Venezuela President Hugo Chavez's plan to curb inflation by lopping three zeros from the currency may backfire because the move fails to address production bottlenecks that are pushing prices higher, economists said. The government will cut three zeros from the bolivar's exchange rate by February 2008, Chavez said last night in a televised speech, citing rising consumer prices. He also will cut the value-added tax rate and clamp down on ``speculators'' to halt last month's 4 percent increase in the cost of food.
The steps aimed at slowing inflation and boosting local output miss the root causes exacerbating imbalances in South America's third-biggest economy, according to economists at Goldman Sachs Group Inc. and Bear Stearns & Co. Flush with oil money and government spending, which jumped about 50 percent last year, economic growth and inflation are both surging.
``He has a funny understanding of the problem,'' Alberto Bernal, a Latin America economist with Bear Stearns & Co., said in an interview. ``Cutting a number of zeros from the bolivar is irrelevant in the end.''
Chavez, who won a third term in December, was granted decree powers last month by Congress in his drive to seize key industries and put the country on the path of socialism. The president said he plans in ``coming hours'' to decree a law that allows the government to expropriate any business that sells food products higher than government-set prices.
The annual inflation rate rose to 18.4 percent last month, the highest in Latin America, from 10.4 percent in May.
`Hello President'
Price regulations and other controls, including a crackdown on businesses buying currencies outside official government channels, have helped to make food production unprofitable, leading to a decline in supply and spurring inflation.
``Inflation isn't a problem that you solve with a few detentions,'' Carlos Caicedo, head of the Latin American office at London-based political risk advisers Exclusive Analysis, said in a telephone interview ``Speculation is a symptom of the disease, not its real cause.''
Chavez, speaking during his daily ``Hello President'' show, said he would lower value-added taxes 3 percentage points on March 1 and by an additional 2 points in July. The highest current value-added tax rate is 14 percent.
``The only economic indicator that has me a bit worried is inflation,'' Chavez said. ``Cutting three zeros will have a positive psychological effect and lower inflation expectations.''
Unregulated Markets
Government officials blame private businesses and citizens who buy dollars outside government channels for accelerating inflation. Chavez said those found guilty of ``hoarding'' and ``speculating'' may receive prison terms of two-to-six years.
Venezuela's currency, set by the government at an official exchange rate of 2,150 bolivars per U.S. dollar, was little changed today at around 4,025 per dollar in unofficial parallel markets at 11:45 a.m. New York time. It weakened to a record low 4,700 last month after Chavez announced his plans to nationalize several companies in the phone and energy industries.
Government bonds that offer currency-risk protection fell today. The yield on the 6.25 percent dollar-denominated bond due April 2017, known as TICC, rose to 4.07 percent, compared with 4.06 percent yesterday, according to Mercantil Servicios Financieros SA. The price, which moves inversely to the yield, fell to 118.2 centavos from 118.3.
Policy Mix
Under foreign-exchange rules imposed by Chavez in February 2003, only the government can sell dollars to the public. Tax Chief Jose Vielma Mora on Jan. 26 vowed that traders caught buying and selling dollars out of the legal government channel will be ``severely'' punished.
The success of the plan to slow inflation hinges on the government's ability to restrain spending and to help increase the supply of goods and services, said Goldman Sachs economist Alberto Ramos. With or without the plan, Ramos said, inflation may accelerate to about 20 percent by year's end.
Congress discussed the plan to cut zeros off the exchange rate under the guidance of Cabezas, then head of the National Assembly's finance committee. The plan, which economists and government officials dubbed as ``monetary reform'' in previous months, has been the matter of intense debate since June.
Central bank directors Domingo Maza Zavala, who retired this month, and Armando Leon were at odds over the plan most of last year. Maza said it would trigger, not help contain, inflation.
Government spending and the nation's dependence on oil revenue may lead the plan to collapse, said Asdrubal Oliveros, an economist with Caracas-based research firm Ecoanalitica.
The plan is unlikely to ``solve the problem of Venezuelan consumers perceive inflation unless the government trims spending,'' he said.
Chavez also said the tax cuts will cost the government as much as 8 trillion bolivars ($3.7 billion) a year in lost revenue. The government will make up for such loss by creating new taxes on luxury goods, he said