Reduction of the Economy in Venezuela
The economy in Venezuela tends to be extremely volatile, thanks to the country's dependence on oil revenue. Their single sector economy, a global economic downturn and the extreme economic policies instituted by Hugo Chavez led Venezuela to a reduction in their economy, or GDP decline, during the late 2000s. Venezuela has faced these problems before, notably during the Latin American debt crisis, and they are likely to face them again if there are not sweeping policy changes.
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The Single Sector Economy Problem
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Oil is Venezuela's single largest export. The oil industry accounts for roughly 50 percent of GDP, depending on the year. As with all single sector economies, Venezuela is extremely vulnerable to pricing and demand fluctuations. When oil prices soar, Venezuela's pockets are full. When demand falls and oil prices decline, Venezuela is disproportionately affected. The global economic crisis of the late 2000s caused a worldwide decline in oil demand, which was a huge blow to the Venezuelan economy.
A decline in oil revenues helps to reinforce the single sector economy problem. When there is not enough money to develop new industries, the country becomes even more vulnerable to oil demand and price fluctuations. In 2009, "The Economist" predicted a 5 percent reduction in GDP, due in large part to falling oil prices.
Public Sector Investments
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Public sector investment soared under the Chavez regime. Investment in social programs, like education and health care, coupled with large wage increases for public sector workers, left the government with bills to pay even as the economy was shrinking. When governments face these kinds of deficits, they often sell bonds to citizens to raise money to offset the spending imbalance. Venezuela attempted to do this in April 2009, and to make bonds an attractive investment, they tinkered with monetary policy to increase bond interest rates and lower bank reserve percentage requirements (the percentage each bank must hold of each deposit). They raised approximately $560 million (is U.S. dollars), but not enough to balance the books.
The response of the Chavez regime to not being able to fund their public service projects was to place blame on the private sector, and to accelerate the nationalization of what they term to be "key industries," such as privately owned oil companies and utility companies. Further nationalization of industry and expansion of social programs without enough income to pay for them exacerbates the economic shrinkage.
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Capital Flight and Foreign Investment
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The economic shrinkage and nationalization push by the Chavez administration have had a two-pronged effect on capital. First, capital flight occurred. Investors pulled their money out of the country and wealthy citizens moved their money out of the country to invest elsewhere. Second, foreign investment dried up, since the environment was becoming increasingly hostile to private industry.
The money sent abroad by citizens is a direct reduction in economy, but the lack of investment by citizens and foreigners alike has a long-lasting effect. Without money to invest in industry development, Venezuela is made further dependent on oil. Add a global recession that makes the oil industry falter and high levels of public sector spending, and significant reduction of GDP is inevitable. Without policy changes, any recovery spurred by a sudden increase in oil prices or demand is only temporary.
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