Dollarization without the rose tinted glasses

Some see "dollarization" as a magic wand: a one stop solution to all our economic stability problems. If you dive into the nitty-gritty, it's not so simple.

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Back in September last year, Ecuadorean President Rafael Correa made a strange request to citizens living near the Colombian border: please stop crossing the border to buy stuff in Colombia. He appealed to his compatriots’ conscience and national pride, pleading with them to buy locally and support domestic production. A week later, to show his faith in the patriotism of Ecuadorians, he slapped a tax of up to 45% on goods brought through the border.

Ecuadorians were flocking to Colombia thanks to dollarization, a policy that keeps being proposed in Venezuela, especially in conferences held by organizations close to the opposition. A MUD deputy even promised to “dollarize wages”. Ecuador, which dollarized its economy in 2000, is one of the examples frequently cited a success stories. But the fairy tale is over, with the constraints imposed by dollarization now apparent to all.

Ecuadorians were going to Colombia to buy anything from school supplies to food and TV sets at prices much, much lower than back home. In the Ecuadorean border province of Carchi, 40% of stores have closed.

 

For Ecuador, dollarization has turned into a straightjacket.

Why? Was this some kind of conspiracy to destabilize the Ecuadorean government? Hardly.

In the twelve months before Correa’s plea, the Colombian Peso had lost around 40% of its value against the dollar. For dollar-holding Ecuadorians, that was as though every store in Colombia was running a 40% Off Sale. Of course, Ecuadorians poured over the border to shop.  

Among oil producers, Colombia was far from alone in letting the value of its currency slide after prices collapsed. Most oil-producing countries did the same.

Alas, Ecuador has no currency of its own to devalue.

As a result, the automatic adjustment Quico described in his post about the Canadian dollar after the oil bust is impossible for them. For Ecuador, dollarization has turned into a straightjacket.

But to understand what’s going on, we first need to understand what dollarization is.

 
A basic issue about dollarization should be apparent: to dollarize the first thing you need is dollars.

Some proponents see it as a simple matter of saying “Let’s use the dollar from now on”. Every so often, you find someone in the opinion pages saying the Venezuelan economy is de facto dollarized, because real estate prices are being set in dollars, and the prices of some imported goods move along with the black market exchange rate.

That’s not dollarization.

To formally dollarize the Venezuelan economy, the government would have to commit by law to exchange every bolívar in circulation for US dollars, at a fixed rate, without limits on quantity.

The process can be carried out either by physically exchanging every bolívar note for dollars and eliminating the bolívar completely, or by keeping the bolivar in circulation but under a legal duty to trade them at that fixed rate forever and ever. The first option – the one we’ll focus on – is what Ecuador did, as well as such economic powerhouses as Zimbabwe, El Salvador and the Federated States of Micronesia, as well as Panama. The second option, a sort of dollarization lite, is similar to the Argentinian “convertibilidad” policy that died a fiery death in 2002, or to Hong Kong’s less catastrophic currency board.

From that last paragraph a basic issue about dollarization should be apparent: to dollarize the first thing you need is dollars.

Most proponents in Venezuela fail to mention that all-important detail, probably because they don’t realize it. To dollarize an economy you need actual dollars. The Central Bank would then have to exchange the bolivars in circulation for those dollars.

To withdraw those bolivars from circulation, the BCV would use up its foreign reserves, which amount to around USD 13 billion. Most of these are in gold, which would have to be sold for cash first.

The bare minimum amount of bolivars that need to be exchanged is what’s known as the Monetary Base: all the bolivar notes and coins, plus the reserves of commercial banks deposited in the BCV. The last available official figure was published back in January, but we can safely assume it’s currently around Bs 1.8 trillion.

The bolivars we hold today could then be exchanged, using the foreign reserves, for dollars at a rate of no less than 138 VEF/USD (although, for reasons that it’s not worth explaining here, it might be best to exchange a broader measure of money, M2, resulting in an exchange rate of 340 VEF/USD).

That rate doesn’t sound too bad, considering the black market rate is eight times that. However, a dollarization at this rate would leave the minimum-wage earners at a paltry USD 83 monthly, or USD 180 including food stamps (ahem, cestatickets). You can’t survive on those wages in a dollar-denominated economy without some huge subsidies. If you want to dollarize at a stronger rate, the country would need to raise a few more billion dollars.

 
By adopting a foreign currency, a country gives up authority over monetary and exchange rate policy.

These kind of grubby details are rarely, if ever, frankly discussed when dollarization comes up in Venezuela: how many billion we would need, where we’ll get them, at what rate we should (or could) dollarize, and what adjustments and subsidies will be necessary to make it socially feasible. At a recent conference, a “specialist” on the subject said that Venezuela has enough dollars to dollarize 50 times. Well, sure, we could… if we exchange bolivars for dollars at a rate of 7000 VEF/USD.

Dollarization certainly has some benefits. Rule out external devaluations and inflation should start aligning close to that of the USA. The government could no longer finance deficits by printing money, since it can’t print dollars. The cost of borrowing abroad will drop for both the public and private sector; and the country would look more enticing to international investors.

But, do the benefits outstrip the costs? Among the many costs, there are two main issues we should focus on: the way it leaves policy makers out of options in many circumstances, and the punishing effect of dollarization during an economic downturn. These two factors often combine, with dreadful results, especially in fiscally irresponsible countries.

By adopting a foreign currency, a country gives up authority over monetary and exchange rate policy. Under dollarization, monetary policy will now come from the USA’s Federal Reserve, which makes policy decisions without worrying for a nanosecond about what happens in Ecuador, or Zimbabwe, or Micronesia. The problem, of course, is that what’s good at some point for the USA can be the opposite of what these other countries need. By dollarizing, we’d be joining a group of countries with no control over its exchange rate, for better or worse, and with no ability to tailor monetary policy to their own needs, both in times of calm and of crisis.

This isn’t just some academic concern. If a deep banking crisis hits, the Central Bank won’t be able to rescue banks or guarantee the deposits (similar to what happened in Iceland in 2008, when all major banks got in trouble in dollars, and the State had to let them fail).

 
Giving up your own currency doesn’t stop irresponsible politicians from spending irresponsibly, what it does is punish the people unfortunate enough to be governed by them much more severely.

Another claim made by proponents of dollarization is that it promotes fiscal responsibility. That’s just not true. Dollarization does remove one of the tools some irresponsible governments use when they want to spend more than they can afford: printing money. But a dollarized country can still spend like it’s going out of style, without printing money. It can still borrow a lot more than it can repay, or it can deplete its savings until there’s nothing left, with simply horrendous social consequences. If you don’t believe me, hop a plane to Athens and ask the first pensioner you meet on the street.

What Greece found out is that giving up your own currency doesn’t stop irresponsible politicians from spending irresponsibly, what it does is punish the people unfortunate enough to be governed by them much more severely.

During the Greek crisis you might have heard that many experts thought the country should abandon the euro. That was another way of saying: “Greece should regain its currency, so it can devalue it”. And it should have, but it couldn’t. Turning back a dollarization (or, in this case, euroization) is a logistical nightmare that can cause much more chaos and disruption than the problems it seeks to solve. Just imagine if the government’s plan to leave the Euro leaked in advance, it would trigger the mother of all banking crisis.

 
An external devaluation takes days; an internal one can take years.

Unable to undergo an external devaluation to regain competitiveness and deal with its deficit, Greece has since been undergoing a much more painful thing: internal devaluation. That is deflation of prices and wages. Since it can’t alter the exchange rate to make its wages, prices and exports more appealing to foreigners, then nominal wages and prices must go down. The average Greek pensioner received €1,350 a month before the crisis, now he gets €833.

Other countries that were not as irresponsible as Greece, such as Spain, have still had to suffer through internal devaluations, thanks to euroization.

An external devaluation takes days; an internal one can take years. Years of pain. Greece has lost around a quarter of its GDP. Spain and Portugal have gone through similar, if less extreme, processes. Or check back on Ecuador in a few years.

Oh and about Ecuador – that newest poster child for the “Dollarization does not guarantee fiscal responsibility” campaign – consider this: since Correa took over in 2007, government spending increased almost every year, going from 21% of GDP, to 39% in 2015, after reaching 44% in both 2013 and 2014 during the height of the oil boom. The Latin-American average for the same period is 28%. It has run a fiscal deficit every year for the last seven years – and again, most of those were oil boom years. And its performance inflation-wise wasn’t that impressive. Since 2003, it has an accumulated inflation of 93%. That of its non-dollarized neighbors, Colombia and Peru, stands at 87% and 57%, respectively.

Now that the oil party is over, Ecuadorians are asking the same questions as Venezuelans: Where’s the money? Why don’t we have any savings?

The Ecuadorean government has been forced to cut spending aggressively, to seek big loans from China with undisclosed terms, and it now says it wants to freeze or tax public sector pensions. It will soon impose a 5% tax on Ecuadorean travelers taking more than $1098 in cash or spending more that $5000 with their credit cards abroad. Correa shamelessly exploited the recent earthquake as an excuse to enact some of the measures he was considering: VAT will rise by two points, and workers will be forcibly deducted one or more days of wages to “fund the reconstruction”.

Look, the oil shock was going to hit Ecuador hard no matter what currency it was using. Even if Correa hadn’t thrown a party, dollarization would still be forcing the country to absorb the income shock through lower nominal wages and prices, instead of through the exchange rate like the Canadians did. Correa’s fiscal profligacy just made it worse.

The takeaway here is that dollarization is not a magic wand. Its supposed usefulness in promoting fiscal responsibility rests on the assumption that politicians will behave better under dollarization because the consequences of bad fiscal policies are so dire.

Everything hinges on that belief. Trouble is, there’s no evidence to back it.

The question for Venezuela then, is what type of bad years do we want? When there’s an economic downturn, whether caused by bad government or simply bad luck, having your own currency is no small thing. Should we prefer the bad years Colombia had – which have been painful, but manageable – or the economic catastrophe Greece endured and Ecuador is now facing?

There is no shortcut to fiscal responsibility. There’s no magic to it. The recipe is common knowledge: you need good economic policies, strong institutions to keep the government in check, and relatively sane, more-or-less competent policy-makers. That’s it. If a stable economy is the dish you want to cook, dollarization is an ingredient that adds nothing, except risk.

135 COMMENTS

  1. The thing is straitjackets are necesary when dealing with lunatics. Dolarization would not be a move to grant fiscal responsability or better, more responsable goverments, it is a solution to a problem we have to face: How can we stop this CADIVI quintuple rate cuckfuckery from ever happening again?
    Don’t come up with the fantasy of strong institutions. How can we possible believe that could ever happen in a country with a TSJ with a 40000 to 0 zero record and counting? Do you think next time they will go ” oh that was some weird phase from now on please keep trusting the law system”.

    What ever dangers we must face are nothing compared to the danger if this sort of people eventually getting back into power and doing the same things they did back then.
    Because they will return, and the only way to stop them from fucking us all over is to destroy the tools they have for doing that.

      • They are still way less fucked up that we ever will be. Never forget we are Forbes 2013,2014, and 2015 most miserable country in the world. We are winning those like its Miss Universe’s crowns.

      • “Dollarization does nothing to deal with the lunatics.”
        Really? nothing?
        On the contrary, it takes from the lunatics the possibility of adding currency controls.

        That is no small potato.
        Chavez used that mechanism since 2003 to tighten control on the private sector.
        With one simple mechanism.

        Printing money becomes impossible,
        remember the millardito?
        and the “excess reserves”?
        and the gold reserves?

        How about the Dakazo?

        Of course incurring excessive foreign debt is still possible
        but Chavismo did that anyway,
        on top of printing inorganic money.

        How many of the current economic problems in Venezuela are directly related to the currency controls?
        How about runaway inflation?

        Or Polar that cannot import raw material because the government cannot (or will not?) provide the dollars.
        With dollarization that would not be an issue.

        Same with medicine scarcity.

        How many industries are paralyzed because of not being able to import what they need?
        How about the newspapers that cannot import printing paper?

        Or export, for that matter,
        how many industries moved away from the country
        because the exchange controls would not let them export or repatriate dollars?
        Polar again.

        It is true that there are other ways to mismanage the people’s money, like taxes and tariffs and many regulations. But that cannot be an argument for not removing the sledge-hammer of them all which is currency exchange control.

        • Sure, under dollarization, there would be no exchange controls. But almost everything else you mentioned would still be possible:
          – “Millardito”: How would dollarization impede the government from taking dollars from the Central Bank? “Hey, CB, here’s a decree that says you have to give me a billion”. That’s it.
          Dakazo: How would it impede the government from expropriating merchandise, or forcing stores to reduce prices? Really.. how?
          Polar: It does not preclude any government to impose controls on imports. Ecuador just did it.
          Scarcity: Price controls are still PERFECTLY POSSIBLE with dollarization. “By law, rice can’t cost more than $0.50”. There, that’s it.
          Capital controls: Of course you can have capital controls with dollarization, and limits on profit/capital repatriation. Ecuador just imposed some. Greece did too. “Hey local banks: you are forbidden to make international transfers of more than $5000 per person / company”. That’s it.

          Look, dollarization is not the only way of removing currency exchange controls.

          • ” How would dollarization impede the government from taking dollars from the Central Bank?”

            What Central Bank?

            “dollarization is not the only way of removing currency exchange controls.”

            If a government wants to remove exchange controls they can do it with a decree. That is not the problem.
            The problem is when they want to impose an exchange control they just issue a decree.

            “How would it impede the government from expropriating merchandise, or forcing stores to reduce prices? ”
            With what justification?
            The Dakazo was because the government had provided the dollars at a special rate.

            “Hey local banks: you are forbidden to make international transfers of more than $5000 per person / company”. That’s it.

            But do you notice the big difference?
            The money does not lose its value.
            That is HUGE!

    • Agorfomon
      You are correct and it is not just these lunatics.
      All politicians are fiscally irresponsible.

      Venezuela has had exchange controls with Luis Herrera Campins, Lusinchi, Caldera II, Chavez and now Maduro.
      Devaluations and high inflation continuously since LHC and his Black Friday.

    • Not really. Look at Ecuador right now. The government is trying to stop capital flight. That’s why they are taxing Ecuadorians who take dollars abroad. They are raising taxes on imports. During the Greek crisis, the government enacted several measures to avoid capital flight: it closed banks for three weeks, imposed limits on cash withdrawals from banks, and limits on transfers abroad.

  2. Dollarization has been floated by the Cedice for decades. At a conference in IESA in 1994 I recall meeting Steve Hanke who helped set up Argentina’s currency board and was in town to persuade Venezuela to do the same. Later I met José Luis Cordeiro, the specialist referred to here, who at one time became a key player in organizing Ecuador’s dollarization. He is no hick. Graduated from Georgetown, then got a Ph.D. from MIT and an MBA from INSEAD. Worked at Booz Allen Hamilton and is co-founder (with Adolfo Taylhardat, former president of the UN Security Council) of the Venezuelan chapter of the World Future Society.

    • I’m trying to figure out if this is a

      a-demonstration
      or
      b-higher order parody

      of dollarization proponents total absence of economic arguments and I genuinely can’t tell.

      #PoeFaced

      • the gist of this article can be summarized as this: dollarization is not a perfect solution. Duh! of course it is not, but it is measurably, quantifiably better of the insane mess we’ve had since the first half of the XX century. Put the dangerous toys (i.e money mint) out of the reach of government is much more important than the reduced fiscal maneuverability

      • Last year the public deficit on Panama was 3% of the PIB. 3%!!! Chew on that for a while. The whole premise of this article is based on some far-off hypotheticals that we really shouldn’t be concerned

    • last year, Panama’s public deficit was barely 3% of the PIB. 3%!!! Let’s chew on that for a while and compare with Venezuelan deficit. They seem to handle it pretty well without magic currency generation

      • Right. And Norway, which kept the Krone, has a 6% budget surplus, even though it was a petrostate the year prices collapsed.

        It’s almost like cherry picking a single dato about a single country in a single year could be used to prove basically any point you care to think of…

        • Well, the one trying to argue for the downsides of dollarization is the one that should be explaining why his argument doesn’t apply to Panama. If his arguments based on general economic principles, then why they don’t apply to Panama?

          It just takes a single counterexample to reject an hypothesis

  3. Excellent post, and the key for me is the phrase “magic wand.” It’s just one more wand, among so many, that if implemented would supposedly fix everything, without the hard work of listening, conversing, and teaching. But there’s no substitute for one-to-one conversation and conflict.

  4. Great post Pedro! Great input on the dollarization debate.

    I reached the same conclusions as you making my disertation back in my undergrad Econ days. Dollarization by itself doesn’t do a thing to fix the underlying issue with chronic high- and/or hyper-inflation, which is lack of fiscal institutions.

    It’s generally thought that a petrostate would have it easier to dollarize, since its capacity to generate dollars (via exports or oil-backed financing) it’s bigger than that of a nation without such an edge in foreign trade. In that sense, I’m afraid of the temptation to dollarize that will haunt our next government as a quick fix for our macro mess.

  5. Thanks for a great article, Pedro. Help me out a little here, as my knowledge of economics is scant. You say “You can’t survive on those wages in a dollar-denominated economy without some huge subsidies”.

    1. Why not? Why couldn’t people simply live on fewer dollars than in other dollar-denominated economies?

    2. What do subsidies have to do with anything? How does having our own currency save us from these huge subsidies we’d need with a dollarized economy?

    • 1. Ok, so we dollarized the economy at 138 Bs/USD. Venezuela has price control for many goods. You then have two options.
      A) The logical option, which is to eliminate price controls. These prices would then rise to their true market level, which in many cases would be similar to international prices. So a kilo of pasta, which price today is controlled in Vzla at $0.10 (Bs 15 per kilo), rises to $2 per kilo. Same goes for rice, flour, oil, and every other price-controlled staple. A minimum wage of $83 simply would not be enough for a person, or a family, to eat for a month. You would then have to give subsidies – give money, one way or another – to low-income people.
      B) The illogical option, which is to keep price controls. This is the same scenario as before, but instead of giving money to low-income people, you would need to give subsidies to food manufacturers or importers. This is basically where we are today: the government is subsidizing food by giving cheap dollars to importers of food and related supplies. The government would still need to subsidize companies, but since there would be no “cheap dollar” to be given any more, just dollars, you would have to give them cash.

      2. Lifting price controls, with or without dollarization, will require subsidies to low-income people (or at least that would be the smart, and morally correct, policy). But it easier and cheaper to give subsidies in bolivars, which the government can devalue and/or manufacture, than in dollars.

      • Okay, I guess it’s better to have devaluation and money-printing in your arsenal to keep people from starving, but that’s also what got us in the mess we’re in today. Not that power alone, but the misuse of that power.

        There is no shortcut to fiscal responsibility.

      • 138 Bs/USD would be irreal.

        It can’t be at that rate.

        We already have a rate of 350 Bs/USD at which a lot of businesses are operating right now.

        That should be the dolarization rate, people is already with dollarized salaries. And dollarized at parallel rate which is way worst.

        You are wrong my friend.

        I understand your point but i insist you are mistaken.

        • “The goverment can devaluate bolivars so they can give subsides to people so they can buy stuff which prises will rise because you devaluated bolivars and the stuff is imported so you will have to devaluate again so you can give subsides to…”
          I am trying to understand your side of the argument guys but….

      • “So a kilo of pasta, which price today is controlled in Vzla at $0.10 (Bs 15 per kilo), rises to $2 per kilo”

        Uh, you might want to update your field notes, a kilo of pasta is regulated at 700 Bs, not 15.

        Maduro’s been letting some regulated prices to skyrocket to appease the boligarchs behind said regulated staples.

  6. What do we prefer, Cadivi or Ecuador??

    if you ask me, Ecuador.

    You’re right about all that you said, but with Dollarization the money I’ve got beneath my mattress keeps its value, with toy-Bs…. I’m not sure

    Another plus for dollarization is that shelves will be stocked (the price is another subject) meanwhile your development-of-strong-institutions-solution doesn’t guarantee that. I don’t know why you forgot the scarcity topic in your analysis, I think is not a minor one.

    Of course there are no free risk solutions in life, but I bet ecuadoreans are having a better time than venezuelans. At least they don’t line up for food

    • “CADIVI or Ecuador” is a false dichotomy. These are not the only options. And regarding scarcity, there’s no scarcity in Chile, Brasil, Colombia, Perú, Mexico, Bolivia, Uruguay, etc. Scarcity is due to price controls, and these controls would still be perfectly possible under dollarization. What’s stopping any government from saying that, even in a dollarized Venezuela, rice can’t cost more than $0.50?

      Look, sure, Ecuador is today doing better than us. Just like hundreds of other countries. And those hundreds of countries didn’t have to dollarize to get there. And Ecuador didn’t have to dollarize to get there either. Just look at Perú. Doing arguably better than Ecuador, without dollarization.

      • I’m sorry Pedro, but you brought up the comparison between Ecuador (dollarized) vs Venezuela (not dollarized). So is not a false dichotomy, but a very fair comparison between two oil producing nations suffering economic problems at the same time due in part to government mismanagement and oil price shock.

        With that premise, it makes sense to compare how bad things can get with one system vs the other. And frankly Ecuadorians are doing much better than Venezuelans right now. Even with all the taxes and tariffs and regulations their government is trying to impose they will never be as bad as Venezuela is .

        Your argument seems to be: we do not need to dollarize to manage our economy better.
        But that presupposes that you can manage the economy with the best people all the time.

        The point of dollarizing the economy is: how can we reduce the impact that future people in power can have when they mismanage the economy. The answer is simple tie their hands.

        In other words: is hope for the best but prepare for the worse.
        Because we already had “the worse” (for now).

        • “The point of dollarizing the economy is: how can we reduce the impact that future people in power can have when they mismanage the economy. The answer is simple tie their hands.”

          This is the part where you’re missing the point. Dollarization does not reduce the impact of mismanaging the economy. It amplifies the impact! Fiscal irresponsibility is still perfectly possible under dollarization. But under dollarization, the impact of irresponsibility is way, way worse. What would have been a bad year becomes terrible years (multiples), and what would have been a few terrible years becomes an economic catastrophe. The damage done by bad managers is several times worse under dollarization.

          • You are saying:
            “under dollarization the impact of irresponsibility is way way worse.”
            And basically said it 5 times in different ways.
            But…
            What are your arguments to affirm this?

            Do you think that Zimbabwe would have gone through hyperinflation if they had dollarized?
            How come to solve their hyperinflation problem Zimbabwe basically stopped using their currency and de facto dollarized?

            The point is that with dollarization, the fiscal irresponsibility of the government is not capable of affecting the value of people’s and companies’ savings. Dollarization prevents hyperinflation.
            Most economists agree that hyperinflation is the worst that can happen to a country.

            So… what is worse than hyperinflation?

    • “Another plus for dollarization is that shelves will be stocked (the price is another subject) meanwhile your development-of-strong-institutions-solution doesn’t guarantee that.”

      Yes, strong institutions DO GUARANTEE stocked shelves, because strong institutions would threaten to curbstomp any goddamn communist lunatic that comes and expropiates every factory on sight only because he got an itch on his butt.

      • Where do you get one of those magical strong institutions you people keep talking about? Did we ever had ones like those in this country, ever?Why are you so sure we can get those now? I mean, we had independent powers right? What ever happened to those?

        • Venezuela’s lack of independent, strong institutions is what led it straight to chavista trap, because chavismo is an extension from the worst of the adecopeyano regime, all its vices and defects overgrown like a malignant tumor.

          If the 4th had strong institutions, for example, Chávez would still be purging a 30-year term in prison for his omnicidal coups, and corruption couldn’t have possibly entrenched itself so strongly in all the levels of the government to the pointthat we see today, where everything related to public organisms has been turned into a toll-paying extortion against the people.

  7. “That rate doesn’t sound too bad, considering the black market rate is eight times that. However, a dollarization at this rate would leave the minimum-wage earners at a paltry USD 83 monthly, or USD 180 including food stamps (ahem, cestatickets). You can’t survive on those wages in a dollar-denominated economy without some huge subsidies. If you want to dollarize at a stronger rate, the country would need to raise a few more billion dollars.”

    I disagree with the author.

    We are, in fact, surviving on those wages right now!!!! and without real subsidies.

    The matter of fact, the dolarization would erase the parallel dollar and with it all the costs for those goods (we all now they are the majority) valued using that rate.

    I think that 350 or 400 BsF x $ would be a good rate, it will cause a huge shock at first but it is necessary to instaurate more efficient direct subsidies.

    We need to stop this spiralling tendency towards the hyperinflation and the plain poverty.

    • Yes, the “bachaquero” prices are very high now. But this is where I think there’s a disconnect between many people arguing for dollarization, and low-income people. Low-income people still get most of their staples at controlled-prices, after queuing for hours. These are all subsidized goods.

      All that you say we need to do is achievable, and easier, without dollarization.

      • Low income people is already now suffering either way.

        What is necessary is to instaurate direct subsidies.

        If you take the parallel dolar out of equation everything would take its place, eventually, salaries would be very low at first but necessarily they will need to get even with salaries in other economies.

        This mess won’t finish without sacrifices.

        Of course everything is achievable without dolarization, easier, not quite sure. We are suffering for inflation for long time, even before Chavez. May be we need this straightjacket.

        This government do not have the political will or the technical expertice to solve this mess. Other governments, may be, would have the political will, but dolarization would be the fastest way. Ask Mugabe.

        I understand the flexibility and maneuverability a national currency brings as the ecuadorian case shows but venezuela is in a desperate situation, or we act quick or we are going to spiral into Haiti’s levels of poverty.

  8. “By adopting a foreign currency, a country gives up authority over monetary and exchange rate policy.”

    I would also add that the US is little different than many of the third-world countries inflating their currencies through debt and mismanagement. Were it not for the fact that the ‘Dollar” has increasingly become the world currency, with ever greater demand outside of its borders, it too would have hit an extraordinary inflationary spiral. We also repair our debt by printing money. We’re allowed to keep printing our dollars because there’s a tremendous demand for them overseas, despite approaching a 2 trillion dollar deficit here at home. If politicians are allowed to keep the printing presses running to hide their spending spree’s, they will. In that respect there’s little difference between North and South America.

    • “despite approaching a 2 trillion dollar deficit here at home”

      Let’s not get carried away. The US federal budget deficit was roughly $470 billion last year, about 2.6% of GDP.

  9. Remember, all of you against dollarization, the most miserable country in earth according to Bloomberg, Forbes is VENEZUELA, a country with its own “currency”. not Ecuador, not Greece

    • Venezuela is miserable due to a lot more of aspects than its currency. Aspects that won’t necessarily be tackled by dollarization either.

  10. “Dollarization certainly has some benefits.”
    “But, do the benefits outstrip the costs?”
    Yes, Yes !

    For the unique and dire Venezuela’s circumstances at the moment it seems to be the ideal policy.
    It could be implemented as a temporary policy to rapidly stabilize the economy.
    Inflation is brought down to single digits almost overnight, as it has been the experience in other countries.
    Venezuela could keep the Dollar for 5 or even 10 years until earns the trust back, if having own currency is desired.

    And I would ask you what is you ideal FX policy for Venezuela? I didn’t see it.
    I would bet that you are in favor of a free floating FX where the whole Venezuelan economy, peoples salaries and prices are constantly being altered by the whims of the Bolivar value. We had it and din’t work well.
    Argentina just did the floating FX thing and they are expecting the inflation to come down to single digits in 3 freaking years !! Give me a break !
    Watch those fellows ride a roller coaster of crisis after crisis.

    IMO, the benefits of Dollarization are worth the small constraints that it brings.
    There are many Macro economic tools such as Interest rate, Taxation, price control and subsides to mess around already.

    Dollarization solves 5 major problems.
    1. Inflation.
    2. Capital Flight.
    3. Foreign Investment and Tourism.
    4. Long term Economic Planning.
    5. Economic Freedom.

    Ideally you want the real value of the Money to be very stable and the Dollar just does that.

    • Deep sigh.

      But if you say dollarization is “temporary”, if it has an end date, OF COURSE all deposits are going to stampede out of the banking system before the date you change back.

      “They won’t” you say?

      Why?

      “Ummmm…because by then we’ll have repaired our fiscal house and people will no longer believe the new bolivar deposits will start shedding value as soon as we go off the dollar…”

      “Ah ha, so because we’ll be fiscally responsible, basically?”

      “Yes, because we’ll be fiscally responsible…”

      “So this isn’t really about the dollar at all, is it? This is about good economic policies, strong institutions to keep the government in check, and relatively sane, more-or-less competent policy-makers, isn’t it?”

      “Uh…”

      Dude, people who SAY they want dollarization, MEAN they want macro stability. But the things that bring macro stability have NOTHING TO DO WITH WHICH CURRENCY YOU USE. Countries that have good economic policies, strong institutions to keep the government in check, and relatively sane, more-or-less competent policy-makers are macroeconomically stable. Those that don’t, aren’t.

      Why is this so hard for people to grasp?!?!?!?!

      • In theory, yes you can keep your own currency and be fiscal responsible. As a few countries around the world have.
        The problem is that in practice you need a Currency people can TRUST.
        And that trust needs time (counted in years or even decades!)
        When the whole Economy is hinging on the Bolivar market value, that is where the problems lie. Then you need the Central Bank to constantly intervene to keep the value steady.
        I can easily see Chavez’s daughter launching her candidacy for President in 2019 and immediately the Bolivar Fuerte loosing 50% of its value, bringing down with it the whole economy.
        IMO Currency should stay away from manipulation.
        Its very usefulness reside on the fact that is a solid steady standard that people use in transactions for goods, services and labor.
        Can you imagine the mess if Politicians had the power to manipulate the Metric system at will?

        • Well, if MG Chavez ran in a dollarized economy, there would be a stampede of dollars.
          “immediately the Bolivar Fuerte loosing 50% of its value, bringing down with it the whole economy.” FYI it has lost 99% of its value already.

      • Look at this like this, dolarization would be our very “fiscal responsability straghtjacket”, a populist proof “fiscal responsability straghtjacket”.

        Can you see it?

        • It wouldn’t be. Look at Ecuador. Was dollarization a straight jacket against a populist? No. Dollarization does not prevent fiscal irresponsibility, either by populists or non-populists.

          • So a murderer has several guns and a knife. We propose to take his knife- your answer is ” he still has guns”.
            Yes of course, thats why we should also take his guns away but why do you want us to let him keep the knife?
            ” If he uses the knife when he is killing you, it will hurt less”
            Ok…

          • But it was or it wasn’t?

            How is the inflation in Ecuador?

            How much inorganic money is printing ecuadorian central bank?

            I think it was, explain me why it wasn’t, please.

            May be Ecuador has a populist government and a populist president but how is Ecuador doing in the fiscal responsability departament?

      • “things that bring macro stability have NOTHING TO DO WITH WHICH CURRENCY YOU USE
        Why is this so hard for people to grasp?!?!?!?!”

        Because it is not true Francisco.
        A stable currency does not lose its value and it does not go into hyperinflation.

        In any well managed country the main purpose of the Central Bank is to maintain the value of the currency. When the executive takes control of the Central Bank as its piggy bank that is not possible anymore.

        Dollarization is about shielding –to an extent– the savings of the people from the possible mismanagement of the government.

        A national currency can be devalued by the government which is equivalent to a direct and immediate tax on the savings and the earnings of everybody.
        A national currency can fall into hyperinflation or simply very high inflation but that would not happen with a well managed currency like the USD or the Euro.

    • Jesus….where do I start?

      First, you can’t naïvely say that dollarization “could be implemented as a temporary policy to rapidly stabilize the economy”. It does not work that way. Once you dollarize, THERE’S NO TURNING BACK. Exit barriers are too high and too costly to even be considered. Look at Greece! The so-called Grexit was so costly that the EU prefered to rescue AGAIN a completely irresponsible government under a “dollarized” economy (monetary union under the Euro to be exact), rather than let them go back to the Dracma because the costs for the entire region was too high.

      Is not very hard seeing why dollarization is an quasi-permanent measure. There’s no such thing as “keep the Dollar for 5 or even 10 years until earns the trust back, if having own currency is desired”. When Argentina had to do it back in early 2000s (returning from a pseudo-dollarization or convertibilidad), it costed the most painful economic crisis in South America modern history.

      Second, you gotta be kidding me if you are truly saying that dollarization solves capital flights. Look….Argentina has USD230bn outside the country due to capital flights that were very deep back in the 90s under the convertibilidad. Greece’s crisis went over serious capital flights that obliged the country to impose capital controls. Heavy capital controls.

      Third, if dollarization promotes FDI and Tourism…then Greece wouldn’t have such a serious structural problem right? Well guess what…IT HAS.

      Fourth, “long term economic planning”. That depends on how solid institutions are regardless of your FX system. Look at Ecuador. The dollarization honey-moon is over, and now the government has to implement heavy austerity measures after years of budget parties. That’s not “long-term economic planning”. Not to mention Greece, and Argentina back in the late 90s too…

      Fifth, you can perfectly have Economic Freedom under a floating FX regime.

      Sixth, Dollarization reduces inflation sharply, I grant that. But there’re no shorcuts to fiscal responsability from that fact. What’s the problem about Argentina reducing its inflation in three years to one digit? That could actually be a healthy policy as this year they have to lift major subsidies in order to put some sense on fiscal accounts. Lifting subsidies boost inflation? Yes,…in the short-term. But when you get a sound financial and fiscal program and work under reasonable inflation targets, that’s actually planning at the long-term.

      *Drops mic*

      • Javier.. there are so many problems with your arguments that I don’t know where to start nor I have the time to answer them extensively.
        I only would say:
        1. Yes you can create your own Currency after Dollarization. Hard but not impossible.
        2. No country is immune to Capital Flight, but a trusted currency like the Dollar would help a lot.
        3. You can’t compare Greece to Venezuela on the subject of Dollarization. Greece’s problems are not the Euro. Their fundamental problem is that they just borrowed too much. No currency magic trick will get you out of that problem.
        4. For long term economic planning you at least need a solid, steady and trusted currency like the Dollar. Lets be realistic and I am 100% sure no matter who comes after Chavizmo it would take a long time to stabilize things and earn trust.

        Ideally Currency should be a solid steady standard people can rely on to make transactions of labor and goods, just like we can count on the Metric system to communicate dimensions.
        This core concept of Currency is what many people don’t get.
        Sure, the Dollar has not a fixed value but is the closest thing besides is the de facto standard for international trade.

        • Please, I invite you. Name one example of an economy that reversed dollarization without an extremely painful macroeconomic adjustment.

          Second, I believe you’re contradicting yourself by saying “No country is immune to Capital Flight, but a trusted currency like the Dollar would help a lot”. False. As dollarized economies cannot keep up with FED rates in the US due to completely different economic fundamentals, when the FED takes an interest rate policy that hits Emerging Market, free FX schemes can at least mitigate the capital flight via FX rate variations (Im not talking about intervention nor manipulation here, just in case. Just market dynamics). Dollarized economies can have a harder job when the actual issuer of dollars takes a policy that counters their own fiscal efforts. Their hands are tied.

          Third. Granted. Greece’s problem is not the Euro, but the Euro boosted its structural problem. Greece’s problem is that it cannot enhance its productivity because it cannot compete directly to other EU members. It does not have the fiscal capacity to promote policies that would help them, nor it has the conditions to be more competitive in technical matters. Having the Euro as currency does not help due to the fact that it’s more difficult to be competitive in Euros for an Economy such as the Greek one. FDI is not granted under a monetary union or euroization (dollarization in the end because you abandon your currency and waive the possibility of doing monetary policy). Thus, they started borrowing too much. The exit barriers to this “dollarized” scheme were so high that in the end they stayed although the population claimed for the Dracma to return. Greece had no maneuverability nor space to mitigate the crisis beacuse their hands were tied. That’s a heavy con of dollarization and monetary unions.

          Last, and I repeat. Long-term economic planning depends of how solid your institutions are regardless of your FX scheme. “Trust” is not something markets take for granted even if you are a dollarized economy. Is not something you pick up from the street no matter the FX system you’re running.

          • Excellent article. I am curious if anyone can name a single example of “desdolarizacion” in recent history. Having a hard time arguing that an Ecuadorean exit is, at worst, just an empty threat in Correa’s rhetoric. The cost of going through with this process seems to be untenable.

          • “Name one example of an economy that reversed dollarization without an extremely painful macroeconomic adjustment.”
            I am not aware of any because simply there is not a compelling reason to go back to a proprietary currency.
            That is the same reason people that use email won’t go back to fax machines.
            The world trend is countries consolidating on big stable currencies.
            That trend will continue into the future. Even Africa has plans to do so…

    • Dollarization cannot be temporary. First, if you announce that it’s temporary, then people would never trust the local banks, and you would promote capital flight.

      Turning back dollarization would be chaotic. First, you would have to prepare for it in complete secrecy, because if anyone learns that the government is considering dropping dollarization, it would empty their bank account immediately, to get his/her dollars before they are exchanged for another currency (which is liable to be devalued). So, you would have to prepare a new currency, print billions of notes, mint coins, and distribute them across the country, in complete secrecy. That’s impossible. Another option would be to announce the new currency without having prepared anything, and close the banks for weeks while you replace the currency. Which government would like to do that?

      Free floating FX in Venezuela? No. By definition, Vzla can’t have a free floating FX rate. Free float means that the government doesn’t intervene or participate in the FX market. But in Vzla the government needs to sell billions of dollars from oil revenue. So there’s no free float. There would actually be tendency for the currency to appreciate, especially in oil-boom years.

      As for what dollarization solves, let’s see. I will grant you inflation, although many non-dollarized countries in LatAm have lower inflation than Ecuador. It doesn’t solve capital flight: Ecuador is taxing Ecuadorians who take dollars abroad, and increasing taxes in imports, to avoid capital flight. Greece did the same (closed banks, limits on cash withdrawals and on international transfers). The next three, you’re just naming things for the sake of naming them. For example, does dollarization solves the issues of legal security needed to attract foreign investment? Does it ends the expropriation fears? Does it solve the issues of capital and profit repatriation? No, no and no. Does dollarization force policy-makers to think long-term? No. Economic freedom, how? A government can impose as many controls as it wants in a dollarized economy.

      • The problem is that you believe that Currency value is something that can and should be manipulated on.
        I firmly believe that most of the economic disasters is when you start messing with currency value especially withing the dynamics of a free market economy where supply and demand are the main forces behind goods and services value.
        Hence there is no way we would agree.
        Sure the Dollar value is not steady but is the more steady of any other alternative.
        Currency boards comes to mind but since the tie is weak in practice it doesn’t work.

        There are many reputable Economist that think Dollarization can be a good policy, likewise there are others that don’t.

        https://panampost.com/elisa-vasquez/2015/02/06/manuel-hinds-dollarization-the-escape-plan-for-venezuela/

  11. The only thing that we learn from history is that we don’t learn from history.

    If you believe that dollarization is a bad idea then use one of those word replacing chrome extensions to change wherever “policy-makers” appears to “Merentes/Giordani” or if you’re feeling generous to the oppo “competent but very high discount rate, politically motivated actors”.

    Nirvana Fallacy: https://en.wikipedia.org/wiki/Nirvana_fallacy

    The point of dollarization is not that “politicians will behave better under dollarization” but rather that it by definition will not allow them to behave poorly in a very specific yet extremely important way, ie inflating the currency.

    Fiscal irresponsibility and currency debasement are separate problems. Even if a country is broke if its currency is stable this is one less thing that businessmen, investors, citizens have to plan for when allocating capital, planning, saving. It avoids the destructive distortions of inflation and the role that plays in the human psyche (look at the poor Germans still ptsd’ed from Weymar)

    Also, the best option is not dollarization but rather a system of competing currencies where no legal tender laws regulate what money can be used in the economy but rather it is organically determined by the coordination of millions of individual decisions.

    • “Even if a country is broke if its currency is stable this is one less thing that businessmen, investors, citizens have to plan for when allocating capital, planning, saving” Well said

      Even if a country is broke its citizen can find food and medice everywhere (Haiti??)

  12. Wow! A lot of thought-provocation! Just one thing. If you are Venezuelan you cannot write stuff like this. It does not remain consistent with viveza criolla and desidia which is in the blood of Venezuelans. It must be inconstitucional or something. So stop it.

  13. “In the twelve months before Correa’s plea, the Colombian Peso had lost around 40% of its value against the dollar. For dollar-holding Ecuadorians, that was as though every store in Colombia was running a 40% Off Sale.”

    Only if prices in Colombia did not change at all, which I find highly unlikely. Anyone selling goods imported to Colombia would find the cost in dollars unchanged; thus the selling price in dollars would be the same. The only change would be that the Colombian retailer’s costs and prices in pesos would both increase 67%.

    Goods produced in Colombia would be 40% cheaper – except to the extent that production required imported parts or materials or equipment, or Colombian workers demanded higher peso wages to pay for higher-peso-cost imported goods they consume. That is, not at all, after a brief lag.

    Where dollarization forces cuts, it merely makes those cuts explicit, rather than being masked by currency inflation. Those Greek pensioners may be getting fewer euros instead of the same number of devalued drachmas, but the devalued drachmas would buy no more imported goods than the fewer euros, and just about everything in Greece is imported or import-dependent, I’d bet.

    • The “40% Off Sale” was simply a short way of saying “many things are now a lot cheaper in Colombia than in Ecuador”. As you say, it depends on whether the good is imported, or it has imported parts, etc. News reports are mostly saying the difference can be up to 50%. I found some cases of imported goods where I would have expected the price gap to close rapidly as prices adjusted in Colombia, but apparently it didn’t. For example, according to CNN, televisions sold for $1500 in Ecuador were going for the equivalent of $700 in Colombia. Also, check this from El Comercio: https://infogr.am/comparacion-de-precios-en-ecuador-y-colombia

  14. Regarding capital flight it’s confidence stupid! A dollarized, lefty, political unstable, fiscally irresponsible country is as much exposed to capital flight as one that has its own currency, no one is moving their money to Ecuador as far as I know . In a dollarized economy you can still impose a sort of corralito limiting amounts of transfers abroad (this is just a guess but I guess the middle and upper classes in Ecuador have their money abroad for fear he can implement some sort of corralito and limit transfers) and can be fiscally irresponsible fudging numbers and getting into debt it can’t sustain. Additionally to its disadvantages the thing about dollarization is that its advantages are overrated.

  15. As an economist, I used to think like Mr. Rivero. But last year I realized that, since I was born, Venezuela hasn’t had one year of single-digit inflation.

    Not. One. Year.

    After suffering double (now triple) digit inflation for my whole life, I’ve started to think that Venezuela is structurally irresponsible, and that it will never be able to become like Perú or Colombia. So, dollarization has started to become more palatable. Sure, it is not a magic wand, but I don’t think most Venezuelan economists are fair in presenting its good side.

    For starters, there’s a reason why most European countries now use the euro. It doesn’t count as full dollarization since it’s a monetary union, but it does offer some of the same advantages, like facilitating trade and yes, eliminating the devaluation risk. Greece, and most of southern Europe, actually had stellar growth in the run up to their fiscal meltdown thanks in part to these benefits. And yes, even after the disaster of the last few years, most economists think that Greece is better complying with the Troika demands than getting out of the Euro (http://www.igmchicago.org/igm-economic-experts-panel/poll-results?SurveyID=SV_bg4hVAJ9aPP4YzX).

    According to most economists (including some from the IMF https://www.imf.org/external/pubs/ft/issues/issues24/#1), dollarization does increase fiscal responsibility. It’s not a perfect straitjacket, but it does help.

    So, you have closer integration with the world (via easier trade and access to the global financial system), some incentives to be more responsible in the fiscal front, and increased stability thanks to the elimination of the devaluation risks. And, of course, the cherry on top: say goodbye to the highest inflation rate in the world.

    Of course, there’s also a reason why most countries haven’t dollarized. The cost associated with losing the natural shock adjustment mechanism via exchange rate changes is really high just by itself, and you also sacrifice the seigniorage. So, in most countries, the cons outweigh the pros.

    But for Venezuela? I’m not so sure. Maybe it wouldn’t be so bad. Panamá would be close to a best case-scenario, but I would even change our current macro situation for Ecuador’s. At the very least, I would see some years with single-digit inflation in this country for the first time in my life.

    • don’t worry we have the develop-strong-instutions-solutkkajjhahahahaha

      Please… let’s be realistic here

      As Gerónimo said Venezuela is structurally irresponsible, in my view this is because Venezuela is a petro-state

    • I don’t want to sound in any way insulting with what I’m about to say, but I find notions that Venezuela is “structurally irresponsible”, or in general that we suffer from some form of socio-cultural handicap, to be intellectual laziness. Again, I don’t want to sound insulting, but I can’t find any other words. That notion that there’s something innately wrong with us. That Venezuelans are too irresponsible, or “vivos”, morally corrupt, lazy, unethical, dumb, or whatever you want to call it. That such nice things as “responsible behavior”, or “institutions” or “good policy” are not within our reach because we’re incapable of achieving such heights. That HUNDREDS of countries are able to have semi-sane economic policies, low inflation, etc, but we can’t and never will without some shortcuts or extreme measures. It’s intellectual laziness. And It’s not only you making this argument, many other comments allude to it here. I could have written the same in response to others.

      And let me point out that your argument is exactly the same type of argument used by the government to justify the economic controls: that such things as economic freedom, or promotion of the private sector, can’t work in Venezuela because the Venezuelan private sector is (i.e., Venezuelans are) intrinsically ill-intentioned, it’s morally corrupt, it’s “golpista”, it’s only looking after speculative profits, and so on. That all those things that work in other countries, even in LatAm, can’t work here among Venezuelans.

      I’m not saying this out of a sense of patriotism, thinking that we are the best in the world, we have beautiful beaches, and el Santo Angel, and so on. No. It’s simply that saying “we can’t achieve that” for whatever socio-cultural reason or handicap, its laziness. Its saying “that’s hard work, we can´t do that”. And, yes, economic and social policy should be adapted to the conditions of a country, but adapting is not, and should not, be the same a weakening or diluting for some half-baked notion of mental, moral or cultural handicap. In the early nineties, when VAT was first proposed in Vzla, some politicians rejected it because “it was too complicated for Venezuela”. A tax enforced in hundreds of countries, was “too complicated” for us stupid Venezuelans. That way of thinking has been around since our Independence. And it’s laziness.
      * * *
      As for the euro, it’s a political project. Not an economic project. The aims of the EU are of “an ever-closer union”. That’s why they decided to share a currency: to fulfil their goal of an ever-closer union that would help avoid the wars and conflicts that for centuries decimated Europe.
      The reason most economists believe that Greece should keep the euro it’s not that the euro is a great thing, it’s because dropping it now would be too chaotic and costly.
      * * *
      What the IMF says in that document, which I’ve read, is that “The argument here is that dollarization is perceived as an irreversible institutional change toward low inflation, fiscal responsibility, and transparency.” That’s a very weak statement. It says that “some people argue it might be good for fiscal responsibility”. They are not saying, nor showing any evidence, that it does in fact result in fiscal responsibility.
      * * *
      As for single-digit inflation, look at this: 47%, 32%, 124%, 276%, 1281%, 11750%, 273%, 15%, 16%, 15%, 17%, 21%, 13%, 9%, 8%, 10%, 12%, 5%, 8%, 2%, 5%, 2%, 1%, 3%, 4%, 5%, 4%, 7%, 14%, 3%, 3%, 10%, 5%, 6%, 6%, 4%
      That’s Bolivia’s inflation rate since 1980. If you believe Venezuela can’t put inflation under control and in single-digits, just like Bolivia, without dollarization, then let’s close shop and head for the exits, because there’s too much hard work to do and that’s no fun.

      • “If you believe Venezuela can’t put inflation under control and in single-digits, just like Bolivia”

        Nobody is saying Venezuela cannot do it.
        But what I say is that hyperinflation is possible.
        The same series you bring has a 11750% in there.
        If Bolivia had been dollarized at the time,
        THAT could not have happened.
        Don’t you agree?

        The crux of the argument is that you say it is possible to have a good economy without dollarization.
        No one disputes that. Even in Venezuela.

        What I say is that irresponsible governments are possible.
        We know it.
        Hyperinflation has happened in countries all over the world:
        Zimbabwe, Brazil, Argentina, Germany, Austria, Hungary
        Dollarization protects people’s and companies’ savings against that.

        You want to extend a vote of confidence to ALL future governments.
        Dollarization is a vote of no confidence to a possible irresponsible future government.
        Because we know they happen, it does not have to be a Chavez
        it could even be a Capriles or anyone.

        Politics understand power but they do not get the Economy.
        That is why Venezuela has had exchange controls with 5 different governments since 1984.

  16. Pedro,
    Thanks for your great, detailed explanation. Pity a lot of people still don’t get it…but your explanation was as good as it can possibly be.

    • The yen is in deep trouble. Japan’s sovereign debt is 229% of GDP, the highest ratio in the world, and Japan’s central bank has zeroed interest rates. Japan’s population is skewing elderly, meaning that enormous pension obligations must somehow be carried by a shrinking working-age population.

      In short, Japan may be fiscally doomed, and may resort to inflation (and then hyperinflation) to delay the collapse.

      • Sorry, I meant the Chinese Yuan (Renminbi) not the Japanese Yen.There are some Asian countries using the Yuan already as official tender including Zimbabwe.
        I also mention Bitcoins, but it could be some other World Wide standard crypto-currency.
        My point is proprietaries currencies are on the decline and that is a fact.
        Adoption of strong stable currencies facilitates trade and brings economic stability.
        Not a panacea, but a move in the right direction.

  17. Dollarization didn’t work in Argentina, for much the same reasons as Ecuador. The government borrowed dollars to enable increased government spending. Result: the 2001 crash.

    • Argentina has never Dollarized their economy.
      They just pegged an inorganic 1:1 value to the Dollar. Print money? no problem.
      Because that was artificial, it couldn’t hold up the increasing distortions and collapsed.
      The point of true Dollarization is that protects the Currency from being manipulated by the politics of turn.
      You just don’t mess with the Currency value. Is that simple.

  18. …excellent attempt at a very complex dissertation.

    What I take away is simple, “there are no shortcuts to fiscal responsibility” and I will add, there is a need to revalue the importance of personal responsibility , justice and punishment for violations.

    if only we had saved and invested for the rainy day!…
    too much to ask for I think.

    La viveza criolla is what has gotten us into this mess, coupled with the corruption such rich underground resources have been able to fund, and the total lack of moral costs to corruption; Not the wrong monetary and currency systems.

  19. There is the real possibility that VZ will dollarize in spite of what the government wants. This debate may be moot.

    From what I’ve been able to learn about Zimbabwe, that is what happened. They got to the point where the government’s fiat currency was simple ignored. Their currency became unworkable and the citizens simply chose to ignore it.

    This will happen in VZ. They are almost there now. Getting paid in Bolivars only worth something if you have access to the preferred exchanged rates. That is not going to last. When that ends. the dollarization will start.

    The government employees and pensioners not be happy being paid in worthless script. There will be rioting, anger, and mass strikes as the employees demand their old pay levels back. While they do that, the rest of VZ will simply start trading in dollars. Eventually the protesters will have to give up and accept dollars for pay.

    As mentioned, the government won’t have the dollars sitting around to start handing those out instead of Bolivars. The government earns dollars when they sell oil. It will end up in a pay as they earn model where each shipment of oil pays that week’s bills. The government itself will be living paycheck to paycheck, at least for a while.

    It is not a good place to be. But unless they can change course, it is going to happen anyway.

    Also… Who has savings in VZ anymore anyhow? Anyone with serious money already moved it offshore, or converted to something else. Those that had savings already know that it is now worthless.

    • “Also… Who has savings in VZ anymore anyhow? Anyone with serious money already moved it offshore, or converted to something else. Those that had savings already know that it is now worthless.”

      Every single salaried in Venezuela, almost nothing.

  20. La dolarización es simple: No dejar que politicos tercermundistas manipulen el valor de la moneda.

    Contra eso no hay argumento de los que no quieren dolarizar

  21. After reading the article and some comments my opinion to all the majors takeaways:

    1) “There is no shortcut to fiscal responsibility”: This is so truth… Even we might get so much worse in that sense in a Dollarization process.

    2) “People who SAY they want dollarization, MEAN they want macro stability. But the things that bring macro stability have NOTHING TO DO WITH WHICH CURRENCY YOU USE”: Also truth but please mind that after 17 years going in the opposite direction, the Dollarization is just a light of hope for some buddies. Also it looks like an express train to Macro Stability which is so hard to get, in a country like Venezuela.

    3) “La dolarización es simple: No dejar que políticos tercermundistas manipulen el valor de la moneda.” Yup! But in the hands on others that care even less about us!

  22. A lot of the people in this debate are speaking of dollarization as though that in itself would actually solve the economic problems of Venezuela. This is a mistake. The root causes of the economic crisis lie combination of currency controls and price controls. It was the combination of these two things that stifled domestic production of goods. It is possible to get rid of both of these without dollarizing by simply eliminating all of the currency controls and allow the Bolivar to float freely.

    The way I am reading many of the comments in this post is that chicken and egg production has plummeted and so people want to argue about how to count the chickens and eggs, instead of how to increase production.

    • You are right, to a point.

      The dollarization will contain runway inflation. It will not put items on shelves. If price and currency controls are not lifted, no matter what currency, then the lack of goods problem remains.

      Now that being said, dollarizing can reduce or eliminate the ability of the government to enforce currency and price controls. Once people have dollars, they can trade outside the control of the government.

      The army would have to enforce the controls at gun point, which would be hard to do if the rank and file soldiers are getting paid in worthless script.

      Bottom line. If people simply ignore the Bolivar, then they can also ignore price controls and currency controls. The black market would effectively become THE market, and the Bolivars will be souvenirs.

    • Necessary is, may be not the only option, but is one option.

      Enough, by no means, but, in my opinion what venezuela has lacked all these years is certainty. To be able to predict the behavior of the economy, this measure could add a bit of certainty to our lives.

      Don’t know if you follow me.

      And certainty attracts investments.

  23. I think you’re falling for a perfect solution fallacy. While it is true that dollarization is not a solution for anything, it does reduce the capacity of the politicians to do mistakes quite significantly. It’s a one-way street, so one needs to take a whole lot of care, but Venezuela is a country of so many consistent failures I fail to see any approaches that would be more promising.

  24. Taken from Panampost’s article about dollarization in El Salvador

    “In El Salvador we have a populist government that is destroying the state’s finances, but nevertheless the economy is stable because politicians have no control over the currency’s value.

    When you have a dollarized economy, incurring debt becomes more difficult because the government has to resort to the international markets. It cannot ask the central bank to print mone”

    https://panampost.com/elisa-vasquez/2015/02/06/manuel-hinds-dollarization-the-escape-plan-for-venezuela/

  25. And the hammering goes on for the anti-dollarization camp.

    From Panampost’s article

    “Won’t dollarization bring with it the risk of depending on the US Federal Reserve?

    We depend on it anyway! Venezuela more than other countries, because it has managed its policies so badly that their own currency is worthless, and now it needs foreign financial aid. The actions of the US Federal Reserve affect us all, whether or not we have a national currency, because that’s how the market operates today.”

  26. Just to throw out a possible compromise position:

    SUPPOSE that all the Latin American countries got together (stop laughing!) and created a joint Central Bank and issued a joint currency (let’s call it the Peso Latino). A Board of Directors is appointed by all member countries and charged with maintaining a stable currency and monetary policy in line with the needs of common LatAm market. That way, the currency policy would not be subject to U.S. monetary self-interest and could support the needs of a block of similar markets.

    Mind you, this is a hypothetical. But, supposing it were possible, would you accept the idea?

    • If Europe couldn’t make that work well with the Euro … well … don’t get your hopes up it’ll work in Latin America either.

    • Anything that keep its value stable and people can trust serves well as currency.
      A Peso Latino at best would be a couple or years away from being implemented and I being generous! Latin America would have a long way to go before people can trust its brand new currency.
      About the compromise, the USA have in their best interest to keep the value of the $ stable and the history and reputation is there.
      The fear of dependency of the US Fed is exaggerated. If in the unlikely scenario that something dramatic happen to the US$, Venezuela can simply switch to the Euro or issue Bolivars at 1:1 exchange rate as soon as the bill notes are printed. Who knows by then nobody would be using paper and coins any more.

      Now, because the collapse in VZ in imminent (this year!) that would take the Peso Latino out of the question.
      There are going to be many problems to fix in the VZ post-chavizta. Some will take years but others like inflation, FX policy, scarcity can be solved in a couple of months by Dollarization.
      Then Venezuela can focus on the other more difficult long term issues.
      I am sure that if Dollarization is implemented the economic improvement would be really fast and dramatic, that would allow the “MUD” to show the difference and earn the respect and trust of Venezuelans.
      Dollarization is such a low hanging fruit that it would be crazy not to do it.
      Perhaps later in the future VZ can adapt the Peso Latino, not a bad idea as long as the value remains stable.

    • I wouldn’t like this for the same reason I don’t like the euro. For example, while Greece, Spain, Portugal, etc, needed lower interest rates to aid their recovery, the ECB was raising rates for fears of very mild inflation in Germany. Same can (and would) happen in a LatAm currency union: there would be times the CB would take measures that are contrary to what many countries need.

      The euro is a political project. The economics behind it mostly don’t make much sense. Sure, it has benefits, but the sacrifices by the losers have been too large.

      • Again, this was hypothetical proposal. I am using it to get to the root of the arguments, for and against, dollarization.

        To your argument above, one could point out that the monetary policy needs of Delta Amacuro might differ significantly with those of Caracas. But, clearly the advantages of having a common currency within one nation supersede the disadvantages. Countries find other ways to promote growth and spur investment through public works investment and tax policy.

        Overall, it seems as though everyone wants a currency that is BOTH “stable” AND “flexible”. These two concepts appear antithetical.

        • “Everyone wants a currency that is BOTH “stable” AND “flexible”. These two concepts appear antithetical.”
          And indeed they are! And that is at the core of this divide.
          People need to go back to Economics 101 and think deeply about what is Money (Currency) and what is its fundamental purpose.
          This is not difficult. Humans invented Currency so you can quantify the value of Goods and Labor to facilitate trade, savings, investments, etc.
          Similar idea behind the Metric system, as a standard to quantify measurements. CONSISTENCY is its raison d’etre.
          People tend to favor the currency they can rely on to protect their savings, pensions or salaries from failed Government policies, today and in 10, 20 years.
          So Currency Value manipulation should remain off the table as a Macroeconomic tool. It has terrible consequences and is a very crude tool to control things.
          Currency’s Constant Value is one of the main reasons for which Currency exist. It shouldn’t be considered a straight-jacket but a beautiful feature.
          So this take us back to why Venezuela should embrace the US$, at least until the Economy is strong and stable.

  27. The argument for or against dollarization in Venezuela is a pointless academic debate. There is a much simpler and easier solution, which could be implemented tomorrow and solve Venezuela´s currency problems for the next 100 years. Venezuela already has a real life inflation proof convertible currency, and it is not the Bolivar or the Dollar, it is oil. The entire economy of Venezuela and 99% of its exports are denominated in oil. If Venezuela adopted a paper transactional currency denominated in oil, say 100 new Petro-Bolivars per barrel of oil, essentially making the Venezuelan currency an oil depositary certificate. PDVSA would simply set a fixed price of 100 Petro-Bolivars per benchmark barrel of Venezuelan oil, and by law only be allowed to sell its oil production for Petro-Bolivars, The Petro-Bolivar would not only thus be freely convertible, but there would not be much use for the Dollar as an intermediary trade currency or reserve currency for Venezuela. There would be no need to devalue or revalue the Petro-Bolivar, as it would always. by definition, adjust to and reflect world oil prices and hence Venezuela´s underlying fundamental economic conditions, better than any Central Bank monetary technocrat could. If government debt were issued in Petro-Bolivars, the outstanding debt would automatically adjust to the new oil price reality. There would be no need for large FX reserves, as Venezuela´s actual reserves would be equal to 100 years of the world´s largest proven underground oil reserves. The Petro-Bolivar would likely even become a international reserve currency for oil importing countries such as China, Japan of Germany, which would keep Petro-Bolivars as a hedge against oil price volatility. As long as the 100 Petro-Bolivar per barrel exchange rate and convertibility via PDVSA were sufficiently guaranteed, say by incorporating it into the Venezuelan constitution or by international treaty, it would have credibility with both Venezuelans and Venezuela´s trade partners. The Petro-Bolivar would be, in effect, both a national currency and at the same time, an internationally recognized binding mini-contract for the unconditional delivery of 1.59 litres of Venezuelan crude oil on demand. Rather than cursing the ¨Devil´s Excrement¨, Venezuela should embrace oil as the heart, soul and currency of Venezuela´s economy and ultimately the final determinator of Venezuela´s economic destiny.

    • You’re missing an important part: oil output. In your proposal, the price of oil wouldn’t be the only thing that matter. If your currency is backed by oil, the confidence of holders of the currency over its value then would be tied to the capacity of PDVSA to get that oil out of the ground and convert it to cash (PB, or whatever, something that can be converted to cash dollars / euros, etc).

      The exact reasons depend on a detail that’s not clear: Would Venezuela initially create a bunch of PB backed by its oil reserves in the ground? Or would only create PB once that oil is out of the ground? Both options raise some issues.

      If Venezuela simply issues billions on PB backed by the reserves in the ground, then if PDVSA’s outputs drops, the smart move would be to get rid of those PB, and exchange them for hard currency. It’s similar to what’s happening today to PDVSA’s debt: sure, PDVSA’s oil reserves are more than enough to pay for those bonds. But PDVSA is not extracting oil fast enough to convert it to cash to pay the bonds.

      If, on the contrary, PBs are created as oil is extracted, the growth rate of money of PB is tied to the rate of extraction of oil by PDVSA. Let’s say that PDVSA’s outputs drops significantly, due to technical issues. Then you have a serious issue: the growth rate of money drops, because PB are generated as oil is extracted, which would be equal to a monetary tightening. Thus, in a period of economic downturn (since oil output is down), you’re doing exactly the opposite of what you’d need: It’s a recessionary measure during a recession. Bad times.

      It’s an interesting subject, for sure.

      • I take your point, but its not quite as linear as mechanically matching PB emission to oil output. Yes, the Banco Central has to be cognizant as to how much PBs are issued, to retain a balance between destroying confidence in PBs conversion value whilst ensuring the domestic economy has sufficient liquidity. But depending on observed PB velocity, the Banco Central can vary its PB emissions to balance the market. In the case of a oil production shock, nothing prevents the Banco Central from using more traditional Emerging Market counter cyclical policies such as fiscal expansion, borrowing in USD or EUR or issuing long term offshore PB bonds (i.e pre-selling future output from reserves) in response to an unexpected short term fall in oil production. Having the PB as the national currency does not preclude the use of USD, EUR or other currencies domestically as well, here in Uruguay one can save or borrow in Pesos, Indexed Pesos, Dollars or Euros with equal ease depending on one’s need or market view.

        What the Banco Central does lose control of is the ability to set PB interest rates, which will in effect be set by the oil futures market and market arbitrage. This means that domestic credit expansion or contraction will have to be controlled by more direct means such as regulating bank reserve ratios or even credit quotas. The PB would still require intelligent Central Bank management, but as with the gold standard 100 years ago, it has inherent self correcting mechanisms which make the sort of monetary abuse all to common in Latin America very transparent and therefore difficult to get away with.

  28. Just a few of the problems with that idea:

    1. Oil is a particularly volatile commodity (no pun intended). Tying the value of your currency to such a commodity would force your currency value to bounce up and down with it. Simply managing cash for any person or corporation would be nightmare. You would be asking everyone have the same expertise as oil traders, just to be able to manage their businesses.

    2. Buying bonds in “Petro-Bolivars” would be like buying oil futures. Venezuela would have to pay way too much interest on its debt.

    But, I liked the “out of the box” thinking.

    • To answer your points:

      1) USD historical volatility vs currencies such as EUR and GBP has historically been roughly equal to crude oil price volatility, compare oil vix to usd index volatilty, its pretty close historically. Emerging market currencies have been significantly more volatile historically against the USD than crude oil.
      2) The futures price for oil is by definition Libor plus the cost of oil storage, otherwise it would be arbitraged away by the market. The implied oil futures interest rate is significantly below any major emerging market bond spread and very low in togays ZIRP world. Venezuela would see a significant reducion in its historic risk spread if its bonds tracked anywhere near the oil futures spread.

      • Jorge: Valuing and quantifying oil underground is very tricky and difficult , because how much oil underground is worth is dependent on a number of difficult to assesss and constantly changing factors , i.e the type of crude to be found in each reservoir, how much of that oil is recoverable thru proven extraction techniques ( techniques change all the time and vary depending on the type of reservoir) , the cost of extracting the recoverable oil and transforming it into a saleable product (not all oil can be sold straight from its point of extraction without subjecting it to some form of blending and processing which costs can vary ), how much of the saleable oil can you produce in what time frame and what might its market price be at any given time (different kinds of oil bring different revenue streams depending on the economies of its extraction, the market price and the destination and disposition made of it) .

        Once witnessed an exercise in assessing the value of a certain oil reservoir by an international team of experts and what they came up with was a broad ‘window’ of arguable´ values within a sixfold margin of variation ……..none of which came up to what most amateurs might think that oil reservoir would be worth .

        Love the boldness and creativity of the idea but its really not feasible because of the contingent factors specified above….

  29. Pedro Rosas
    This article demonstrates very well that dolarization is not a magic wand.
    But it is far from proving that is worse than the alternative.

    Compare Ecuador to Venezuela, the fact that the Ecuadorians can go to Colombia and buy goods should actually be viewed as a positive.
    Can Venezuelans do the same?

    Yes it kills the local sector but is Venezuelan’s local sector faring any better?

    The greek pensioner went from 1,350 a month before the crisis to 833.
    I bet Venezuelan pensioners are doing much worse.

    Many of the current Venezuela’s woes are because of the exchange controls. With dolarization those controls could not exist. That does not mean that the government cannot get creative and invent other controls. Of course they can but it is harder and the political price is high.

    The fact that the Ecuadorian government has to take unpopular measures to try to get money from the people is proof that dolarization is a good thing. It uncovers that much faster who is mismanaging the economy. Next time, people will demand more accountability from the politicians with government aspirations.

    In the US every state is dollarized (duh!) yet every state is different, and yes when they are fiscally mismanaged, people in that state suffer. But it would be much worse if every state had their own currency and exchange policy.

    Of course dolarization is not a panacea
    and yes it is a straitjacket FOR THE GOVERNMENT!
    Irresponsible governments need straitjackets
    because they will use and abuse every mechanism they can
    to mismanage the monies that they are supposed to administer.

    One less mechanism is a good thing.

  30. I wonder whether we can say that the US govt is an example of fiscal responsibility , some would argue that it isnt because pols in a democracy always want to give people benefits without having to raise taxes to pay for them and the only way of doing that is borrowing like crazy which leads to all kind of imbalances and financial time bombs , The US is helped by having a Federal Reserve which is a powerful autonomous technocratic institution , so institutions do help bring balance to a countrys finance but wherever you have a democracy the temptation will be there for pols to use their influence and power to engage in acts of financial irresponsability because thats the way of getting votes and keeping them selves in power …..!! , maybe they dont print the money (at least the political stablishement dont even if the Federal Reserve sometimes appears to be doing so) but they go for very heavy borrowing , so much borrowing that some people believe a debt is created which threatens the long term financial stability of the country and its currency……..!!

  31. For better of for worse, I believe that the economy of every country (not in my lifetime!) is going to be tied to either the dollar, the pound or the euro. Or a combination of such.

    • I agree. Even with all the difficulties facing the European Union, I think that various political and economic unions will continue to coalesce. Personally, as a long-term objective, I think that a union composed of ALL of the Americas is necessary and, perhaps, inevitable.

  32. In the Post-Chavizta Venezuela one of the first necessary corrections would be to bring up Gasoline, Electricity, Food, etc to realistic and sustainable prices, that would put a huge pressure on the Bolivar Fuerte fueling inflation.
    Another though measure would be to trim all the fat of the inefficient bureaucracy, big layoffs would be necessary. Social unrest and protest is almost guaranteed, until the economy heals back to normalcy.

    Bear in mind that VZ would probably have to deal with a Chavizta Guerrilla, and it becomes clear that we would need the support of the US$, if we want to bring fast stability and trust to our badly hurt Economy.

    We have to be pragmatic about this. I don’t think we can afford the luxury, risk and vanity of our own Currency under this difficult, unstable environment.

    Trust me, Foreign Investor would love the fact that in VZ, you won’t have to deal with yet another pesky proprietary currency like in Argentina, Brazil or Colombia.

  33. So much people taking the “shortcut” that I compelled to say “viveza criolla” is the thing behind all these arguments supporting dolarization: let’s do this that seems simpler than taking responsability over our institutions… sigh.

    It’s almost like wanting to “colearse” but macroeeconomically speaking.

  34. On the other hand, the main takeaway i can get from this article is: eve if dollarization magically solves every single problem we have in the short and mid term, which it doesn’t and is far from doing so, the long term risks are so hughe in comparisson to other solutions, like being serious about fiscal policy and stuff, that is not worth taking.

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