Venezuela: How Paper Destroyed Paradise

Bordered by Guyana on the east, Colombia on the west, with Brazil cradling the south and east, and washed by the Atlantic, Venezuela is a land of lush and varied terrain. It ranks seventh among the countries of the world for the greatest number of species, and its magnificent range of topography embraces the Andes Mountains, the Amazon basin rain forest and the Orinoco River Delta.

On his third voyage to the Americas in 1498, Columbus sailed close to this delta and was astonished by the offshore current of fresh water which pushed his ship in an eastward direction. In a letter to Queen Isabella and King Ferdinand back in Spain, he insisted he had probably landed at a “terrestrial paradise.…If the water of which I speak does not proceed from Paradise then it is an even greater marvel, because I do not believe such a large and deep river has ever been known to exist in this world.”  Columbus’s awestruck reaction led him to dub the region “Land of Grace,” the phrase which eventually became Venezuela’s nickname.

But if the discoverer of the Americas were alive today, he’d be forced to admit Venezuela has been roundly cast out of Paradise. The Land of Grace is suffering with horrific inflation, and running short of milk, toilet paper, medical supplies and car parts – even diapers.

In 2015 Venezuela’s consumer prices overall increased by almost double. Food and drink have shot up more than three hundred percent. Restaurants, hotels, and alcohol and tobacco all rose roughly three hundred percent; and education and health costs have more than doubled.  It’s a sad, ugly picture, indeed!

To top it all off, the country’s central bank can’t even afford to print its own money. According to Bloomberg, “Last month, De La Rue, the world’s largest currency maker, sent a letter to the central bank complaining that it was owed $71 million and would inform its shareholders if the money were not forthcoming….”

In January of this year, the IMF predicted Venezuela’s inflation will soar to seven hundred twenty percent, almost four times Bloomberg’s median estimate.

Unfortunately, Venezuelans have been slammed by inflation since the 1980s.  In a 2014 interview Gregory Wilpert, author of Changing Venezuela by Taking Power, argues Venezuela suffers from what’s known as “the Dutch Disease,” essentially when one sector in an economy is developed at the expense of others. The name was coined in 1977 by The Economist to characterize the decline in the Netherlands’ manufacturing sector when a large natural gas field was discovered there.

As the country with the world’s largest oil reserves, Venezuela has too easily succumbed to the Dutch Disease.  It’s become over-dependent on black gold and petrodollars, oil revenues denominated in U.S. dollars; while other sectors have remained underdeveloped.

In the process, Wilpert says dollars became much more valuable than bolivars, the country’s own currency. Venezuelans began resorting to arbitrage – buying dollars from their government with bolivars, then reselling those dollars on the black market for a huge profit. It’s not surprising the country became besieged by a flight of capital – its citizens began sending dollars they couldn’t broker on the black market out of the country. Add to this the recent rapid decline in oil prices, and you wind up with the residents of Columbus’s paradise now enmeshed in a financial nightmare.

We can ask why the Venezuelans didn’t see this coming.  But raise your hand if you saw the Great Recession of 2007-2008 coming, or you have a grandparent who saw the Great Depression coming.  We’re not financial experts and we’re often too busy living our lives to see the coming storm

The lesson we can, and should, learn from the Venezuelan nightmare, is how tenuous paper money can be – another great argument for not keeping all your economic eggs in one basket. We need to be wary of overloading our portfolios with too many dollar- and stock market-based assets.  The best way to do this is to diversify with tangible assets whose value isn’t dependent on markets, but is inherent, like physical gold. Impervious to inflation, and negatively correlated to the dollar and the stock market, it beats any pill you’ll ever take for a decent night’s sleep today, and a secure outlook for the future.