VZCZCXRO8118
RR RUEHAO
DE RUEHCV #0009/01 0031548
ZNR UUUUU ZZH
R 031548Z JAN 07
FM AMEMBASSY CARACAS
TO RUEHC/SECSTATE WASHDC 7394
INFO RUEHAC/AMEMBASSY ASUNCION 0745
RUEHBO/AMEMBASSY BOGOTA 7172
RUEHBR/AMEMBASSY BRASILIA 5844
RUEHBU/AMEMBASSY BUENOS AIRES 1537
RUEHLP/AMEMBASSY LA PAZ 2431
RUEHPE/AMEMBASSY LIMA 0690
RUEHMN/AMEMBASSY MONTEVIDEO 0893
RUEHQT/AMEMBASSY QUITO 2521
RUEHSG/AMEMBASSY SANTIAGO 3848
RUEHAO/AMCONSUL CURACAO 1093
RUEHGL/AMCONSUL GUAYAQUIL 0733
RUEATRS/DEPT OF TREASURY
RHEHNSC/NSC WASHDC
RUEHRC/DEPT OF AGRICULTURE USD FAS
RUCPDOC/DEPT OF COMMERCE

UNCLAS SECTION 01 OF 02 CARACAS 000009 
 
SIPDIS 
 
SENSITIVE 
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: ECON EFIN VE
SUBJECT: ENDING 2006 ON A HIGH 
 
REF: A. CARACAS 1215 
 
     ¶B. CARACAS 808 
     ¶C. CARACAS 2718 
 
¶1. (SBU) SUMMARY:  The Caracas Stock Exchange (BVC) is set to 
end 2006 at a record high (up 155 pct) as investors 
constrained by currency controls and sitting on piles of cash 
continue to seek out means to boost returns.  As 2006 drew to 
a close, the BVC's high demonstrates the bubble mentality 
taking hold in Venezuela that, coupled with GDP growth above 
10 percent, massive consumer spending, and rocketing real 
estate prices, raises the question of how long the party will 
last and how heavy the hangover will be when it ends.  END 
SUMMARY. 
 
¶2. (U) Venezuelan GDP grew 10.3 percent in 2006, inflation 
ended the year at 17 percent and the money supply (M2) grew 
68.3 percent, according to the Central Bank. These figures, 
driven primarily by government spending made possible by 
historically high oil prices, represent the highest growth 
and inflation rates in the hemisphere and follow the high 
growth rates of 2004 and 2005 (which were a result of both 
high oil prices and the country's economic recovery from the 
political turmoil of 2002 and 2003).  Estimates are that 
Venezuela's GDP will grow between 7 and 9 percent in 2007, 
resulting in the longest period of consecutive growth in 
Venezuela in over 30 years. 
 
¶3. (U) The Caracas Stock Exchange (BVC) Index closed at 
52,090 this year, up 155 percent over its closing level of 
20,395 at the end of 2005, and up over 21 percent from a 
month ago.  The upward trend continued throughout the 
electoral campaign and seems to have been unaffected by the 
results.  This contrasts with 2005, during which time GDP 
grew by 9.6 percent, but the BVC Index fell 31.9 percent. 
The BVC is a small stock exchange, with a total 
capitalization of only USD 11.1 billion.  Average trading 
volumes have increased from USD 4.5 million a day in January 
to USD 19.4 million a day during December of this year. 
 
¶4. (SBU) The demand for shares is driven primarily by the 
excess liquidity in the economy, a lack of alternate 
investment opportunities, and currency controls.  With the 
official inflation rate running at 17 percent a year, 
interest rates paid on deposits are negative (bank CDs, for 
example, offer a 10 percent return).  Additionally, the 
"private wealth management" business is booming in Venezuela, 
with most banks and advisors specializing in helping 
individuals diversify their portfolios (i.e. get part of 
their money out of Venezuela), through the purchase of shares 
convertible to American Depository Receipts (ADR) or by debt 
swaps using so-called "permuta" transactions (reftel A). 
(Note: According to the BVC, 43 percent of the securities 
traded on the stock exchange in 2006 were ADRs. End Note.)  A 
recent meeting with the head of the Advanced Finance 
Institute (PROTECT) revealed that there is a huge demand now 
for training and licensing stock brokers with existing firms 
expanding and new entrants coming in.  He noted that there 
are only 140 or so licensed brokers in the country now, which 
meant that many firms had only one broker who had to sign off 
on the trades of dozens of employees.  He also estimated that 
up to 80 percent of the business of the stock brokers in 
Caracas is now devoted to the parallel currency market and 
mentioned that ING and Merril Lynch were looking to enter the 
market in Venezuela solely for this business.  In 2006, the 
official exchange rate has been fixed at 2150 Bolivars/USD, 
however the parallel rate has grown from its range of 
2600-2800 during 2004, 2005 and the beginning of 2006 to a 
high of 3,400/1 for a short period before December 3 
presidential elections.  It will probably end the year around 
3,300/1.  Speculation by investors on the spread between the 
 
CARACAS 00000009  002 OF 002 
 
 
official and parallel exchange rates have also driven the ADR 
market. 
 
¶5. (SBU) The real estate market is also booming, with the 
price of residential buildings in the Caracas area increasing 
by around 36 percent this year.  One real estate expert 
recently claimed that prime commercial real estate (e.g. 
higher-end shopping centers) in Venezuela's major cities now 
costs anywhere from USD 800 to 1200 per square foot, making 
it among the highest in the hemisphere.  Both commercial and 
residential real estate have long been preferred investment 
vehicles as a hedge against inflation or devaluation, and 
historic shortages for housing (reftel B) all but guarantee 
that the seller's market will continue well into the future. 
 
¶6. (SBU) COMMENT: The remarkable growth of the Venezuelan 
economy during the past three years is directly a result of 
historically high oil prices, which have allowed the 
government to increase spending by over 50 percent in dollar 
terms (does not include off-budget spending, reftel C).  The 
fastest growing sectors of the economy (finance, 
construction, commerce and telecommunications) are rising on 
a wave of liquidity and in most cases do not represent 
structural changes in the economy that could provide for long 
term growth.  Consumer credit (credit cards and vehicle 
loans) alone has grown almost 123 percent in 2006.  The 
massive amounts of spending (from consumer goods to cars to 
apartments) is not sustainable and represents a bubble 
mentality where people feel that they have to get in now as 
prices will continue to go up.  When oil prices or production 
begin to fall, the bubble may burst.  END COMMENT. 
 
WHITAKER