Geopolitics, Commodities and Contagion: Three Questions on US Intervention in Venezuela

Greg Hadjian, Global Macro Strategist, LatAM, weighs in on three big questions as the US involvement in Venezuela unfolds.

1. Why is Latin America a centerpiece of the Trump administration’s foreign policy?

• US involvement in Venezuela is the latest and most striking example of the Trump administration’s activist foreign policy approach to the Latin America region, following the exceptional $20 billion economic bailout of Argentina and threats to retake the Panama Canal last year. The renewed focus on the region comes after decades of deprioritization amid Middle East wars and the Obama administration’s pivot to Asia.
• Guided by a revival of the Monroe Doctrine, which is discussed explicitly in the recently published National Security Strategy (and modified with a Trump Corollary), the administration’s agenda emphasizes containing instability, combating drugs, managing migration pressures, and countering the influence of rivals.
• This strategic shift in foreign policy direction comes at a time when the political mood in Latin America is shifting decisively to the right. Ideological alignment with the US and the ability to supply critical resources is taking precedence over historical foreign relations concerns such as political structure, governance, and institutional arrangements. We see significant opportunities for ideological friends, but significant risks for ideological foes.

2. What does US involvement in Venezuela mean for oil and other commodities?

• The impact on oil prices is ambiguous, in our view. Incrementally, we see upside risks in the short run due to the perception of heightened geopolitical risk, but we anticipate downside risks in the long run if Venezuelan production increases materially.
• Venezuela accounts for only about 1% of global production._¹ Lifting production from current levels of around 1 million barrels per day would require substantial investment, which we consider unlikely absent a stable political and institutional framework and clarification on US strategy in Venezuela.
• While Venezuela notably possesses the largest proven oil reserves in the world, the country’s very heavy crude is costlier to extract, and production may only be economically viable at higher prices. Even under optimistic assumptions, we doubt the increase in production by 2030 would be enough to move the needle from a global supply and demand perspective.
• For gold, we think the implications are more clearly positive. We believe gold can continue to benefit from an uncertainty premium around the immediate situation in Venezuela and, more broadly, concerns about the reserve currency status of the US dollar amid a shift away from a rules-based international order toward a more disorderly multipolar configuration.  

3. Is instability in Venezuela likely to spill over to other Latin American countries and assets?

• We expect limited contagion to other Latin American assets, except for Colombia. Venezuela has been cut off from capital markets for years: the country defaulted in 2017 after years of teetering on the brink, aggravated by the 2014 collapse in oil prices.
• Fundamental linkages and market correlations among assets in the region are minimal. Exports to Venezuela represents less than 0.5% of total exports for major countries in the region, apart from Colombia (still, exports to Venezuela represent only 2% of Colombia’s total exports)._²
• Venezuelan bonds have reacted positively since the US removed President Maduro on January 3. This nuance makes Venezuela a very different case relative to other countries at the center of geopolitical conflicts (Ukraine, for example) as markets price a long-delayed debt restructuring and higher recovery values. The correlation regime is different. We do not expect contagion to other sovereign credits (as was the case in Eastern/Central Europe after Russia invaded Ukraine, for example).
• We see Colombian assets as most at risk from spillovers from instability in Venezuela. This could occur through three main channels: 1) direct strikes or conflict on Colombian territory along the shared border with Venezuela, 2) an intensification of the refugee crisis (Colombia already hosts about 3 million Venezuelan migrants), and 3) the antagonistic relationship between President Petro and President Trump. That said, if Venezuela normalizes in a positive scenario, we believe Colombia stands to be one of the largest beneficiaries; historically, Venezuela was an important trading partner.
• President Trump has commented on potential strikes on Mexico, however, we do not expect this. The Mexican government has been extremely cooperative and eager to please the US. But the economic impact of a strike on Mexico would be orders of magnitude larger compared to Venezuela.
• Cuba, though small and isolated, could see pressures ratchet up. Cuba has long benefited from economic ties to Venezuela, most notably cheap oil imports. Since removing Maduro from power, President Trump has threatened to block Venezuelan oil and capital from entering Cuba. 

¹ Source: US Department of Energy

² Source: International Monetary Fund

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