Chávez’s iron grip on economy ‘unsustainable’

By Benedict Mander in Caracas

Published: August 23 2007 22:36 | Last updated: August 23 2007 22:36

President Hugo Chávez’s tightening grip over Venezuela’s economy is generating distortions that economists fear could, paradoxically, eventually lead to a loss of control.

Price controls, currency controls and negative real interest rates are just some of the elements that have contributed to one of the highest rates of inflation in the world and a substantially overvalued exchange rate.

“This regime is not sustainable. It is only propped up by the high price of oil,” says Jose Guerra, a former director of research at the central bank. “Venezuela has already experimented with these policies in the past and it ended up going broke.”

The controls introduced by Mr Chávez are, in part, an attempt to offset the inflationary effects of large-scale government spending, afforded by record oil prices, to boost economic growth.

In this, the government has succeeded: growth has averaged 12 per cent in the past three years, leading to a drop in the rate of poverty from 43.9 per cent when, Mr Chávez was first elected in 1998, to 30.4 per cent in 2006.

This has won Mr Chávez increasing levels of support from the electorate, who are expected to vote in favour of his proposed reforms to the constitution in a referendum that would allow him to be re-elected indefinitely.

But his economic policies have triggered high levels of consumer demand that now far outstrip the economy’s productive capacity, with negative real interest rates providing consumers no incentive to save their cash.

Unbridled spending combined with price controls that are intended to check the inflationary effects of such policies has lead to scarcity of basic goods such as milk, eggs, beans and beef.

To counter this, imports have tripled in the past three years in an effort to make up for the economy’s inability to support demand. But rising inflation and an increasingly overvalued exchange rate will continue only to make imported goods even more attractive, just as non-oil exports become too expensive on world markets. This would make Venezuela ever more dependent on oil, which accounts for almost 90 per cent of exports.

Ironically, one of Mr Chávez’s key policies is to stimulate “endogenous de­velopment” to steer Venezuela away from its dependence on oil.

“If the price of oil suffers a significant world decline, the retail sector will not be able to support the current level of imports without the country sliding into immediate trade deficit,” says Mark Turner, an analyst at Hallgarten, who adds that central bank reserves would not last long under such pressure. “Recession would be a real threat to the economy as well as the administration running it.”

But Mark Weisbrot, an economist at the Centre for Economic and Policy Research, argues that the Venezuelan economy “does not fit the mould of an ‘oil boom headed for a bust’.”

He says that a large current account surplus, rising foreign exchange reserves, and low levels of external debt are enough to insulate the economy from any imminent danger, although he concedes that the currency is at least 30 per cent overvalued in relation to the dollar.

“This is something that will have to be remedied if Venezuela is going to pursue a long-term development strategy that diversifies the economy away from oil,” he says. However, he concedes that the government is reluctant to devalue due to the effect this would have on inflation.

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