For a country with the world’s largest proven oil reserves, the economy in Venezuela has been in a disasterous economic spiral over the past 3 years. Things are so bad in the South American nation that basic necessities like eggs, bread, drinking water and electricity are in severe shortage. There are even claims that animals at Venezuelan zoos have been stolen for food. The country is basically bankrupt.
How bad are the economic figures coming out of Venezuela? The current unemployment rate is 17%, and the International Monetary Fund (IMF) projects it may reach 21% next year. Inflation is expected to hit 481% by year’s end and 1,642% by next year, according to the IMF. A year ago, one US dollar equaled 175 bolivars, now a dollar is worth 865 bolivars, a decline of 93%. Put another way, one bolivar is worth $0.0011 – less than a penny, according to the unofficial black-market exchange rate. To put that in perspective, in February a McDonald’s Happy Meal in Caracas cost $146 dollars at the official exchange rate of 6.3 bolivars per dollar.
What has caused this complete economic collapse? The root of the problem is two-pronged: The price of oil falling by 75% over the past several years and President Nicholas Miduro following in the steps of Hugo Chavez’s failed socialist policies.
First, for many years Venezuela has been deeply dependent on its vast oil reserves, which account for 96 percent of its export earnings and nearly half of the socialist government’s federal budget. Venezuela, which is sometimes described as a “Petrostate,” or a nation that derives its wealth largely from oil, is a founding member of the Organization of the Petroleum Exporting Countries (OPEC) and one of the world’s largest exporters of oil. Things in the country were very rosy when oil was selling at more than $100 dollars a barrel in 2014. Venezuela has budgeted for oil at $40 per barrel for years, but instead of saving the surplus when prices were much higher as they were just a few years ago, much of this emergency oil fund was either spent or stolen. Venezuela would now need oil prices to reach $121 per barrel to balance its budget—instead, prices today are hovering at around $50.
In fact, Barclays Bank economist Alejandro Arreaza calls Venezuela the “biggest loser” in Latin America from the oil price crash. This is in part due to the fact that the country has very high oil production costs, due to the extra-heavy nature of their crude that needs to be blended or refined — neither of which is cheap — before it can be sold. Arreaza has predicted that Venezuela’s oil exports will total a mere $27 billion in 2016, down dramatically from $75 billion two years before.
One top of the oil situation, damage to Venezuela’s economy has been exacerbated by drought. Roughly 65 percent of the country’s electricity is generated by a single hydroelectric dam that’s now in serious trouble. The government has come up with some unorthodox strategies to combat the situation — such as changing daylight saving time, urging women to cut the use of hairdryers to save electricity and forcing holidays for state employees.
Besides the drastic decline in oil prices, one can look at the political ‘regime’ in Venezuela as a textbook example of a failed socialist system. “Chavismo,” the unique brand of socialist and populist politics spearheaded by the late president Hugo Chavez and continued by Maduro, has practically bankrupted the country. Many economists say his policies of state ownership, unfettered spending, subsidies and domestic price controls are at least partly responsible for the crisis today. The first step was when Hugo Chávez’s socialist government started spending more money on the poor, with everything from two-cent gasoline to free housing. Furthermore, government corruption has been a constant in Venezuelan politics. It’s the most corrupt country in the Americas, and 9th most corrupt in the world, according to Transparency International.
The result of low oil prices and government overspending has resulted in a massive national debt: the country owes roughly $120 billion to foreign creditors and must make a payment of nearly $7 billion this year, most of it in the final quarter. From 2006 to 2012, Venezuela increased its foreign debt, multiplying it by a factor of five. Venezuela still imports much of what it consumes, and the decline in value of its primary export (oil), combined with its swelling debt, creates intrinsic challenges for the country’s economy. Venezuela now has far less money to repay its foreign debt, forcing Mr. Maduro to slash imports in order to avoid default. Speculation has persisted that Venezuela may default on the payment or have to default next year, especially if oil prices remain low. The only thing preventing a default is if oil prices rise soon or one of its few allies — China, Russia or Iran — bail out the government. Both of those appear unlikely for now.
When things turn as difficult as they have in Venezuela, people turn angry and violent, as can been seen in Venezuela’s security issues. The country still has one of the highest murder rates in the world (90 per 100,000 residents, the second highest in the world after El Salvador) and it has seen episodes of vigilante violence. Violent crime has been on the rise, with the country’s capital, Caracas, recently overtaking Honduras’ San Pedro Sula to become the most violent city in the world, according to the Citizen’s Council for Public Security and Criminal Justice.
From an investment perspective, there are few opportunities to invest in the stock market of a country whose economy conceivably cannot get much worse. In fact, as of today, there are no Exchange Traded Funds (ETFs) or mutual funds that are invested 100% in Venezuelan equities. Exposure to the country must be in the way of debt, with ETFs. For example, there are several emerging market’s bond funds, but none have exposure above 3% in Venezuela. The VanEck Vectors EM High Yield Bond ETF (HYEM) and the WisdomTree Emerging Markets Corporate Bond Fund (EMCB) are two such funds where an investor can get exposure to Venezuelan and other emerging market country debt. There are also 8 Venezuelan companies that trade as American Depository Receipts (ADRs) on US stock exchanges, but these investments should be for those who are able to stomach a lot of risk with potential of a complete loss.