It is the Devil’s excrement…

Readers may recall that this sentiment was uttered in the mid-1970s by Juan Alfonso, formerly Minister of Mines and Hydrocarbons of Venezuela, and often called “the Father of OPEC”. In full, it reads: “I call petroleum the devil’s excrement. It brings trouble… Look at this locura [madness]- waste corruption, consumption, our public services falling apart. And debt, we shall have debt for years.”

This was an allusion to the natural resources “curse”, most particularly that caused by the discovery of large oil and gas reserves. A politer term is “Dutch Disease”- namely, the negative impact on an economy of anything that gives rise to a sharp inflow of foreign currency. The currency inflows lead to currency appreciation, making the country’s other products less price competitive on the export market, as well as potentially to the economic and social distortions, endemic mismanagement and corruption to which Alfonso referred. An expectation of future export revenues from oil leads to the avoidance of putting in place sustainable government revenues based upon taxation.

It is a rare country that manages to overcome the “curse”. Canada, Norway and the Netherlands are examples of those that have, albeit with different approaches; while the sheer scale of the US’s economy has muted any material impact over time.

However, the catalogue of the “cursed” is a long one- including Russia, Saudi Arabia, most of the other Gulf states, Iran, Iraq and, of course, Alfonso’s own Venezuela, which is perhaps the most egregious and painful modern example.

In the case of the last, one can argue that it is the archetypal petro-state gone wrong, with oil revenues in the “good times” being used to influence and co-opt potential opposition, as well as to “bribe” the population through a latter-day version of “bread and circuses”. Unfortunately, when the subsequent “bad times” coincided with the demise of a charismatic leader (Chavez) and his replacement by a thuggish plodder (Maduro) desperate to cling to power (and supported by those who had benefitted from the corrupt largesse during the good times- the military, in particular), the result has been one of the most rapid collapses of a still-functioning state into “failed” status in recent history. And entirely self-inflicted.

The sheer scale of the regime’s stupidity beggars belief. No rational government would gut, coerce and starve of investment its primary source of revenues. Yet that is exactly what first Chavez and then Maduro have done to PDVSA, the national oil company (NOC). It used to be axiomatic that, even if the Venezuelan government could barely be trusted to do anything right or rational, it would not jeopardize PDVSA’s ability to produce and deliver oil from Venezuela’s abundant reserves. Nevertheless, that is exactly what has happened, with an end-game of regime change perhaps now in sight.

For underwriters of complex credit risks, such as the Awbury Team, events in Venezuela provide a salutary reminder that one has to judge the outcome of risks that depend on the decisions of others by reference to their track record, incentives and constraints. Assuming that people (and governments, like any other entity, consist of people) will actually act rationally and in their long term interests can prove quite misguided. One should always be willing to factor in the probability that actors and agents will not be rational (by the standards of the person making the assessment).

The Awbury Team

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