The curse of oil in Venezuela

Since most oil producing nations lack strong democracies or participatory governance, their ruling classes use the largesse from massive oil wealth to buy a highly knit elite group of supporters and loyalists

The news coming out of the oil rich country Venezuela is not very flattering.  A poll of 1,200 Venezuelan adults conducted in April 2016 by a local firm, Venebarometro, and reported in a recent issue of the Wall Street Journal, revealed that nearly half of Venezuelans say they can no longer afford to eat three meals a day.  This is quite a bit disappointing for a country that boasts the biggest proven world reserves of oil.
According to Greek mythology, King Midas was enjoying his newly acquired power of turning everything into gold with his touch until the day he touched his own daughter who became a gold statue; this is the curse of Midas touch. Oil, once dubbed as liquid gold, brought unprecedented wealth to oil-producing nations. However, the bonanza from newly found wealth had a darker side, a ‘Dutch disease’ of a more sinister kind.
The term, ‘Dutch Disease’  was coined by economists to describe how discovery of oil in the Netherlands harmed the traditional sectors of the economy, by siphoning resources  from the non-oil sector to the oil sector  and  causing the Dutch currency  to appreciate, in turn reducing exports.  Migration to sprawling urban centers near the oil fields took place on a large scale. In a way, the economy became hostage to just one sector. With the oil money, the Dutch government expanded its activities and hired many civil servants to absorb the unemployed workers. So when the gas bonanza ended, the government was stuck with a large and expensive public sector and declining revenue to pay for it. In Venezuela, the ‘Dutch disease’ syndrome has taken on an added strain, because of the policies of Hugo Chavez, the former President.
At the beginning of his rule, President Hugo Chavez, to his credit, started reforms to reduce income inequality, transfer wealth from the rich to the poor and increase accessibility to health care and education. Economic growth at the beginning was associated with some decline in poverty. For example, during 2003-2007, poverty declined from 54% to 27% while per capita GDP increased by 50%. However, the government imposed price ceilings on basic foodstuffs and other necessities of life. Price control measures reduced profit and incentive for new investment by domestic firms, ultimately driving some of them out of business and causing severe shortages of essential goods. Easy oil money and an overvalued currency encouraged Venezuelans to import goods from abroad at a relatively low price and also hurt exporters.
Subsidized fuel in the form of government-set price of about 5 cents per gallon of premium gasoline  received by Venezuelans costs the state-owned oil company, Petroleos de Venezuela (PDVSA) millions of dollars in lost revenue every year. Consequently, the company does not have necessary funds left to invest in the basic infrastructure necessary for the exploration and development of new oil fields.  Aging oil fields produce heavy, low grade oil and the country is forced to import light oil from other countries (Foreign Affairs, September/October, 2016).
In addition, the government undertook mega-projects, the so-called white elephant, often with the help of foreign aid, which only added to the indebtedness of the country without contributing to economic development. Instead of diversifying the economy and building a solid industrial base like South Korea or China, resources from oil revenue were diverted to these mega-projects.
Years of decline in oil production, in conjunction with precipitous decline in oil price since 2014, have caused oil revenue to fall throwing the country into deeper hole. As reported in the September/October, 2016 issue of ‘Foreign Affairs’, payment of more than four billons US dollars  was due in the last quarter of 2015 which will reach 7 billion dollars in the second quarter of 2017.  So Venezuela is on the verge of becoming  the ‘Greece’ of Latin America.
The fallout from the economic predicament will be felt beyond the borders of Venezuela, especially in Colombia and other countries which have strong trade connections to Venezuela.
Since most oil producing nations lack strong democracies or participatory governance, their ruling classes use the largesse from massive oil wealth to buy a highly knit elite group of supporters and loyalists including the military, thus helping rulers to stay in power. An Oil bonanza also allows the government to spend lavishly on social programs, subsidized education and health services, keeping people happy.  The Venezuelan government is no different from a number of governments in the Middle East and North African in keeping a tight control on the oil industry and the earnings from its oil exports, while also adopting measures of economic populism,  that are very popular in the short run but are not sound policies for the long-term sustainable economic growth. This is another example of “time inconsistency”. Originally, the term “time inconsistency” was used by economists to denote a situation where governments adopt popular inflationary policies to reduce unemployment, but these policies backfire in the long run.
It may still not be too late for Venezuela to put in place sensible economic policies including encouraging private investment in the energy sector and lowering tax rates on energy companies and providing access to competitive exchange rate, privatizing some operations of the state oil monopoly.
The government should start introducing pro-market reforms, including dismantling of price controls on foodstuffs, gasoline and other goods. Countries with natural revenue bonanza have to be careful what they do with their large revenues, because those revenues may not last long.  People of no other oil-rich country faces such hardships as Venezuelans in recent history,  with the exception of war-torn counties like Iraq, Libya, Syria and Nigeria. Venezuelans deserve much better!

The writer is a Lawton Independent Agents Chair and Professor of Economics and Director of Bill Burgess Jr. Business Research Center at Cameron University, Lawton, Oklahoma, USA

The curse of oil in Venezuela

Since most oil producing nations lack strong democracies or participatory governance, their ruling classes use the largesse from massive oil wealth to buy a highly knit elite group of supporters and loyalists

The news coming out of the oil rich country Venezuela is not very flattering. A poll of 1,200 Venezuelan adults conducted in April 2016 by a local firm, Venebarometro, and reported in a recent issue of the Wall Street Journal, revealed that nearly half of Venezuelans say they can no longer afford to eat three meals a day. This is quite a bit disappointing for a country that boasts the biggest proven world reserves of oil. According to Greek mythology, King Midas was enjoying his newly acquired power of turning everything into gold with his touch until the day he touched his own daughter who became a gold statue; this is the curse of Midas touch. Oil, once dubbed as liquid gold, brought unprecedented wealth to oil-producing nations. However, the bonanza from newly found wealth had a darker side, a Dutch disease of a more sinister kind. The term, Dutch Disease was coined by economists to describe how discovery of oil in the Netherlands harmed the traditional sectors of the economy, by siphoning resources from the non-oil sector to the oil sector and causing the Dutch currency to appreciate, in turn reducing exports. Migration to sprawling urban centers near the oil fields took place on a large scale. In a way, the economy became hostage to just one sector. With the oil money, the Dutch government expanded its activities and hired many civil servants to absorb the unemployed workers. So when the gas bonanza ended, the government was stuck with a large and expensive public sector and declining revenue to pay for it. In Venezuela, the Dutch disease syndrome has taken on an added strain, because of the policies of Hugo Chavez, the former President. At the beginning of his rule, President Hugo Chavez, to his credit, started reforms to reduce income inequality, transfer wealth from the rich to the poor and increase accessibility to health care and education. Economic growth at the beginning was associated with some decline in poverty. For example, during 2003-2007, poverty declined from 54% to 27% while per capita GDP increased by 50%. However, the government imposed price ceilings on basic foodstuffs and other necessities of life. Price control measures reduced profit and incentive for new investment by domestic firms, ultimately driving some of them out of business and causing severe shortages of essential goods. Easy oil money and an overvalued currency encouraged Venezuelans to import goods from abroad at a relatively low price and also hurt exporters. Subsidized fuel in the form of government-set price of about 5 cents per gallon of premium gasoline received by Venezuelans costs the state-owned oil company, Petroleos de Venezuela (PDVSA) millions of dollars in lost revenue every year. Consequently, the company does not have necessary funds left to invest in the basic infrastructure necessary for the exploration and development of new oil fields. Aging oil fields produce heavy, low grade oil and the country is forced to import light oil from other countries (Foreign Affairs, September/October, 2016). In addition, the government undertook mega-projects, the so-called white elephant, often with the help of foreign aid, which only added to the indebtedness of the country without contributing to economic development. Instead of diversifying the economy and building a solid industrial base like South Korea or China, resources from oil revenue were diverted to these mega-projects. Years of decline in oil production, in conjunction with precipitous decline in oil price since 2014, have caused oil revenue to fall throwing the country into deeper hole. As reported in the September/October, 2016 issue of Foreign Affairs, payment of more than four billons US dollars was due in the last quarter of 2015 which will reach 7 billion dollars in the second quarter of 2017. So Venezuela is on the verge of becoming the Greece of Latin America. The fallout from the economic predicament will be felt beyond the borders of Venezuela, especially in Colombia and other countries which have strong trade connections to Venezuela. Since most oil producing nations lack strong democracies or participatory governance, their ruling classes use the largesse from massive oil wealth to buy a highly knit elite group of supporters and loyalists including the military, thus helping rulers to stay in power. An Oil bonanza also allows the government to spend lavishly on social programs, subsidized education and health services, keeping people happy. The Venezuelan government is no different from a number of governments in the Middle East and North African in keeping a tight control on the oil industry and the earnings from its oil exports, while also adopting measures of economic populism, that are very popular in the short run but are not sound policies for the long-term sustainable economic growth. This is another example of time inconsistency. Originally, the term time inconsistency was used by economists to denote a situation where governments adopt popular inflationary policies to reduce unemployment, but these policies backfire in the long run. It may still not be too late for Venezuela to put in place sensible economic policies including encouraging private investment in the energy sector and lowering tax rates on energy companies and providing access to competitive exchange rate, privatizing some operations of the state oil monopoly. The government should start introducing pro-market reforms, including dismantling of price controls on foodstuffs, gasoline and other goods. Countries with natural revenue bonanza have to be careful what they do with their large revenues, because those revenues may not last long. People of no other oil-rich country faces such hardships as Venezuelans in recent history, with the exception of war-torn counties like Iraq, Libya, Syria and Nigeria. Venezuelans deserve much better! The writer is a Lawton Independent Agents Chair and Professor of Economics and Director of Bill Burgess Jr. Business Research Center at Cameron University, Lawton, Oklahoma, USA