Venezuela's Maduro inherits tough economic problems

By Brian Ellsworth

CARACAS (Reuters) - Venezuelan President-elect Nicolas Maduro faces a difficult economic panorama of rising inflation and slowing growth, further complicated by his slim election victory that is being challenged by the opposition.

Maduro won by the smallest margin of any Venezuelan election in the last 50 years after a whirlwind campaign triggered by the death of Hugo Chavez from cancer last month.

The late president's lavish social spending financed by an unprecedented oil boom created a following of millions, and Chavez's endorsement of Maduro before his death appeared to put his prot?g? on track for an easy victory.

Instead, the winning margin was just 1.6 percentage points and opposition candidate Henrique Capriles refused to accept the official result. He is demanding a full recount.

A perception that Maduro has a weak mandate could prompt challenges from within the disparate ruling coalition that formed around Chavez, just as overstretched state finances force him to slow the very oil-funded largesse he staked his reputation on maintaining.

The OPEC nation's strong growth is seen by most private economists as dropping this year as the government pares back following hefty spending in 2012 that was a key driver of the economy and helped Chavez win re-election in October.

At the same time, annual inflation may head toward 30 percent thanks to a currency devaluation and expanding money supply, while periodic shortages of products such as medicine and corn flour look likely to remain an annoyance.

"We're going to see a reduction in government spending, most notably in the home construction program, and the devaluation is also going to limit growth," said Angel Garcia of consulting firm Econometrica, which is critical of the government.

"It's going to be a year of inflation with stagnant growth."

There are few signs, however, that the situation could descend into a full-blown crisis or force Venezuela to default on its debt.

Wall Street investors who have for years sneered at Venezuelan socialism are likely to continue buying up its lucrative and high-yielding paper.

Government supporters have long chuckled at doomsday predictions by the opposition of economic mayhem that in retrospect were exaggerated or simply wrong.

But with the opposition questioning his legitimacy, Maduro may have little room for pragmatic measures such as unwinding the Byzantine system of price and currency controls that have created economic distortions.

His narrow win may also dampen speculation that he is seeking a market-friendly replacement for Finance Minister Jorge Giordani, who led the Chavez-era expansion of state control.

SPENDING SLOWS, GROWTH SLOWS

From a program of cash-handouts to poor mothers to a massive home-building campaign that gave new apartments to grateful supplicants, voters were showered with state spending in 2012 as part of Chavez's re-election just months before his death.

It was financed in part by nearly $21 billion in bond issuance over two years and at least $36 billion in loans from China. That spending was crucial in spurring economic growth of 5.6 percent last year.

But growth for this year is seen by many private economists at 2 percent or less, as the government slows spending as it normally does following presidential races. Central government outlays fell in the fourth quarter of 2012 compared to the previous quarter, according to the central bank.

State oil company PDVSA also cut contributions to state development fund Fonden that has provided infrastructure financing. That signals a slowdown in the construction sector, which delivered a fifth of last year's growth.

Chavez's wave of nationalizations helped stir up nationalist sentiment and expand state control over the economy, but also severely weakened the private sector and made business leaders reluctant to make new investments.

Many of the companies nationalized under Chavez have seen their output tumble amid under-investment and chronic labor problems. Steelmaker Sidor, taken over five years ago to much celebration, is operating at less than half its capacity according to local media reports.

The economy has become increasingly dependent on imports, which constitutes a drain on growth because they generate jobs abroad rather than at home.

"Last year's growth came on the back of booming domestic demand, with both consumption and investment soaring," said JPMorgan analysts in a research note. "But in the context of a domestic supply side that has been crippled in recent years by nationalizations and regulatory uncertainty, imports have necessarily had to rise."

The government maintains growth projections of 6 percent for this year, and Maduro's allies dismiss talk of a slowdown as a politically-motivated smear campaign.

"There should not be a slowdown, growth should be similar to 2012," said Jose Pina, an economist whose analyses tend to be similar to those of government officials.

He said the inflation rate in 2013 would be close to last year's 20 percent, but that it was not of great concern to workers because planned minimum wage hikes would boost spending power.

Critics of Wall Street analysts note that their projections last year considerably overestimated Venezuela's inflation rate and debt issuance.

PRODUCT SHORTAGES

At a rally late in his campaign, Maduro vowed to hike the minimum wage by 40 percent in 2013 - words cheered by supporters as a sign of a brighter future.

Economists had precisely the opposite reaction, seeing the announcement as confirming an acceleration of inflation this year that will eat into consumer spending power.

Consumer prices rose 7.9 percent in the first three months of 2013 alone, the central bank said on Monday.

The March inflation reading of 2.8 percent came more than a week after the indicator is usually released, possibly to avoid embarrassing headlines in the run-up to the election.

Venezuela, which maintains currency controls created a decade ago by Chavez, devalued the bolivar by 32 percent in February.

At the same time, it scrapped a parallel currency mechanism based on bond swaps that had improved dollar distribution, replacing it with a new system that business leaders say is confusing and cumbersome.

An inability to obtain dollars can paralyze businesses, from motorcycle couriers unable to buy imported replacement parts to factory owners who cannot bring in machinery needed to maintain or expand operations.

With companies struggling to obtain hard currency, greenbacks on the black market are fetching close to four times the official rate of 6.3 per dollar - boosting the price of imported products and further feeding into inflation.

Easing economic distortions will depend heavily on who ends up in Maduro's cabinet.

"He appears to be closer to relatively less radical figures like central bank president (Nelson) Merentes and Oil Minister and PDVSA president Rafael Ramirez, rather than to Finance Minister Giordani," said Credit Suisse in a research note.

"Replacing Giordani could also be a positive signal."

(Editing by Daniel Wallis, Kieran Murray and Nick Zieminski)

Source: http://news.yahoo.com/venezuelas-maduro-inherits-tough-economic-problems-211509279--business.html

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