A STRONG BOLIVAR FOR A STRONG BOLIVARIAN

UNCLAS SECTION 01 OF 02 CARACAS 000568 SIPDIS SENSITIVE SIPDIS TREASURY FOR KLINGENSMITH AND NGRANT COMMERCE FOR 4431/MAC/WH/MCAMERON NSC FOR DTOMLINSON HQ SOUTHCOM ALSO FOR POLAD PASS TO FEDERAL RESERVE E.O. 12958: N/A TAGS: ECON EFIN VE SUBJECT: A STRONG BOLIVAR FOR A STRONG BOLIVARIAN REF: A. CARACAS 358 ¶B. CARACAS 493 ¶1. (SBU) SUMMARY: The Central Bank plans to introduce a new currency in Venezuela on January 1, 2008. The new currency, to be called the "Bolivar Fuerte" (or Strong Bolivar),and will have the same value as the current Bolivar, minus three zeros. Prices are supposed to be quoted in the new currency beginning October 2007. Hardly anyone expects the new currency to alleviate Venezuela's economic problems, including high inflation, an increasing money supply, and a parallel market that values the Bolivar at about half the official rate. This represents the first monetary conversion in Venezuela's modern history. END SUMMARY. ¶2. (SBU) On February 14 during his weekly "Alo Presidente" television show, Chavez announced that Venezuela would adopt a new currency to replace the Bolivar (reftel A). At the official exchange rate, 2,150 Bolivars (Bs.) are worth USD 1. According to Chavez, the new currency will be called the Bolivar Fuerte (Bs.F.) and will eliminate three zeroes from the old currency, so that 2.15 Bs.F. will equal one U.S. dollar. The law decreeing this new currency was published in the Official Gazette on March 6. ¶3. (U) According to the law, as of October 1, 2007 prices in Venezuela will be quoted in both Bs. and Bs.F., and on January 1, 2008 the currency will begin to circulate, with all prices, from goods to salaries to financial statements to contracts to tax payments having to be expressed in the new currency. Central Bank (BCV) President Gaston Parra noted on March 8 that current plans are for both currencies to circulate for six months, though an extension is possible if logistical problems cause delays in replacing the old currency. ¶4. (SBU) The currency will supposedly be similar in appearance to the euro or Brazilian real. The representative of one of the major currency printing firms told Econoff that they could supply sufficient currency to the BCV in time and noted that they expected to receive the new designs before the end of March. Economist and former head of research at the BCV Jose Guerra confirmed that the BCV had the capacity to distribute the new currency. (COMMENT: Given the BRV's capacity problems in just about every other sphere, Post is skeptical that this will go off without a hitch. END COMMENT.) ¶5. (SBU) At 2,150/dollar, the official exchange rate is anywhere from 25 to 55 percent overvalued. The recent Bonos del Sur issuance revealed an implicit value of between 2700 and 2800 Bs./dollar and the current parallel exchange rate for the dollar is around 4,000Bs./dollar (reftel B). Many economists expect the BRV to use this opportunity to mask a devaluation, wherein 2,150 old Bolivars would equal 2.7 or even 3 new Bolivars Fuertes (in essence a 25-40 percent devaluation). Government spokespersons, including the Minister for People's Power of Finance (MPPF) Rodrigo Cabezas, have stated emphatically that the government will not use this opportunity to devalue the Bolivar, noting that the only change is to eliminate three zeroes. During one televised event Cabezas went so far as to say that there was no plan to devalue the Bolivar in either the short, medium or long term. ¶6. (SBU) Most economists agree that the monetary conversion will do nothing to strengthen the Bolivar. Former BCV Vice President Omar Bello explained that the continued intervention by other government institutions in currency exchange markets (including PDVSA, the Venezuelan Development Bank (BANDES),the National Development Fund (FONDEN),and the Treasury Bank) have resulted in the loss of control over monetary policy by the Central Bank. The transfer of BCV reserves to FONDEN has decreased the implicit weighted value of the Bolivar as it is backed up by less hard currency and the planned elimination of what remains of the BCV's autonomy during the upcoming constitutional reform later this year will not help matters. As of March 9, the rate derived by dividing M2/FX Reserves was 3283 Bolivars/ dollar. ¶7. (SBU) It is entirely possible that this new currency will generate more inflation. As was seen with the introduction CARACAS 00000568 002 OF 002 of the euro in 2002, businesses in many countries took advantage of the smaller denominations to round up prices. In addition, about half of Venezuela's labor force is employed in the informal sector. As was the case with the euro conversion, it is likely many individuals and firms will be reluctant to take all of their cash to the bank (particularly if the BRV uses the conversion to mask a devaluation),and thus declare it to the government and tax authorities, in order to receive new bank notes. Instead, many will try to use up their old Bolivars while still valid. Given the shortages prevalent in the Venezuelan economy, it is possible that the additional funds chasing the limited supply of goods will push inflation up higher. ¶8. (SBU) The new law gives the Public Defender, the Institute for the Defense of the Consumer (INDECU),the Superintendency of Banks (SUDEBAN) and the tax authority (SENIAT) the power to enforce the law and punish violators. This presumably would include those that round up or otherwise increase prices after the conversion in violation of the first article of the law and could allow these institutions to selectively target companies or individuals. ¶9. (SBU) COMMENT: Chavez, Cabezas, and other BRV officials claim that the introduction of the new currency will brake inflation and help right many of the distortions evident in the Venezuelan economy. However, introducing a new currency without reducing fiscal expenditures or instituting a new monetary policy will do nothing to alleviate the problems of liquidity, inflation, shortages, or the rising gap between official and parallel exchange rates. In the end, these measures serve more as a smoke screen to distract Venezuelans from the country's mounting economic distortions and represent more of a political statement than a sound economic policy. The monetary conversion may help accounting problems posed by the mere number of zeroes, however it is hard to argue that this sole benefit outweighs the cost (in the tens of millions of dollars) of introducing a quasi-new currency. END COMMENT. BROWNFIELD