Delaying the inevitable: when will Venezuela default on its bond payments?
Facing a perfect storm of ever-lower oil prices – upon which the country almost solely depends for its income – and the corrosive effects of runaway inflation, Venezuelan public finances are rapidly dwindling, with mounting concern that the Bolivarian Republic could default on its bond obligations as early as 2016.
While Venezuela’s record on repaying its creditors remains unblemished, based upon estimates from seasoned analysts and observers of the country’s economy, there is an increasing likelihood that the Government will simply run out of cash reserves to draw upon and lucrative assets to liquidate over the course of the next 12-18 months; payments due in the coming three years total $32bn.
That there is even speculation that the holder of the world’s largest proven oil reserves could default, highlights the danger of basing spending plans upon an assumption that oil prices would remain at $100 or more, and of relying upon one commodity to bankroll the entire economy (crude sales represent 96% of exports), while embarking on some of the world’s most ambitious social spending plans.
Another factor contributing to the financial quagmire is the generally chronic mismanagement of the country’s economy, not only by former president Hugo Chávez (1999-2013), but increasingly too by the Administration of his successor, Nicolás Maduro.
Perhaps the most damaging aspect of this management has been the Government’s approach towards the state-owned oil & gas major, Petróleos de Venezuela (‘PDVSA’), widely acknowledged to be too chronically under-resourced and ill-equipped to undertake the major projects upon which the health of Venezuela’s economy depends. Add to this the high levels of corruption – reckoned to reach the highest levels of government – and a steady exodus of professionals from the country in the decades since Chávez took power, and the results are now evident: growing social unrest, deteriorating relations with neighbours including Colombia, and shortages of even the most basic food and medical supplies. Moreover, the IMF forecasts Venezuela’s economy will contract by 7% over the course of 2015.
All have been cited as factors leading to the recent rapprochement between the US and Cuba: the rationale being that the Caribbean nation – traditionally one of Venezuela’s staunchest allies – feels that it can no longer afford to depend solely upon its economic links with Venezuela.
Against this deteriorating economic backdrop – with some seasoned observers now going as far as to place Venezuela in the ‘failed state’ category – there is the real fear that it could run out of the money required to pay holders of both Sovereign and PDVSA debt over the next few years. However, according to recent Bank of America Merrill Lynch estimates, the country has $60bn in fixed assets it could sell – for example, the major US refinery business CITGO– and is fast running down its foreign and other currency reserves.
Further, since mid-2014, Venezuelan bond reserves have fallen by approximately a third – from $24bn to below $16bn – while over the past year to date credit default swaps (CDS) spreads – effectively an insurance against the risk of default and thereby essentially a barometer for market sentiment regarding the likelihood of a Venezuelan default – have spiralled, just as Venezuelan crude oil prices have fallen by more than 50%. Estimates suggest that for every $1 fall in crude prices, the Venezuelan government loses $700m in annual revenues.
But while Venezuela may be able to sell enough assets – and debts owed to it under a long-term financing agreement for the supply of discounted oil to Caribbean and neighbouring countries – to finance its bond obligations over the next year or so, there are concerns that it could use its current socio-economic woes as a pretext for non-payment, arguing that it should prioritise feeding its own people over paying wealthy foreigners; recent remarks by Maduro that the IMF is engaged in “financial terrorism” have only served to encourage such concerns.
On the other hand, many are still of the view that Venezuela will do anything it can to avoid default, in particular due to the impact such an event would have on PDVSA’s ability to survive.
And while uncertainty regarding the current leadership’s intentions towards its obligations to creditors remains – notwithstanding a strong recovery in the oil price and a major shift in economic and energy policies – it will likely be no more than a few years before reality intrudes and the Government is forced to confront the fact that it cannot continue to plunder and mismanage the country’s key resource, commit to vast social expenditure, and still meet onerous external debt obligations.