Venezuela’s economics lesson for Europe

Venezuelans line up to buy food in Caracas
Jan. 23, 2016: Venezuelans queue up to purchase food at a ship in Caracas (source: dpa)

Kimberly Clark, a United States multinational that produces paper-based consumer and hygiene products, including tissues and disposable diapers, closed its plant in Venezuela due to raw materials shortages. The government responded by seizing the factory and claims that production has resumed.

This is a typical story in today’s Venezuela. The governments of Presidents Hugo Chavez (2002-2013) and Nicolas Maduro ruined a once flourishing economy with their corrupt policies of socialist redistribution. The method worked as long as it could be financed by oil exports, an abundant source of income not derived from any value added in the country.

Overregulation, misguided incentives, extortionate taxes and nationalization of companies – all hallmarks of socialism at work – killed off Venezuelan business.

Now misery prevails and the country is experiencing shortages of essential goods, including medicines. The former pearl of Latin America and holder of the world’s largest proven oil reserves has become a failed state.

This is the inevitable result when a resource-rich country chooses the road of corruption and redistribution. Mineral wealth generates abundant cash without entrepreneurial achievements. The unsustainability of this situation – what economists call the resource curse – becomes apparent once oil prices decline below a certain level.

Socialism at work killed off Venezuelan business

Europe should take a close look at Venezuela. The continent is still doing relatively well, but the first faint parallels with the Chavez-Maduro system can already be seen.

Excessive government spending has ruined public finances in many countries, spurring the very aggressive tax policies that have now become the norm. Tax codes have become staggeringly complicated, making it hard to formulate business plans or calculate legal risks. Inefficient regulations limit innovation and business start-ups, which results in a decrease in capital investment.

Mouse-click money

Fortunately, Europe does not enjoy the free ride that Venezuela got from oil income. This helped discipline policymakers in the past.

But thanks to “innovation” by central bankers, Europe has manufactured easy money in a different way. Quantitative easing now creates 80 billion euros a month with a mouse click. This allows governments to put off necessary reforms. The result is asset bubbles and misallocation of capital.

Is Venezuela the destination to which Europe’s increasingly populist economic and fiscal policies are leading? We are still far from the situation faced by Kimberly Clark. Yet factories are closing due to Europe’s uncompetitive cost structures and rigid labor markets.

There are also examples of governments – France comes to mind – that have threatened to seize production facilities from companies that try to regain competitiveness by restructuring.

Before going down that route, European economists and political leaders should consider the sad legacy of Chavismo.

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