Transcript Venezuela's Fiscal Policy and Oil Rich Economy
Venezuela's Fiscal Policy and Oil Rich Economy
Presented by: Herman Antonov Yelena Khan Shoya Ushurova Brett Nordeen
Objective
Analyze the Venezuelan economy over 1990-2003 and determine if Venezuela runs an expansionary fiscal policy in good time, and a contractionary fiscal policy in bad time.
Outline
Economy of Venezuela Fiscal policy in Venezuela Methodology of detrending the business cycle Analysis of fiscal policy
General Information
• • • • • 26,814,843 people currently 93% live in cities GDP: $350.100 billion (2009 est.) GDP per capita: $13,100 (2009 est.) President - Hugo Chavez (since 1999).
General Economic Acticity
Industries: Petroleum, food processing, textiles, iron ore and steel mining.
Exports: Petroleum, aluminum, steel, agricultural products Imports: Raw materials, machinery and equipment, construction materials
Oil Dominance
The Venezuelan Oil sector represents 80% of exports.
Top 10 in Oil reserves ~ 50% of gov. income is from oil Contributes 1/3 to GDP
Petroleos de Venezuela, S.A.
PDVSA - nationalized The world’s third largest oil producer.
Controls large portion of country’s wealth Holds interest in refineries offshore (i.e. CITGO)
Hugo Chavez – Since 1999
Social programs emphasis PDVSA spends 10%of its annual investment budget on social programs.
Reportedly spent $14.4 billion in this manner in 2007, doubling the 2005 figure of $6.9 billion.
Spent $60 million in 2004 on exploration as apposed to $174 million in 2001.
PDVSA's Outlook
Venezuela claims current production level of 3.3 million barrels per day, placing it as a top ten producer in the world.
However, lack of investment in infrastructure leads experts to believe and annual investment of $3 billion to just maintain current production is needed.
And the oil prices themselves...
The aggregate economy
Oil comprised 25% of real GDP from 1991 2002.
This means that fluctuating oil GDP imply a large portion of GDP is fluctuating.
The more variable the countries GDP, the more likely that the whole economy has poor growth.
Same Old Story?
Economy dependent on an export commodity. Exposes macroeconomic stability to external shocks.
Forced to borrow from other countries when exogenous forces turn against them.
Heavy government involvement in enterprise.
Introducing Fiscal Policy
• • Definition The pattern of Venezuelan fiscal policy (1991-2003) : limited access to international MKTs changes in discretionary component of public spending high dependence on cyclically sensitive revenue sources
Fiscal Policy facts
Venezuela runs and average external debt to GDP ratio of over 40% for the time period of 1990-2002
The Role of Oil
Generated 50% of government revenue over 1991 2002 Intuitively, we would expect that volatile revenue generation, caused by erratic oil GDP, would lead to unstable fiscal outcomes in Venezuela.
Oil Price Dependence
High dependence on global business cycle (1% growth decline = 10% oil price decline) REASONS: huge output declines in oil-intensive sectors Short term low price responsiveness of oil demand and supply
Implications for Venezuela
Venezuelan GDP generated by oil is highly correlated to oil price fluctuations with correlation ratio of 0.80
Thus a volatile oil price implies volatile oil GDP for Venezuela.
Fiscal Policy Volatility
Other explanations for fiscal volatility
Undertaking poor discretionary policy that causes recession rather than sustaining growth.
Political incentives that cause governments to begin discretionary spending in times of revenue gains.
Increases in spending growing out of proportion to revenue growth.
What to believe?
• • Do we conclude that fiscal policy is driven by temporary cycles, mainly contained in the oil price, or by one or more of these discretionary actions by the government?
In order to distinguish between the two, it is necessary to break down the variables into their trend and cycle components.
Trends and Business Cycles
Trends and Business Cycles
High or low volatility Procyclical or countercyclical
Use of Filtering Methods
to recognize high or low deviations of variable to best reduce the short run deviations for robustness against the uncertainty (4 different filters)
The Four Methods
Standard HP filter ARIMA Model Frequency Domain Approach Modified HP filter
The Four Methods
All methods show 3 trends: Real GDP of Venezuela Non-oil GDP of the country Oil GDP
Business Cycles with Standard HP Filter
Procyclical High volatility Non-oil sector is more volatile than oil sector
Business Cycles with Modified HP Filter
Procyclical Still very volatile Non-oil GDP trend is more volatile than Oil GDP trend
Volatility
• • • Measured in the quarterly average standard deviation.
High volatility in trend component of oil GDP suggests many shocks to the structure of oil production policy. See that these are the primary driver of Oil GDP volatility.
See that for the fiscal variables Oil revenue has the highest variability.
• •
Other business cycle aspects
Persistence: Total expenditures are more persistent then total revenue Procyclicality: Non-oil primary expenditures, which account for 80% of total expenditures are observed to have a correlation of up to 0.50 with total GDP.
Understanding Policy Stance
• • Now that we have calculated the values and observed the changes in the variables of interest, we can engineer the fiscal policy based on the cycle and trend elements.
Then by comparing the changes in fiscal policy to the aggregate economy, procyclicallity can finally be concluded.
Non-oil Primary Balance
• • Defined to be the net lending/borrowing in assets and liabilities and interest expense that are deemed to be for public policy purposes without the proceeds generated from the oil sector.
This variable will be used as the main fiscal indicator.
Why?
• • • It has become clear from the break down of the GDP variables that oil revenue is based on volatile cyclical changes. Don't want these types of shocks to contribute to fiscal stance.
A more reliable indicator in the long run.
Environment for analysis
• • • • • Compute the output gap using B str B str = B – Л x Y gap is the structural fiscal balance B is the actual non-oil primary balance Y gap is the output gap Л is the cycle correlation between non-oil primary balance and GDP (0.39)
• • The difference between the potential GDP and the actual GDP The output gap will tell us whether the aggregate economy is in a period of growth or a period of decline.
• • • Fiscal Impulses Discretionary changes in the non-oil primary balance.
Looking for either revenue reductions or expenditure increases, these are the actions of a procyclical policy maker.
• • Fiscal stance is indeed procyclical
Response
Accumulate substantial non-oil assets in times of growth Formulate accurate oil price assumptions.
Investment
• • • As mentioned, more oil revenue going to expanding social programs: Health care, education, basic needs subsidized.
Increased military spending International aid programs Houston based subsidiary of PDVSA run a half price/free oil heating program for 200,000 houses in U.S.
Conservative budgeting
• • • Difficulty in forming accurate predictions for oil price.
Simply write the budget assuming guaranteed revenue at half the current price of oil.
The government should be trying to smooth consumption, maximize over the long run.
• • • •
Conclusion
Observe that Venezuela business cycle is mostly influence by short term cyclical components.
Oil revenue is indeed very volatile, due to price volatility.
Ran a procyclical fiscal policy.
Ultimatley, left in a fragile economic position.
Main Reference
Baldini, Alfredo. “Fiscal Policy and Business Cycles in an Oil-Producing Economy:The case of Venezuela.” IMF Working Paper. Dec 2005
Additional References
Alvarez, Cesar, Hanson, Stephanie. “Venezuela's Oil-Based Economy” Feb 9 2009
“The Analytic framework” International Monetary Fund
“Venezuela” CIA World fact Book. Apr 22, 2010
Weisbrot, Mark, Sandoval, Luis. “The Venezuelan Economy in the Chavez Years”. Center for Economic and Policy Research. July 2007.