5500% inflation in Venezuela: Why?

A cup of coffee costs 10,00,000 Venezuelan currency. What's going on?

Consider this: You go to the store to buy something, and the price doubles right in front of your eyes. Scary, right? 

This is hyperinflation (simplified version, of course) and this is exactly what Venezuela is going through. 

A situation like this doesn’t occur in the blink of an eye. Things slowly add up, and in Venezuela, the drops started to accumulate way back in 1999 (Boond boond se sagar, after all). 

Venezuela is a country blessed with the largest oil reserves in the entire world. But blessings are often accompanied by a curse. The curse of taking things for granted. 

The entire economy of Venezuela depended on oil. Now, dependency is acceptable. But, over-dependency can be detrimental. Especially when you are dependent on something that is not going to last forever.

The country’s oil production reached an all-time high in 1970, with the daily production being 3.8 million barrels per day. Their oil exports have averaged 1562 barrels per day from 1980-2019, with the highest being 2243 barrels per day in 1998. Quite naturally, oil export was their main source of income too, and a worldwide shortage of oil (and thus high price) gave them the time of their lives.

The happy country wanted to weed out poverty altogether. A guy called Hugo Chavez was elected as President of Venezuela in 1999. 

He took a socialist stance and aimed to drive down the inequality prevailing in society. He provided the poor access to education, healthcare, housing, etc. But where did the money for all this come from? 

With the oil revenues, of course. This was going pretty well when the oil prices were rising during the 2000s. 

However, all things that rise must fall too.

So did the oil prices in 2014.  

The high prices pushed the other countries to look for alternatives to oil and some even started experimenting with drilling oil. The result? 

Production started to surpass demand, prices started to fall, and Venezuela’s best shot showed signs of becoming their worst nightmare. The ripples of disturbance had started forming.

Now other countries did not rely on Venezuela anymore, which led to a reduced foreign exchange reserve. This, in turn, led to a fall in the value of the Bolivar (Venezuela’s official currency).  

The imports became more expensive and the ripples of disturbance transformed into a Tsunami.

Mr. Chavez’s successor, Nicholas Maduro’s solution to this problem was to print more money. The evergreen, “ye log paise kyu nahi chaapte?”

Now, let us tell you why it is a bad idea. 

Printing more currency increases the money supply. And if this increase in supply is not backed by an increase in the demand for goods and services, it's just more money chasing the unchanged amount of products. If some people are willing to pay more, naturally prices will increase, causing inflation and will result in loss of the currency value. 

This is exactly what happened in the grief-stricken country. Even though the policy was viable for a short period of time, the rapidly declining oil prices and falling oil output did not let it sustain. 

The value of the Bolivar kept falling, prices kept increasing, and to pay the increased bills, the government kept printing more and more money. A complete vicious cycle, the sort which causes hyperinflation. 

Imagine working very hard to earn, only to realize that your income is worth nothing! All this instability led people to look for a safer option, and what’s safer than the US dollar? 

People started exchanging their Bolivars for USD. Again, as demand for USD rose, the value of the Bolivar suffered. 

The government had to do something, and it did by fixing the official exchange rate. 

Fixing the exchange rate? Well, usually the amount of INR you pay to get 1 USD is derived from the demand and supply of the currencies.  

But, by fixing the rate, the Venezuelan government altogether stopped this free flow of market forces. Desperate times call for desperate measures. 

You know what they say? Stop people from doing something officially, and they will find a way to do it unofficially. Which the Venezuelan citizens did. 

People started exchanging currencies in the black markets, raising the black market price for USD, and increasing the gap between the official and the unofficial exchange rate. And, as the crisis deepened, the number of people engaging in black market transactions only rose.

The chart below shows how inflation has risen. 

To give you a better understanding, have a look at Bloomberg’s cup of coffee inflation tracker. In fact, inflation was so high that a cup of coffee actually cost 1 million bolivars in 2018! The value of the Bolivar had fallen so much that it would have been okay to use cash for toilet paper, rather than buying toilet paper!  

In another failed attempt to save the country, Maduro in 2018 announced a currency devaluation of 96%. This essentially meant that the exchange rate changed from 285,000 Bolivar per dollar to 6 million Bolivar per dollar. (Don’t gasp, these are true numbers).

How was this going to help?

With the hope that if the Dollar gets more expensive, maybe people will come back to their own currency? However, a thread once broken will always have a knot. 

The people of the country had no reason to trust the government, not just because of the economy but also the drowning political situation. 

Have a look at the country’s GDP till 2018.

They tried introducing crypto as well. But it didn’t work. And now again, in August 2021, the Venezuelan Central Bank announced that it will cut six zeroes from its currency. This means that the new 100 Bolivar bill (also the highest denomination) will be worth 100,000,000 of the current one!! 

Repeating the same thing and expecting different results, huh?

Hyperinflation has always been thought of as an ultimatum stage. In this country, however, this word seems so small. We can just hope and pray that things go back to normal for the people there. 

Until then... 

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