Crypto Standard

Courtesy of George Frey/Getty Images

Written by Andres Gomez Perry

These two differentiating points lead to one conclusion—that backed by a natural resource and controlled by the Venezuelan government, the Petro is essentially another form of debt.

In mid-March, President Trump signed an executive order prohibiting Americans from trading the Petro, Venezuela’s state-backed cryptocurrency. The news comes at a desperate time for the Maduro dictatorship, as Venezuela needs foreign liquidity to pay off loans and avoid  defaulting on its debt.

The Petro became the world’s first and only state-backed cryptocurrency in February. For investors, the coin holds some credibility amidst the turbulent Maduro dictatorship because it is backed by Venezuela’s 5.3 billion barrels of oil reserves, which dwarf those of Saudi Arabia.

Surprisingly, the pre-sale last month proved a success. The Venezuelan government reported that the new venture attracted $735 million USD worth of purchases on its first day. In the coming year, Maduro will attempt to reverse the country’s economic depression by extending the Petro to $6 billion USD. However, the Petro’s reliance on the Venezuelan government and its peg to a natural resource seem unusual for a cryptocurrency.

The crypto hybrid

The Petro differs from other cryptocurrencies in two ways. First, cryptocurrencies are bound to the laws of supply and demand—that is, no central body dictates their exchange. The Petro’s price is instead determined by the price of oil and the Venezuelan government. Although theoretically the Venezuelan government should not be able to interfere, the system has an unclear discount factor that the government can use to manipulate the Petro’s price.

Second, unlike other cryptocurrencies, the Petro is backed by a natural resource. Theoretically, the intuition is simple. If there is a run on the Petro, the Venezuelan government will exchange one Petro with one barrel of oil. But in practice, an investor cannot demand a barrel of oil that is held thousands of feet underground somewhere on the coast. Instead, the Petro’s governing decree states that “an investor can exchange a Petro for the equivalent of one barrel of oil in another cryptocurrency” or in Bolivares, Venezuela’s hyperinflated coin.

These two differentiating points lead to one conclusion—that backed by a natural resource and controlled by the Venezuelan government, the Petro is essentially another form of debt.

Why go through all that trouble?

For months, Venezuela has come close to default. This year, the government owes $11 billion USD to foreign government and banks, and the hyperinflated Bolivar is falling in value. Venezuela has two options—it can either default and accept a costly third-party bailout, or access substantial foreign liquidity to pay its debts. The Petro is an attempt to do the latter.

By establishing a crypto-currency, the Venezuelan government can access much-needed foreign liquidity. In 2017, the Trump administration placed sanctions on the Venezuelan government and oil-giant PDVSA, rendering their traditional debt instruments useless. Cryptocurrencies, on the other hand, circumvent the US financial system. This maneuver allows the Maduro regime to access dollars, euros, and RMB to pay back its more than $143 billion in foreign debt.

With Trump’s new executive order, the Petro’s future looks grim. For those countries that can still trade the Petro, the Eurasia Group predicts that the Petro will lack sufficient credibility to survive. Venezuela’s economy relies heavily on oil, which means it will continue to suffer extreme economic swings connected to oil prices. The Petro is a band-aid on a gun wound that may keep the government running for the next few months.

The future, however, is another story.

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