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INFO WESTERN HEMISPHERIC AFFAIRS DIPL POSTS
RHEBAAA/DEPT OF ENERGY WASHINGTON DC
RHEHAAA/NATIONAL SECURITY COUNCIL WASHINGTON DC
RHMFISS/HQ USSOUTHCOM MIAMI FL
RUCPDOC/DEPT OF COMMERCE WASHINGTON DC
RUEATRS/DEPT OF TREASURY WASHINGTON DC

C O N F I D E N T I A L SECTION 01 OF 04 CARACAS 000207 
 
SIPDIS 
ENERGY FOR CDAY AND ALOCKWOOD 
HQ SOUTHCOM ALSO FOR POLAD 
TREASURY FOR MKACZMAREK 
NSC FOR DRESTREPO AND LROSSELLO 
USDOC FOR 4332 MAC/ITA/WH/JLAO 
AMEMBASSY BRIDGETOWN PASS TO AMEMBASSY GRENADA 
AMEMBASSY OTTAWA PASS TO AMCONSUL QUEBEC 
AMEMBASSY BRASILIA PASS TO AMCONSUL RECIFE 
 
E.O. 12958: DECL: 2020/02/19 
TAGS: ECON EFIN VE
SUBJECT: Venezuela's Financial Sector: Fragility Grows, but Neither 
Complete Nationalization nor Systemic Crisis Likely 
 
REF: 08 CARACAS 566; 09 CARACAS 1509 
 
CLASSIFIED BY: DUDDY, AMBASSADOR, DOS, AMB; REASON: 1.4(B), (D) 
 
¶1.  (C) Summary:  Venezuela's financial sector is showing 
increasing fragility.  The Venezuelan government (GBRV) now 
controls 28 percent of the banking sector's assets (up from 12 
percent one year ago), has established a foothold in the insurance 
sector, and has taken at least temporary control of a number of 
brokerages.  The episode of interventions that began in November 
2009 in the banking sector has spread into the brokerage sector and 
does not appear to be over.  Buffeted by the recession, increased 
government scrutiny, new regulations, and greater difficulties in 
doing business with U.S. financial institutions, smaller and less 
well established banks and brokerages are struggling and in some 
cases going under.  This situation is causing the sector as a whole 
to shrink in real terms and has caused some shifts in market share. 
Private sector banks may struggle with profitability this year 
(with the exception of exchange rate gains from the devaluation), 
nevertheless, a systemic crisis appears unlikely in the near 
future, as does complete nationalization of the sector.  End 
summary. 
 
 
 
The Recession Hits the Financial Sector 
 
 
 
¶2.  (SBU) The bursting of Venezuela's economic bubble in late 2008 
brought profound changes to the financial sector.  Thanks to 
currency controls, massive increases in liquidity, and high growth 
rates, the banking sector, despite heavy regulations, grew at a 
stunning rate in almost every indicator from 2004 through 2007 (ref 
A).  Brokerages blossomed in numbers and in assets under 
management, attracted by a relatively lax regulatory environment 
and new business opportunities in the parallel foreign exchange 
market.  As economic growth slowed dramatically in late 2008, 
however, banks cut back their lending in real terms and 
profitability dropped.  The financial sector was hard hit by the 
recession of 2009 in which Venezuela's economy contracted 2.9 
percent.  The size of the financial sector relative to the economy 
decreased, the sector's assets diminished in real terms, and banks 
shifted a significant percentage of their asset portfolio from 
loans to government bonds as credit opportunities dried up and the 
GBRV issued large amounts of internal debt. 
 
 
 
Bank Interventions and Their Aftermath 
 
 
 
¶3.  (SBU) In addition to causing the general trends mentioned 
above, the bursting of Venezuela's economic bubble brought to light 
bad, illegal, and/or unethical practices in the financial sector. 
These practices appear to have been concentrated in banks and 
brokerages acquired or in the process of being acquired by new 
entrants to the sector generally with close ties to the GBRV. 
Whether because of infighting within Chavismo or because the banks 
in question had become so bad that action had to be taken, the GBRV 
took over 4 banks in November 2009 (ref B), beginning a series of 
interventions that had encompassed 11 banks and a smaller number of 
brokerages by mid-February 2010. 
 
 
 
¶4.  (SBU) Associated with these interventions are a number of 
important corollaries.  The GBRV decided to absorb four of the 
intervened banks into a new public bank, Banco Bicentenario.  With 
the creation of Bicentenario and the purchase of Banco de 
Venezuela, one of the country's largest private banks, in July 
2009, the GBRV now directly controls roughly 28 percent of the 
banking sector as measured by assets, up from 12 percent in January 
¶2009.  The GBRV also turned an insurance company belonging to one 
 
CARACAS 00000207  002 OF 004 
 
 
of the intervened banks into state-owned Bolivariana de Seguros, 
its first foray into the insurance sector.  Finally, the GBRV 
changed the laws regulating banks and brokerages in important ways. 
Regarding banks, the GBRV increased the deposit guarantee and then 
increased private banks' mandatory contribution to FOGADE, the 
guarantor, from 0.5 to 1.5 percent of deposits annually.  (Note: 
Initially, in what a banking executive called "a Negotiations 101 
move," the GBRV raised it to 3 percent, a level which would have 
made it virtually impossible to turn a profit.  In response to 
lobbying by banks, the GBRV reduced the increase but gave public 
sector banks an advantage at the same time, fixing their 
contribution at 1 percent.  End note.) 
 
 
 
Brokerages Feeling the Regulatory Heat Too 
 
 
 
¶5.  (SBU) The government also moved to eliminate a key financing 
tool used by brokerages and to force them to reduce their leverage. 
Brokers associated with some of the intervened banks used this 
tool, known as a "mutuo," to structure the financial deals by which 
the banks were bought with depositors' money and then financed 
companies affiliated with the new owners.  (Note:  Mutuos are 
essentially an instrument by which brokers practiced 
intermediation, i.e. receiving deposits and making loans.  When 
used responsibly, mutuos allowed brokers to fill a useful financial 
niche.  They were sometimes used irresponsibly, however, for 
example to structure deals such as those mentioned above, to make 
risky bets on the exchange rate, and even allegedly to acquire 
assets such as airplanes for brokers' personal use.  End note.)  On 
February 1, the GBRV issued a decree requiring brokers to unwind 
their mutuos in 90 days and to reduce progressively their debt to 
equity ratio to 2:1 over 6 months.  The GBRV is also apparently 
considering a general policy of not allowing brokerages to 
participate in primary GBRV bond issuances; it excluded brokers, 
though not banks, from a recent issuance of short-term domestic 
debt. 
 
 
 
Squeeze from the Outside 
 
 
 
¶6.  (C) Venezuela's contracting economy and new government 
regulations are not the only factors squeezing the financial 
sector.  Over the past six to eight months, we have observed a 
trend by which Venezuelan banks and brokerages, particularly less 
well established ones, are finding it increasingly difficult to do 
business with counterparts in the United States and elsewhere.  It 
is impossible to quantify this trend, but we can offer anecdotes. 
Representatives of three major multinational or U.S. banks have 
recently told us they are reviewing closely accounts they have open 
with Venezuelan banks and brokers, with several of them expressing 
particular concern about accounts used for parallel market 
operations.  In one case, the U.S. bank in question, Wells Fargo, 
closed a longstanding account Wachovia (acquired by Wells Fargo) 
had with Intertrust, a local broker, according to Intertrust 
directors (strictly protect throughout).  We know of at least two 
other cases where U.S. accounts of local brokers have been closed. 
These closures, which spring from compliance-related concerns at 
U.S. banks, appear mostly to affect smaller, less well-established 
financial institutions.  Philip Henriquez (strictly protect 
throughout), an executive at Banco Mercantil (one of Venzuela's 
largest and most respected banks), said Mercantil did not 
anticipate problems with its major correspondent banks but noted 
that a Canadian bank had recently closed a little-used account 
Mercantil had with it.  Citibank Venezuela president Bernardo 
Chacin (strictly protect throughout) noted that Citibank recently 
closed several correspondent bank relationships it had with less 
well established Venezuelan banks while keeping those with highly 
respected banks such as Mercantil and Venezolano de Credito. 
 
CARACAS 00000207  003 OF 004 
 
 
Outlook for 2010 
 
 
 
¶7.  (C) A key question for the financial sector in 2010 is how much 
farther the interventions will spread.  In separate recent 
meetings, executives at three brokerages and two banks said they 
expected more interventions of brokers.  Directors at Intertrust 
said they were confident in the health of only 8 to 10 brokerages 
and could not speak to the others.  (Note:  There are approximately 
100 registered brokers in Venezuela, including both "casas de 
bolsa" and the generally smaller "sociedades de corretaje."  End 
note.)  Henriquez claimed that only brokers associated with the 
first wave of bank interventions had been touched to date, noting 
he expected brokers associated with the rest of the intervened 
banks to be intervened themselves.  Chacin and Milton Guzman 
(strictly protect throughout), chief economist for Valores 
Santander, said they expected some brokers would be unable to 
unwind their mutuos and deleverage within the required time frame 
given asset-liability mismatches and, in some cases, poor asset 
quality.  Whether there will be more bank interventions is unclear. 
We are not aware of any remaining banks that fit the exact profile 
of the intervened banks, but there are others whose financial 
health is questionable.  Chief among these is Banco Federal, owned 
by Nelson Mezerhane, who is also a minority shareholder in 
opposition TV station Globovision.  Mezerhane (protect) told the 
Ambassador on February 18 that his bank had been under pressure to 
force him to help engineer a change in Globovision's management and 
editorial line.  (There will be septel reporting on this subject.) 
According to Chacin, many Venezuelan bankers feel GBRV takeover of 
Banco Federal, should it occur, would greatly widen the potential 
scope of the interventions and could lead to severe problems at a 
number of other banks, though not the largest and most solvent 
ones. 
 
 
 
¶8.  (C) Despite the probability of further interventions in 
brokerages and perhaps in banks, our financial sector contacts do 
not foresee a systemic crisis (except if the GBRV should intervene 
in Banco Federal, as discussed above) or wholesale nationalization 
of the sector in 2010.  Most major private sector banks, still the 
lynchpin of the sector, remain in good shape.  While President 
Chavez's comment the week after the first bank interventions about 
being "willing to nationalize the entire sector" raised the specter 
of wholesale government takeover, Chavez quickly backtracked. 
Contacts such as Henriquez and Guzman believe the GBRV understands 
it does not currently have the capacity to manage the entire sector 
and would not at this point want to introduce the kind of 
disruption wholesale nationalization would entail.  Instead, our 
contacts expect a continued "flight to quality," as private clients 
of state-owned and weaker private banks seek to move their business 
to more conservative and respected private banks, a trend somewhat 
balanced out by movement of public sector deposits to newly public 
Banco de Venezuela.  The size of the sector seems almost certain to 
contract in real terms, reflecting Venezuela's general economic 
situation and the diminishing importance of traditional financial 
intermediation in the GBRV's economic model.  Profits will also 
likely decline in real terms, excluding one-time gains from the 
devaluation. 
 
 
 
Comment 
 
 
 
¶9.  (C) It is interesting to speculate why the GBRV has chosen to 
carry the intervention episode as far as it has, particularly with 
regard to the new requirements for brokers.  There is clearly a 
technical component, with regulators justifiably going after banks 
 
CARACAS 00000207  004 OF 004 
 
 
and brokers that abused the system.  The decision to force brokers 
to unwind mutuos and deleverage could be justified on technical 
grounds as well, though it is hard to understand why the GBRV is 
considering excluding brokers from participating in bond issuances. 
Our contacts in the brokerage industry feel other factors may be at 
work, however.  The GBRV may want to rein in brokers as part of its 
quest to control the financial sector, indirectly if not directly. 
More specifically, as Intertrust's directors pointed out, brokers 
are the key players in the parallel foreign exchange market, and 
the GBRV's actions may be aimed at trying to lower pressure in the 
exchange market which pushes the bolivar lower against the dollar 
by reducing the brokers' scope of action.  End comment. 
DUDDY