Impact of the Exchange System in Venezuela, Research Paper Example

Venezuela has come to the lime light for a number of reasons, most of which have tarnished its reputation economically and financially. Venezuela experienced periods of radical economic, monetary and fiscal policies that influenced every aspect of the economy. Under Presidents Chavez and Maduro, Venezuela has employed stringent currency controls in a bid to control certain aspects of the economy. Venezuela’s fixed exchange rate policy has caused more damage than good to the country’s economy under Chavez and Maduro.

Hugo Chavez strictly imposed exchange controls and the value of the bolivares was fixed. Chavez adopted this tact with the initial intention of curbing the capital flight as a result of the huge oil strikes between 2002 and 2003. At the time, the oil dependent Venezuelan economy suffered considerable loses as a result of the industry-wide oil strikes. A ploy to sabotage Chavez’s government led to an attack in the oil industry to destabilize the economy.

Fixed Exchange Rate System

The Venezuelan foreign exchange rate system is considerably regulated by the application of predatory capitalistic philosophies. The cheapest bolivares to dollar exchange rate is accorded to the government through its foreign-trade body Cencoex. This special rates is also offered by Cencoex to individuals who important essential commodities and services to the welfare of the country, such as medicine and food (Hausmann and Rodri?guez). This form of exchange rate system adopts a fixed rate of exchange between a given set of currencies. This rate of exchange is determined by the government or the central bank, working for the government, and is known as official parity. In order to achieve this parity, the central bank can fix the nation’s currency relative to another measure of value, another currency or a basket of currencies

The Sicad I employs a different rate, much higher than that offered to the government. While this exchange rate varies from time to time, it maintains a 40% difference. A new process, the Sicad II process, is largely monitored by the government. While it may be built on the principles of a free market, the government applied heavy regulations. The Sicad II process has an exchange rate greater than that of Sicad I, at one time exchanging at 50 bolivares against the dollar, while the Sicad I exchanged at 10 bolivares against the dollar. Cencoex had a prevailing 6.3 bolivares to the dollar exchange rate, while the black market experienced an exchange rate of 68 bolivares to the dollar (Wiarda and Kline).

Black Market

The fixed exchange rate system adopted by any economy usually has one considerable shortcoming, which is the development of a parallel market. This parallel market offers unofficial exchange rate systems. This unofficial currency market existed before during the 1980’s and was accepted by government. However, it has since been banned. Government continually makes attempts to destroy this market. This stratified structure of the exchange rate creates a number of loopholes for the development of a black market. Despite government efforts, the number of unofficial currency brokers ensure the development and growth of the market.

Abuse of the Preferential Rate Currency

Many individuals have taken advantage of the government’s programs to help Venezuelan’s travel abroad using the government’s own preferential rate. These schemes have since been the platform for schemes that take advantage of the differences in the black market prices and the government’s preferential rate. The government has since lost considerable value to such schemes, compounding its financial problems.

Inflation

At the onset of president Maduro’s reign the Bolivar Fuerte money supply (Wiarda and Kline). This increased supply of money within the economy led to a rapid increase in inflation. Inflation is described as the gradual and sustained increase in the general price levels of commodities. The prices increase due to a various number of reasons and they affect demand and prices of commodities. The increase in price can be due to the situation when demand for goods and services surpasses supply. This creates a shortage which in turn causes the prices of commodities to increase. Inflation can be caused by an increase in money supply in the market (Meltzer). This means that there is too much currency chasing too few goods, this lowers the value of the currency and thus its purchasing power. This means consumers will require more currency to purchase the similar amount of goods, raising prices in essence. By increasing reserve requirements, banks will be required to increase their deposits with the Federal Reserve, reducing the amount of money banks have, thus reducing the money supply in the market to increase value of the currency and its purchasing power. In 2013, inflation shot up to 56% and the government attempted to control it through setting price ceilings and floors for essential commodities.

Scarcity

When government opted to control the prices of basic commodities as a solution to the inflation problem, it incurred a number of risks that were triggered by its own policies. As government drove up inflation through its monetary policy, many commodities realized shortages throughout the country (Intl Business Publications). The government could no longer sustain its own economy’s basic needs. In January 2014, the central bank recorded a 28% scarcity index score. It could no longer cater for one quarter of the needs of people through the supply of goods and services.

Balance of Trade

The balance of trade is the difference obtained from the monetary value of exports and imports. This is an important economic indicator as to how the country can sustain itself from its own production activities relative to the amount of commodities or raw materials it is importing from external sources. Venezuela’s trade is highly dependent on its fuel exports. This sector is highly influenced by the exchange rate, having a ripple effect on the prices of goods.

Tourism

The Venezuelan Central Bank (BCV) officially employs its official rate 6.3bsf for a dollar for all the tourists and visitors who come to Venezuela. The government allows them to exchange the dollars within Venezuela at this controlled rate (Hausmann and Rodri?guez). However, the black market offers much higher prices, over 35bsf. This has had a negative impact on the number of tourists flowing into the country. Since tourists believe they can obtain value in the black market, they opt to change destinations as the government frown at any transactions done in the black market.

In conclusion, Venezuela’s fixed exchange rate policy has caused more damage than good to the country’s economy under Chavez and Maduro. The fixed exchange rate has affected money supply, and led to the development of a parallel black market. The balance of trade has also been affected as a result of the net importer status the sector experiences. Inflation continues to be a problem to the government.

Works Cited

Hausmann, Ricardo and Francisco Rodri?guez. Venezuela before Cha?vez : anatomy of an economic collapse. University Park: The Pennsylvania State University Press, 2014. Print.

Intl Business Publications. Venezuela Energy Policy, Laws and Regulations Handbook. Intl Business Pubns, 2015. Print.

Meltzer, A. H. A history of the Federal Reserve: 1970-1986. Chicago: University of Chicago Press, 2009.

Wiarda, Howard J and Harvey F Kline. Latin America Politics and Development. 8th. Boulder: Westview Press, 2015. Print.