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Matthew Smith

Matthew Smith

Matthew Smith is Oilprice.com's Latin-America correspondent. Matthew is a veteran investor and investment management professional. He obtained a Master of Law degree and is currently located…

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Venezuela’s Crisis: A Cautionary Tale For Oil Nations


The story of Venezuela’s rise to wealth and its now near collapse is a cautionary tale for countries rich in natural resources. The 1914 discovery of crude oil in the Maracaibo Basin sent the then impoverished agricultural backwater of Venezuela on a tumultuous journey, which at its peak saw the country become one of the world’s largest oil exporters, Latin America’s richest country and then ultimately a failed state. While commentators exclusively blame Hugo Chavez’s socialist Bolivarian revolution and Nicolás Maduro’s malfeasance for the destruction of South America’s wealthiest and most vibrant economy, the reality is far more complex. Arguably, it is Venezuela’s tremendous oil wealth which is truly responsible. The oil curse is a complex economic dysfunction that triggers considerable political, economic and societal fallout that can destroy nations. It emerges when a country, like Venezuela, becomes overly dependent on crude oil to create wealth and drive economic growth. It is this curse which precipitated the massive humanitarian, economic and environmental disaster now being played out. The post-World War Two economic boom spurred on an insatiable global demand for fossil fuels which caused the Latin American country’s oil exports to soar, fueling further investment in exploration and production. By 1950, Venezuela was pumping on average around 1.5 million barrels of crude oil daily generating immense wealth and external income for the petroleum rich country. During the early 1950s, at a time when many countries were still recovering from the devastation of the Second World War, Venezuela emerged as the world’s fourth richest country by GDP per capita. By the end of that decade the Latin American country had democratized, and its oil output had almost doubled with it pumping on average just under 3 million barrels daily. Petroleum production was still growing, ultimately peaking at 3.8 million barrels daily during 1970. The massive wealth and export income generated by crude oil drove a massive economic expansion, funded government nationwide social programs focused on health and education and sparked a colossal building boom. By the mid-1970s, when many Latin American nations were caught in paroxysms of violence and in the thrall of military democracies, Venezuela was christened as the region’s most stable democracy.  Between 1950 and 1979, Venezuela’s GDP had grown more than fivefold finishing the decade at over $287 billion. This saw the South American country rapidly develop and urbanize, a hallmark of economic and social development. The capital, Caracas, became a thriving business and cultural hub where oil fueled the architectural development of a city once described as the jewel of South America. Caracas’ glamourous tree lined streets were filled with architecturally imposing apartment buildings, museums, theatres and galleries. 

Related: Goldman Turns Bullish On Oil: Sees $65 Brent In 2021

The formation of the OPEC oil cartel in September 1960, a Venezuelan government initiative, allowed major petroleum producing nations to control production and the price of crude oil. This led to the 1970s oil shocks which caused prices to soar. That triggered a tremendous economic and revenue windfall for Venezuela. The central government in Caracas, in a move aimed at maximizing oil rents, nationalized Venezuela’s oil industry founding the state oil company PDVSA in 1976. The Latin American country’s newly nationalized oil industry became an important tool for maximizing oil revenues and driver of economic growth. It was the growing dependence on crude oil which was responsible for the petroleum-rich country’s rapid development from the end of World War Two until the late-1970s and the source of its spectacular implosion. By early 1980, after the 1970s oil shocks caused world energy prices to soar, a global oil supply glut emerged precipitating a sharp price crash. This profoundly impacted Venezuela’s petroleum dependent economy, causing GDP growth and government revenues to collapse almost overnight causing budget deficits to soar. The impact of sharply weaker oil prices on Venezuela’s petroleum economy was amplified by the 1980 global recession which lasted three years. By 1989, Venezuela’s economy had contracted considerably with annual GDP a worrying 10% lower than a decade earlier. 

The national government attempted to arrest the acute economic decline through increased fiscal spending funded by an ever-growing mountain of debt. Caracas was anticipating that an eventual rebound in oil prices would provide a fiscal windfall that would allow the government to reduce its sovereign debt to manageable levels, but the long-awaited oil price rally never occurred. By 1989 debt had ballooned out to a crippling $33 billion, the fourth largest in the developing world, with roughly two-thirds owed to private banks. President Carlos Andres Perez, who commenced his second term in February 1989, implemented broad austerity measures and neoliberal economic reforms to return Venezuela’s economic base. This included a policy of broadening the economic base and reducing the economy’s over-dependence on petroleum, which was responsible for Venezuela’s economic crisis. The magnitude of the economic crisis was aggravated by soaring inflation. During the 1970s, the peak of Venezuela’s golden age, inflation averaged 6.6% annually but spiraled out of control during the 1980s. By 1989 it peaked at a whopping 81% and averaged 21.4% annually over the decade. This magnified the hardships faced by everyday Venezuelans, particularly the working poor. Related: Will Biden Seal The Fate Of The U.S. Shale Patch?

Ultimately, the situation became so dire that Perez’s administration was forced to turn to the IMF for assistance, receiving a $4.6 billion loan in 1989. In accordance with IMF requirements Caracas implemented austerity measures and neoliberal economic reforms, which while returning the economy to growth saw wages remain low and unemployment to stay high. Corruption, poverty and hardship kept growing in what had been one of the world’s wealthiest nations. As Caracas slashed spending, notably for social programs including health and education, and axed fuel subsidies popular discontent grew. Rapidly spreading civil unrest coalesced in the eruption of the 1989 Caracazo where violent anti-government protests swept across Caracas and Venezuela’s major cities resulting in up to 1,000 deaths. As economic, social and political fissures widened radical opposition to the existing two-party political system, which was perceived to be corrupt, inequitable and out of touch, soared. By the mid-1990s, after staging a short-lived recovery earlier in the decade, Venezuela’s economy had returned to crisis. Those conditions were the ideal incubator for radical political ideas and movements, notably in Venezuela’s military, which culminated in the 1992 coup attempt against the presidency of Carlos Perez by a young military officer Hugo Chavez. While that was unsuccessful the succession of events eventually caused the political system to fracture, culminating in Chavez’s 1998 electoral victory and the start of his socialist Bolivarian revolution. Chavez despite his popular socialist leanings followed in the footsteps of his predecessors, aggressively bolstering petroleum production to fund lavish social programs. By 2015, only two years after Chavez’s death, crude oil comprised 96% of Venezuela’s exports, eventually reaching 99% by 2019, and was responsible for generating over 60% of government revenues. That left the oil rich Latin American country overly exposed to the late-2014 oil price crash which eventually saw the international Brent benchmark plunge below $10 per barrel in late-April 2020 as the COVID-19 pandemic hit, while Moscow and Riyadh traded shots over launching a new oil price war.

It was these developments, coupled with Venezuela’s over-reliance on crude oil to drive economic growth and generate fiscal revenues, which laid the foundation for the country’s collapse and the disastrous humanitarian crisis now unfolding. The severity of this is underscored by the disintegration of Venezuela’s once celebrated oil industry and the failure of the state to provide basic social goods including law and order which saw Caracas named the world’s murder capital in 2016 and 2017. The extreme hardships faced by many Venezuelans has seen almost five million flee the country since 2015, with almost half estimated to have sought refuge in Colombia. Venezuela’s calamitous economic collapse, the worst ever witnessed during peacetime, and near failure of the state serves as a cautionary tale for petroleum rich states and the dangers of falling into the extractive trap where reliance upon oil becomes the primary economic engine.

By Matthew Smith for Oilprice.com

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  • Mamdouh Salameh on December 17 2020 said:
    Venezuela’s crisis is indeed a cautionary note for oil nations particularly the Arab oil producers in the Gulf.

    The underlying cause is virtually lack of diversification of their economies so they become totally dependent on the oil revenue. When oil prices surge, they start spending as if there is no tomorrow and when prices decline, they cut spending and embark on borrowing to plug budget deficits.

    Oil was discovered in Venezuela in 1914 and in the Arab Gulf between the 1930s and the 1940s. And yet, their economies are still overwhelmingly dependent on the oil revenues.

    Furthermore, the oil riches have created a Nouveau Riche class and generated overwhelming greed and corruption that resulted in the squandering of the oil revenues. Worse still, the oil riches invited foreign power interference in their affairs and plots to steal their wealth.

    Examples abound. First example is the invasion of Iraq in 2003. Another more recent example is President Trump blackmailing Saudi Arabia and the Gulf States and calling for them to pay protection money mafia-like in order to protect them and their oil from an imaginary threat from Iran when the real threat is actually the United States itself. It has been benefiting from Arab oil riches through trillions of dollars in weaponry over the years and through having them finance America’s war against the Soviet invasion of Afghanistan and the first Gulf war and the invasion of Iraq.

    The late Canadian Prime Minister Pierre Trudeau was once quoted saying about the United States that “living next to you is in some ways like sleeping with an elephant. No matter how friendly and even-tempered is the beast, if I can call it that, one is affected by every twitch and grunt”. For Venezuela, sitting on the world’s largest proven oil reserves next to the world’s largest consumer of oil must be a cause of worry. No matter how Venezuela’s neighbour is good and neighbourly, it must still cast some envious eyes on such unbelievably huge oil wealth.

    Is it, therefore, surprising that John Bolton, President Trump’s former National Security Advisor who was the real force behind US sanctions and the attempted illegal grab of power in Venezuela openly said on national TV that “the sanctions will make a big difference to the United States economically if we could have American oil companies really invest in and produce the oil capabilities in Venezuela. It would be good for the people of Venezuela. It would be good for the people of the United States. We both have a lot at stake here making this come out the right way. A decimated oil industry in the nation with the largest proven oil reserves in the world would appear to serve some alternative interests beyond democracy and human rights.”

    Dr Mamdouh G Salameh
    International Oil Economist
    Visiting Professor of Energy Economics at ESCP Europe Business School, London
  • George Doolittle on December 17 2020 said:
    Venezuela never really industrialized as opposed to Great Britain, France, Germany, the United States even Belgium.

    China obviously is industrializing on a massive scale going on many years if not a decade now. Japan also "rapidly industrialized" during the 1930s. Point being having any type of purely resource based economy points to many dangers and not just oil. Oddly enough one could argue Russia has never industrialized. One major cause of societal disasters in such an economic context is the loss of electricity or "the failure of the electrical grid" which indeed has been the case in Venezuela and I think is the most obvious cause of their massive economic and now civil convulsions at the moment. We'll see how the USA proceeds through this "vaccination situation" as indeed the lights need to stay on...but in order for that to happen not just the cost but the actual price of electricity paid by consumers must fall. By way of example look at California which much like Venezuela is suffering through if not indeed made to suffer through a crisis in electrical generation. Certainly bears watching anyways. And yes indeed California was once the largest oil producing State in the United States.

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