…And This is Your Company on Socialism: A Cautionary Tale of Nationalization in Venezuela

The Venezuelan economy is in free fall and its currency is hemorrhaging value

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By Jon Vreede, Lynx Global Intelligence

 

For those with an interest in business and Latin America, one question has dominated recent discussion: what has gone wrong in Venezuela? For years, Venezuela’s economy appeared to be booming, and that economic boom was allowing its government to combat social ills and build “socialism for the 21st century”. Yet that boom has turned to bust in dramatic fashion, and the Venezuelan economy is in free fall and its currency is hemorrhaging value. Economic hardship has in turn sparked political unrest, as opposition to President Nicholas Maduro and the ruling chavista government has taken to the streets— sometimes with bloody results. As companies doing business in Venezuela scramble to respond, they are threatened by a crisis of their own: the seizure of their increasingly-worthless assets by the government. The threat of nationalization was most recently brought home by the seizure of General Motors’ facilities by the Venezuelan government. Yet Venezuela’s renewed nationalization should not come as a bolt from the blue; there have been warning signs present for years, and the trend is likely to continue.

The nationalization trend predates the current political crisis in Venezuela, and indeed the broader economic crisis as well. The origins of this problem lie in 2003, when then President Hugo Chavez imposed strict controls on currency exchange and capped the prices on basic consumer products like food, medicine and raw materials[i]. The stated goal was to reduce inflation and combat speculation, as well as ensure that basic products were accessible to poor Venezuelans. In the same vein, Chavez began expropriating farmland which was lying idle or was of unclear ownership in 2005 and redistributing it to increase productivity and combat persistent food shortages. For the following two years, the government set its sights on the petroleum industry: the backbone of the Venezuelan economy. Historically the Venezuelan petroleum industry had been under state control, but previous governments had allowed private firms to enter the market in the 1990s, mostly in the oil-rich Orinoco Oil Belt. But a 2006 law allowed the government to unilaterally abrogate agreements signed during the previous decade, and laws the following mandated that companies must give the state-owned oil company a majority stake in their Orinoco Belt projects or else forfeit their rights. A few oil companies decided to soldier on under these new conditions, but the majority—including ExxonMobil, ConocoPhillips and Total—left the market in 2007. Other companies swept up by the state in that year included Venezuela’s largest telecommunications company, its largest privately-owned electric company, and the nation’s largest iron mines[ii].

At this point, businesses could be forgiven for not worrying about the Venezuelan market. After all, there was historic precedent for the state having a dominate role in the oil and gas sector as well as the iron business, and land redistribution has been the common plank in the platforms of left-leaning Latin-American political leaders for decades. As for telecoms and electricity? In the developed world, many of these services are provided by state-owned utilities. But business owners and investors should have been wary. The Venezuelan government had already displayed a worrying habit of solving problems by taking over businesses. Those land and utility seizures meant cheaper prices for goods, and these subsidies and other social programs were being paid for with that new state-owned oil money. And more trouble was clearly on the horizon. That same year, Chavez threatened to nationalize everything from hospital to steel mills and banks to farms if they did not play ball with his government.

True to his word, Chavez and his government went on a spree of nationalization between 2009 and 2011. This campaign touched all parts of the economy including banks, agribusiness, steel, cement and any company providing supplies and services to the nationalized oil industry[iii]. This campaign of increasing state-control occurred against a backdrop of economic uncertainty and calls for political change. During these three years, oil prices declined significantly while growth rates plummeted and inflation shot back up to around 30% per year[iv]. What is more elections for both the National Assembly and presidency were due to take place in 2011 and 2012 respectively; elections in which the opposition planned to mount a serious challenge to the ruling party. The government’s nationalization campaign can thus be seen as an attempt to right the economic ship and curry favor with the populace. Nationalization allowed the government to guarantee jobs while allowing them to lower the cost of consumer goods; both of which help secure the loyalty of the working-class Venezuelans who make up the core of chavismo support.

For businesses operating in Venezuela, this nationalization campaign should have been the signal to exit this market. The problem was not just that the government was expropriating industry; unsettling though that seemed. Instead, the dangerous development was the it appeared to be working. Slowly, inflation began to creep back down, and GDP began to grow again. From the government’s perspective then, the nationalization program would appear to be recipe for economic recovery. That oil prices rebounded during that same period, thus allowing the government to continue funding its programs was left unsaid. For those who realized the dangerous precedent this set, it was clear that Venezuela was no longer a welcoming market. But many others ignored the trends and decided that things were getting better. Initially at least, that seemed to be true.

That is until 2014, when the price of oil fell dramatically, and with it the Venezuelan economy. To continue providing jobs and services, the Venezuelan government kept printing money, resulting in out-of-control inflation. By 2016, inflation was estimated to be over 700%  (the exact figure is unknown since the government stopped reporting the number) and consumer prices rose by an astounding 2200%[v]. The result has been mass shortages of everything from food to medicine and the shuttering of factories for lack of raw materials. President Nicholas Maduro (who succeeded Hugo Chavez after the latter’s death in 2013) has responded with thundering denunciations of wealthy Venezuelans and shadowy foreign forces; and of course, nationalization, with Maduro pledging to seize any shuttered factory and restarting production[vi]. This process has already begun with the seizure of a Kimberly Clark plant in 2006 and most recently of GM’s Venezuelan plant. The fact that this response will likely not solve the underlying problems will be of cold comfort to those businesses still operating in Venezuela.

venezuala

Facing twin economic and political crisis, the government has returned to its favorite response, although they maintain that these “asset freeze” and not expropriations[vii]. For those still doing business in Venezuela, this is a no-win situation. With the aid of experts like Lynx Global Intelligence, their losses might have been avoided. Our analytical tools and techniques could have helped identify the warning signs, and allowed our clients to close down their Venezuelan operations before the economy imploded. Instead, they are left with factories they cannot operate, funds that— thanks to currency controls— are worth less and less every day, and a government willing and able to confiscate whatever maybe left.

 

[i] “Venezuela Announces Currency, Price Controls”. Sydney Morning Herald. February 7, 2003. http://www.smh.com.au/articles/2003/02/06/1044498917650.html.

[ii] Mrquez, Humberto. “Venezuela: Chavez Announces Broad Nationalization Drive”. GIN/IPS. May 14, 2007.

[iii] “Venezuela’s Nationalizations Under Chavez”. Reuters. October 7, 2012. http://reut.rs/2pXAgZI.

[iv] International Monetary Fund. http://www.imf.org/external/datamapper/PCPIPCH@WEO/WEOWORLD/VEN.

[v] “Let Them Eat Chavismo: As Venezuela Crumbles, the Regime Digs in”. The Economist. January 28, 2017.  http://econ.st/2peaP7e.

[vi] “Venezuela Seizes Kimberly Clark as New Plan to Tackle Shortages Launched” TeleSUR. July 12, 2016. http://bit.ly/2pVk5vA.

[vii] “Venezuela Freezes GM Assets After Managers Ask Government to Kick Workers Out of Factory”. TeleSUR. April 21, 2017. http://bit.ly/2qTNfc2.

photo: Oil workers hang a Venezuelan flag at the Jose Complex during celebrations in Barcelona, Venezuela, May 1, 2007. (Photo: Reuters/Jorge Silva)

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