The Venezuelan government finally blinked when it came to financial pressures by devaluing its currency on January 8th. The rate of the Bolivar Fuerte had been pegged at 2.15 to the dollar and is now 2.6 for essential supplies and 4.3 for luxury goods. Last week the value of the dollar on the parallel market rose to as high as 6.4, demonstrating that even now the Bolivar remains overvalued. (See a short note on Bolivars below.)
The devaluation will enable the central government to earn more local currency when it sells oil overseas, enabling it to better maintain domestic spending. On the other hand, a downside is that this move may trigger increased inflation, which already runs at 30% per year. In response, Venezuelan consumers have rushed to make purchases before any price changes. President Hugo Chávez, meanwhile, warned storeowners not to increase prices, or risk expropriation. He also called for a 25% increase in wages, though without enforcement this may not be followed by private employers.
In some ways, the government’s ability to hold off on the devaluation lasted longer than expected. Under Chávez, government payrolls have expanded dramatically (some receiving checks without actually working), and it now runs a large number social programs (Misiones) that are as much criticized for corruption and waste as praised for improving the lives of poorer populations.
The oil prices that peaked in 2008 at over $147 per barrel later dropped to below $35 and have settled in around $75-80. The high returns on oil had enabled the tremendous growth in the Venezuelan government’s programs and costs, which could not be maintained when prices later dropped. Where did all of the income from previous oil sales go? Some was held as a cash reserve totaling in the billions of dollars, but most was spent. (And the recent devaluation means that the government has probably burned through its reserve fund as well.)
On the other hand, the devaluation is surprising given that 2010 is an election year. Voters will go to the polls to select their National Assembly representatives, and any spike in inflation will likely be pinned on the central government, giving ammunition to the opposition’s candidates.
Note: Two years ago, on January 1st 2008, the Venezuelan government introduced a new currency, the Bolivar Fuerte, valued at 1000 times the Bolivar (i.e. a Wendy’s Frosty, which previously cost 6,000 Bolivars sold for 6 Bolivars Fuerte). This did not change prices or the value in comparison to the dollar, but just made transactions a bit easier.
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