Venezuela: Hyperinflation accelerating again

Monthly inflation rate is accelerating again. According to the National Assembly of Venezuela, inflation reached 191.6% during January, which is higher than observed in December (141%) and January 2018 (84.2%). Without any change in political and economic situation, we have updated our forecast of inflation rate between 22 and 34 million % in 2019.
Venezuela: Inflation Forecast

What’s Happening in Venezuela?: A Quick Pragmatic Guide

Venezuelan opposition coalition has surprised Maduro and the world with a new and very well coordinated political strategy that has shaken Maduro’s regime. Here is a very short pragmatic guide on what is happening:

  1. Transition is a Constitutional and lawful procedure designed by the National Assembly. Last year, the opposition to Maduro and Maduro were negotiating in Dominican Republic with the support of different Foreign Affairs Ministers including Mexico, Nicaragua, Paraguay, Chile, among others. The opposition to Maduro claimed free elections and that was the center of the negotiation. But Maduro refused to sign the final version of the negotiation and decided to call for elections unilaterally, disabled candidates and outlawed political parties. As a result, the opposition did not participate and the International Community (including Canada, USA, EU, and members of the Grupo de Lima) announced they did not recognize Maduro as legitimate President as of January 10th of 2019, which was the day of the inauguration of the new presidential term. The opposition-controlled National Assembly declared that Maduro is usurping power and that the National Assembly has to assume the responsibilities of the executive power while the usurpation ends and new free elections are called. 
  2. Venezuelans need international support. Despite the political strategy has been designed by members of the opposition coalition, they have claimed international support including Grupo de Lima, USA and the EU, because Maduro has control of the military and oil industry, which produces 80% of the Venezuela income. International pressures are designed to cut Maduro’s funds and military loyalty.
  3. Opposition key steps to coming to power. Coming to power is not as easy as Juan Guaidó declares himself as President of Venezuela. As explained above, his interim presidency is backed by a Constitutional strategy and the National Assembly (democratically elected), but there have been a couple of key steps: 1) Guaidó government is taking control of the foreign assets of the Venezuelan state, including USA based oil company CITGO and the payments from oil exports to the United States. 2) «Pay to play»: offering amnesty to militaries and officials that contribute to restore democracy. In addition, Guaidó has been appointing representatives of his government to the USA, Grupo de Lima and other countries in Latin America and Canada.
  4. What are the odds that Maduro will remain in power? Despite having the control of the high military command, it is not clear that Maduro could remain in power without international recognition, but mostly without control of the flow of revenue. The reaction of Maduro is unpredictable. He can turns violent or he can negotiate his exit. IIn prediction markets (PredictIt) the odds that Maduro will remain in power were 80% three weeks ago and now are below 35%.

If you are interested in what is happening in Venezuela, I can provide you a very in-depth tailored research on political and economic outlook, economic forecast and business opportunities in Venezuela.

The risks that Puerto Rico recovery is facing

Puerto Rico is not only recovering from Hurricane Maria, but from a long decade of stagnation. With the support of the FOMB the governor of Puerto Rico is carrying a fiscal plan and a set of structural reforms with goal to return to an accelerated growth path. This goal is achievable if PR is able to diversify its economy in the mid – long run.

In the short run, however, PR is facing some risks. The most important is the slowdown of the U.S. economy. By looking at the time series it seems that PR GDP growth has a strong dependency on the US GDP growth.

This figure shows that between 1980 and 2000 the GDP growth of Puerto Rico were very tied to the US GDP growth.

Puerto Rico: GDP vs USA GDP

In this sense, we can see an apparent positive relationship between bot economies.

Puerto Rico GDP vs USA GDP

There are two factors that may accelerate the slowdown of the U.S. economy. The first one is the government shutdown. The second one is an increase in the Fed Funds Rate. If the US is able to keep its GDP growth path the Fed may try to increase the FFR in the second or third quarter.

Another risk that PR is facing is a probable reduction of the federal funds is receiving. According to some news media, President Trump wants to end federal relief for Puerto Rico.

In any case, if Puerto Rico is not able to show positive results in the short run could continue to experience a massive exodus that will keep shrinking the workforce and the chances of recovery in the medium and long term.




Forecasting Venezuela Hyperinflation

Forecasting economic variables, in general, is always a complicated exercise. Since we are not able to predict the future behavior of policymakers, the best we can do is to forecast based on the past and current information available.
Forecasting hyperinflation is even more complicated, since the variations are very sensitive. In the following Figure can be seen the forecast for Venezuela monthly inflation between December 2018 and December 2019. I use a very conventional but powerful autoregressive model with 1, 3 and 6 lags. The AR(1) forecast for December 2018 is 147%, while the AR(3) and (6) are 174% and 186%.
Since the goal of forecasting is to minimize the error respect to the actual value, the AR(1) was the best model in the case of November 2018. However, the ability to predict of these models is  more effective 1 or 2 periods ahead but less effective when the period ahead is large.
Despite of this lack of ability to predict, with the AR(1) we can expect an inflation of 1.7 million % in 2018 and 5.2 million % in 2019, while the AR(3) and (6) forecast 1,9 million% and 2,0 million % in 2018 and 10.7 million % and 10.8 million % in 2019.
In this sense, based on the information available, we can forecast an inflation  around 1.9 million % in 2018 and 10.7 million % in 2019.
Unless there is an effective change of the monetary and fiscal policy and, in general, of the economic policy and political expectations, Venezuelan economy will remain under hyperinflation pressures.
Venezuela: Inflation Forecast

On Bubbles and Fundamentals: The Case of Tulipmania and Bitcoin

There is an extensive literature on bubbles, but in this article I will rely on two opposite point of views:

  • Kindleberger, Charles P., and Robert Z. Aliber. Manias, panics and crashes: a history of financial crises. Palgrave Macmillan, 2011.
  • Garber, P. (1990). Famous First Bubbles. The Journal of Economic Perspectives, 4(2), 35-54.

In one hand, Kindleberger and Aliber (KA), argue that bubbles are a deviation of rationality. On the other hand, Garber argues that, in fact, there are not bubbles, but asset-prices behaved according the market fundamentals.

According to Garber, the market fundamental or explanations are the perception of an increased probability of large returns induced by 1) a convincing new economic theory, 2) a fraud launched by insiders acting strategically to trick investors or 3) by uniformed market participants correctly inferring changes in the distribution of dividends by observing price movements generated by trading of informed insiders.

KA comment that manias are associated with general irrationality. In this sense the explain that: 1) individuals change their view at the same time and behave as a ‘herd’; 2) individuals change their view in different stages, staring rationally and then losing touch with reality; 3) rationality differs among different groups and that an increasing number of individuals succumb to the hysteria as asset prices increase; 4) the so-called “fallacy of composition”; 5) a failure of a market with rational expectations and 6) because individuals choose the wrong model.

Although it seems that Garber’s arguments are opposite to the arguments of KA, the explanations and assumption have some similarities. Consider the tulipmania as an example. Here we see that some speculators buying the bulbs in advance with no specimen evidence. It could be the case that there were insiders tricking investors (fraud) or uniformed individuals trying to gain money by observing price movements.

The KA argument that speculations occur in two stages also fits very well in the case of the tulipmania: a sober stage and a capital gain stage, with two groups: the insiders (that destabilize the prices up) and the outsiders that buy high to the insiders.

In any case, I consider that it is rational to try to gain money in any market when the prices are increasing, this is: I consider that “herd” behavior is rational despite the information limitations or better say: it is a rational behavior due to the bounded information that the outsiders have. If some informed traders are making money, other uninformed individuals may think they can also make money, which is very rational.  Also it is rational to sell the assets when the prices are high to get high returns.

In this sense, what KA call a deviation from rationality is, in fact, a reasonable explanation of why speculative events occur.

The case of Bitcoin and Blockhain

The Bitcoin experienced a big increase in its price between August 2017 and February 2018, but now its price is going down, although it is still around the price of October 2017. The Bitcoin has been offered in the market as a currency. Those who offer it say that one advantage of it is that the supply is limited and decentralized, as opposed to central bank fiat money. To expect a new increase in the price, we must expect an increase in the de demand. Because an algorithm fixes the supply, an important increase in the demand will push its price up again.

The question is: why people will want to buy Bitcoin? If Bitcoin is a currency, it must have three functions of money: 1) medium of exchange (must be accepted as payment of a good, service, tax, debt, etc.), 2) Unit of account (or unit of measure) and 3) store of value: this means that people can hold the currency because it will keep its value (or even it will increase its value). This does not happen under inflationary pressure.

Bitcoin, as a medium of exchange is very restricted, not only because its supply is fixed, but also because it is a very complicated process that most people don’t understand and, therefore, don’t trust. There is little to argue in favor of Bitcoin as a unit of account. And, finally, the function of a store of value will depend on its price but its volatility may jeopardize this characteristic. One can also argue that, because of the profit opportunities, new competitors have been appearing in the crypto currency market.

The following figure shows the interest in the last 5 years on U.S. Dollar, Euro, and Bitcoin.

But what if Bitcoin is just an electronic payment system? The following Figure compares the interest of the people on Blockchain and Venmo in the U.S.

While Venmo and other digital payment systems have expanded their supply, Blockchain remains as a very complicated sophisticated technology.

I don’t know if the price of the Bitcoin will increase again, but because of its characteristics, there is still the possibility of manipulation of the market. The informed part may try to boost its price again to gain more profits at the expense of the uninformed part. However, I don’t see any convincing argument to see Bitcoin as a currency but as a digital payment system.

What do you think?



Venezuela Monthly Inflation

Annual inflation will be around 2.0 million % in 2018. With such acceleration of prices, inflation rate in 2019 could reach 12.8 million %.  I don’t see any change in fiscal and monetary policy that could lead to a stop in hyperinflation expectations.

Venezuela: Monthly Inflation Forecast

Dashboard: U.S. Economy probability of recession

What is the U.S. Economy probability of recession? Currently = zero.

In this dashboard I show three different ways to measure it:

1) Yield curve: we can see that the 10-years-3-month spread has been a good predictor in advance. However we must be cautious of false alarms.

2) Smoothed probabilities (orange line): this indicator developed by Chauvet and Piger (2008) based on the four coincident variables: industrial production, non-farm payroll employment, manufacture and trade sales, and real personal income excluding transfers.

3) Google searchers: I used a combination of several Google searches including: jobs, unemployment welfare, bankruptcy, real estate listing, industrial machinery, coupons, apparel among other. The methodology uses principal components as independent variables.