Venezuela’s economy is facing a tsunami of bad news. The country is suffering from the world’s deepest recession, highest inflation rate and highest credit risk—all problems aggravated by plunging oil prices. Despite all its troubles, though, until now Venezuela has kept making payments on its $100-billion-plus foreign debt.
That is about to end. In recent days a consensus has emerged among market analysts: Venezuela will have to default. The only question is when, news outlets reported.
A Venezuela meltdown could rock financial markets and debtors around the world will lose a lot of money.
In the last few years, the Venezuelan government has been steadfast about staying in good grace with its lenders. It has paid arrears on its debt, and has constantly asserted that it will continue paying.
But it has neglected to implement reforms the country would need to improve the fundamentals of its economy. Its commitment to socialist “populism” and the complicated internal dynamics within the governing coalition have paralyzed the government.
It has repeatedly postponed important reforms like eliminating its absurd exchange rate controls (the country has at least four exchange rates) or raising the domestic price of gasoline (the cheapest in the world by far). Instead, the government has “adjusted” by shutting off imports, leaving store shelves all over the country barren.
The Coming Default
This strategy now seems unsustainable. According to various estimates, in 2015 Venezuela imported about $32 billion worth of goods. This was a marked drop from the previous year. This year, given current oil prices and dwindling foreign reserves, if Venezuela were to pay off its obligations—at least $10 billion—and maintain government spending, it would have to import close to nothing. In a country that imports most of what it consumes, this would ensure mayhem. That is why all analysts predict default in the coming months.
One of the reasons the coming default will be so messy is the many instruments involved, all issued under widely varying conditions. Part of the stock of debt was issued by PDVSA, Venezuela’s state-owned oil company, which owns significant assets overseas. Another part of the debt was issued by the national government directly, while another big chunk is owed to China, under secretive terms.
The Chinese issue looms large. China’s loans to Venezuela—close to about $18 billion, according to Barclay’s–consist of short-term financing payable via oil shipments. As the price of oil collapses, Venezuela needs to ship more oil to China in order to pay them back. Barclay’s estimates that right now this is close to 800,000 barrels per day, leaving little more than a million barrels per day Venezuela can sell for cash.
Illegal Trade
The Venezuelan trade ministry says a complex exchange-rate system is being corrected in the latest attempt to bring down one of the highest inflation rates in the world. But price controls have only boosted illegal trade.
Miguel Perez, an illegal food trader, says: “We work directly with the Chinese shop-owners who sell us the subsidized goods for a profit. We turn around and re-sell them for more. Unfortunately, the only loser is the consumer.”
Government subsidies, in place for more than a decade, have created the perfect breeding ground for black market. And with inflation wresting value from salaries, more and more Venezuelans are joining Perez’s illegal line of business.
Uncooperative
Venezuela’s Oil Minister Eulogio Del Pino faces an uphill battle persuading Russia and Saudi Arabia to cooperate in cutting oil production amid a supply glut that has pushed prices down more than 30% in the past year.
Oil has tumbled as the Organization of Petroleum Exporting Countries, led by Saudi Arabia, keeps the taps open to defend market share and makes it harder for higher-cost producers to compete. That puts pressure on states like Venezuela, seen historically as a price hawk in OPEC for supporting output cuts, which rely almost exclusively on oil income to support the economy and have fewer financial reserves to cushion them against lower prices.
