On August 19th, journalist and radio host Marisela Castillo gave economists the heebie-jeebies by tweeting that the government was plotting to lower banks’ reserve requirement to invest in urban agriculture funds. Today, 5 weeks later, president Maduro confirmed it. Marisela is too humble to brag about it, but you have to hand it to her: It was sendo tubazo.

There’s a lot flying under the radar with this absurd announcement, where President Maduro asks the Central Bank to cut the reserve requirement (Encaje legal) by 5 percentage points, from 21,5% to 16,5%.

Firstly, the fact that the executive is bajando linea directly and publicly to the Central Bank. It displays an obscene lack of Central Bank independence that well.. We’ve grown used to it by now. It’s also apparently legal in the context of the recently-renewed Economic Emergency Decree.

Secondly, that the change might unleash another wave of inflation and tip us ever closer to full-blown Zimbabwean hyperinflation. To understand why it’s that serious, we have to ask, con qué se come el Encaje Legal? Here is a brief explanation.

In basic terms, the Encaje Legal or Reserve Requirement Ratio (RRR) is the percentage of customer deposits that banks are legally obliged to maintain at the Central Bank at all times. When this money is held at BCV, it can’t be lent or otherwise used.

Why is this relevant? Well, in a financial system, all money from new bank loans must be deposited somewhere. Part of that new deposit is later re-loaned, and part of it is re-deposited, and part of that deposit is re-loaned, etc, etc—and this process effectively multiplies the supply of money in circulation. Toying with the encaje allows the Central Bank to control the money multiplier. Lowering the ratio frees up money to be lent (mo’ money, mo’ credit), and a 5 percentage point reduction is huge.

Maduro claims the move will free up VEF 500Bn to be directed towards “agricultural development”. Based on my understanding of his words, it seems like an absurd ripoff for the banks: they will be force-fed worthless 3-yr, 1% interest VEF-denominated FONDEN garbage in return for about a fifth of their cash held in BCV.

Los certificados que serán emitidos por el llamado del Fondo de Desarrollo Nacional, entre otros entes públicos, tendrán “un plazo máximo vencimiento de tres años, con una tasa de interés entre 1% y 1,5% pagaderos al vencimiento para que puedan ser adquiridos por la banca a cambio del diferencial de encaje legal, el cual se transformará en un encaje productivo”, explicó Maduro.

So, what can we expect to happen in the economy after this?

  • After the (increased) money multiplier does it’s magic, the freed-up funds are going to increase monetary liquidity (M2) by just under a trillion bolívares (no joke!), or 15%. At the current rate, that’s a little over 2 months of Madurista money-printing. Qué es una raya más pal tigre?
  • As Pedro Rosas argued early this month, the venezuelan financial sector is facing its second-worst recession in history. This measure is just a way to kick them in their teeth while they’re down. The positive side of a lower RRR is neutered because banks are forced to deploy these funds at a ridiculous 1% nominal rate when domestic inflation is north of 500%. This is a horrible deal for banks and it will most certainly worsen their already horrible bottom lines.
  • More worrisome is the change in tone of monetary policy. Perez Abad’s measures consisted of severely restricting liquidity in the economy, partially by keeping the encaje at the 21,5% mark. This led to relative stability in the parallel dollar market at the expense of a sharp contraction in domestic credit. Reducing the encaje is a sign that Maduro could be backtracking on this policy to favor populist monetary expansion.
  • October-November are months typically associated with higher rates of inflation and money growth; people are getting, and rapidly getting rid of, their aguinaldos. Mixing a monetary expansion with this organic driver seems like the recipe for a perfect inflationary storm for Q4 2016.
  • The risks of switching to money bazooka mode: accelerating inflation, depreciation in the parallel rate, worsening fiscal deficits (as inflation this high is effectively cutting real tax revenue)..  Basically another push in the key drivers behind the macro shitstorm the country is currently in.

But hey, some guys see the light at the end of the tunnel! As happened in Zimbabwe and countless other macro-populist ‘experiments’, hyperinflation eventually leads to dollarization and a relative “stability” in prices afterwards. Of course, everybody’s going to be immeasurably poorer at that point than what they are now.

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Russian-Venezuelan. A Santiaguino who left his heart in Caracas, Daniel is currently rehabbing from his addiction to High Beta and is pursuing a masters' degree in economics at Universidad Católica de Chile. Views are his own.


  1. Shhh don’t mention the “D” word or you will summon that guy that will talk us about the importance of competitive depreciation of local currencies.

  2. Poverty via hyperinflation and a free falling economy
    Hunger via Scarcity of goods
    Insecurity via lawlessness
    Disease via scarcity of medicines

    Those are your four horsemen of the apocalypses unleashed by Chavez and urged by Maduro

    If we fight for our freedom then we are senseless hooligans that do not take into consideration the safety of the people, if we wait for “god’s perfect timing and the democratic process” then we die slowly or by one of the four horsemen.

    It a lose lose situation, but we got to decide and live with the consequences.

  3. The multiplier will only one. The excess reserves will go right to the pockets of high level Chavistas and then to foreign banks. None will ne recirculated in VZLA. Farm production will continue to decline. On the plus the money supply increase will be negligible. Maduro saw one more pot of money to steal

    • Hey Ronaldo, I believe in your reasoning but not on the monetary implications. They can certainly devise a scheme to convert these ill-gotten bolos into dollars at an official rate and send them overseas, but the bolos with nonetheless enter the system via customer deposits and the multiplier will do its work.

      • Daniel, that’s true. You are right. Bolivars will stay in Venezuela to be recirculated. The dollars will leave for an off-shore account.

        Chavismo has made thousands of broken promises. I really don’t expect much more than a token help for domestic agriculture.

  4. In the UK there is an independent non partisan public agency called the Office for Budget Responsability manned by recognized experts which task is to tell the public what are the financial consequences of any govt measure , there is something similar in the US and in S. Korea. The idea is that whatever financial measure is taken by the govt people will know from a credible source what it is likely to imply , It also serves to determine whether govt performance meets ordinary standards of accountability and whether it has failed or managed to achieve its goals .

    It ocurrs to me that it would be useful for Venezuela sometime in the future to create one such organism !!

  5. Clearly, the Maduro government has conducted financial stress-testing on the banks, and has decided that they really need to be less capable of withstanding negative economic developments.

  6. Nice catch on news.

    The correct move would be to suddenly announce that private companies can purchase their parts and materials directly from abroad. These forced agricultural loans won’t go to productive use, as they might possibly if used for imported seeds, fertilizers, etc.. There’s the “dilutive socialist effect”

    The other side of it is that good ol’ socialist boy President Jimmy Carter here in the U.S. encouraged farmers to take out loans, in his big govern-m-m-ment program. Net result was to bankrupt many farmers and force them to sell their land when they found the year’s crops wouldn’t cover the amounts due. Then, not to be left out of the loan bubble fun, the moron banks created a credit bubble in the housing market to drive up the value of their portfolios of derivatives, bankrupting many homeowners when the bubble burst, but in karmic justice, also bankrupting their own sorry asses.

    Pendejos sin fronteras.

    The taxpayers got stuck bailing out banks. I wonder who will get stuck bailing out chavistas.

    • That’s a fair point you make. A former contributor once argued that the opposition should let chavismo suffer the fallout from its mess by refraining to take power until 2019. I think the current huevo-sin-sal stance of the MUD is consistent with that view.

  7. “After the (increased) money multiplier does it’s magic, the freed-up funds are going to increase monetary liquidity (M2) by just under a trillion bolívares (no joke!), or 15%”

    How did you calculate that 15%?.
    I did my *noob math* and got 30%, I’m a real noob and I’m probably very wrong, but I want to know.

    • I got DAUZ’s number too. The (M2/Monetary base) money multiplier = (1 + e) / (e + RRR) where e is the proportion of holdings people have in cash vs bank deposits, and RRR is the reserve requirement ratio. Before the change, the multiplier (empirically) averaged at like 2.57 for the last few weeks with the RRR of 21.5%. That implies that e was hovering around 30% (really frickin high!).

      If you then assume the same e of around 30%, enter the new RRR of 16,5%, it gives you a new multiplier of like 2.85. Finally, if you multiply the most recent monetary base by the new multiplier, 2.85, you get that liquidity will increase by about a trillion bolivares, which is roughly 15% of the most recent liquidity figure (data as of 9/16). Scary stuff…


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