Cablegate: Brv Spending Growing by Leaps and Bounds Secret

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FM AMEMBASSY CARACAS
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INFO RUEHBO/AMEMBASSY BOGOTA 6985
RUEHBU/AMEMBASSY BUENOS AIRES 1453
RUEHLP/AMEMBASSY LA PAZ SEP LIMA 0577
RUEHQT/AMEMBASSY QUITO 2417
RUEHSG/AMEMBASSY SANTIAGO 3759
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UNCLAS CARACAS 002708

SIPDIS

SIPDIS

TREASURY FOR KLINGENSMITH AND NGRANT
COMMERCE FOR 4431/MAC/WH/MCAMERON
NSC FOR DTOMLINSON
HQ SOUTHCOM ALSO FOR POLAD

E.O. 12958: N/A
TAGS: EFIN PGOV ECON VE
SUBJECT: BRV SPENDING GROWING BY LEAPS AND BOUNDS SECRET
SECRET SECRET

SIPDIS

REF: A. 05 CARACAS 03643
B. 05 CARACAS 03172
C. CARACAS 00943
D. CARACAS 01067
E. CARACAS 02623

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SUMMARY
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1. (U) From 1999 to 2006, BRV central government
expenditures in dollar terms increased 95 percent and BRV
central government spending as a percentage of GDP increased
from 25 to 37 percent (including off-budget spending). In
bolivar terms, BRV spending increased 700 percent from 1999
to 2006. The 2006 BRV budget as of August 3, 2006 allocates
USD 40.5 billion, plus additional credits of USD 9.4 billion.
Approved spending is directed mostly at social services (40
percent), transfers to the states (25 percent), and debt
service (13 percent). In 2006, the BRV plans to spend little
of its national budget on infrastructure, instead funneling
resources through off-budget mechanisms such as the National
Development Fund (FONDEN), which has received USD 15.8
billion since its inception in July 2005, and the Special
Fund for Economic Development (FONDESPA). These fiscal and
quasi-fiscal expenditures are targeted to maximize BRV
political support and generate high, if unsustainable, levels
of growth.

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EXPENDITURE CLASSIFICATION
--------------------------

2. (U) The table below shows actual BRV expenditures from
2001 to 2005, and 2006 planned expenditures (reftels A and
B), including additional credits as of August 3, 2006. The
National Assembly has approved USD 9.4 billion in additional
credits this year (supplemental spending above the orignal
budget), as compared to USD 2.1 billion in additional credits
last year. Spending for the first half of 2006 increased 64
percent in dollar terms (and 83.5 percent in Bolivars) over
the same period in 2005 and now accounts for over 37 percent
of GDP. (Note: The Central Bank (BCV) now claims to include
spending by accounts other than the National Treasury, i.e.
off-budget accounts, in its macroeconomic statistics. This
is a significant development and, if accurate, could provide
a better understanding of overall government spending in the
future. That said, the BRV is increasingly characterized by
a lack of transparency with respect to state accounts. End
Note.) Spending on the most significant budget categories is
listed in the table below. Categories include: social
spending, transfers to states, debt service, and defense.
The other category includes transportation and
communications, tourism and recreation, industry and commerce
and other expenses.

Social Transfers Debt Defense Total
Spending to states Service Other

2001 14,894 6,606 7,294 2,721
7,285 38,800
2002 10,428 4,539 8,879 1,676
1,771 27,293
2003 10,074 4,332 7,643 1,371
2,417 25,837
2004 13,280 5,670 7,032 2,010
4,064 32,056
2005 16,576 8,536 6,624 3,195
5,915 40,846
2006 20,181 12,389 6,709 3,121
7,495 49,865
(in USD millions)

Sources: Ministry of Finance, Central Bank, Official
Gazette, and Embassy Estimates.

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SOCIAL SPENDING
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3. (U) From 2005 to 2006, the BRV increased social spending
in dollar terms by 21.7 percent, reaching USD 20.2 billion
(13.2 percent of GDP). However, social expenditures as a
percentage of total central government spending have remained
at approximately 40 percent during that time. (Note: When
Chavez came to power in 1998 social spending amounted to
approximately 5 percent of budgetary expenditures. End
note.) Original budgeted social expenditures for 2006
included education (USD 7.3 billion), social security (USD
4.3 billion), health (USD 2 billion), social development (USD
1.7 billion), infrastructure (USD 600 million), culture and
communications (USD 361 million), and science and technology
(USD 261 million). These figures do not include significant
off-budget spending by FONDEN, FONDESPA, and PDVSA.

4. (U) The 2006 planned social expenditures support
ministerial expenditures as well as special social
initiatives, both known for their inefficiency and poor
administration. Major BRV education initiatives include the
Simoncito program to meet the development needs of children 6
years and younger, adult educational programs and the
"Bolivarian school initiative8 to improve school
infrastructure, purchase equipment and provide nutrition
programs. Social security funding is designated for pension
and retirement payments, employer contributions to the
Venezuelan Institute of Health (IVSS), Social Security
Institute for the Armed Forces (IPSFA), and Social Security
Institute for teachers (IPASME). Health care funding is
designated for food, pharmaceuticals, elderly poor,
ambulatory services, medical equipment, medicines, and family
planning and sexual education for adolescents.

5. (U) In July 2006, Finance Minister Merentes announced the
BRV would spend USD 6.9 billion during 2006 on BRV Missions.
Funding sources include: the central government budget (USD
837 million), additional credits (USD 1.5 billion), PDVSA
trusts (USD 1.5 billion), and other sources (USD 3 billion),
such as FONDEN (reftel C).

6. (U) After years of minimal spending, the Chavez
administration finally identified additional funding to
address infrastructure problems and the housing deficit,
which has grown significantly in recent years (Note: Experts
estimate that Venezuela currently has a housing deficit of
1.68 million domiciles. The housing shortage is an endemic
problem in Venezuela and has been increasing by approximately
60,000 homes a year. In 1998 the figure was approximately
1.4 million. End note.) The initial budget allocation for
infrastructure was USD 600 million and approximately USD
1.549 billion of the additional credits support
infrastructure. This funding supports mostly housing, but
also includes improvements for potable water systems and
highways, and neighborhood rehabilitation. Despite the focus
on housing, local media report that, as of June 9, the BRV
had completed just 27,165 housing units, or 18 percent of its
2006 housing goal of 150,000 units.

7. (U) The BRV plans to fund many of the highly visible
infrastructure projects, such as roads, railroads, and energy
projects, through FONDEN and FONDESPA (reftel C), rather than
the 2006 national budget. As of July 7 FONDEN had disbursed
USD 6.1 billion, with a reported USD 8.8 billion remaining in
its accounts (see reftel E). In Chavez's September 3 weekly
television show, "Alo Presidente," Finance Minister Merentes
announced that FONDEN is currently working on 93 projects
worth over USD 13 billion. Chavez added that FONDEN has
received USD 15.8 billion to date. We estimate that FONDESPA
has approximately USD 2 billion available to spend. The BRV
has said that it will inaugurate many large infrastructure

and transportation projects this year, including Caracas
Metroline 4, a Cardiac Children's Hospital, and the train
between Caracas and Cua.

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TRANSFERS TO STATES
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8. (U) Approximately 25 percent of approved 2006 central
government expenditures represent transfers to the states.
All but two of Venezuela's twenty-four states are headed by
Chavista governors. From 2005 to 2006, the BRV increased
transfers to the states by 45.1 percent to reach USD 12.4
billion (8.1 percent of GDP). States primarily receive their
funding from the central government through three mechanisms:
the Constitutional Allocation (20 percent of total ordinary
government income), the Law for Special Economic Allocations
(LAEE) (25 percent of oil and mines incomes after the
deduction of the Constitutional Allocation), and the
Intergovernmental Fund for Decentralization (FIDES) (15
percent of the value added tax). The Constitutional
Allocation is distributed between states (30 percent) and
municipalities (70 percent). FIDES is allocated by state
based on three criteria: population (45 percent of the
total), the state's physical size (10 percent) and level of
development (45 percent, with lesser-developed states
receiving more funding). FIDES funding to each state is then
divided between the state government (42 percent),
municipalities (28 percent) and local councils (30 percent).
FIDES and LAEE also allocate funds to states for specific
projects. In the original budget estimate, the
Constitutional Allocation to the states received USD 5.3
billion, LAEE received USD 1 billion, and FIDES received USD
0.8 billion. Additional credits have included funds to
address prior year obligations to the states. (Note: In May
2006, USD 287 million in FIDES funds from 2001 and 2002
remained undistributed. End Note.)

9. (SBU) According to an academic contact, state governments
depend almost entirely upon the central government for
funding. State governments can raise funds through the fees
they charge for services (to change the title of a property,
for example). Municipalities receive disbursements from the
federal government (including a percentage of the value added
tax) and also collect a variety of local taxes on commercial
activity, gambling, property taxes, etc. The 2006 budget
assumes an average price for oil of USD 26/barrel, of which a
percentage goes to the states. Additional proceeds from oil
sales above this price (the average price for Venezuelan
crude during 2006 has been USD 58.68) go to the central
government, the effect of which is to cut state revenues.
Funds transferred from the Central Bank and PDVSA to FONDEN
and FONDESPA avoid direct distribution to the states. The
BRV also reformed the FIDES and LAEE laws to direct a portion
of these funds in future budgets directly to community
councils rather than regional governments, allowing greater
Chavista influence at the local level (reftel D).

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DEBT SERVICE
------------

10. (SBU) The BRV plans to spend USD 6.7 billion (4.4
percent of GDP) for debt service, of which USD 1.2 billion
will be from ordinary revenues (revenue from taxes) and USD
5.5 billion will come from issuing additional public debt
(reftel D). This is almost the same in dollar terms as in
2005. Official statistics show a decrease in overall debt
stock from USD 46.6 billion at the end of 2005 (36 percent of
GDP) to USD 43.1 billion (28 percent of GDP) at the end of
the second quarter 2006. (Note: The majority of this decline
as a percentage of GDP is due to GDP growth rather than
significant decreases in external debt. According to recent
news reports, the BRV will issue additional debt in the
second half of this year to cover its operating deficit and
this may include the &bonos de sur8 issued jointly with

Argentina. End Note.) Most economists agree that
Venezuela's debt load is manageable given the high oil price
environment.

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DEFENSE AND SECURITY
--------------------

11. (C) From 2005 to 2006, Venezuela maintained
approximately the same level of spending for security and
defense. The 2006 expenditures of USD 3.1 billion (2 percent
of GDP) for defense and security include maintenance of
existing military systems and equipment, investment and
construction projects, and the maintenance and repair of
military infrastructure. (Note: This does not include the
reported USD 3 billion deal for Russian fighter aircraft and
helicopters. The source of funding for these purchases has
not been announced. End note.) The budget stresses support
to Mission Miranda, Chavez,s military reserve force created
in 2003 with prior enlisted military personnel. Despite the
increases in funding, DAO reports defense funding shortages
for equipment, travel, and fuel, among other areas. These
shortages could be due to widely alleged corruption,
mismanagement, diversion of funds, or as a result of Chavez
favoritism. (Comment: Chavez is believed to be spending on
the National Guard and Army, but minimally supporting the
Navy and Air Force because he does not trust them. End
comment.)

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OFF-BUDGET EXPENDITURES
-----------------------

12. (SBU) In June of 2006, Ruth de Krivoy, former BCV
President and local economic consultant, estimated that the
BRV had USD 37 billion in public sector assets accessible in
the banking system and public sector off-budget funds. She
estimated that the BRV could sustain 10 months of public
sector spending without any additional revenue. (Note:
Santander, another respected economic consultancy, estimates
this amount could be as high as USD 47 billion. End Note.)
These amounts exclude approximately USD 35 billion in BCV
reserves, which exceed the USD 25-29 billion that Chavez and
the Central Bank consider as the adequate level of reserves
(implying future raids on the BCV's international reserves).
The BRV has announced that FONDEN and FONDESPA will fund much
of the BRV Missions and various large scale transportation
infrastructure, railroad, and energy projects.

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ECONOMIC IMPLICATIONS
---------------------

13. (SBU) BRV spending fueled by windfall revenues from oil
revenues remains the primary engine for economic growth.
With aggressive fiscal expenditures this year, local analysts
anticipate economic growth at 7 to 9 percent for 2006.
During the first six months of 2006, the BRV spent USD 24.6
billion, 64 percent more in dollar terms than during the same
period last year. Despite the oil windfall, the BRV is
running a central government deficit of over USD 2.4 billion
(4.8 percent of the budget, or 1.5 percent of GDP). Analysts
note that the BRV typically spends more aggressively towards
the end of the year. Jose Guerra, former head of the BCV's
Economic Studies Department, noted that BRV expenditures are
outpacing revenue. If the pace of BRV spending continues,
Guerra argues that the BRV will eventually have to devalue to
address the fiscal gap. This huge injection of public funds
into a controlled economy like Venezuela also creates strong
inflationary pressures, which remains a major BRV political
concern. Inflation is currently running at an annualized
rate of 14.9 percent. BRV attempts to combat inflation will
be discussed in septel.

14. (U) Local analysts criticize these expenditures as
wasteful and unsustainable, and designed to create large

constituencies dependent on the BRV for assistance. Handouts
and make-work schemes from BRV Missions create disincentives
to seeking employment, which in turn yields low official
unemployment figures (9.6 percent for July 2006 according to
the National Institute of Statistics). The government has
also hired significantly more personnel and is increasing
wages. The effectiveness of BRV expenditures is also
hindered due to lack of technical skills and corruption in
the BRV ministries and at the state government level.

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COMMENT
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15. (SBU) The BRV appears to have an insatiable appetite for
spending. Instead of taking more orthodox measures to deal
with windfall oil profits, such as paying down foreign debt
and investing in stabilization or rainy day funds, the BRV
seems willing and able to borrow and spend to win support at
the ballot box in December 2006. These measures alleviate
extreme poverty and increase GDP growth over the short and
perhaps medium term, but are clearly unsustainable in the
longer run when oil prices or production decline. Current
estimates are that the BRV can maintain this high level of
quasi-fiscal expenditure and imbalance between central
government expenditures and revenues for at least the next
two years due to continuing high oil prices and the purported
USD 37 ) 47 billion stashed away in private banks and the
public sector. When the boom does end, however, the BRV will
have little to show for its years of excess.
WHITAKER

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