospital in Havana, where he has been since a Dec. 11 surgery for a recurrence of his cancer. The president hasn't been seen since and many observers wondered if the government would take a politically risky step like devaluation without Mr. Chávez around.

Some analysts viewed the decision to devalue now as a sign there is growing confidence that Chavistas have united behind Vice President Nicolás Maduro, Mr. Chavez's designated successor.

"Evidently, the situation is as grave as people say, with a high fiscal deficit, liquidity problems, and lots of shortages," said Javier Corrales, an expert on Venezuela at Amherst College. "But it also shows that the people within the Chavista movement are very committed to the government to do something as risky as this at this time."

The move should ease the fiscal gap by giving the government more in local currency terms for every dollar it earns in oil exports through state oil giant Petroleos de Venezuela, one of the world's biggest oil companies. The fiscal gap will close to 5.3% of gross domestic product compared with 8.5% last year, said Francisco Rodriguez, an economist at Bank of America Merrill Lynch.

"It's still a high deficit, the government hasn't completely solved the problem and they will most likely have to devalue again at the end of this year or the beginning of next year," he said.

The move will raise the cost of imports, and Venezuela's economy—hit by widespread nationalizations during the Chávez years—is increasingly dependent on imports. Alberto Ramos at Goldman Sachs estimated Venezuela's inflation will rise to 30% this year as a result.

Venezuela carried out a similar devaluation in 2010. Economists said another adjustment was long overdue since prices had increased by an estimated 98% since the last change.

"This shows that economic imperatives trump political calculations," says Moisés Naím, a senior associate for the Washington based Carnegie Endowment for International Peace. But Mr. Naím said the devaluation would do little to solve the country's deep seated economic problems.

"When the smoke clears and the mirrors are packed away, we'll be left with a more cash-flush government, a less cash-flush populace, and with all of the pre-existing distortions and absurdities somewhat attenuated, but very much in place," wrote Venezuelan blogger Francisco Toro.

Among the biggest losers of the devaluation are foreign companies hoping to repatriate dollars home, Mr Naím said. The Venezuelan government has held up providing dollars to many companies, and will now give them fewer dollars for their sales in local currency terms.

In earnings calls in recent weeks, top executives from Procter & Gamble Co., Colgate-Palmolive Co. and Kimberly-Clark Corp. warned that a currency devaluation in Venezuela would likely reduce their earnings outlook this year. Among the most exposed is Colgate, which derives roughly 5% of its sales from Venezuela, and P&G and Clorox Co., which get about 2% of their sales from the country, analysts say.

Venezuela is also a big market for Avon Products Inc., a direct seller of beauty products and other items, but the company may be in a better position to try to recover the potential impact because cosmetics aren't subject to tight price controls, says Javier Escalante, an analyst with Consumer Edge Research in Stamford, Conn.

Most of the world's economies moved away from fixed exchange rates in the 1990s after a series of high-profile devaluations, from the Mexican peso to the Thai baht. But Mr. Chávez's populist policies have gone in the other direction. He implemented currency controls in 2003 after increased government spending led to inflation and then price controls.

Since then, Mr. Chávez's government has periodically devalued the currency every few years.

The moves are partly meant to breathe new life into struggling local industry—weighed down by widespread nationalizations and price controls—by giving them a chance to compete against imports.

But the step is unlikely to boost competitiveness unless the government overhauls the rest of its policies, including price controls and other measures.

"For a long time the Chávez government has driven the economy with one foot on the gas, and the other on the brakes," said Mr. Naim. "It has launched all kinds of initiatives to stimulate demand while braking hard on supply."

The currency move is likely to set the stage for a showdown in coming days between retailers and the government, which is keen to prevent the devaluation from feeding through to price increases that could erode consumers' buying power and the popularity of the Chávez government.

In Jan. 2010, a similar devaluation led to shoppers swarming stores to buy goods before prices were marked up. Prices did rise, stoking inflation to about 30% at the time, and the government responded by threatening to shut down businesses that raised prices. Few were actually shut down at the time.

Central Bank President Nelson Merentes also said the government would scrap a dollar-bond trading platform called Sitme, which was used to distribute dollars into the local economy at a preferred rate, saying that the system was forcing Venezuela to issue unnecessary debt.

Barclays estimates that between 2007 and 2011 Venezuela averaged $9.4 billion a year in debt issuance, tops of any other country in emerging markets. Much of the bonds were feed through the Sitme system, which sold dollar-denominated bonds locally that would then be unloaded overseas for greenbacks.

Investors' wariness of Mr. Chavez has long made borrowing money in international markets costly and Venezuela cut back on bonds sales last year.

"The government is maintaining its own difficult situation. They're the ones increasing spending for their political goals but at the same time trying to keep these currency controls. We're seeing that it's a combination that is not working," said Ronald Balza, an economist and professor at Universidad Catolica Andres Bello in Caracas.