AFTERMATH OF DEVALUATION: INFLATION AND PRIVATE

C O N F I D E N T I A L SECTION 01 OF 02 CARACAS 000549

SIPDIS

DEPARTMENT FOR WHA/AND, EB
NSC FOR CHRIS BARTON
TREASURY FOR OASIA - GIANLUCA SIGNORELLI
USCINCSO FOR POLAD

E.O. 12958: DECL: 02/13/2009
TAGS: ECON EFIN PGOV VE
SUBJECT: AFTERMATH OF DEVALUATION: INFLATION AND PRIVATE
ECONOMIC ASSESSMENTS

REF: (A) CARACAS 429 (B) CARACAS 103

CLASSIFIED BY: AMBASSADOR CHARLES S. SHAPIRO FOR REASON 1.4 (B) AND (D)

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SUMMARY
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1. (C) THE GOV FOLLOWED ITS FEBRUARY 9 DEVALUATION (REF A)
WITH PRICE INCREASES ON SOME IMPORTANT PRICE-CONTROLLED
STAPLES THE NEXT DAY. THE CHIEF ECONOMISTS OF VENEZUELA'S
TWO LARGEST BANKS SAW THE DEVALUATION DIFFERENTLY IN
CONVERSATIONS WITH ECONOFF. LUIS ZAMBRANO OF BANCO MERCANTIL
SAID THE DEVALUATION SURPRISED HIM BECAUSE OF ITS EXPECTED
NEGATIVE POLITICAL IMPACT FOR THE CHAVEZ GOVERNMENT.
GIOVANNI DI PLACIDO OF BANCO PROVINCIAL BELIEVED THE TIMING
OF THE DEVALUATION WAS INTENDED TO LOWER THE GOV'S COSTS ON
EXPECTED BOND SWAPS. WHILE THE DEVALUATION'S IMPACT ON THE
MAGNITUDE OF INFLATION IS DEBATABLE, THE EFFECTS OF CHRONIC
HIGH INFLATION ON THE VENEZUELAN ECONOMY ARE SURE TO BE FELT.
END SUMMARY.

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IMMEDIATE PRICE HIKES
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2. (U) THE INFLATIONARY PASS-THROUGH FROM THE GOV'S FEBRUARY
9 DEVALUATION OF THE BOLIVAR WAS RAPID. ON FEBRUARY 10, THE
MINISTRY OF PRODUCTION AND COMMERCE RAISED THE CEILINGS ON A
RANGE OF PRICE-CONTROLLED STAPLES INCLUDING CORN FLOUR,
PASTEURIZED WHITE CHEESE, COFFEE AND CORN AND SUNFLOWER OILS.
THE PRICE HIKES RANGED FROM 10 PERCENT ON CORN FLOUR TO 30
PERCENT ON COFFEE. THE MINISTRY COMPLETELY REMOVED PRICE
CONTROLS ON PASTEURIZED MILK. THE INCREASES CAME AFTER
PUBLIC PRONOUNCEMENTS FROM MINISTER OF FINANCE TOBIAS NOBREGA
DISCOUNTING IMMEDIATE INFLATIONARY EFFECTS FROM THE
DEVALUATION.

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SURPRISED? YES, AND...
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3. (SBU) LUIS ZAMBRANO, CHIEF ECONOMIST OF BANCO MERCANTIL,
VENEZUELA'S LARGEST BANK, TOLD ECONOFF FEBRUARY 11 THE TIMING
OF THE DEVALUATION WAS A SURPRISE. HE SAID BANCO MERCANTIL
HAD EXPECTED A DEVALUATION IN 2004, BUT NOT UNTIL A
RESOLUTION OF THE CURRENT POLITICAL CRISIS. ZAMBRANO
PRESENTED THE BANK'S THREE NEW ECONOMIC SCENARIOS FOR THE
YEAR BASED ON CONTINUATION OF THE CURRENT ADMINISTRATION OR
POLITICALLY STRONGER OR WEAKER SUCCESSOR GOVERNMENTS TO THE
CHAVEZ REGIME. UNDER ALL THREE SCENARIOS, HE EXPECTED
INFLATION TO BE MUCH HIGHER THAT THE GOV PROJECTED 25 PERCENT
FOR THE YEAR. THE ESTIMATES RANGED FROM 35 PERCENT UNDER A
WEAK SUCCESSOR GOVERNMENT TO JUST OVER 40 PERCENT SHOULD
CHAVEZ CONTINUE IN POWER. DESPITE HIGHER INFLATION, ZAMBRANO
FORESAW POSITIVE ECONOMIC GROWTH FOR 2004 RANGING BETWEEN 7.6
PERCENT UNDER A CONTINUED CHAVEZ REGIME AND 9.2 PERCENT UNDER
A WEAKER TRANSITION GOVERNMENT. BANCO MERCANTIL PROJECTED
BETWEEN USD 3 AND 4 BILLION IN DEBT PLACEMENTS THIS YEAR.

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NO
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4. (SBU) FROM BANCO MERCANTIL'S CHIEF RIVAL, BANCO
PROVINCIAL, THE VIEW WAS SOMEWHAT DIFFERENT. BANCO
PROVINCIAL CHIEF ECONOMIST GIOVANNI DI PLACIDO TOLD ECONOFF
FEBRUARY 12 THAT THE DEVALUATION WAS NOT A SURPRISE TO HIM
PRECISELY BECAUSE OF EXPECTED DEBT ISSUANCES. HE SAID GOV
REFINANCING OF INTERNAL DEBT WITH EXTERNAL DOLLAR-BOND ISSUES
WAS IMMINENT AND THE DEVALUATION WAS SIMPLY A WAY OF LOWERING
THE UP-FRONT COSTS OF THOSE EXERCISES. UNLIKE ZAMBRANO, DI
PLACIDO STRESSED THE IMPORTANCE OF CHAVEZ'S RECENT BOUNCE IN
PUBLIC OPINION POLLS AS PROVIDING A POLITICAL MARGIN FOR
ERROR THAT WOULD CUSHION ANY NEGATIVE FEEDBACK FROM THE
DEVALUATION AND THE ENSUING UP-TICK IN INFLATION. DI PLACIDO
ALSO WAS MORE CONSERVATIVE IN HIS ASSESSMENT OF THE
INFLATIONARY IMPACT OF THE DEVALUATION WITH A PROJECTION OF
ANOTHER 4.5 TO 5 PERCENT ON TOP OF THE EXPECTED GOV RATE OF
25 PERCENT. HIS PROJECTION FOR ECONOMIC GROWTH FOR THE YEAR

CARACAS 00000549 002 OF 002

PLACIDO'S CONVICTION THAT THE INFLATIONARY
EFFECT OF DEVALUATION WILL BE RELATIVELY MILD, THE FISCAL
POLICIES OF THE GOV LIKELY WILL FUEL HIGHER INFLATION THAN
LAST YEAR'S 27.1 PERCENT (REF B). THAT FIGURE INCLUDED A
HOST OF PRICE-CONTROLLED STAPLES THAT WILL HAVE TO BE
ADJUSTED TO THE BOLIVAR'S NEW VALUE. HOWEVER, THE GOV HAS
BEEN REMARKABLY SUCCESSFUL IN ITS BOND OPERATIONS OVER THE
PAST YEAR AND THE HIGH YIELD BONDS ARE ATTRACTIVE VEHICLES
FOR INVESTORS. THE NET RESULT FROM FUTURE DOLLAR-CONVERTIBLE
BOND ISSUES WILL BE SOME TEMPORARY PULL BACK ON THE
UNOFFICIAL EXCHANGE RATE, WHICH HAS AT TIMES TOPPED TWICE THE
OFFICIAL RATE, AND A SOFTENING OF INFLATION FROM THAT
QUARTER. THE HIGH-SPENDING WAYS OF THE CHAVEZ GOVERNMENT
ALSO FIGURE IN THE MIX, SO THAT INFLATION WILL PROBABLY
NECESSITATE ANOTHER DEVALUATION BEFORE YEAR'S END.
SHAPIRO



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2004CARACA00549 - CONFIDENTIAL