Fighting Hyperinflation in Venezuela
Someone call the firefighters!
Imagine you are a German citizen in October 1923. Every time you go to a pub after work, you buy two pitchers of beer at once. The second gets warm even before you finish drinking the first, and no one likes warm beer, but you do it anyway. Why? Because the loss in the value of that second beer as it gets warm is nothing compared to the loss in the value of the money laying idle in your wallet. If you had waited just a few hours, you would not have been able to afford the second beer at all: prices are skyrocketing so fast that your whole purchasing power lies in the dust, and your economic well-being along with it. Welcome to the world of hyperinflation.
Although the world record still belongs to post-war Hungary, where hyperinflation reached nearly 42 quadrillion per cent, Venezuela’s hyperinflation is predicted to reach 10 million per cent this year, according to the IMF. This is bad enough. The primary cause of this catastrophic economic affliction is excessive growth in the supply of money. When governments have inadequate tax systems and lack the credibility to raise funds by issuing debt, some central banks, influenced by malicious political figures, might make the fatal decision to energise their printing presses. Prices begin to rise abruptly. People expect inflation to get worse, so they buy even more in the short run to avoid higher prices in the future, which in turn worsens hyperinflation, as excess demand takes prices sky-high. Worse still: since there is a delay between a tax being levied and being payed, even if it is just a few months, by the time the government gets the money, its value has plummeted, thereby greatly reducing tax revenue and vastly increasing the government deficit. A fiscal and monetary fiasco thus ensues in the form of a vicious cycle. Add to the equation an autocratic dictatorship with a record of flagrant human rights violations and you have Venezuela.
Under most circumstances, you would expect the government to take the necessary steps to curb hyperinflation once prices start to rise and the currency starts to depreciate. But when this government happens to be a fragile dictatorial regime highly dependent on the political interests of a few groups in society, socioeconomic reform might not be its primary interest, so the situation is allowed to continue. Until, of course, mobs start to gather outside the gates of the palace. At this point, however, the little credibility the government had before it oversaw the nation’s descent into the hyperinflationary scourge is gone.
The first step to resolving the crisis, therefore, is regime change. People need to believe that the government is serious about addressing the problem, since people’s expectations of inflation are an essential part of minimising the damage. Then, the new government needs to launch a major fiscal reform pack that will limit government spending (which in Venezuela accounts for an unsustainable 30% of GDP) and raise taxes. This would reduce the deficit and stabilise the fiscal situation. Now a credible reshuffle of personnel needs to be pursued in the Treasury and central bank so that the public believes that the printing presses will be put to rest, and an anti-inflationary, contractionary monetary policy will be enacted. Moreover, it is vital to establish some sort of anchor to the currency (such as dollarization) so that people have some sign that the transition is credible. Finally, and especially in the dismal case of Venezuela, outside assistance is paramount: the government must negotiate a recovery programme with the IMF so that international investors will regain their confidence, and the government will be able to access international credit markets as an additional source of finance, other than taxes.
The anti-hyperinflationary recipe is as clear as the economic science behind it. But in Bolivarian Venezuela it is the ideologues that rule, not the technocrats. This implies that the final ingredients must be found in the political sciences: Maduro has to go.