Can the King's Horses & King's Men Put Venezuela Back Again

Abstract:Venezuela's Hugo Chavez endures his fourth general strike this year as pressure mounts for political change. It may be too late for the Venezuelan economy.

Analysis:The most intriguing aspect of the Humpty Dumpty nursery rhyme is the part left unsaid. It is those precarious moments before Mr. Dumpty had his great fall that are ripe with unspoken drama. Hollywood, no doubt, would render this event in multi-angle slow motion.

Humpty Dumpty in pre-fall seems an apt way to describe Venezuela these days.

With a general strike blossoming from a single-day protest to a multi-day snit, speculation swirls around whether Venezuela will become the next Argentina. A secondary drama involves the possibility that beleaguered president Hugo Chavez will not finish his six-year term. Finally, there is an intriguing subtext about what it means for Venezuela's petroleum industry.

After all, the country is the world's fifth largest oil producer, and one of four pillars of export oil (along with Canada, Mexico, and Saudi Arabia) that sustain the American fuel guzzling economy.

So problems in Caracas could turn into problems on Main Street if all the planets were to align in a sinister way, or headaches on Wall Street if the Venezuelan economy were to spiral into the same abyss Argentina fell into this time last year.

The key word at the moment is "could," rather than "will." True, there are some uncanny similarities between Venezuela and its Argentine co-continental neighbor in terms of the size of the economic challenges facing each country. The pace of economic contraction in Venezuela this year, variously described by differing sources as between five and nine percent, is about the size of the contraction that led to the dissolution of the Argentine government last December.

That decline has been exacerbated by a 50-percent currency devaluation and a flight of capital out of the country, which some analysts expect to reach $8 billion by year end, or roughly 12 percent of the nation's economic output. It is one reason Venezuelan inflation is approaching 30 percent, unemployment is rising beyond the official 16 percent figure, and many activities, such as construction, have come to a virtual standstill.

Unlike Argentina, however, Venezuela's foreign debt is only about 20 percent of GDP. And the country realizes significant revenues through exported oil and petroleum products. Oil generates 75 percent of Venezuela's export revenue, 50 percent of its governmental revenues, and 33 percent of its Gross Domestic Product.

Indeed, the nation produces a little over three million bbls/d, but consumes less than 500,000 daily barrels. Roughly half of Venezuela's production flows directly to the United States. Those foreign cash flows, in dollars, lessen the possibility of a national default, which should comfort the folks on Wall Street.

However, the country's greatest challenge at the moment is not economic, though economics constitutes a formidable hurdle. It is political. And here is where the Humpty Dumpty metaphor comes back into play.

This week's strike is the fourth this year stemming from challenges to the tenure of populist president Hugo Chavez. The country is deeply and passionately split along class lines between Chavez supporters, generally the poorer segment of the country's 24 million people, and the middle, upper, and business segments who oppose his growing authoritarian tendencies.

The main issue has been whether to call a non-binding referendum on the Chavez presidency. The referendum process is provided for under the country's new constitution, but can only take place at the halfway point of Mr. Chavez's presidential term. The halfway point is August 2003.

Chavez opponents want to move that referendum up as early as possible. Referendum proponents generated two million signatures on a petition to hold the vote in February 2003. The country's National Election Board agreed, but the nation's court system overturned the decision and upheld the original constitutional provision.

The long-running internal political donnybrook keeps spilling into the streets. The referendum issue was a major reason for the general strike in April. When hardline Chavez backers killed 18 protesters, the strike spiraled out of control, resulting in "the now you see it, now you don't" coup last spring that deposed the president, then reinstated him to office two days later.

General strikes have occurred a couple of more times since. Last month, Chavez opponents were angered when the military took over the Caracas police force, leading to another round of rioting. The question as each strike event unfolds is whether internal political pressures will provide the impetus to knock a teetering Humpty Dumpty off his perch.

Hugo Chavez is a complex figure who has had measurable impact on the petroleum industry, both internally and abroad. After Bolivia and Argentina, Venezuela created the next best Latin American approach for opening its oil and gas industry to foreign investment during the 1990s. The country embarked upon a policy of apertura, which encouraged foreign investment in the nation's oil patch. Between 1996 and 1998, PDVSA, the state-run monopoly, entered numerous joint ventures with international oil firms to develop maturing petroleum resources. PDVSA—and Venezuela—earned billions of dollars in revenue.

Following the presidential election in 1999, Mr. Chavez backed away from the policy. There have not been—nor are there plans for—any new licensing rounds for petroleum in the foreseeable future, though some licensing projects on natural gas are in the works.

Mr. Chavez was a leading player in the 1999 discussion among OPEC members and Mexico to re-establish discipline on production quotas. OPEC production cuts subsequently reversed the global decline in oil prices and led to a rebound in the group's fortunes. The major story in oil and gas over the last four years has been the extraordinary market discipline evidenced by the cartel.

But the OPEC triumph brought its own repercussions. Venezuelan productive capacity declined as the country curtailed spending and abandoned wells. Now the maturing Venezuelan oil patch requires $4 billion annually in capital investment to keep production stable, but is investing at levels less than half that volume.

PDVSA also was a swing producer in its joint ventures with foreign oil firms, cutting back its own production to meet OPEC production targets while allowing foreign-owned joint venture interests to produce unfettered. That policy, too, has changed and several international oil firms are finding their fields essentially shut in by government decree.

To cap it off, Mr. Chavez led a move last year that raised royalties on oil production from 16 to 30 percent for all except the nation's heaviest crudes and marginal fields.

Meanwhile, Venezuelan exports to the U.S. have fallen about a quarter million barrels daily. Essentially, Venezuela is yielding U.S. market share to the Saudis.

A drop in oil prices would have serious repercussions for both the economic and political situation in Venezuela. Recent government attempts to obtain external funding from international institutions or place debt in capital markets have failed. And while the economic situation continues to decline, internal politics remains the major issue.

It is hard to say what will happen ultimately to Hugo Chavez. But if this were Hollywood, Humpty Dumpty would be reeling in slow motion on the edge of a precipice. We won't know until the credits roll whether Humpty Dumpty is Hugo Chavez, or Venezuela.