“Something Has to Give” over Medium-Term in Venezuela, former Central Bank President Tells EMTA Fall Forum
Former Venezuelan Central Bank President Ruth de Krivoy delivered the keynote address at EMTA’s Fall Forum, held on September 30, 2009 in New York City. Barclays Capital hosted the event, which attracted over 100 market participants. In her remarks, de Krivoy stressed that although President Chavez continued to receive high approval ratings in polls, the Venezuelan economic situation is untenable over the medium to longer term.
In a discussion of the challenges to President Chavez’s leadership, de Krivoy noted that his approval ratings hover at the 55% mark, despite voters expressing their disapproval of key government initiatives in surveys. The opposition has not been able to gain traction although the number of political ‘neutrals’ is growing.
“President Chavez’s political footing is built on negative social capital –resentment, nepotism and corruption, and that makes it fragile,” she stated. While in the short term “money alleviates tension,” in the long term there is a high risk of turbulence according to de Krivoy. “Change of regime is not in question [for the short term] but if you look at Venezuela with a medium- or long-term outlook, you get the feeling that things are really not sustainable and something has to give,” she observed.
The 2010 National Assembly elections are important as Chavez will need a two-thirds majority to control a number of key government institutions and positions, a fi gure he did not obtain in the 2008 elections. Chavez has taken a number of steps to gain additional votes such as “hasty reforms” in education, increased control of the media, “aggressive attacks” on opposition leaders and students, a reorganization of the Cabinet (which de Krivoy deemed “largely immaterial in both policies and their ability to deliver”) and the announcement of a number of “ambiguous policies geared to revive the economy.”
Currently, a number of actions are being taken to balance the competing interests within the Chavez movement. CADIVI approvals (for FX transactions), which had fallen by 40% in the 1H of 2009, have been unlocked and have returned to previous levels. The government has acted to promote the Bolivar in the swap market in order to mitigate infl ation. Measures to increase bank loans have been adopted, gasoline prices will not be raised, a devaluation of the offi cial rate is not likely (although multiple rates are possible) and an increase in government borrowing is in the pipeline in order for the government “to create the mood for the 2010 elections.”
“Oil provides breathing space…but not enough,” de Krivoy stressed. Using US Department of Energy scenarios for oil pricing over the next decade, she declared that the Chavez government would have “little room to maneuver” in fi scal and balance of payments terms if oil is at lower or medium levels over the next decade (defi ned as up to $180 per barrel in 2019). There is some breathing space at a “high” scenario of $280 per barrel ten years from now but even that would “not be enough, would not be a bonanza” reminiscent of the 2004-7 boom years according to de Krivoy, and even if production increased to 4.1 million barrels a day from its current levels.
Tuning to the fi scal outlook, de Krivoy forecast that Venezuela will need to borrow 9% of GDP in 2009, growing to 12% in 2010. This will be covered by domestic debt as well as issues such as the new 2019 and 2024 bonds, which were being sold at the time of the Forum. While the government should have no problems obtaining fi nancing in 2009, short-term the government’s funding strategy is infl ationary.
She forecast infl ation at 28% in 2009, which she noted was high compared to Latin America and other countries around the globe (with 41% core infl ation which excludes goods subject to price controls); with similar forecasts for 2010. “That is high for Venezuela, it would be the third year in a row of infl ation in the 30-35% range,” she highlighted.
Growth would contract by 2.2% in 2009 according to her forecast because of “volatile and declining real physical spending and because the system has exhausted its ability to grow. After fi ve years of government-imposed structural changes hurting the private sector and private investment, it is much more diffi cult to obtain positive growth rates and certainly impossible without strong fi scal spending.” GDP will be fl at in 2010 because of election-rated spending, and unemployment is rising with the informal sector accounting for an increasing percentage of jobs.
Going forward, de Krivoy discussed six key policy issues. (1) CADIVI approvals have become smoother for imports and dividends, but they have not become predictable. (2) Multiple exchange rates, which are not new to Venezuela, continue to be debated as a way to reconcile various objectives without devaluing (she quoted a former government offi cial who had declared “talking about devaluation in government is like talking about abortion in church.”) (3) The sustainability of the swap rate policy, (4) The future of price controls, which will likely be more fl exible over the next 18 months because of the political cost—which the government recognizes—of shortages resulting from such measures. (5) Labor issues. Proposed changes to labor laws, which include an abolition of unions, retroactive severance payments (which could highly costly to Venezuelan fi rms) and a shorter workweek, are unlikely to be passed, de Krivoy specifi ed while noting the increased importance of the government as an employer. “So now we are getting a signal of rationality in the fi eld of labor-related issues,” she remarked. (6) Expropriations are seen to have ended as the government has achieved its goal of controlling strategic industries such as telecommunications, steel, cement and electricity. Movements to nationalize other industries such as food are unlikely because potential shortages pose a political risk to the government.
Finally, de Krivoy entertained a series of questions from a highly-engaged audience, addressing such issues as tensions with Colombia (“the possibility of a war is zero…and despite all the noise, trade is fl owing), its dangerous liaisons (“the issue of Venezuela’s arms ending up with the FARC will not go away, it is going to get worse” and its alliance with Iran is also increasing risks), the potential of chavismo spreading (de Krivoy saw Chavez’ infl uence limited to Bolivia, Ecuador and Nicaragua), international arbitration cases against Caracas, and why Chavez retains such high approval ratings while Venezuelans voice strong disapproval in the same polls (“his charismatic leadership in a void of leadership elsewhere” explains much of this, she hypothesized.) As for President Chavez’s control of the armed forces, de Krivoy noted the military “was happy, they have their share of the fi esta, they don’t have to go to war.”
Following a lengthy Q&A interaction with the offi ce, de Krivoy noted “we tend to say that the optimal policy stance in Venezuela is lite populism—being an oil country you can never get rid of populism—but if you do a lite version, the country can grow, you get foreign investment, you get wealth creation back into the system.”
Following de Krivoy’s presentation, Barclays Capital’s Michael Gavin moderated a panel of sell-side analysts and investors, leading off by polling speakers for thoughts on the current recovery. David Rolley, who described himself as the panel’s token crossover investor, observed that Loomis Sayles’ view was that the recovery was real, with next year being more complicated than the preceding months which were categorized by a one-way movement in spreads across the asset class.
Deutsche Bank’s Drausio Giacomelli thought that investors wont be able to tell if the recovery were sustainable for another three to six months, with a lot of the rebound “mechanical because of very low levels of consumption and the recent stimulus.”
“One of the greatest risks is complacency,” opined Siobhan Morden of RBS who expressed nervousness with both the Street in crowded trades and spreads at pre-Lehman failure levels. She concurred with Rolley’s expectation of a more volatile trading environment in 2010 and predicted greater risk discrimination going forward.
Morden favored Argentina among the high-yielders on not only a short-term solvency view but also the country’s raising “creative sources of domestic fi nancing,” its short-term ability and willingness to pay, likely policy changes including the possibility of a new administration in 2011 and a potential deal with hold-out creditors.
Eric Fine (Van Eck) believes more money will fl ow into EM FX as a result of the resilience of emerging countries during the recent downturn, though the risk of a reversal of the current “everyone hates the dollar” mentality remains. In addition, there will be greater differentiation between credits and investors more comfortable with longer tenors as a result of EM performance over the past year.
The crisis showed that “EM will survive anything,” Giacomelli stated who added that it is a “misperception” that there is a bubble in the asset class.
“What’s really going on,” asserted Rolley, “is we are trying to move money from some markets that are really big that nobody likes, the G-4, to some markets that aren’t so big that everyone likes, and that is everybody else besides the G-4. It is like moving a party from the Boston Garden into a small club and not everybody can fi t, so you are getting prices driven higher.” This issue could give you “bubble-like” price action.
Does it make sense to own the “awkward four?” Morden expressed that investors are almost forced to looking into Argentina, Ecuador, Ukraine and Venezuela with other EM credits trading at such tight levels.
For Rolley, the Argentine game plan was very obvious – Buenos Aires would make a deal with the holdouts and “make friends” with the multinational organizations in order to issue new debt. “We are a very forgiving group of people…people will say ‘I’m not so sure about the policies, but at 900 over…’” He emphasized “this market will buy Argentina…if they just give us what they want…a little, not much…and we will buy their bonds…and they could tighten in from 900 over to 500 over.” Rolley thought Ukraine could “also do all right” but saw it more of a trade than a long-term investment. A de-dollarization in Ecuador poses a risk to foreign investors. Giacomelli also agreed with the potential upside on Argentina.
Venezuela is on his fi rm’s no-trade list, Fine stated, and despite the fact that it could be one of the best credits in Latin America, the country was poorly run. Fine admitted he wasn’t comfortable thinking about Argentina with an investment horizon of more than twelve months. He spoke positively on Ukraine long-term, while expressing concern over upcoming elections; he also expressed unease about a weaker understanding by the US and the EU of the geopolitical importance of the country.
What will be the biggest surprise to EM market participants? Giacomelli ventured that infl ation may become a concern sooner than expected. Rolley thought the market would be surprised if “nothing happens next year and we just spread-trade sideways.” He discussed the risk of an additional decline in US housing prices (reasoning that home buying is largely seasonal in the US while foreclosure “knows no season”).
Morden suggested that the tail-risks of a stronger-than-expected recovery or a severe interruption to the recovery are probably the greatest potential surprises to the market. For Fine, the biggest surprise would be for housing to have stabilized and stocks to have rallied over the next year, with 1H growth numbers better than expected. On the other hand, a surprise could be for US consumer demand to collapse.
Concluding with favored trades, Giacomelli spoke positively of the BRL, MXP and the Polish zloty as well as Colombian, Russian and Turkish debt. Rolley seconded Giacomelli’s FX recommendations save Turkey (because of “euro-embedded FX risk.”) Morden favored Argentine Pars and Venezuela ‘38s but warned of potential supply risk, as well as the BRL and CLP.
Fine saw Nakheel ‘09s as a potentially rich opportunity, opening up other potential Dubai opportunities, but only if the bond is paid. Fine also saw Argentina as a trading opportunity over the next year and thought certain Kazakh bank exposure made sense (though not BTA).