The Second Industrial Revolution, a period of great change and rapid industrialization witnessed the booming iron and steel industry, which spawned new construction materials enabling the remodeling of human civilization. Oil, a non-renewable natural resource made the industry plausible and would go on to power the 20th century.
Countries with substantial reserves of oil were pushed towards the forefront of the large-scale economic development the revolution expedited. One such nation was Venezuela, a Latin American nation that had dabbled into the industry as far back as the 16th century, during the years of Spanish colonization. Presently, the country boasts of the largest proven reserves in the world with over an estimated 298.4 billion barrels of oil.
One of the founding members of OPEC, oil accounts for 95 percent of Venezuela’s export earnings and nearly half of its federal budget revenue. The economy hinges on the production of oil and thus the nation is deeply dependent on a factor largely outside its control—the global price of oil. The recent plunge in oil prices has thrown the political and economic framework of the nation into great turmoil, making it a singular example in the global space.
The Economic Contours of the Crisis
The ineptitude of the Venezuelan authorities when it comes to weaning the country away from its dependence on export of oil following the deepest downturn of the industry since 1990s, has proved to be the deciding factor currently shaping the dimensions of the crisis Venezuela is embroiled in. The blame can partly be laid at the feet of the late President Hugo Chávez, who after assuming power in 1999 reneged on his promise to enable the diversification of the economy.
In his reign which spanned a period of almost 14 years, the percentage of Venezuela’s export earnings deriving from oil reached a whopping 95 percent presently. In fact, as Pulitzer-winner Daniel Yergin puts it in an interview, oil is what made Chávez possible.
Under his administration, revenues from oil exports were directed towards socialist endeavors, perhaps overly so. The oil bonanza Venezuela was naturally blessed with was utilized to fund government spending, thus inevitably tying the country’s fate to that of the oil industry. While this reaped immense benefits during the burgeoning years of the oil prices, it is what ultimately contributed to the downfall of the model as well.
Runaway inflation has characterized the crisis that Venezuela currently faces. The inflation rate has currently surpassed 180%, and according to projections by the International Monetary Fund consumer-price inflation is forecast to hit 480% by the end of this year. An approximate insight into the repercussions of such a high rate can be attained by considering the fact that according to some reports, an order of a large sized packet of fries in a Venezuelan McDonalds was priced at about 800 Bolivars ($129) at the end of last year, which would roughly constitute 9 percent of an average monthly income in the nation.
With a steep decline in the oil revenues, it became harder for the government to service its external debt, the levels of which increased tremendously due to state of worthlessness the Bolivar ended up in. Minting more money was no longer an option as the Bolivar had depreciated tremendously.
The situation was further exacerbated by the price controls the socialist Chávez government imposed upon commodities, thus widening the gulf between supply and demand and preventing the automatic adjustment of the markets. As domestic suppliers could no longer continue sustainable production, basic commodities had to be obtained from suppliers abroad, a practice hampered by the fact that the Bolivar has severely depreciated against the dollar.
Thus, the very resource that fueled GDP growth in the nation during much of Chávez’s tenure contributed to the ‘between the devil and the deep blue sea’ predicament Venezuela finds itself in today.
Hugo Chávez was the 64th President of Venezuela who served in that capacity for three consecutive terms. Chávez on assuming power, immediately went on to implement a set of reforms that bore strong leftist overtones under the umbrella of ‘socialism of the 21st century’. His reign constituted of an unbridled commitment to socialist economic policies financed by the revenues from oil exports. Under his tutelage, government spending on health, education, and social services saw a sharp upsurge. Strong price controls were implemented resulting in a general improvement in the standard of life during the years of plenteousness in the oil industry.
Chávez’s model and form of governance, informally known as Chavismo thrived on the tenets of populism and the Bolivarian revolution. His fiery rhetoric bolstered by the fact that Venezuela experienced economic growth, averaging 3.2 percent a year during his tenure gained him staunch supporters known as Chavistas all over the nation.
In 2006 and 2007, Chávez fully nationalized oil exploration and production, forcibly seizing assets of Exxon Mobil, France’s Total and Italy’s Eni. The state-run oil company, Petroleos de Venezuela (PdVSA) attained monopoly over the most prolific reserves in the country, including the Orinico belt. However, as journalist Marianne Lavelle states, while expelling the foreign oil companies served Chávez’s leftist aims, it deprived Venezuela of the expertise to tap its unique geology and the ability to earn far more oil revenue.
The above graph (Fig. 1) can be utilized to obtain an insight into the general decline in production that the country has seen after 2005.
The pervasive corruption that holds the nation in a deadlock and the failure of Chávez and his chosen successor Nicolás Maduro to eradicate it has proven to be integral in the impasse that the country has reached today. Major state institutions are teeming with corrupt officials and according to an interview with Roland Denis, a revolutionary activist who was Chávez’s vice minister of planning and development in 2002-2003 , the number of officials involved in corruption is “not four or five, but hundreds who in turn have created their own networks of collaborators and frontmen.”
Corpolec, the state electricity company; CANTV, the state telephone company; the housing mission; the food ministry; SENIAT, Venezuela’s tax agency; the Venezuelan Central Bank; CADIVI, an institution set up to manage currency controls; SIDOR, the state-owned steel manufacturer; and the state oil company, PDVSA all belong to an extensive list of institutions and bodies which have indulged in dubious practices over the years.
Denis also estimates that the amount of money lost due to manipulation of currency controls is close to $300 billion leaving the possibility that the actual amount may be well surpass the estimate, wide open.
The role of Price Controls
However, more than the declining value of oil and the rampant unchecked corruption gripping the nation, the single root cause of the lies within the idiosyncratic multiple exchange rate regime that the country follows. As of March 2016, the nation has two official exchange rates, the DIPRO which is only available for purchases and sales of essential items and the DICOM, which is available for all transactions not subject to the DIPRO exchange rate and is intended to operate as a free-floating exchange rate mechanism.
Presently, the DIPRO exchange rate—the first tier of the exchange rate system is set at 10 bolivars per dollar and is used for essential imports such as food, medicine, and material inputs needed for domestic production of key goods. The free-floating DIXOM—the second-tier of the system is trading at 647.1 bolivars per dollar as of 6th September, 2016. Lastly the third rate is the black market rate which is currently touching a value of 1200 bolivars per dollar.
The immense gulf that exists between the lower of the official exchange rate and the black market rate has embellished the economic woes of the nation. It has allowed corruption to flourish amongst the businesses and state officials who are allowed to avail of the lower official rate by the government whilst obtaining dollars. The black market enables them to make an obscene amount of profit from the dollar trade. Diversion of dollars into the black market trade has an adverse impact on imports and legal businesses as it reduces the dollars in circulation in these markets. It also contributes to the vicious cycle of inflation and devaluation of the bolivar, further augmenting the state of affairs.
Thus, price controls which were initially introduced in 2003 to prevent capital flight have wreaked havoc in the recent past. It has been speculated that Maduro’s refusal to allow a free floating exchange rate to exist is less to do with the fear of further devaluation of the currency and more likely to be a consequence of his desire to keep the top brass of the nation appeased in order to prevent insurgencies.
A Somber Look Ahead
Mismanagement of currency, failure of policy implementation and extreme reliance on oil as a get out of jail free card are all equally to blame for the current predicament the nation finds itself in. The economic war waged by the opposition (as Gabriel Hetland, professor at University at Albany, SUNY elaborates in an editorial) has also heightened the intensity of the dire circumstances. Flourishing black market trade, hoarding of essential goods for profit and opposition’s persistent call for regime change which have often culminated in deathly protests across the country have only served to aggravate the situation further.
Thus, Venezuela serves as a textbook example of a country bringing itself to ruins over the very resource that contributed to the prosperity of the nation for decades on end.