The fight over Venezuela’s Central Bank Exchange profits
15.10.04 - Last weekend President Chávez once again attacked the Central Bank over the amount of “foreign exchange profits” it should turn over to the Government. This continues to be an issue that is not resolved and highly controversial.
Essentially, Central Banks around the world began a few years ago publishing financial statements very much like those of a commercial banks, even if their purpose is not to make a profit but monetary stability. Every time there is devaluation, the foreign currency “purchased” by the Central Bank at the old price is “worth” more in terms of local currency. Thus, the bank “makes” a lot of money every time there is devaluation and it sells this foreign currency purchased at lower prices.
About four years ago, the Venezuelan Government asked the Central Bank to hand over those profits, which it did. This is not a common practice, in fact, it is forbidden by law in many countries. The practice itself is not considered negative by economists as long as handing over the foreign exchange profits fits the purpose of currency and monetary stability which the central bank has. The usual recommendation is that the practice does not become recurrent and that it not be done if it threatens the balance sheet of the Central Bank..
In Venezuela handing over these profits has become recurrent via the annual devaluation that has taken place in the last few years. In the first half of the year alone, the Venezuelan Central Bank transferred Bs. 1.5 trillion in foreign exchange profits, some US$ 781 million at the official exchange rate. A similar payment will be made in the second half. The problem here is that this already represents almost 5% of the funding for the Government’s 2005 budget. Thus, it becomes a vicious circle, as the Government needs to devalue again, even if oil prices are very high, because it has no other source for funding such a large piece of the budget.
The origin of the discussion is that now the Government wants to receive more of these profits and it is arguing that the Central Bank is using for the accounting of these profits LIFO (Last In First Out), rather than using FIFO (First In First Out). The Government wants to use FIFO, because then dollars obtained by the Central Bank last year or the year before at much lower exchange rates would be sold at the current one, thus the profits would be higher. In the Government’s proposal, the Central Bank would have to hand over Bs. 3.1 trillion for the first half of 2004, US$ 1.6 billion or 6% of next year’s budget. The Superintedent of Banks said today that these foreign exchange earnings may reach Bs. 8 to 9 trillion or 15% of next year’s budget which is a huge proprtion. I am not sure where this higher figure comes from, but it sounds too high to me.
Clearly, this would insure that next year there would have to be devaluation, as these profits may reach 10-15% of the national budget, unless oil prices skyrocketed even further. If the Government did not devalue, these profits would evaporate as the Central Bank rotates its inventory this year and fewer profits would be left over for next year. The Government would not have an alternate source of funds for such a large piece of the budget.
Chávez is threatening to go to the Supreme Court on the issue, while Central Bank Directors are calling for arbitration. In either case, the final result will be further devaluations and more inflation because of its recurrent nature. The only unknown is by how much.
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