Thursday, February 10, 2016

THE ECONOMIC SITUATION ON VENEZUELA

SUBJECT ACTUAL SITUATION FORECAST
VENEZUELA  On January 15, 2016, Former President of Venezuela, Nicolas Maduro,  According to some experts, Venezuela's government still has
declares economic state of emergency, this measure, will last for 60 a myriad of rainy day funds, which were put aside for exactly
days, involves a restriction of constitutional guarantees. the kind of situation the country is facing now. The Central
 On January 22, 2016, The National Assembly denies the approval of Bank of Venezuela reported also suggested the country has
the economic state of emergency because it could lead to a disaster around US$35 billion in foreign currency assets, as of third
given the restriction of constitutional guarantees. quarter 2015. It is unclear how much more the government
 On January 25, 2016, Venezuela's central bank just did something may have stashed away in various funds, meaning it's
totally unexpected: it released updated economic figures showing the possible the government could have enough savings to hold
country has sunk into its worst economic crisis in decades. Data this out for quite some time.
detailed hasn't been published by the BCV in over a year, and it makes  It's also worth noting that this view isn't shared by many
for grim reading. Annual inflation hit 141.5 percent in 2015 – double financial analysts. Where the risk of default once seemed
the 2014 rate, and easily the worst in the world. High inflation is remote, a report from Barclays in January concluded a
nothing unusual in Venezuela. default by the end of the year is now likely.
 One of the most telling figures was to be found in the central bank's  It is probably that as much as 90 percent of Venezuela's
current account data, which showed a US$782 million trade deficit for 2016 oil revenue could be consumed by debt obligations.
the 2015 third quarter. This is particularly concerning; as those This eyebrow raising figure would suggest the government
numbers are from a time in 2015 when Venezuelan oil was fetching would basically be exclusively relying on its savings to get it
an average price of more than US$40 a barrel. Today, Venezuelan oil through the year. Bloomberg has also reported credit
is selling for something closer to an average of US$25. In other words, default swap traders have settled on an estimate of a 79
the trade deficit figures are likely already worse, with no signs of a percent chance of a missed payment by the end of the year.
quick recovery.  Problems are already circling. Venezuela have to be
 The current situation in Venezuela – with reported inflation as high as concerned about default, a key date to watch will be
300% and shortages of basic goods – is getting more and more severe. October 16, when PDVSA 2016 bonds mature. These bonds
 According to some experts, they point out the condition of the state. represent among the largest chunk of Venezuela's roughly
Venezuela's government still has a myriad of rainy day funds, which US$10.5 billion in international repayments due this year.
were put aside for exactly the kind of situation the country is facing  Inflation is expected to hit a fearful 720 per cent (720%) this
now. The BCV's report also suggested the country has around US$35 year.
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billion in foreign currency assets, as of third quarter 2015. It is unclear  While no one is forecasting that default by Venezuela will
how much more the government may have stashed away in various trigger a blow-up across emerging markets, distressed debt
funds, meaning it's possible the government could have enough points to where future problems may lie for the health of
savings to hold out for quite some time. the global economy if investors decide that oil is an asset
 A political resolution to the economic downturn any time soon seems that has been overvalued for far too long.
remote. The National Assembly is firmly in the hands of the right-wing  There are already worries about commodity-linked
coalition, the Democratic Unity Roundtable (MUD). Meanwhile, corporate borrowers weighed down by dollar-denominated
President Nicolas Maduro has retained control over the ministries, debt. Venezuela should encourage investors to think about
while the Supreme Court is still aligned with the government. Most the dangers of oily sovereigns, too.
major public enterprises also remain on the government side of the  If the country does default there are fears that it may face
political divide. The danger here is that the political crisis could an Argentina-style fight with holdout investors due to the
exacerbate the economic crisis. structure of its debt.
 A sell-off in sovereign bonds has pushed the price on benchmark 2026  It is practically inevitable to default if the current economic
debt to 37 cents in the dollar, a level considered a precursor to dynamic stays in place, given the precarious state of
default. The cost of insuring Venezuelan bonds has tripled in the past Venezuela’s economy, even with a drastic change in
12 months. measures it wouldn’t be enough.
 Venezuela’s currency is collapsing, and has lost 81 percent of its value  With Venezuela’s oil exports now selling at around $21 per
in the last 12 months in the black market, barrel, revenues from exports are dwindling, according to
P.D.V.S.A  Oil producer Venezuela is struggling to replace lost oil revenue, and some experts the calculates the country needs a price of $75
that lack of cash flow is renewing the discussion about its ability to per barrel to balance its budget.
make debt payments.  Default in the absence of a drastic change in policy making
 Venezuela has gone to OPEC, and lobbied individual petro-states for will only make things worse. Venezuela's debt could be
reductions in petroleum output to almost no avail. Unfortunately, the sustainable even with oil at 20 dollars. It would make much
voices of countries like Saudi Arabia are overpowering calls from more sense to get the IMF in and eliminate all the subsidies
Venezuela for restraint to stabilize prices. In the short term, world oil (gas price), restrictions and distortions that converted
leaders won't curb production, and oil prices won't go up. In other Venezuela into a smuggling and hoarding economy.
words, Venezuela can't do anything about low prices.  The default debate is escalating with louder voices on the
 Crude oil accounts for 96 per cent of export revenues and falling need for external debt relief from both the opposition and
prices, coupled with years of mismanagement, have crushed the the pragmatic members of the Maduro Administration. It’s
country’s economy
 Thursday, February 10, 2016

 A number of the bonds issued by Venezuela and state-run energy going to be extremely difficult to pursue the same strategy
company PDVSA do not contain collective action clauses, meaning of paying fixed liabilities (external debt) and reducing
investors are not bound by a majority agreement and can sue for full variable liabilities (imports). The current level of imports
repayment, delaying any credit resolution. already produces acute stagflation with any reduction from
 So far, Venezuela has managed to meet its debt obligations by current levels not politically or socially viable for aggravating
swapping part of its chunky gold reserves, issuing debt through Citgo, the economic crisis. The financing gap is so extreme that it
the US-based subsidiary of PDVSA, and securitizing oil loans it had would take a collapse in imports from an estimated $32
made to some of its Caribbean allies. billion in 2015 to near zero this year. The debate is quickly
 In an unprecedented crisis currency and amid a brutal drop in income, shifting from a willingness to pay to an inability to pay even
subsidies intended to keep dollar, generating infinite and inability to under the Maduro Administration, especially as oil prices fail
attend to demand. For example, the government maintains a to recover to a minimum breakeven level of $65/barrel.
regressive subsidy to gasoline (which pulls trash over 12 billion  The acute macro imbalances cannot be resolved with debt
dollars), while restricting currencies to secure raw materials, supplies, relief alone with still a high financing gap and chronic
machinery and equipment, medicine and medical supplies, among stagflation. Venezuela is not heavily leveraged on external
others. debt but rather imports and would have to adopt aggressive
economic reform for a stable equilibrium on
CONSORCIO VOne  Tipoldi, Machado & Associated, Lawyers, do not handle the current growth/inflation. If Venezuela overhauled relative price
economic information of Consorcio VOne regarding P.D.V.S.A but so distortions and heavy market regulation/intervention, this
far as we see every day on construction site, the only problem is that would reduce the financing gap back to pre-interventionist
the immediate application of new oil collective bargaining agreement era of 2000-2004 on still low oil prices but against much
has not yet happened, that is, they have started to not pay the new lower imports and lower capital flight.
salaries and concepts approved by PDVSA and the workers' union, and  Not a single economic report has foreseen a change of the
that could lead in several strikes and conflicts on the execution of the actual economy of Venezuela.
works.  So, if economic policies continue as they are, 2016 will be a
year of higher inflation, more shortages, more distrust and
more impoverishment.
 According to the opinion of leading economic analysts,
within the defensive measures to this economic crisis is
limiting imports, which will focus on essential goods of food
and medicine. With that, the market will become
 Thursday, February 10, 2016

"primitive", since it is expected that the government begin a

process of debt restructuring of PDVSA, this can be done
through a "friendly exchange" whereby a higher
compensation will be paid. In addition the state can
structure a deal to replace current long-term bonds and
guaranteed compensation with oil additions, however, they
point out that "given the high level of distrust, Pdvsa
compensation should be very high." The reform will be more
feasible in bonds of the state oil company, to guarantee
future oil deals that bonds of the Republic. Finally, the third
action shall include negotiations of domestic commercial
debt to be exchanged for long-term bonds, this action would
be to check.
 Moreover, the head of the PDVSA oil company said that are
"planned investments, based on a scenario as to maintain
cost levels and sustain production." In this regard, he
stressed that market behavior will influence decisions on the
estimated production figures and stressed that Venezuela
"will always assume a strategic position in favor of world
prices". He also noted that, under the state of economic
emergency declared by the government, working to reduce
production costs below $ 10 per barrel in order to ensure
profitability.
 Thursday, February 10, 2016

Mr. Lee, Venezuela is in a time of extreme fragility that is already causing immense social damage and could eventually lead to a catastrophe of
previously unseen magnitude if the government doesn´t do something soon. After seventeen (17) years of nonsense, all the foundations of the country
have given in rapid succession. And this time the solution goes far beyond the repertoire of tools and responses that the government have used in the
past to solve our crisis.

To understand why, it is good to review the current numbers and remember how Venezuela got there:
 In these times of hardship, just three years ago Venezuela lived in the greatest abundance and irresponsible in our history. In 2012, oil prices
averaged $ 103 per barrel. According to the Central Bank of Venezuela (BCV), Venezuela exported 97,340 million dollars and import, including
goods and services 75.300 million.
 Despite the oil boom, the public sector recorded a deficit of 17.5% of GDP, an insane amount, totally unprecedented in a country that should
have saved his good luck when it ran out. In other words, in the last election year of Hugo Chavez, the government spent as if the price of oil was
$ 197 per barrel. And the difference was covered with a combination of debt and printing money.
 In that year Venezuela had climaxed imbalances, but these ravings were coming for some time ago. Between 2006 and 2014, in the midst of
Venezuela longest oil boom, Venezuela quintupled its foreign debt. Meanwhile, other countries took advantage of the good prices of their raw to
strengthen its balance sheet foreign currency subjects, either by reducing the external debt or accumulating foreign assets. Kazakhstan, for
example, took advantage of good times to create a fund equivalent to seven years in oil savings tax contribution. The government of Venezuela,
by contrast, it took the opportunity to declare war on the private sector, getting to compete with cheap imports, rationing the access to foreign
 Thursday, February 10, 2016

exchange to import, expropriating or occupying, regulating prices and margins, inventory and even criminalize the export and attaching it to a
number of regulations that eventually extinguish profitability.
 The consequences of this chain of policies in terms of supply were camouflaged behind a huge boom in oil and imports financed with debt. And
so the illusion of possible socialism was established, while our production capacity weakened and made the country more vulnerable to a
possible drop in oil prices that has now materialized.
 Last year, Venezuela exported about 37.000 million, just over a third of our exports in 2012. For that reason, Venezuela could only import 50.000
million between goods and services. That drop in imports, given our inability to replace local production, had dramatic consequences in terms of
shortages, lines to buy food and medicine, fall in the minimum wage by 51%, drop in production of about 10% and inflation higher 250%.
 Still, it is worth asking: How did Venezuela to import 50.000 million in goods and services (34% less than in 2012), if only exported 37.000 million
(62% less than in 2012)? Moreover, whence came the 26.000 million differences between what came from exports and what we had to pay for
imports of goods and services, and interest and principal on debt?
 As they left falls in liquid international reserves (5.700 million), efforts of monetary gold (3.500 million), advances debts Venezuela had in
Petrocaribe at a discount of 45% (3.700 million), using our special drawing rights in the International Monetary Fund (2.300 million) and hired
CITGO level to pay dividends to PDVSA (2.000 million) debt. In addition, the Section B of the Chinese Fund (5.000 million, of which is difficult to
determine how much net financing) was renewed, were liquidated assets (including the Chalmette refinery in Louisiana) and an inaccurate
amount of imports allowed without paying.
 In short, 2015 was not only one of the worst years of our history, it was also a year in which Venezuela had to "scrape the pot" with Venezuelan
oil at $ 45 per barrel and a combination of asset stripping and contracting of debts impossible to repeat.
 Thursday, February 10, 2016

And the question is now how Venezuela will be able to import in 2016? If so far this year, the Venezuelan basket has averaged $ 25 a barrel:
 Without imports, we will have things that do not already do in Venezuela or raw materials to make yes we do. At these prices, exports from
Venezuela would not reach 22.000 million. Our external debt totaled 10.300 million, not including some 6.000 million loan facility from the
Chinese Fund.
 Yet assuming that Chinese renew us credit, we would just slightly less than 12.000 million dollars to import. That's only 25% of what we import in
2015, leading to an economic contraction of a magnitude never before seen in Venezuela, equivalent to the registered following major natural
disasters or global war.
 Venezuela cannot settle more reserves to import more? Net international reserves, valuing the gold market price and subtracting the amounts
that have already been engaged, do not reach 10.000 million. With this we could import 22.000 million (56% less than in 2015), but if we decide
to use them all in 2016, we would have nothing in the vault to cope with 2017. And if we use the assets of PDVSA to import food and consumer
goods, the rate of decline is accentuated in oil production in recent years.
 And international markets? They are completely closed. As mentioned above lines, Venezuela exhausted its borrowing capacity in good times and
today has the largest sovereign risk premium in the world: 3.627 bps or 36.26% interest above titles of equal duration issued by the US Treasury.
 Other possible sources of funding, such as special drawing rights at the International Monetary Fund or the discount credit and oil were out last
year. At the IMF, Venezuela only has 700 million. Worse, 84% of our current oil debts are in Cuba, Nicaragua and Haiti, three countries that do not
seem to be able to pay in advance to Venezuela.
 Thursday, February 10, 2016

 Some have argued that all our problems would be solved with devaluation or even more with a single exchange. This decision would promote a
more rational use of our scarce foreign exchange, eliminating incentives for over-invoicing of imports.
 It is also said there that the devaluation would reduce the tax deficit; it would increase the value of our oil exports bolivars. While the effects of
efficiency in the allocation of currency devaluation and exchange rate unification are successful, the ability to correct the fiscal deficit is much
more remote. To understand why, it is good to note that devaluations have a positive impact on public sector accounts to the extent that the
public sector has a surplus in its balance of payments. Thus, devaluation increases the value in bolivars of foreign exchange earnings more than
their costs in dollars, resulting in an improvement in the balance in bolivars.
 In 2016, with the current obligations, it is unlikely that the public sector recorded a surplus in dollars: it has 22.000 million in exports, imported
26.700 million last year and must pay 10.000 to 16.000 million dollars in debt service, as is achieved refinance debt with the Chinese. This implies
that a brutal cut of public imports would be required for the government to have a surplus of foreign currency.
 This had never happened in the history of past crises of Venezuela oil. Not in 1960, or 1983, or 1989, or 1996, or 1998, or 2002 or 2009.
 Venezuela didn’t have fallen into hyperinflation because every time Venezuela got into trouble, Venezuela did devaluate and given the surplus
currency, reduced the tax deficit. Now the devaluation is very likely to increase the tax deficit, increasing the need to print money and
accelerating inflation.
 This new reality happens by the confluence of three factors have increased fivefold external debt, take public imports 3.200 million (15% of total)
in 1998 to 33.200 million (52%) in 2014; and insisting on an exchange system that creates perverse incentives for overbilling imports. For these
reasons, devaluing and unify the current situation is necessary, but not sufficient.
 Thursday, February 10, 2016

 It also reduces foreign exchange expenditure of the public sector it requires. Generally speaking, what is at issue is to redefine the role of the
state in the economy, reaching a new social agreement delimiting what should the state for the citizen and the citizen what to do by the state
itself.

Venezuela has a few options:

 To overcome this situation with the least damage and begin reconstruction our country should consider two options that significantly change the
numbers game. There are two options that would allow us out of the hole and continue the flow of imports, opening the possibility to produce
more and stop the havoc that this crisis is having on the quality of life of all Venezuelans, especially the most vulnerable sectors.
o These two options are to seek help from the international community and debt restructuring.
o Options that should not be evaluated based on ideological considerations, but rather practical criteria to prioritize the welfare of
Venezuelans.
o And they are not necessarily independent. An agreement with the IMF, which is the organization that coordinates and channel
international aid to countries that are in trouble, would require debt restructuring. That already happened, in Greece, Cyprus and Uruguay.
According to the latest figures from the BCV to September last year Venezuela had a debt of 138.000 million dollars, equivalent to more
than six years of exports at current prices. And that figure does not include pending lawsuits in the ICSID, or the accumulated debt to the
private sector lags in foreign exchange settlement (ALD) or loans needed to overcome the current situation.
o The international financial community has created these coordination mechanisms to rescue the country, not the bondholders. The latter,
meanwhile, already have an idea of what's coming to them, its debt worth 37 cents on the dollar; because they presume that Venezuela
 Thursday, February 10, 2016

will not be able to pay full. An orderly restructuring would give more value to the debt; it would give Venezuela the opportunity to recover
and have to pay restructured debt.
o Projections supported by the IMF and negotiated debt restructuring are much more viable and promising. Venezuela could aspire to a
program by between 40.000 and 50.000 million dollars within two to three years. Assuming similar multiples to share what happened with
Greece, the amount would be 53.000 million.
o These funds come at very low interest rates, in contrast not only with what we today call the markets to Venezuela, but also with the
coupons from many of our bonds. In addition, an agreement with the IMF would allow Venezuela access between 10.000 and 15.000
million dollars in three years between the World Bank, the Inter-American Development Bank (IDB) and the Andean Development
Corporation (CAF).
o Under current conditions, this strategy looks like the only one who could prevent such brutal cut in imports would lead to a humanitarian
crisis.

From there Venezuela could begin to recover production, investment and consumption, as well as restore our battered international reserves. For
that, in addition to financing, a new administration gets restore hope and optimism in Venezuela and expectations change would be necessary.

“Countries do not disappear, but have times of extreme difficulty that leave lasting scars. The government of Hugo Chavez and Nicolas Maduro
not only brought us here after seventeen years of blunders in economic policy, but also has become inert as the crisis spreads and deepens, trying to
face reality with lies such as "economic war "or launching a slogan such as" thirteen engines". (Ricardo Hausmann, 2016)
 Thursday, February 10, 2016

This is the actual situation in which we live. Without a change of perspective of the actual government to resort to international aid, and promote
an orderly renegotiation of the foreign debt, Venezuela will not lift his head. This is not to say that Venezuela will avoid the tough times, which are the
result of improvisation, paralysis and insistence on a failed economic model that has left the anemic economy. But it is possible to minimize the pain,
speed recovery times and open up the possibility of starting the reconstruction.