Rolando H. Castañeda and George Plinio Montalván[1]
Inter-American Development Bank
Part I.
The Cuban economy is currently undergoing a continuing severe contraction that is progressively weakening the socialist command system --a process dubbed desmerengamiento[2] in Cuba-- and it is also increasing social unrest and political repression. This awful situation is forcing the communist party government to make necessary but insufficient policy changes and reforms reluctantly, in the vain hope of forestalling a change to a new government committed to clear respect for basic human rights and to transforming the economy to a market-based system within a democratic context. There is increasing political and social tension. Economic depression is turning political conflict into an increasingly serious social crisis. The communist party, like dictators Machado and Batista earlier in this century, has become more intransigent as momentum gathers against its rule and system.
While there is considerable debate about the degree to which the situation can continue to deteriorate in a country with Cuba's characteristics, exacerbation of human right violations and deepening critical shortages of food and medicines are of particular concern to those who fear it could lead to a plundering of national assets or selling and/or leasing natural resources at liquidation prices which could impede future economic recovery and development. This in turn is likely to generate a third massive emigration of Cubans to the U.S. following a change in government,[3] as happened in the case of Albania or, in any event, that the further the situation is allowed to worsen, the greater the likelihood of a violent ending to the present regime.[4] It is our firm conviction that while the socialist nature of the system is maintained, the economy will continue to disintegrate.
Ultimately it will be up to the Cuban people themselves to find a way out of this quagmire. This paper is based on the conviction that the economic reforms necessary to reverse the declining standard of living of the Cuban people either requires or will induce fundamental political change. This could come about as a result of a national dialogue leading to the establishment of a coalition government that would call for multi-party elections to be held within a reasonable period, which is our preferred solution, because it might facilitate a relatively peaceful process or, as indicated above, the end of the communist party regime could come about violently. In either case, actions taken and policies implemented during the first few months following a change in government are likely to determine the scope, pace and, therefore, the content and success of transition policies toward a market-based economy.
Many years of deprivation and human rights abuses, an unusually large quantity of weapons in the hands of the population, and the dire situation regarding basic needs and minimal sustenance means that Cuba will probably require a mediation (peacekeeping/peacemaking) and relief effort on the part of the international community to avoid/reduce bloodshed, bring about national reconciliation, stem the potential tide of emigrants to the United States, and help create the political conditions necessary to begin the stabilization process, followed by consolidation of the economic stabilization and an orderly transition to democracy and a competitive market-based economy.[5] How can an appropriate international response be generated --quickly, to last a limited but realistic period of time, and with well-thought-out terms of reference that will facilitate implementation of a basic set of economic policies and reforms? What basic set of economic policies could/should be implemented during this "Emergency Period" to stabilize the economy and be consistent with short and medium term policies required to get Cuba back on its feet? What short-term policies are recommended to consolidate stabilization, initiate systemic reform and enable Cuba to rejoin effectively the international family of nations?
We begin with a summary presentation in Section I of the initial conditions that would be faced by any authority succeeding the current government in Cuba. Section II includes a brief discussion of some key issues that are of great concern to Cubans (those in Cuba as well as expatriates) as well as to the international community and therefore realistically cannot be avoided, will require immediate attention, and whose resolution will profoundly affect reconciliation, economic reconstruction and Cuba's reintegration into the international family of nations. Considerations relating to the terms of reference for an international mediation effort to assist in the process of reconciliation that will allow the implementation of economic policies are presented in Section III. The conceptual framework and basic strategy of the stabilization proposal is presented in Section IV. Section V contains the details of the proposal for stabilization, including policy options for the "Emergency Period" (called Phase 1) covering perhaps the first six months during which initial stabilization measures would be implemented, followed by a short to medium-term program (called Phase 2) to consolidate stabilization and begin the structural reforms required for transformation to a dynamic market-based system. Section VI concludes with some final observations.
The series of recommended policies covered may be grouped into three categories: (1) policies to begin and consolidate stabilization --fiscal, monetary, foreign trade and exchange, and prices; (2) policies designed to break the external bottlenecks --export promotion, negotiation of U.S. claims, debt renegotiation, capital remittances, and other external capital flows; and (3) policies to begin the process of structural, institutional and privatization reforms and the rationalization of the current social safety net to ensure social justice and to sustain the social achievements of the past 35 years.
I. Background: The Initial Conditions[6]
"What brought down Communism in Russia? An antiCommunist party? A coup d'etat by the army? Invasion by a foreign force? No. Communism was brought down by Communists who could no longer separate their people with an Iron Curtain from images of other parts of the world that were moving forward as they stagnated under repression. The truth could no longer be hidden."
-- Shimon Peres, Washington Times, June 11, 1994
A. Historical Trends and Overview
In the 1974-1985 period, one of great turbulence in the world economy, Cuba was relatively isolated from two major oil price shocks and from the debt crisis that rocked the developing world. In spite of its inefficient economic system and artificial specialization in sugar, some growth and progress in the social sectors took place as a result of massive economic assistance from the Soviet bloc, foreign debt with Western countries and some liberalization measures in the late 1970's and early 1980's. However, these improvements came to an end in 1986[7] when Cuba became the only communist regime that backed off from market mechanisms and material incentives for work, and they have reversed abruptly since 1989 with the cut-off of Soviet external transfers and preferential trade (see Table 1). The landing has been very hard.
In 1990 the Castro government enacted an austerity plan called "Special Period in Time of Peace," with people being moved to rural areas, as happened in Cambodia, to produce agricultural products for self-sufficiency. The main emphasis was on egalitarian distribution and transfers to those who have become unemployed. More recently it has adopted minor changes in policies without undertaking sufficient macroeconomic adjustment measures or institutional and liberalizing systemic reforms. The nature and specific design of its response has been ill-advised, late and plagued with inconsistencies because the essential features of the socialist system have been kept. At times there has even been a paralysis in economic policy. This has resulted in a costly and highly disorderly adjustment ("shock without therapy") with drastic declines in real income, increases in unemployment and acceleration of inflation in the black market.
There is a downward economic spiral. Production is plummeting and unemployment is mushrooming. Consequently, standards of living are falling substantially. This decline is the result of an abrupt encounter with the reality of the 1990's without massive external aid. It is the legacy of drastic allocative and structural errors and failures, together with a very inefficient system and the absence of a required adjustment for a better future in the context of a very competitive world economic environment (NAFTA and GATT). The broad scope of the crisis, which surpasses the purely economic sphere, affects every aspect of society. A climate of collapse and disintegration envelops Cuban society. The regime will not long survive at this level of mismanagement of the economy and of hardship. The government is increasingly facing challenges to maintain order and defend public property due to rampant frustration and widespread social and political disillusionment.
Table 1. Cuba: Main Economic Periods, 1975-1994
| Period | Main characteristics |
| 1975-1985 | Progress under "limited market socialism:" In spite of a very inefficient system some progress was achieved based on massive assistance from the Soviet bloc and indebtedness with Western countries, together with liberalization measures adopted in 1979-1980. |
| 1986-1989 | Stagnation under the return to Stalinist socialism: The very inefficient system became evident and began to show signs of exhaustion due to the counter-reform, repealing the liberalization reforms of the previous period and with excessive debt burden with Western countries. |
| 1990-1993 | Deepening crisis under socialism: Steep decline in output due to the cut-off of massive Soviet bloc assistance. Reluctance on part of the authorities to adopt major stabilization policies and systemic reforms to stop a sharp decline in living standards. |
| 1993-1994 | Continued deepening crisis and beginning of the disintegration of the socialist system under a late attempt at "limited market socialism." Continued decline has brought the economy to the verge of collapse due to ill-advised adjustment policies, insufficient reform measures and the strengthening of the U.S. embargo. |
The socialist regime was successful in developing widespread coverage in education, health and social security based on the extraordinary external assistance by the socialist bloc. However, the economic foundation of this widespread social coverage is, indeed, weak as the economy's deterioration has accelerated since 1989, and especially since 1991 (see Table 2). Cuba is in the throes of a long-term systemic structural crisis and on the brink of economic disintegration.
By May 1994, the economic problems that have been building in the country since 1986 and that accelerated since August 1991[8] have reached catastrophic proportions and have led to a progressive crumbling or desmerengamiento. The Cuban economy is currently in a severe depression and decay with substantial and ever-expanding imbalances: large excess demand at current prices and an increasing balance of payments constraint. Labor productivity has plummeted as employment has been artificially protected while production declined. Cuba is a rapidly undeveloping country, moving back into the Nineteenth instead of into the Twenty-first Century. These are the difficult conditions under which a new government will have to launch a stabilization program and initiate basic systemic reforms towards a market economy.
B. The Deepening Internal Crisis
GSP per capita has dropped more than 50 percent from 1989 to 1993,[9] the deepest and most widespread depression in its republican history (see Table 2). This spiraling decline makes the depression of the 1930's look like a minor incident. Open unemployment and disguised unemployment or underemployment have reached record highs and are expanding. People are aware that their steadily declining standard of living is rapidly moving towards that of a subsistence economy and to the second-poorest in Latin-America. Effective real wages have declined as monetary wages have remained the same while goods obtained through ration allocations have declined substantially and those obtained in the black market have increased.[10] Also, there has been a marked increase in prices on the black markets and at "dollar stores."[11]
Fidel Castro has admitted that the country is undergoing the most difficult period of its history as a republic. However, he blames the U.S. embargo ("criminal blockade") and the deteriorating terms of trade for the misery that is much more the result of a system that penalizes individual initiative and is thus plagued with poor organization and very low productivity.
The overall public sector deficit has skyrocketed and is widening due to the erosion of external transfers, artificially low prices for the goods and services of state enterprises (69 percent showed deficits in 1993), and salary increases for the armed forces. Budget data available show persistent and escalating deficits, rising from about 2 percent of revenues in 1986 to 11 percent in 1989, 16 percent in 1990 and an estimated 34 percent in 1993.[12] The social safety net expenditures increased from 17 percent of GSP in 1989 to 26 percent in 1992. A wasteful and substantial amount of spending continues to be channeled toward defense and internal security (more than 12 percent of GSP) which is an enormous drain on the economy.
There is a sizable monetary overhang, which is the legacy of monetized high and expanding fiscal deficits. Incomes are not declining as rapidly as production, and official prices have showed only minor increases. The almost frozen price level is much too low relative to the stock of money; the excessive monetary stock is 15 times the monthly wages and is expanding as a result of financing the fiscal deficits through monetary emission. The excess monetary assets are confronting limited real wealth and dwarfed productive capacity and naturally threaten the Cuban economy with hyper-inflationary pressures. This has led to excess demand with increasing shortages and spiraling black market prices in spite of widespread price controls and severe rationing of most goods and services.
Therefore, Cuba has a mix of "repressed inflation" in official markets and soaring prices in the black market. The symptoms of "repressed inflation" become more acute every day; although inflation is still restricted in official markets, there has been a dramatic burst of inflation in the black market because of the recent legalization of "dollarization"[13] and the lifting of the ban on Cubans shopping in dollar stores, after prices were doubled. Ration allocations are slim to satisfy minimum consumer needs and are often not honored. People spend a significant amount of time in shopping queues, searching and bartering for food and other basic necessities, as well as feeling generally "hassled" and frustrated at not being able to obtain the most basic goods and services. There is widespread hunger and hardship. Most of the people are unable to look further than the next day. A sort of societal depression has set in, with the people unable to envisage a better future in Cuba. Consequently, there is a deterioration of labor discipline, motivation and morale, and increasing cynicism, pessimism, tension and even occasional demonstrations of social unrest.[14]
As the economy disintegrates, social unrest spreads and political repression and violation of basic human rights increase. The daily struggle for survival is turning into a series of spontaneous actions seeking to overturn or escape the inefficient and corrupt system. The number of refugees making the perilous sea voyage aboard makeshift rafts from Cuba to Florida reached 3,656 in 1993 --its highest level since the massive Mariel boat-lift of 1980. Many of those fleeing Cuba now are young, blue-collar men who feel there is nothing left for them in Cuba: no work, no amenities, no freedom and no future in a very competitive world environment. The youth's expectations are colliding with the harsh daily reality and the endless demands for sacrifice, and the resulting disappointment has a way out: Miami.
Investment has been reduced drastically and there has been a significant deterioration of the capital stock. There is a clear inability to raise capital formation above a replacement level that would help to reverse the economic decline. Unfinished investment projects were three times the new investment in 1991.[15] There is excess productive capacity (factories forced to close or work only a few days or hours per week) due to lack of raw materials and supplies, progressive deterioration of the industrial base, as well as major transportation problems for workers. There is a lack of domestic financial assets in which people can save. The transportation and communications infrastructure is in shambles and continues to deteriorate. Impoverishment and environmental degradation are spreading. There is a huge and widening housing shortage. The educational system is highly ideological, with an emphasis on marxist-leninist theory, designed to inculcate the commitment to failed egalitarian and communitarian ideals.
On the positive side, Cuba has a solid and broad human capital base. Literacy rates, schooling and the proportion of university-trained professionals are among the highest in Latin America (see Table 3). However, most of the university-trained professionals do not have the opportunity to practice their high skills and are becoming technologically obsolete due to the contraction of the economy. Nutritional, housing and basic sanitary conditions have been declining rapidly and have reached very low standards as living conditions continue to deteriorate, thus threatening what many consider to be the main areas of accomplishment of the communist party regime --education, health care and social security.
C. The Widening External Imbalances
All Eastern European countries and the former Soviet Union have canceled their economic assistance programs and reduced their artificial trade with Cuba since 1989. Additionally the terms of trade are now less favorable to Cuba. Sugar and nickel are purchased at declining world market prices rather than at the heavily subsidized prices of the previous period.[16] The shortage of hard currency, already serious before the present crisis, is now critical. Cuba is suffering a major external shock together with a tightening of the U.S. trade embargo as a consequence of the Cuban Democracy Act of 1992, which attempts to stop offshore subsidiaries of U.S. companies from doing business with Cuba and bars ships that dock in Cuba from entering U.S. ports for 180 days thereafter. The government has not shown the ability to adapt to the increasingly competitive global environment. There are virtually no international reserves.
Table 2. Cuba: Selected Economic Indicators, 1971-1993
| INDICATOR | 1971-75 1976-80 | 1981-85 | 1986 | 1987 | 1988 | 1989 | 1990 | 1991 | 1992 | 1993 | |
| % Annual Change Gross Social Product (GSP) | 7.5 3.4 | 7.2 | 1.2 | -3.9 | 2.2 | 0.1 | -3.1 | -25.0 | -14.0 | -15.0 | |
| % Annual Change GSP per capita | 5.6 2.5 | 6.4 | 0.1 | -4.8 | 1.1 | -1.0 | -4.0 | -25.8 | -14.8 | -16.0 | |
| Exports, FOB (CU$ million) | 2,004 4,463 | 5,980 | 5,322 | 5,402 | 5,518 | 5,400 | 4,410 | 3,585 | 2,300 | 2,100 | |
| Imports, CIF (CU$ million) | 1,990 3,870 | 6,331 | 7,596 | 7,584 | 7,579 | 8,100 | 6,415 | 3,690 | 2,500 | 1,700 | |
| Sugar production (thousand metric tons) | 5,674 7,074 | 7,819 | 7,467 | 7,232 | 8,119 | 7,579 | 8,430 | 7,620 | 7,000 | 4,200 | |
| Budget deficit as percentage of GSP | ... ... | ... | 2 | 5 | 10 | 11 | 16 | ... | ... | 34 | |
| External debt in convertible currency (CU$ million) | .... | ... | 4,985 | 5,657 | 6,606 | ... | ... | 6,800 | 7,600 | 7,800 |
Sources: For 1971 to 1989: ECLA, Economic Survey of Latin America, various issues; and ECLA, Statistical Yearbook for Latin America, various issues.
1990-1993: The Economist Intelligence Unit, 1994 Report, and authors' estimates based on news reports, official statements and articles published in Cuban journals.
Table 3. Cuba: Selected Social Indicators, 1986-1991
| INDICATOR | ||
| Crude mortality per 1,000 inhabitants (1989) | 6.2 | |
| Population growth rate (1980-90) | 1.0% | |
| Population of retirement age and older (1990) | 1,400,000 | |
| Population 65 and older (1990) | 925,000 | |
| Infant mortality per 1,000 live births (1989) | 11.7 | |
| Life expectancy (1989) | 75.2 | |
| Physicians per 10,000 population (1990-91) | 36.4 | |
| Hospital beds per 1,000 population (1989) | 5.2 | |
| Adult Illiteracy (1990) | 3.8% | |
| Elementary School Enrollment-1990 (percent of 6-11 agegroup) | 104.0% | |
| Secondary School Enrollment-1990 (percent of 12-17 age group) | 88.0% | |
| Tertiary School Enrollment-1990 (percent of 20-24 age group) | 23.0% | |
| Expenditures in Armed Forces as % of GSP | 11.3% | |
| No. of armed forces as % of teachers (1987-1989) | 124.0% | |
| No. of armed forces per Physician (1987-1989) | 8.0 |
Source: Carmelo Mesa-Lago, "The Social Safety Net in the two Cuban Transitions," in Florida International University, Transition in Cuba: New Challenges for US Policy (Miami, FL: FIU, 1993).
There has been a dramatic compression in imports. In 1992 import capacity was 28 percent of that in 1989 and in 1993 there was a further decline to 21 percent,[17] which is damaging to the population, since consumption levels have depended heavily on imported commodities.[18] Oil imports decreased from 13 million tons in 1989 to 7 million tons in 1992 and 5 million tons in 1993. The fuel crisis has taken a heavy toll on production, there are widespread and expanding power blackouts and low capacity utilization. Sugar exports will continue to shrink due to a shortage of spare parts, lack of adequate fertilization, breakdowns in the sugar transportation system, and lack of fuel for field operations and mill boilers.
Shrinking foreign exchange has squeezed both current production and capital formation, since domestic production of goods requires imported intermediate goods (oil, spare parts, raw materials, fertilizers), while foreign-made capital goods are an essential component in most investment projects, especially those necessary to generate new exports. Produce rots in the fields because there are few trucks available to move it to urban markets. The situation in key activities is characterized by a slump as a result of the external shock and the drastic failure of balance of payments and investment policies. Furthermore, key economic activities are facing a rundown of capital resulting from a cutoff of imports and the lack of market mechanisms.
The lack of sound money has its counterpart in the dollar gap that is due to a gross overvaluation of the Cuban peso. The official exchange rate is CU$1=US$1, with CU$1.32=US$1 for some tourism-related transactions, but as of May 1994, the black market exchange rate was CU$100=US$1. Although holding dollars was illegal for Cuban citizens until July 1993, there has been a considerable dollarization as Cubans began accumulating dollars as a means of savings and to have indirect access to special shops that carry imported goods, because of the lack of consumer goods in government stores, loss of confidence in the peso, and increasing inflationary pressures in the black market.
Principal and interest arrears in servicing the substantial and unmanageable hard-currency foreign debt (approximately US$9.4 billion as of April 1993) have made Cuba a pariah to commercial creditors, suppliers, and foreign governments.[19] In 1986, Cuba's creditors refused to roll over short-term loans and Cuba suspended interest payments. Cuba is now in default on most of its debt obligations. As of December 1993, the value of U.S. claims awarded by the U.S. Foreign Claims Settlement Commission (FCSC) was approximately US$5.4 billion. Cuba is "off the books" for the main credit-rating agencies, meaning that no credit rating is currently being calculated. The country's risk premium (financial as well as political) is very high, which explains the extremely high rate of return and other conditions currently being offered to foreign investors (e.g., long-term concessions and tax holidays) that tend to discourage serious investors because they seem too good to be true.
The government is actively pursuing a policy of promoting and diversifying exportable products and markets to receive them. Therefore, it has been encouraging foreign private investment in joint ventures with Cuban state enterprises, seeking cooperative relations throughout Latin America and Spain. They also include a few with other Western European countries and Canada. However, Cuba's generally rigid, uncompetitive, and vulnerable economy, the absence of a State of Law (the legal system does not protect the investor from government abuse, and the judiciary system is not truly independent from government pressures), as well as the political and uncertainty risks about Cuba's future, cannot really provide an adequate framework for sufficient investment and trade opportunities. Hence, foreign investment has been far short of expectations.[20] Since Cuba will remain for the foreseeable future distinctly less attractive to foreign investment than most of its neighbors, it seems doomed to lag ever further behind the more dynamic societies of the Caribbean Basin.
D. The Systemic Institutional Sclerosis
Cuba is a Stalinist-style, totalitarian state, run by a rigid military dictatorship in which almost all power is concentrated at the top,[21] with a collectivized economy and an extreme centralization of main economic decisions. The civil society is very poorly developed, providing almost no organized counterweight to the pervasive influence of the state. The country is run with an iron fist by a single party that refuses to submit to free elections with opposition parties. There is no tolerance of open (or public) dissent or even disagreement, because the leadership is extremely hostile to public criticism of its many drastic errors and failures. In a totalitarian system, it is risky for anyone to express openly his/her points of view, and those who disagree often suffer severe consequences. Although the regime attributed it to drug trafficking and embezzlement, it seems clear that General Arnaldo Ochoa was executed and several top officials imprisoned in 1989 because they were promoting "perestroika" for Cuba. Cuba is virtually closed to new ideas from throughout the world.
Although the experiment in socialism has been widely discredited, Cuba's government officials, with their vested interest in the status quo, have tried to preserve the fundamental features of the command socialist regime to retain party control over the economy and have exploited fears of the costs of the transition to a market economy without considering adequately its benefits. The message to ordinary Cubans is clear: the transition to capitalism is long and painful. They also argue that the economy might soon reach bottom and start to recover, and place virtually all the blame for the country's misfortunes on the US trade embargo, which provides an alibi for the domestic distress and helps reinforce the cohesion of the power structure. The lack of free markets and of private property have placed the economy in a straitjacket, but are considered by those in power to be the symbols of the success, stability, and continuity of the socialist model. Corruption, fraud and privilege among high-ranking public officials (the nomenklatura), that are inherent components of the socialist system, have been long-standing sources of popular discontent and widespread denunciation, which worsening scarcities --evidenced by a severe nutritional crisis-- have seriously aggravated.[22] Enterprising members of the nomenklatura have been given excellent opportunities to enrich themselves.
The state controls most economic resources, allocates them through rigid and highly centralized planning, and has almost complete monopoly over foreign trade. Inefficiency in government is pervasive, and public sector employment in administration, military and internal security activities is unjustifiably high. There are extensive and comprehensive bureaucratic constraints and controls for state enterprises and the production and distribution of agricultural goods. The formal private sector is minuscule, with extensive and intensive public ownership of property in all productive sectors: only 8 percent of agricultural land is in private hands and there are few repair and personal services shops.
There are excessive, irrational, rigid and complex norms and regulations for every activity, lack of goods and factor markets, of legal market transactions, and an absence of such concepts as individual freedom and self-responsibility; therefore, the distortions to proper economic behavior are basic, substantial and widespread. Political credentials govern managerial promotions and appointments, producing widespread demoralization among younger professionals who are proud of their academic training and are forced to accept appointments that make a mockery of technical and professional standards. Abysmally inefficient economic structures and large monopolistic and oligopolistic state enterprises dominate production and the structure and organization of distribution. The structure of prices bear little relation to costs of production and to relative scarcities and opportunity costs, and the exchange rate is very distorted; they do not promote a good allocation and utilization of resources. Unions are political organizations whose major task is to ensure that party policies are implemented at the level of enterprises, with emphasis placed mainly on the need for rigid discipline at the workplace. The financial market is underdeveloped and passive, with the Banco Nacional (Central Bank) and its branch offices playing the role of rudimentary commercial banks and with very negative real interest rates.
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