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Cuba as a Transition Economy

It was a small step for Cuba, maybe, but with Fidel’s recent decision to step aside the reform “genie” is now out of the bottle.

Raul’s first actions in office – meeting the Vatican representative, signing human rights treaties, talking about economic reform – speak volumes. Rigid control by the Party and the Revolutionary Armed Forces is directly threatened by a failed economy and unacceptably low standards of living. The loss of the shield of Fidel’s charisma exposes the fault lines of the regime. It is reform – hopefully gradual, but maybe not – or else.

In a recent op-ed, Moises Naim suggests looking at the Cuban economy in the light of the transition economies of Eastern Europe. [1] He reminds us that the majority of those regime changes were not always smooth affairs and that Cuba’s probably won’t be either. Most of the transitions involved huge and sustained drops in output and social distress. Think in other words, about Albania or Romania, not the Czech Republic when looking for future scenarios for Cuba.

A Worst Case Scenario

A plausible worst case scenario for Cuba would involve refugee flows on a scale exceeding the Mariel boatlift. If just 5% of the Cuban population tried to flee, think of 500,000 people desperately seeking to enter the US. Political and humanitarian pressures on the US to accept a good number of these refugees would be enormous and difficult to resist. Meanwhile, back on the island, standards of living could plummet as fiscal revenues declined, state services shrunk, and the state employment collapsed.

In this lawless world, private monopolies could vie to fill the economic vacuum created by the collapse of state monopolies. (Think Russia.) The scope for criminal activity would increase; drug gangs could easily emerge to speed the deadly hemispheric flow of narcotics on its way northward. All this is assuming that Hugo Chavez would continue to provide 100,000 barrels of Venezuelan oil per day to a regime over which its influence would (presumably) be limited. If the oil supply were cut off, social conditions in Cuba could grow even more intolerable even more quickly.

Lessons from the Transition Economies

Raul may be right in thinking the regime has time to reform gradually. The Cuban people have really never experienced democracy or market institutions for any length of time. But what will the new leadership do with the time?

The economic reform agenda is opaque. Some sort of economic reform along Chinese or Vietnamese lines is likely with market institutions tolerated in the context of rigid Party control. (Army-controlled enterprises already dominate the tourist sector and engage in active, if limited, trade with US agricultural suppliers.) The vagueness of the reform agenda, and Cuba’s adverse initial conditions, suggest that the best comparisons are to be found in the less successful transition economies such as Bulgaria and Georgia.

These less successful reformers had initial conditions similar to Cuba today: very long periods of time under communism, a dependence on natural resources, a low level of industrialization, and a slow pace of reform once the transition began. Compared to their more successful transition counterparts such as Poland and Hungary, the less successful reformers traded relatively less with their regional partners, had lower per capita incomes, and were relatively more agrarian.

Most troubled transition economies experienced severe output drops following the onset of reform. Economic policy difficulties included monetary overhang and inflation, overvalued exchange rates, and large fiscal deficits as the scope for raising revenues was quite limited and the institutional system for collecting taxes collapsed. [2] The lack of adequate legal frameworks was an enormous obstacle.

Turning from the past experience of transition economies, the economic situation in Cuba today is not entirely bleak. In fact, Cuba is benefiting from the same set of factors boosting the rest of the Latin America.

Economic growth has picked up since 2004 (7% GDP growth in 2007.

  • Cuba’s access to Chinese goods and services (about 15% of imports) has helped; the Venezuelan oil subsidy (in exchange for Cuba’s export of professional services) has been a life saver.
  • Rising commodity prices for nickel and cobalt, family remittances, and tourist earnings have helped boost foreign exchange reserves.

Transition planners would probably seek to take advantage of a number of other potential advantages for a liberalized Cuba:

Reorienting trade to the US would be of great importance in easing the transition if the embargo can be eased.

  • The island’s low wage structure suggests plenty of room for growth in assembly operations; the high levels of human development could promote more skill-intensive offshore operations such as biotechnology.
  • A substantial pool of entrepreneurial talent could be tapped in the exile community which could also provide equity capital.
  • Cuba’s low levels of debt could permit significant leveraging once a new legal framework is in place.

The Role of the International Community in the Transition

The case can easily be made that a smooth and rapid transition in Cuba is in the long-term interests of the US and Latin America. Just think about the disruptive potential of the worst case scenario. Depending upon the speed and pace of economic reform, Cuba may not need massive financial assistance which is probably not going to be forthcoming in any case even if the old regime goes. (Think Afghanistan.) But it does need other forms of economic cooperation from abroad to ease the transition pain.

What might this consist of? In the beginning, the most draconian aspects of the US embargo could be eased, starting with the restrictions on family travel and remittances, disaster relief, and medical supplies. Further easing might come gradually and in sectors where the US is already trading with Cuba, such as agriculture. (Despite the embargo, Cuba imports substantial amounts of foodstuffs from the US.)

The US can also play a useful role in intermediating investment flows between the expatriate community in Miami and elsewhere, along the lines of the first Taiwanese investments in the mainland following the easing of US-China tensions in the early 1970s. This could be in the broader context of US efforts to promote dialogue between the exile community and the island’s leadership. Recent opinion polls among the Cuban-American community in the US suggest that dialogue is not far-fetched.

Latin American and other nations can also play a most useful role once the US trade restrictions begin to ease. One could see a relatively rapid rise of interregional trade in the Caribbean, for example, significant Brazilian assistance to the sugar industry, and the combined diplomatic efforts of many Latin American countries to maintain the oil trade with Venezuela. Canada has long pursued a much more open economic and political relationship with Cuba and could possibly be counted on to ease the US-Cuban dialogue in its early stages.

The key is for the international community – principally the US, but not only – to facilitate the economic transition in Cuba while respecting the principle of non-intervention. The economic and political transition in Cuba will not be smooth in any case; hardship is unavoidable. However, the alternative scenario of extremely slow reform amid severe economic and social stress would be much more costly.

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