Venezuela Struggles to Curb High Inflation, Contemplates Devaluation

Sources: Bloomberg.com, Venezuela `Frustrated' on Failure to Stem Inflation; Associated Press, Venezuelan Inflation Up 2.2 Percent in August; Dow Jones Newswires, Venezuelan President Faces Dilemma Between Spending, Inflation; Reuters, Venezuela Inflation Update.

During the annual meeting of the International Monetary Fund (IMF) in Singapore, the entity encouraged Venezuela to bring down its inflation rate, or the rate of increase of the average price level. Currently, the inflation rate is around ten percent, and while it is an improvement from August’s fifteen percent rate, it still remains the highest in Latin America. The director of the Venezuelan central bank anticipates at least another two percentage point rise by year’s end.

The country’s inflation rate has increased in large part due to its relatively lax monetary policies and its high level of social spending. Funding social programs has been a priority for President Hugo Chavez, and in the past year he has increased government food subsidies, provided loans to favored industries and state-owned businesses, as well as raised the minimum wages for public school teachers and state workers twice.

Presidential elections will be held in December, but there is little doubt that Chavez will be reelected. Given his focus on expanding social programs, economic analysts do not anticipate any marked decrease in the inflation rate in the coming year. Furthermore, there is some speculation that in order to keep government spending at its current rate, Chavez will have to devalue the Venezuelan currency, the bolivar. On September 22, Venezuela’s Finance Minister said that Chavez had yet to make a decision whether or not to devalue in 2007.

Venezuela has a history of reducing the value of the bolivar with respect to other currencies, however, and Chavez has devalued three times since taking office in 1999. If the bolivar is valued at a relatively low level, the government is able to convert the dollars from its oil sales into a greater number of bolivars, thereby increasing the country’s financial reserves. Oil generates one third of the country’s gross domestic product (GDP) and generates over one half over its government revenues.

Questions:

1. Venezuela’s high growth and spending is greatly influenced by the high price of oil worldwide. What duties does the country have to its citizens to ensure that once oil prices stabilize the economy will remain economically stable?
2. Should the IMF place pressure on Venezuela to choose between its funding needs and inflationary pressures?