Venezuela's Financial Crisis: Exchange Rate Solutions

Executive Summary

This policy paper analyzes Venezuela's recent financial crisis and provides recommendations to the Venezuelan government regarding exchange rate policy.

Venezuela's Economic Crisis

Venezuela has experienced a rapid economic downturn since the implementation of socialist economic policies in 1999. The country's heavy dependence on oil exports to manage the economy has stifled private investment and created an over-reliance on imports for basic goods. The drop in global oil prices since 2013 has plunged Venezuela into hyperinflation, which exceeded 1.3 million percent in 2018. The nation's political turmoil has been exacerbated by a lack of economic development, corruption, and the devaluation of its currency, the Venezuelan Bolivar.

Policy Recommendations

Three policy options were considered. While the first two focused on stabilizing the exchange rate through economic revitalization, the third option was prioritized for its potential for rapid, short-term impact. Therefore, the primary recommendation is to peg the Bolivar to the US dollar to restore its value. This approach is a form of dollarization, making the Bolivar a convertible currency. This strategy has proven successful in other countries facing similar crises, such as Brazil in the mid-1990s, Ecuador, and Zimbabwe.

Benefits of Exchange Rate Stability

• Exchange rate stability would help curb inflation, as most goods would be purchased in dollars and sold in dollar-equivalent Bolivars.
• This would prevent further price escalation and the growth of hyperinflation.
• Over time, increased private investment and local production of essential goods could significantly lower prices as entrepreneurs establish new businesses to support domestic production.
• This could encourage further foreign investment and improve the country's current account balance.

Long-Term Strategy

Subsequently, Venezuela should adopt a new currency to mitigate the influence of the dollar and re-establish the new currency's value in accordance with international exchange rates. This would ultimately restore the Bolivar's original value, supported by the Venezuelan economy and its expanding economic activities. Therefore, the Venezuelan government should implement this policy.