The Collapse of Venezuela’s Economy and the Growing Potential for Violence

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This is not going to end well. Government control in Venezuelan is collapsing along with the economy and much else. The government refuses to deal with political opponents or acknowledge the fact that most Venezuelans would vote the current government out of office if they had the chance. The currency is worthless, most commercial enterprises have been driven out of business or simply shut down by the government. In GDP terms the economy is about half what it was in 2013, when the crises accelerated because of falling oil prices and the death of the charismatic founder of the socialist state in Venezuela.

Since Hugo Chavez gained power in 1999 Venezuela, once the wealthiest country in the region has become one of the poorest. Only twenty percent of the population are able to obtain adequate food and other commodities. This “fortunate fifth” of the population consists largely of government loyalists or outlaws. The “fortunate fifth” could easily be two-fifths of Venezuelans were it not for the massive corruption. Several families of senior leaders (especially Maduro and his mentor Chavez) have stolen billions of dollars in state funds. Meanwhile Venezuela has become a police state with the major source of unrest food riots by starving Venezuelans. The government refuses to admit this is happening and blames any problems on other countries, especially Colombia and the United States. That approach doesn’t work as well as it used to because when Chavez came to power two decades ago Colombia was a mess economically and a scary place to live because of drug gangs and leftist rebels. Most of that has gone away and Colombia, with much less oil than Venezuela, is now the most prosperous nation in the region.

Prosperity and democracy died in Venezuela because of nearly two decades of corruption and inept government created by Hugo Chavez. This former soldier got elected in 1999 and died of cancer in March 2013. Along the way Chavez trashed the Venezuelan economy and democracy. His handpicked replacement, Nicolas Maduro, was even worse. The old Chavez dream of Venezuela becoming a socialist dictatorship supported by oil revenue eventually faded along with cash reserves and the national credit rating. Venezuela currently owes over $100 billion for foreign lenders, mainly in China and Russia. Maduro has put priority on making scheduled payments on that secured foreign debt because if they don’t the credit rating is damaged while China and Russia become less helpful. That strategy failed and Venezuela began to default on that debt in late 2017. The default is expected to continue and accelerate in 2018.

Choices

Venezuela has not got enough cash to support a police state as well as feeding the population. Because of his 2017 coup Maduro is facing economic sanctions by the United States (the largest customer for Venezuelan oil and largest supplier of all sorts of essentials) and most other nations in the Americas and the industrialized world. Sanctions include bans on obtaining equipment and technology for reviving the Venezuelan oil industry. But at the moment Maduro does not have the cash to pay for that and credit is all used up as well. The UN and all of the neighbors condemn Maduro but the international community is unwilling to do much more than that. Some South American nations have expressed a willingness to join in on sanctions. In part that is because it is no secret that millions of sick and hungry Venezuelans are preparing to flee to neighboring countries, mainly Colombia and Brazil. Many will find they cannot get to and across the border because of health or financial problems, but this demonstrates how desperate the situation has become.

Despite diverting most food and other consumer goods towards the security forces that did not prevent a growing number of soldiers and policemen from complaining that their families were going hungry, often because one soldier or policemen was under pressure to help get food for his extended family and was unable to do so. Commanders are seeking solutions to this growing problem but there is no easy fix. What many commanders do is informally tolerate their subordinates stealing from any Venezuelans that can be seen as Maduro opponents. This now includes most Venezuelans so there are plenty of potential victims. Commanders who are caught doing this often get away with it by explaining it is an effective way to reduce open opposition to the Maduro government. The new leadership of the security forces was selected mainly for loyalty not competence in military of police work.

My Way

International efforts to get the government to abide by the rules (of the original Venezuelan constitution and most of the voters) have failed. The Maduro government has set the date for presidential elections (April 30th) and had the Supreme Court (full of Maduro loyalists) banned any of the major candidates or their political parties from participating. This would be the finale for several years of Maduro avoiding the will of the people.

In December 2017 the government banned political parties from participating in the 2018 presidential election because these parties had boycotted October nationwide mayoral elections. The opposition accused the government of rigging the mayoral elections, and others as well. Foreign observers who have been able to witness the disputed elections tend to agree that the government cheated. One aspect of the rigged elections was the use of food to coerce voters to support the Maduro government. With the economy wrecked food is in short supply and the government controls most of what is available. In many parts of the country the government supporters (mostly soldiers, police and members of pro-government militias) are sufficiently numerous to make this “food for votes” scam work. Most coerced voters would be willing to defy the government threats at least once if they knew that would get rid of the current government. But that is less likely now that the government has declared it illegal for opposition parties to operate during the crucial 2018 presidential elections.

President Maduro hoped his manipulation the law and use a Supreme Court filled with his allies would be enough to obtain dictatorial powers. This was opposed by most Venezuelans and in response Maduro staged a coup by forcing a July 30 2017 vote (rigged by the government) to select 545 Maduro supporters for a Constituent Assembly that will “legally” revise the constitution and make Maduro a legal dictator. The armed forces leaders openly backed Maduro on this and it was made clear that no compromise was possible. The opposition organized a national vote of their own on July 18th and an overwhelming number of voters opposed the Maduro plan but since Maduro controls the security forces (he selected the current military and police generals for their loyalty and willingness to be bought and stay bought) massive peaceful demonstrations had no effect. After that opposition leaders were hunted and prevented from leaving the country.

What Maduro has done is clearly illegal but he feels the need to change the current constitution to survive. According to the original constitution only the parliament (an anti-Maduro national assembly) can perform a lot of key functions. But the Supreme Court ruled in 2017 that the current parliament was illegal. The parliament describes these actions as a coup and most Venezuelans agree. Unlike most other democracy constitutions Venezuela does not allow the legislature to impeach (remove) the president. Rather the Supreme Court, whose members are appointed by the president (and approved by the legislature) do so. But before Maduro’s party lost control of the legislature in the 2015 elections he appointed enough loyal new judges to the Supreme Court to block any efforts to remove him from power. The legislature and the government were not able to agree on a compromise solution for any of this and Venezuelans were spending most of their time coping with continued economic collapse. Many Maduro supporters and senior officials in his government opposed this attempt to change the constitution via a fraudulent process. The opposition has been so persistent that Maduro has not yet tried to actually change the constitution. Meanwhile he rules as a dictator, “for the good of the country.” Maduro hopes that oil income will somehow eventually bail him out.

Extreme Loyalty Replaces Any Ability

Venezuelan oil production is unlikely to recover and the current management of the state oil company has made it worse by not paying key foreign suppliers of goods and services essential to keeping oil production going. The government is blaming former (often fired) managers for current problems and accusing many of these fired (and often indicted) managers of stealing billions of dollars from the state oil company. Many of the accused are outside the country and liable to testify about conditions inside Venezuela and what they know about corruption. This sort of thing has already gotten several senior officials in trouble. The recently appointed head of the state owned oil operations is an army general whose career has prospered largely because of his loyalty to the socialist government, not his military or management skills.

As the overall economic situations gets worse the government is replacing a growing number of key (because special skills are required) officials with unskilled loyalists. This is not helping deal with the massive foreign debut Venezuela has and is now unable to repay, nor the problems with economy and crumbling infrastructure. The impact of this is increasingly obvious. For example on February 5th there was a partial power outage hit the capital. In addition to lights ten subway stations were blacked out and trains could not operate. The government blamed “saboteurs” saying that someone cut a cable which caused an explosion. This comes a month after an even larger blackout caused by a cable between a power plant and transmission lines failed.

For oil wealth to somehow solve the problems oil prices must return to earlier levels (about twice what it is now) and foreign lenders must be willing and able to finance repairs to the Venezuelan oil industry and national infrastructure in general. Venezuelan oil production hit a historic low in October 2017; just under two million BPD (barrels per day) and keeps falling. It has not been this low since 1989 and from 1973 until 2017 had averaged over two million BPD. Production kept declining to 1.6 million BPD in December 2017 and rose a bit to 1.8 million BDP in January. Production averaged 2.373 million BPD in 2016 and 2.654 million BPD in 2015. The production decline accelerated in 2017 and is expected to fall to an average of 1.6 million BPD or less in 2018. This is down from a peak of 3.5 million BPD in 1999, when the current socialist government took power. Subsequent government corruption and mismanagement has devastated the Venezuelan oil industry and caused a decline in oil production that has reached unprecedented low levels. This was made worse by socialist economic policies that destroyed the non-oil economy and eventually crippled the oil industry as well. Then the world oil price fell by half in 2013 stayed there providing no relief. The oil industry is a mess with much maintenance way behind schedule and equipment failures becoming more common.

The production decline is continuing not so much because the government refuses to clean up the mess in the national oil company and the oil production facilities, but because it cannot figure out how to do it. To make matters worse the Venezuelan oil is exceptionally expensive to get process for local or export use because it is “sour” and tar-like. That makes it more expensive to refine and Venezuela must blend its sour crude with imported “light” crude or other diluent (like naphtha) to make their crude oil suitable for foreign refineries. Venezuela is so short of cash that it is not paying for these diluent imports and suppliers are refusing to ship anymore unless they get paid. Same with many other essential services for the oil industry.

This became critical by 2017 because the Venezuelan refineries, also state owned, have suffered more accidents and received less adequate maintenance over the last decade. As a result domestic refining capability fell to about a quarter of normal and keeps getting worse. Shipping sub-standard crude is a violation of the sale agreement and customers are running out of patience. At the moment the largest source of cash sales for Venezuelan crude are Americans. Those buyers have invested heavily in U.S. based refineries modified to handle Venezuelan crude. If the U.S. customers give up on Venezuela they will reconfigure their equipment, at great expense, to handle crude from other sources and Venezuela will have to find new buyers and that will mean selling their sour crude at an even larger discount to more distant and less reliable customers. Currently most of the oil exports go to barter customers (like China) that made large loans that are repaid with oil. These customers are also not getting their oil on time or to the specified quality. No foreign investors are willing to commit the billions need to update and revive the Venezuelan oil operations, mainly because of the massive corruption and the sense that the government is not rational nor dependable. The collapse of the Venezuelan oil industry is doing long-term damage to the ability of Venezuela to process and sell its sour crude.

In 2018 China denied American accusations that is was using its large loans to Venezuela as an opportunity to establish itself economically and militarily in South America. China pointed out that its “cash for oil” loans to Venezuela declined after 2014 as the price of oil plummeted. China had been a major lender to Venezuela and provided over $50 billion since 2007. Most of these loans are repaid with Venezuelan oil. The amount of oil owed China increases as the oil price declines, which means Venezuela has less oil to sell or use for domestic needs. But China pointed out that the Venezuelan oil is difficult to refine, which is why the U.S. is the major buyer as the Americans have built special refineries to handle it. China also faces huge losses because Venezuela became officially bankrupt at the end of 2017 and its socialist government has wrecked its oil industry and ability to pump and ship oil. The bankruptcy was not unexpected but China knew there would be great risks and potentially high costs for establishing themselves in South America. China also points out that other economic partners of Venezuela like Iran, Russia and Cuba are not providing much help because the situation in Venezuela is so chaotic and unpredictable. Yet the Chinese loans that must be repaid with Venezuelan oil, give China a long-term claim on a key part of the Venezuelan economy.

Heroic Efforts

Venezuelans face unpleasant choices; submit to a Maduro dictatorship, support a civil war or flee the country. It is unclear how many Venezuelans would fight and Maduro and his followers are betting on being able to suppress whatever armed opposition develops. Aside from the desperate poverty the Venezuelan gangs are more numerous in part because the government armed many groups considered pro-government militias. But when shortages, especially of food, reached the point where even the pro-government gangs (and family members) were going hungry many of these pro-government militias went outlaw. Adding to this is low morale in the military, where troops are still fed but are getting less food and their pay is worthless to buy food for their families. Desertions are increasing with some 2,000 active duty troops not returning from Christmas leave and believed to have fled the country with their families. Another cause of falling morale in the military is the bad behavior of the secret police and special army units, which has been killing prominent government opponents.

This sort of bad behavior became a major media story after a January 15th military operation in the capital went bad at the same time it went viral. This happened during a raid by soldiers to kill a celebrity policeman Óscar Pérez, who recorded the incident and made it public. Pérez was a very successful and famous policeman who watched in dismay as the Maduro government destroyed Venezuela. In late 2017 Perez became a rebel and did so mainly by embarrassing the government, not killing soldiers and policemen. Naturally Pérez became Public Enemy Number One for the government and in January his hideout in the capital was found, surrounded and troops ordered to take no prisoners (at least not Pérez himself). But the ever resourceful Pérez broadcast video of government troops refusing his offers to surrender and continuing to fire on the building Pérez was in until it was clear Pérez was dead. The attackers then apparently murdered the survivors, including a ten year old boy and a pregnant woman. Because video of what actually happened got out the government was unable to portray the attackers as “heroes of the revolution”. Instead the raid because demoralizing for many soldiers and policemen. Pérez was respected by many in the security forces, even those who were still loyal to the government. Pérez was seen as a patriot even by most of his enemies. The way he was killed made it clear to many soldiers and police that Pérez was right and the government was wrong. The government refused to allow a public burial and only two relatives were allowed to attend the internment. Despite government efforts to suppress what happened the truth got out and it became widely known that the attacking soldiers killed women and children during the raid. The government tried to portray these deaths as suicides or anything but deliberate murder by government forces. Because of the Pérez raid the Maduro government lost a lot of what little legitimacy it still had inside Venezuela and abroad.

What with all the hunger and brutal treatment of protestors the military has tried to counter the bad effect of this on morale with media stories backing the government lies about the bad behavior being the work of foreign agents or criminals. But the military represents a larger and less well-off segment of the population and the average soldier cannot ignore the growing poverty and crime throughout the country. A growing number of military commanders report that they are not sure most of their troops could be trusted to fire on angry civilians if there were widespread anti-government demonstrations the police could not handle. There is a larger problem along the borders, especially the Colombian border. Smuggling is a big business. The government still sells fuel inside the country at subsidized prices and a lot of that fuel is “diverted” by criminals (many of them also government or military officials) so that it can be smuggled to an adjacent country and sold for several times what it cost in Venezuela.

The most dangerous smuggling operation involves cocaine coming into Venezuela to be shipped to international markets. Soldiers, including officers, in some units actually belong to a smuggling gang and will provide military weapons and other equipment to those who can afford it. The government is aware that a growing number of its military units are unreliable and is having a hard time keeping track of who can be trusted, who can be accommodated (make a deal with in an emergency) and who is becoming more of a liability. Disbanding disloyal units is difficult and can be devastating for the morale of the loyal troops who have to do the dirty work. So that sort of thing is avoided and untrustworthy units are slowly dismantled by starving them of resources. With more criminals and shrinking and less reliable security forces Venezuela now has one of the highest crime rates in the world.

The government is faced with some bad options. Some senior officials still believe they can turn it all around and do what Cuba did. But Cuba is an island and was able to create its stable dictatorship in a different time (the 1960s), because Russia was able to provide very professional and effective help in establishing a communist police state. The Cuban economy had made Cuba the wealthiest nation in the Caribbean and was destroyed during the 1960s but the Russians provided large annual subsidies (oil, food and cash) to keep everyone fed. Venezuela has access to none of that and, despite the huge oil reserves, is facing a catastrophic collapse.