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Monday, December 18, 2006

Venezuela and The Euro

Funny things coincidences, they really are. I just went over to Brad Setser's blog to check a quote for my last post, and I noticed he had a new post on Venezuala's reserves, which was strange, since I had just been looking at a Bloomberg piece on the same topic. They do however seem to be taking slightly different angles on this.

Brad, for example, heads his piece:

"Isn't the surprise here that Venezuela still has 80% of its reserves in dollars?"

whilst the emphasis in the Bloomberg article is really that the US dollar is increasingly at risk by moves like those coming from Chavez.

Venezuelan leader Hugo Chavez is directing a growing share of the country's oil profits into euros as the dollar and crude prices fall.

The dollar, down 9.4 percent against the euro this year, may face more pressure in 2007 because Venezuela and oil producers from the United Arab Emirates to Indonesia plan to funnel more money into the single European currency.

Now Brad has actually been fairly skeptical all along about just how much central banks will actually diversify out of the dollar, and he is right so to be. At the end of the day business is business, and capital losses can be sustained if you leap the wrong way (or, fail to leap that is) as Brad doesn't tire of reminding us in the Chinese case.

But if, as Claus Vistesen points out, in the longer term - as we move away from Bretton Woods II - both the dollar and the euro (and for that matter the Yen) are likely to trend down, then the central banker's reserves problem is hardly a simple one. I wonder if Claus will soon have a post reminding us just what sort of capital losses the Banco Central de Venezuela might get into if Chavez's anti-US ardour leads them to go too heavy on Euros? And as he tells us in his most recent post, the Economist end of the dollar hegemony story is now very rapidly coming to look like yesterday's news. As he would probably tell us, it's the interest rate differential silly!

And now for a healthy extract from that Bloomberg article:

``The U.S. dollar has suffered a long process of deterioration,'' Domingo Maza Zavala, one of seven board members at the central bank of Venezuela, said in a Dec. 14 interview. ``The diversification strategy started this year.''

Banco Central de Venezuela has slashed the percentage of its $35.9 billion worth of reserves invested in dollars and gold to 80 percent from 95 percent a year ago, said Maza Zavala. The country, the world's fifth-largest oil supplier, has boosted its euro holdings to 15 percent, from less than 5 percent in the same period.

The dollar has slumped against the European currency in 2006 as growth in the euro region outpaced the U.S. for the first time in five years. It rebounded 0.7 percent last week to finish at $1.308 against the euro. The U.S. currency is little changed versus the yen this year, closing on Dec. 15 at 118.17 yen.

Bank Indonesia is boosting euro holdings, said Senior Deputy Governor Miranda S Goeltom in a Dec. 13 interview in Jakarta. Indonesia has $39.9 billion in reserves. Sultan Bin Nasser al- Suwaidi, the governor of the Central Bank of the UAE, last month said he was considering when to shift as much as 8 percent of the nation's $24.9 billion in reserves into euros.

The central banks are changing policy ``because the oil price has come down a long way and the U.S. dollar has been declining,'' said Michael Derks, chief markets strategist at Arch Financial Products LLP, a London-based hedge fund. ``The euro stands to benefit.''

The Organization of Petroleum Exporting Countries, which produces 40 percent of the world's crude oil, said at a Dec. 14 meeting in Abuja, Nigeria, that it would cut output by 500,000 barrels a day to boost prices. Crude gained 92 cents on Dec. 15 to $63.43, the highest close since Dec. 1. Prices have fallen from a high of $78.40 in mid-July.

Crude is priced in dollars and the U.S. is the biggest consumer, importing around $400 million worth of the fuel a day in 2005, according to data from BP Plc, Europe's second-biggest oil company.

The share of foreign-exchange deposits held in dollars by OPEC members and Russia, the largest non-OPEC oil exporter, fell to a two-year low of 65 percent during the second quarter, from 67 percent during the previous three months, Bank of International Settlements figures released last week show.

Venezuela may also be motivated by animosity toward the U.S., said Rick Arney, chief currency strategist in San Francisco at Barclays Global Investors, which manages $1.7 trillion in assets.

``There is a political overlay to all of this,'' said Arney. ``Buying the dollar is not politically popular for some of these folks.''

Chavez, re-elected as President for six years on Dec. 3, told the UN General Assembly on Sept. 20 that the U.S. is ``the greatest threat'' to the planet, and has repeatedly described U.S. President George W. Bush as ``the devil.'' He also says Bush's administration is trying to have him killed.

Chavez called on OPEC to sell oil denominated in euros rather than dollars at a meeting of the group in Caracas on June 1, supporting a proposal made by Iran.

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