An Empty Revolution

The Unfulfilled Promises of Hugo Chávez

Francisco Rodríguez

From Foreign Affairs, March/April 2008

Summary:  Even critics of Hugo Chávez tend to concede that he has made helping the poor his top priority. But in fact, Chávez's government has not done any more to fight poverty than past Venezuelan governments, and his much-heralded social programs have had little effect. A close look at the evidence reveals just how much Chávez's "revolution" has hurt Venezuela's economy -- and that the poor are hurting most of all.

FRANCISCO RODRÍGUEZ, Assistant Professor of Economics and Latin American Studies at Wesleyan University, was Chief Economist of the Venezuelan National Assembly from 2000 to 2004.

At the same time, however, Venezuelan voters have given Chávez credit for the nation's strong economic growth. In polls, an overwhelming majority have expressed support for Chávez's stewardship of the economy and reported that their personal situation was improving. This is, of course, not surprising: with its economy buoyed by surging oil profits, Venezuela had enjoyed three consecutive years of double-digit growth by 2006.

But by late 2007, Chávez's economic model had begun to unravel. For the first time since early 2004, a majority of voters claimed that both their personal situation and the country's situation had worsened during the preceding year. Scarcities in basic foodstuffs, such as milk, black beans, and sardines, were chronic, and the difference between the official and the black-market exchange rate reached 215 percent. When the Central Bank board received its November price report indicating that monthly inflation had risen to 4.4 percent (equivalent to an annual rate of 67.7 percent), it decided to delay publication of the report until after the vote on the constitutional reform was held.

This growing economic crisis is the predictable result of the gross mismanagement of the economy by Chávez's economic team. During the past five years, the Venezuelan government has pursued strongly expansionary fiscal and economic policies, increasing real spending by 137 percent and real liquidity by 218 percent. This splurge has outstripped even the expansion in oil revenues: the Chávez administration has managed the admirable feat of running a budget deficit in the midst of an oil boom.

Such expansionary policies were appropriate during the deep recession that Venezuela faced in the aftermath of the political and economic crisis of 2002-3. But by continuing the expansion after the recession ended, the government generated an inflationary crisis. The problem has been compounded by efforts to address the resulting imbalances with an increasingly complex web of price and exchange controls coupled with routine threats of expropriation directed at producers and shopkeepers as a warning not to raise prices. Not surprisingly, the response has been a steep drop in food production and widening food scarcity.

A sensible solution to Venezuela's overexpansion would require reining in spending and the growth of the money supply. But such a solution is anathema to Chávez, who has repeatedly equated any call for spending reductions with neoliberal dogma. Instead, the government has tried to deal with inflation by expanding the supply of foreign currency to domestic firms and consumers and increasing government subsidies. The result is a highly distorted economy in which the government effectively subsidizes two-thirds of the cost of imports and foreign travel for the wealthy while the poor cannot find basic food items on store shelves. The astounding growth of imports, which have nearly tripled since 2002 (imports of such luxury items as Hummers and 15-year-old Scotch have grown even more dramatically), is now threatening to erase the nation's current account surplus.

What is most distressing is how predictable all of this was. Indeed, Cháveznomics is far from unprecedented: the gross contours of this story follow the disastrous experiences of many Latin American countries during the 1970s and 1980s. The economists Rudiger Dornbusch and Sebastian Edwards have characterized such policies as "the macroeconomics of populism." Drawing on the economic experiences of administrations as politically diverse as Juan Perón's in Argentina, Salvador Allende's in Chile, and Alan García's in Peru, they found stark similarities in economic policies and in the resulting economic evolution. Populist macroeconomics is invariably characterized by the use of expansionary fiscal and economic policies and an overvalued currency with the intention of accelerating growth and redistribution. These policies are commonly implemented in the context of a disregard for fiscal and foreign exchange constraints and are accompanied by attempts to control inflationary pressures through price and exchange controls. The result is by now well known to Latin American economists: the emergence of production bottlenecks, the accumulation of severe fiscal and balance-of-payments problems, galloping inflation, and plummeting real wages.

Chávez's behavior is typical of such populist economic experiments. The initial successes tend to embolden policymakers, who increasingly believe that they were right in dismissing the recommendations of most economists. Rational policy formulation becomes increasingly difficult, as leaders become convinced that conventional economic constraints do not apply to them. Corrective measures only start to be taken when the economy has veered out of control. But by then it is far too late.

My experience dealing with the Chávez government confirmed this pattern. In February 2002, for example, I had the opportunity of speaking with Chávez at length about the state of the Venezuelan economy. At that point, the economy had entered into a recession as a result of an unsustainable fiscal expansion carried out during Chávez's first three years in office. Moderates within the government had arranged the meeting with the hope that it would spur changes in the management of the public finances. As a colleague and I explained to Chávez, there was no way to avoid a deepening of the country's macroeconomic crisis without a credible effort to raise revenue and rationalize expenditures. The president listened with interest, taking notes and asking questions over three hours of conversation, and ended our meeting with a request that we speak with his cabinet ministers and schedule future meetings. But as we proceeded to meet with officials, the economic crisis was spilling over into the political arena, with the opposition calling for street demonstrations in response to Chávez's declining poll numbers. Soon, workers at the state oil company, PDVSA, joined the protests.

In the ensuing debate within the government over how to handle the political crisis, the old-guard leftists persuaded Chávez to take a hard line. He dismissed 17,000 workers at PDVSA and sidelined moderates within his government. When I received a call informing me that our future meetings with Chávez had been canceled, I knew that the hard-liners had gained the upper hand. Chávez's handling of the economy and the political crisis had significant costs. Chávez deftly used the mistakes of the opposition (calling for a national strike and attempting a coup) to deflect blame for the recession. But in fact, real GDP contracted by 4.4 percent and the currency had lost more than 40 percent of its value in the first quarter of 2002, before the start of the first PDVSA strike on April 9. As early as January of that year, the Central Bank had already lost more than $7 billion in a futile attempt to defend the currency. In other words, the economic crisis had started well before the political crisis -- a fact that would be forgotten in the aftermath of the political tumult that followed.

The government's response to the crisis has had further consequences for the Venezuelan economy. The takeover of PDVSA by Chávez loyalists and the subordination of the firm's decisions to the government's political imperatives have resulted in a dramatic decline in Venezuela's oil-production capacity. Production has been steadily declining since the government consolidated its control of the industry in late 2004. According to OPEC statistics, Venezuela currently produces only three-quarters of its quota of 3.3 million barrels a day. Chávez's government has thus not only squandered Venezuela's largest oil boom since the 1970s; it has also killed the goose that lays the golden egg. Despite rising oil prices, PDVSA is increasingly strained by the combination of rising production costs, caused by the loss of technical capacity and the demands of a growing web of political patronage, and the need to finance numerous projects for the rest of the region, ranging from the rebuilding of Cuban refineries to the provision of cheap fuel to Sandinista-controlled mayoralties in Nicaragua. As a result, the capacity of oil revenues to ease the government's fiscal constraints is becoming more and more limited.