February 2004
Venezuela: Alternatives for a Country in Crisis

Almost since his election in 1998, Venezuelan president Hugo Chávez has kept his country in a more or less continuous state of crisis. Today the country is more polarized than ever-economically, politically, even racially. Meanwhile, in spite of the highest oil prices in more than two decades, the economic situation for most Venezuelans continues to deteriorate.

The Venezuelan crisis assumes a new and shaper dimension given the prospect of a referendum later this year that, if held, could oust President Chávez from office. The latter has denounced efforts by the opposition to collect signatures towards this end and has raised serious doubts as to whether he will respect his own constitution. The country's institutional consensus is being stretched to the near-breaking point. Experts gathered on February 18 to ascertain the effects of Chávez's regime on the Venezuelan economy, the measures that must be taken to restore the country's prosperity, the prospects of the opposition's recall effort, and U.S. policy vis-ŕ-vis Hugo Chávez.

Mark Falcoff
AEI

Mark Falcoff suggested that the gathering crisis in Venezuela poses a major foreign-policy challenge to the United States due to the country's status as a regional power and substantial oil supplier. The United States remains, despite Chávez's anti-American stance, Venezuela's most important trading partner, importing roughly half of the country's crude oil production. As such, the political and economic unrest that has plagued Venezuela since Chávez took office, in addition to Chávez's courting of Fidel Castro and other Latin American radicals, should be of immense concern to Washington.

The Economic Context

Luis Giusti
Center for Strategic and International Studies

Luis Giusti, the former chairman and CEO of Petroleos de Venezuela (PdVSA), enumerated the economic consequences of President Chávez. Chávez has used government power to distort market activity and strengthen his hold on power, leaving the Venezuelan economy in terrible shape. While 5.9 percent growth is expected in 2004, Venezuela must recover from the 30 percent aggregate contraction of the last five years. As a result of Chávez's mismanagement, official unemployment has skyrocketed to 20 percent, while unofficial unemployment is estimated to be 65 percent.

The government, moreover, has egregiously mismanaged the country's oil reserves. In 1999, the Bolivarian constitution banned the privatization of PdVSA, and a hydrocarbons law passed in 2001 mandates that PdVSA must hold a 51 percent stake in any new exploration and production agreement. This gives the Chávez government considerable discretion over production. Unlike most OPEC member states, which underreport their oil production, Venezuela overreports, claiming to exceed its production quota of 2.923 million barrels per day. Thus despite high oil prices during Chávez's rule, Venezuela has been unable to benefit significantly from this boon.

Giusti concluded by emphasizing the intimate connection between political and economic developments in Venezuela and addressing common critiques of the opposition. He noted that while Chávez is the duly elected leader of Venezuela, his rule has been delegitimized by his flagrant disregard of his people, and should he disregard the constitutional rights of the 3.4 million people who signed the petition in favor of a recall referendum, his regime will be completely bereft of legitimacy.

Hernan Oyarzábal
Former member of the board of the Venezuelan Central Bank, former representative to the International Monetary Fund

Hernan Oyarzábal followed Giusti's general discussion of Venezuela's economic problems with more detailed remarks that addressed the failings of the country's macroeconomic policy and proposed alternative policies that would restore Venezuela's prosperity. He opened by identifying three major themes of Chávez's government: 1) the resolution of the political dispute will determine the economic conditions; 2) links exist between Chávez and Castro, but it is a mistake to view them as intimately connected; and 3) Chávez is subordinating policy to ideology, demolishing transparency, and using government discretion to allocate resources.

Venezuelan recovery will be impossible unless the country can restore its credibility and regain the confidence of international markets. If and when Chávez's Bolivarian revolution is defeated, the new government must first clearly signal the restoration of the rule of law and establish a level playing field in the national economy, eliminating the distortions related to the Enabling Law, which provided for extensive government intervention in the economy. With the end to government intervention, private investment, whether foreign or domestic, will be crucial to the country's success.

A post-Chávez government must also restrain Venezuela's undisciplined fiscal accounts. Oil revenues must be reduced to a manageable level, and the government must manage debt more ably. Oyarzábal identified five policies that will help a new government restore fiscal propriety, including a reduction of domestic hydrocarbons prices, a reduction of domestic service tariffs, the elimination of tax loopholes, the reformation of tax collecting agencies, and the adoption of a coherent wage policy insulated from politics.

Oyarzábal also commented upon Venezuela's monetary policy, declaring that the independence of the Central Bank must be restored if Venezuela is to regain the trust of the global marketplace. Doing so will allow the bank to once again focus on maintaining a non-inflationary economic environment, for under Chávez the bank has been used to monetize the government's deficits, creating 153 percent inflation of the bolivar since 1999. After regaining its autonomy, the Central Bank would have to strengthen the financial sector by strengthening the capital base of weaker banks. A new government must also reform the country's international monetary policy by lifting the exchange controls that have handicapped Venezuelan trade.

Several obstacles will make the task of repairing the damage caused by the Chávez government extremely difficult. Under Chávez, ideological appointees prized for their loyalty to the Bolivarian revolution have inundated the government, undermining the efficiency of the state. Moreover, the organs concerned with macroeconomic policy, including the Central Bank and the ministries of finance and planning, have not cooperated to formulate policy. Lastly, cooperation between Venezuela and the multilateral lending institutions has been unsteady at best, due especially to the disruption of information flows from Venezuela. Mr. Oyarzábal closed by advising the World Bank and the IMF to focus on funding projects that will make Venezuelans innovators and entrepreneurs rather than simply dispensing money.

Desmond Lachman
AEI

Desmond Lachman addressed the international impact of the Chávez government, focusing on the distortionary effects of the government's extensive controls. One consequence is Venezuela's dependence on oil, which constitutes 25 percent of the economy and produces 80 percent of the country's external revenue. This leaves Venezuela vulnerable to fluctuations in the notoriously unpredictable global energy markets.

The government has shattered international confidence in three ways. First, its exchange controls have made international trade difficult for Venezuelan producers. A considerable discrepancy exists between the official bolivar/dollar exchange rate (recently devalued to 1,920 to the dollar) and the free-market rate (greater than three thousand to the dollar), and the exchange controls ensure that Chávez cronies have access to foreign exchange at the official rate. Secondly, price controls distort market signals in the domestic economy, further handicapping Venezuelan businesses. Lastly, Chávez has used government spending to secure political support, and in the process he has compiled a 4.5 percent budget deficit. As a result, the government has pressured the Central Bank to transfer its profits to the government so that the government can resell the profits to the bank, thus expanding the money supply to support the government's spending. As long as Chávez remains in office, conditions are likely to worsen, locking Venezuela into a cycle of devaluations and perpetual inflation.

Should a new government form, Venezuela has several advantages that will help it recover, including a high level of international reserves and a low level of external debt. The government, however, will have to curb inflation and spending. Dr. Lachman believes that the World Bank and the IMF will have an important role to play in stabilizing the Venezuelan economy following the fall of Hugo Chávez.

Peter Whitney
Senior Adviser on Latin America, Control Risks Group

Peter Whitney gave a presentation entitled "Notes on the Abysmal Chávez Economy" that provided a statistical picture of the Venezuelan economy since Chávez took power. In addition to the dismal growth and inflation figures, he also included social indicators, such as Venezuela's education spending. Venezuela spends 35 percent of its education budget on higher education, despite considerable absenteeism in primary and secondary schools. Chávez has politicized the education of Venezuelan children, importing eight thousand Cuban teachers to teach in the primary and secondary schools. Thus despite a high literacy rate, there is a severe lack of technical skills. Whitney also addressed several lingering social problems, including widespread kidnapping, carjacking, and armed robbery. The picture that emerged from the statistics is of a country that has become appreciably worse than most countries in Latin America under Chávez's rule.

The Political Context

Mark Falcoff
AEI

Mark Falcoff opened the discussion of Venezuela's political troubles by announcing that two scheduled participants, Brian Fox of the International Republican Institute and Ben Allen of the National Democratic Institute for International Affairs, were unable to attend due to concern that their comments at the event would give the Venezuelan government further grounds to interfere with their assistance to the opposition's recall campaign. This announcement crystallized much of the subsequent discussion between the two remaining panelists, Miguel Diáz of the Center for Strategic and International Studies (CSIS) and Norman A. Bailey of the Potomac Foundation.

Miguel Diáz
CSIS

Miguel Diáz opened by stressing the unpredictability of Venezuela's political situation as a result of the hyperbole used by both sides, the irrationality of Hugo Chávez, the lack of transparency, and his sentimental attachment to the country through relatives. He suggested, however, that the current crisis will either result in Chávez clamping down on the opposition and severely limiting the country's democratic space, or else in an electoral solution, whether a referendum or contested election. Chávez would not be certain to lose were he to face a vote. He is an effective campaigner and charismatic leader who has a variety of tools to win the hearts and minds of his people. First, undemocratic elements in the opposition serve to delegitimize the opposition, preserving Chávez's authority. Secondly, Chávez enjoys considerable support from the lower classes, long dissatisfied with Venezuela's middle classes. Thirdly, Chávez can use the bully pulpit of the presidency to lambaste the United States for supposedly intervening in Venezuelan affairs, a charge that resonates with the electorate especially following the failed 2002 coup that the United States was slow to condemn.

There is little the United States can do at this point to see the crisis to a satisfactory resolution, leading Mr. Diáz to suggest that the United States "keep a low profile." The United States will not be in a position to intervene unless Chávez commits outright fraud.

Norman A. Bailey
Potomac Foundation

"Chávez is now playing hardball," declared Norman Bailey, arguing that Chávez has become bolder in repressing the opposition, and believes that the president will not submit to a referendum before August, if at all. If Chávez appeals to the Supreme Court, that appeal is likely to take so long as to render the election authority's decision moot. Chávez, moreover, has strengthened his grip of the military, purging commanders of questionable loyalty and replacing them with officers committed to the Bolivarian revolution.

After outlining the opposition's bleak prospects, Bailey identified eight ways in which Chávez's government poses a major threat to hemispheric relations. First, Chávez has been a verbal and financial supporter of indigenous movements in the Andean nations, who, like Chávez, are anti-American, anti-globalization, and anti-free trade. He also provides logistical support and a safe haven in Venezuela for Colombia's FARC rebels. Secondly, he is a major promoter of a "populist-leftist axis" in Latin America that includes Fidel Castro and Argentina's Nestor Kirchener, as well as perpetual leftist presidential candidates Evo Morales of Bolivia and Tabare Vasquez of Uruguay. Thirdly, he has campaigned openly against the Free Trade Area of the Americas and advocated trade blocs that would be largely distortionary. Fourthly, he is one of the most anti-American leaders in Latin America. Fifthly, he has used oil as a weapon, especially to support Cuba: Chávez provides oil to Cuba at cut-rate prices as a quid-pro-quo for Castro's support. Sixth, he has interfered in disputes, such as the ongoing feud between Chile and Bolivia over Bolivia's desire for access to the sea. Lastly, he has harbored Islamic terrorists on Isla Margarita and provides guards for their headquarters. In short, Chávez is a danger internally and externally.

Unfortunately the U.S. government is paralyzed and hopes that the Carter Center, the Organization of American States, and other actors can resolve the situation. Bailey suggests that all the United States can do at this time is insist that Chávez respects his own constitution.

This summary was prepared by Tobias Harris, AEI staff assistant for Foreign and Defense Policy Studies.