May 16, 2007

XXIst Century Dutch disease

Katy says: The latest GDP growth figures from the Venezuelan Central Bank are out , and they seem to confirm what is quickly becoming the conventional wisdom on the Venezuelan economy: the current economic boom in Venezuela is based on the government spending cash like there's no tomorrow, and it can't last.

Economists have a term for the distortions this causes: Dutch disease.

This "malady" occurs in countries where there is a significant boom in a sector, usually linked to a sudden increase in the price of a natural resource. The country becomes awash in cash, and this causes an appreciation of the currency - in other words, dollars become very cheap (see Venezuela's official exchange rate).

The easy cash and cheap dollars stimulate both imports and the consumption of non-tradeable goods. In other words, people use their available cash to spend on non-tradeables such as housing, cars, services and the like. Ultimately, it is called a "disease" because this phenomenon undermines the manufacturing and export sector ("tradeables") that are the basis of future growth and push modern economies to become more productive and wealthy (see, e.g., Taiwan).

What are the signs that Venezuela is now suffering from Dutch disease? The sectors that grew the most in the last quarter were commerce, transportation, communications, construction and financial intermediation. In other words, Venezuelans are using all their cash to go shopping, buy more houses, take more bus trips, make more phone calls and increase their credit card debt. They are also spending more on importing stuff: imports grew an astonishing 46.9% in the last year.

Not surprisingly, the Balance of Payments (the difference between the dollars coming into the economy and the dollars going out of it) is running a deficit of US$5.1 billion, shocking for a country undergoing an export boom.

What about manufacturing? Well, it's up, but not by much, and its rate of increase is lower than the average for the economy. In other words, Venezuelans are not using its current boom to import capital, develop technology or become competitive in other sectors. They are using it to buy consumption goods and services and purchase dollars for safekeeping overseas.

These figures only reinforce the idea that the current trend is unsustainable, and that the economy's landing is going to be a hard one.