Venezuela launches forex system, new bolivar rate

Venezuela launched a tightly regulated currency market where the bolivar traded at 5.3 per U.S. dollar on Wednesday in the latest effort by President Hugo Chavez's socialist government to steady the economy.

Authorities in South America's top oil exporter want to halt the depreciation of the bolivar and stem capital flight as they battle recession and high inflation ahead of legislative elections in September.

Since taking office 11 years ago, Chavez has created a multilayered system of currency controls and greatly increased the government's role in the economy with widespread nationalizations.

Critics say the latest level of regulation will slow the flow of dollars needed for the imports that make up most of the OPEC nation's consumer items, fueling already sky-high inflation and possibly producing shortages.

The market replaces an unregulated, free-floating "parallel" exchange where the local currency VEF= had tumbled in value to more than 8.0 against the dollar this year. Central Bank chief Nelson Merentes said almost all trades on Wednesday were close to 5.3 per dollar in a band with a lower limit of 4.3.

"A little bit more than 90 percent (of trades) pushed the upper limit," Merentes told local radio. He said $17 million had been offered to the market on Wednesday.

In a statement, the central bank said just $5 million was actually traded on the market, which functions via operations with Venezuelan Global and PDVSA bonds.

The government provides some dollars at fixed rates of 4.3 and 2.6, but not enough to meet demand. Many importers previously turned to the parallel market but authorities shut it down on May 18, accusing speculators of undermining the bolivar.

Lower oil prices and production have created a tight supply of dollars, while 31 percent annual inflation and economic turmoil boost demand, piling downward pressure on the bolivar.

Eurasia Group analyst Patrick Esteruelas said the new forex market was likely to be beset by problems from the start due to the government's apparent unwillingness and likely inability to supply enough dollars to meet pent-up demand.

"The new system is therefore likely to be a poor substitute for the old parallel market and will result in growing foreign exchange and price distortions that will further undermine growth," Esteruelas wrote in a research note on Wednesday.

The central bank had promised to publish the price band every day on its website but on Wednesday only released a list of reference prices for internationally traded Venezuelan bonds used to establish a daily price band for the bolivar.

Sufficient Dollar Supply?

The fiscal situation is getting stormier ahead of the ballot in September, which is being seen as an important test of Chavez's support ahead of a presidential election in 2012.

Bucking the global recovery trend, the economy shrank 5.8 percent in the first quarter of this year despite higher crude prices, and analysts expect Venezuela to end up being the only country in the region with negative growth overall in 2010.

Uncertainty about the currency had also hit bond prices, with yields for the benchmark Global 2027 bond VENGLB27=RR rising to more than 15 percent from 11.5 percent in April.

Boris Segura of RBS Securities said the negative impact on bond prices was likely to continue. Low prices for Venezuelan paper were an attractive buying opportunity of long basis trades, he said.

"The principal rationale for long exposure is that Venezuela remains solvent near term, which should prove supportive once prices trade at deeper distressed levels," Segura said in a research note, while also warning of increased supply risk if the government issues large quantities of bonds to feed the new market.

Bond prices strengthened 1.75 to 64.875 on Wednesday.

Critics say Chavez's aggressive stance toward businesses and inflationary policies have driven up dollar demand, weakening the bolivar and fueling more price rises.

His supporters and the government disagree and say much of the demand for dollars is speculative and that the new system will weed out traders just looking to make quick profits.

The authorities have urged private banks to back the new system by selling dollar-denominated bonds into the market.

Experts said a probable weakness would be that banks would have little incentive to do so at low rates.

[Source: By Ana Isabel Martinez, Reuters, Caracas, 09Jun10]

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