Tuesday, September 1, 2009

Likely Shape of Venezuela's Bolivar-Dollar Exchange Regime

This complicated system, if implemented, would satisfy the requirements of the Government of pretending not to have a formal devaluation of the exchange rate, while attempting to contain inflation by moving items that were being purchased at the swap rate, to a lower rate.But it fails to address the issue of the distortions in the economy and the transparency of the foreign exchange system. In fact, just establishing this new tax will not necessarily speed up the processes within CADIVI and if the Government continues to restrict foreign currency flows, importers will have to go to the auctions and/or continue to purchase foreign currency in the swap market.The auction of securities in the Caracas Stock Exchange, with or without a tax on top of the BolĂ­var price, will give the market more transparency in terms of how much comes to market daily and should lead to less volatility. However, we continue to believe that establishing a formal auction in which the Government supplies limited dollar denominated securities to the market entails some risks for the Government.While the Government acknowledges the legality and existence of the swap market, not all companies have embraced it for all their operations. There are a number of reasons for this.First of all, buying in the swap market implies taking a loss on the difference between the official and the parallel swap rate. This will not change with the new system, but the type of tax established may even make it attractive to participate in these auctions, as then the difference can be written off/explained. Second, a formal auction supplied by the Government would attract those companies that have been hesitant to participate actively in the swap market, except for their most basic and urgent needs, accumulating local currency over the last few years. Finally, if the size sold daily by the Government is too small, the purchase of the securities may be dominated by banks and brokers that have seats in the exchange, who will turn around and sell the securities in order to sell the the dollars in the swap market. Thus the auction could become a market for intermediaries unless the Government regulates it in some fashion.

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