Venezuela: A State Of Imminent Collapse?

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Includes: BNO, DBO, DNO, DTO, DWTI, OIL, OLEM, OLO, SCO, SZO, UCO, USL, USO, UWTI, XOM
by: Kal Telage

Summary

National oil companies, the world's giants.

Petros de Venezuela, great reserves, mismanagement, political interference and massive corruption.

Venezuela on the brink of an economic collapse.

Impending hyperinflation may lead to an economic death spiral.

Topping the world's misery index.

Oil Rich

Venezuela's (PDVSA), a nationalized oil company is one of the biggest in the world in terms of its oil reserves. NOCs are partially or completely government-owned firms wherein the state retains the profits derived from oil production. It may come as a surprise to learn that 90 percent of the world's oil reserves are under state control. The chart below provides some perspective.

Graphic Courtesy of the Author

The Real Oil Giants

For example, for comparison sake, the world's most valuable oil producer in the private sector, Exxon Mobil (NYSE:XOM), ranks 12th on the list. The real take away from the chart below is that the world's indispensable energy sources are controlled by nation states making energy one of the most significant geopolitical power variables that are in constant play.

This power of NOCs is patently obvious in the current machinations in the Middle East. The Sunni-Shia divide between Saudi Arabia and Iran requires the use of oil as a weapon to achieve hegemonic dominance. Its importance can be noted in recent considerations for limited privatization of oil by Russia and Saudi Arabia in seeking greater needed incomes and increased efficiencies to support geopolitical interests. Correspondingly, with sanctions lifted, Iran is opening the taps of oil production to about 500,000 bpd.

Courtesy of the Author

Petros de Venezuela

Petros de Venezuela is a classic example of what can go wrong when state-owned entities are subjected to political interference and massive corruption. Considering Venezuela's huge oil reserves, it took effort to bring the government and the economy to the brink of complete collapse.

How Did This Happen?

It has been a process initiated and largely influenced by Hugo Chavez's socialist government which began to redistribute wealth by spending government oil earned money on the poor. Like many socialist programs, everyone receiving benefits was happy. Clearly, people were delighted with free housing and gasoline at two-cents per gallon. Eventually, the money began to run out and by 2005, Venezuela didn't have the money to maintain these programs. But in the interim period, Chavez maintained popular support despite high crime rates, poor basic services and crippling poverty.

How Serious Is The Threat of Economic Collapse

The basic question is, which will collapse first, Venezuela's government or its economy. Both are near their last gasp.

Venezuela's ruling party lost congressional elections giving the opposition party a veto-proof majority. The political structure faced a severe economic decline of 16 percent during the last two years according to the International Monetary Fund. But, the greatest threat facing the economy is the explosion of inflation which is anticipated to reach 720 percent in 2016. This would produce a death spiral.

Devaluation of the Bolivar

It may seem astonishing, but Venezuela raised gas prices by 6,200 percent for the first time in two decades. This translates into a 60 times increase to 6 bolivars a liter up from 9.7 centavos. Think about that.

To put this into greater perspective, this represents an exchange rate of 202.94 bolivars to the dollar hiking the cost of a gallon of gas to $0.11 a gallon. Clearly, this is still the cheapest gas in the world.

Graphic Courtesy of the Author

Maduro Government Forced to Take Extreme Action

There are attempts by President Nicolas Maduro to address raging triple-digit inflation and a deep recession. Maduro stated that "Faced with criminal, chaotic inflation a long time ago, we must act with the power of the state to control and regulate markets."

The following actions are in effect:

The exchange rates for essential imports, food and medicine, will weaken to 10 bolivars per dollar from the previous 6.3 rate.

The government exchange rate between bolivars and dollars that sold for about 13 bolivars will revert to an alternative "free floating market" trading around 203 bolivars to the dollar.

Impending Economic Disruptions

The most recent predictions are hyperinflationary. Bloomberg reports inflation will surge to 720 percent in 2016. Venezuela's central bank confirmed on January 15 that inflation is in the triple digit zone.

An upside is that devaluation eases the drain on government coffers resulting in more bolivars per dollar of oil revenue for state-controlled Petros de Venezuela while reducing the government's cost for subsidies. But a lack of hard currency has produced widespread shortages of essential goods including food. A downside is that the government must raise the cost of staple foods like bread and rice that are essential to feed the population.

But, the economy is expected to shrink by 8 percent this year after shrinking 4 percent last year according to the IMF. Some economists believe the economy no longer exists as most transactions occur in the black market zone while the government spins its wheels in a vacuum.

Recession Tanking The Economy

The modest reforms taking place are unlikely to bring in money needed to vitalize Venezuela's crashing economy. Analysts agree that tiny steps are too little, too late, to rescue the economy. In a desperate move on February 15, President Maduro named a moderate business leader, Miguel Perez, to replace a hard line socialist as the country's Economic Vice President. As an economy czar, Perez must contend with Venezuela's severe recession, a scarcity of food and medicine, a currency crash and runaway inflation.

Hopes Rely On Unlikely Modest Reforms

The primary question remains, how far will Maduro go initiating badly need more pragmatic reforms to rescue the economy? Skepticism over the choice of Perez is based on the belief that Maduro will not approve needed major economic reforms that would hit his political base among poorer voters.

The countries political opposition now controls the National Assembly for the first time in 16 years and regard Perez's appointment as inconsequential. Opposition lawmaker and economist Jose Guerra said on Twitter that Maduro's previous last appointment "lasted 30 days". Opposition lawmaker Luis Florido said, "Maduro keeps recycling his ministers without announcing measures and the crisis worsens."

Ousting President Maduro

As an opposition lawmaker, Freddy Guevara said on Twitter, "tomorrow we will begin a discussion on the constitutional procedure for achieving a change of government." He added, "Before the end of February" we will be announcing this procedure. This was followed by center-right opposition leader, Henry Ramos Allup vowing to speed up efforts to oust Maduro. A political deadlock now exists between socialist Maduro and an opposition legislature that only adds fuel to the crash and burn of Venezuela.

Actions Have Consequences: The Misery Index

Venezuela is now a good example of the first law of Karma; "Actions Have Consequences." The consequences, in terms of the population, are Venezuela's most miserable ranking in the global 2016 misery index for two consecutive years. The Misery Index score is equal to the sum of the unemployment rate, lending rate, plus inflation, minus the yearly percent change per capita for real GDP.

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Courtesy of the Author

As a country where oil represents 95 percent of all exports, the global decline in its price has been economically destructive in topping the misery index.

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Courtesy of the Author

In the case of Venezuela, the inextricable negative relationship between politics and oil presages the death of a nation and should serve as a warning to other oil-rich, but oil-dependent, nation states.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.