The effects of adjustment programs and the increase of fossil fuel prices in the domestic market: the case of Venezuela in 1989

Venezuela is one of the countries with high levels of subsidies to the domestic energy consumption. Studies reveal that these subsidies amounted to 15 billion dollars in 2010 and threaten the strength of the energy sector (Villarroel (2012)). Energy prices have indeed been frozen since the 90s (more specifically since 1996 in the case of fossil fuels, and since 1999 in the case of electricity). One of the main reasons why there is resistance in the government and in the society to adjustments in the energy prices in general (and fossil fuels in particular) is the collective memory of the social upheaval during 1989 known as the "Caracazo" attributed to the increase in the prices of fossil fuels by 100%. However, the reality was more complex. The social explosion was not a simple consequence of the increase in the energy prices. In fact the 1989 comprehensive macroeconomic adjustment program played a significant role in the social unrest. The 1989 macroeconomic adjustment program consisted of a series of measures that included not only the adjustment of fuel prices, but also a devaluation of the exchange rate by 100%, an increase of more than 100 % in the interest rates for loans as a result of the liberalization of the financial markets, also accompanied by trade liberalization which resulted in a reduction of tariffs and the elimination of import restrictions. In order to shed some light on the probable implications of energy price adjustments in the future, it is important to untangle what happened in 1989 and understand the impacts of the various policy measures taken within the structural adjustment program. This might help to demystify the issue about the relationship between the adjustment in fuel prices and social unrest. In this exploratory research we develop a real-financial SAM for 1988, one year prior to the implementation of the adjustment program in 1989. Additionally the paper presents a real-financial CGE model of the Venezuelan economy to assess the macroeconomic impacts of the 1989 adjustment program (increase in gasoline prices, devaluation of the exchange rate, increase in loan interest rates and tariff reduction). The paper highlights the recessionary bias of the measures taken and their social cost. Moreover, comparing the impact of adjustments to the fuel prices with the impact of the rest of the measures taken we conclude that the burden of the adjustment to fuel prices in the social revolt of 1989 is less than which is usually assumed in the political debate. Despite these results, it should be noted that the model tends to underestimate the inflationary impact of all the measures.