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Capitalism in Cuba? It’s closer than the U.S. may think

Editor’s Note: Besides helping boomers prepare for a financially safe retirement, Making Sen$e contributor Lew Mandell has served as one of our far-flung economics correspondents, reporting from Singapore last fall on how the government uses incentives to encourage and discourage certain behavior. Mandell returns in that role now, filing his observations from his recent trip to Cuba.

With a long interest in economies that have transitioned from a command to a market-based system, Mandell considers himself lucky to have made it to one of the last command economies traveling with the recently reinstated “person-to-person” program that allows Americans to travel to Cuba with groups approved by the U.S. Treasury Department. What he saw was an economy transitioning to a more market-based model after Raul Castro took the helm from his brother Fidel.

Paul Solman first explored the seeds of that transition nearly 13 years ago, when he traveled to Cuba and noted that a “major makeover” was in place: “in short, it seems like capitalism is taking root,” he told the NewsHour audience in 2001 (watch his full report below). Food production was booming because of free market incentives that let farmers privately sell some of their crops. But it was more complicated than that. Every family still received a subsidized ration book from the government, and many farmers were suspicious of the “private guys.” “The state gives me everything I need– the grain, the breeding stock,” one pig farmer told Paul. “So my commitment is to them.”

“In Cuba, then,” Paul explained, “an economics correspondent can feel whipsawed. At some moments you think Castro has saved Socialism, and right under Uncle Sam’s nose. At other times it seems clear the free market is burrowing irresistibly from within.”

Fast forward more than a decade, and Mandell picks up on the those tensions, but sees a much more deliberate transition to a market-based economy.

Simone Pathe, Making Sen$e Editor

We had just returned to Miami from a U.S. government-sanctioned person-to-person trip to Cuba when we learned of our government’s latest attempt to destabilize the government of Cuba.

Called “ZunZuneo” for the sound made by the Cuban hummingbird, the monitored and manipulated Twitter-like text message service was covertly introduced to Cuba by the U.S. Agency for International Development (USAID).

The idea was to build up a critical mass of followers in Cuba with updates about sports, music and weather. But once the message service’s reach was wide enough, operators planned to send political messages to incite a “Cuban Spring.”

As an economist who had the opportunity to observe, first-hand, the difficult transitions of China and Russia from state to largely market-based economies, I was astounded by the counter-productive actions of my government. On its own, Cuba was well into a carefully planned transition to a market-based economy. The only impact of additional U.S. meddling would be to set back this process.

The failure of the 1959 Communist revolution is apparent to everyone. It is most obvious in Havana where 80 percent of housing was built before the revolution and beautiful, old buildings collapse from lack of maintenance at the rate of three per day. While the U.S. boycott of trade with Cuba certainly did not help the Cuban economy, much of its bad fortune is the result of poor government decisions, particularly its choice of bedfellows.

Following the 1959 revolution, the Cuban economy was largely sustained by sugar subsidies from the Soviet Union. This caused the economy to become dependent on a single benefactor and a single commodity. When the Soviet Union collapsed in the late 1980s, Cuba was plunged into a hard landing called its “Special Period.” Without subsidy, the price of sugar dropped by half to the world price of just 6 cents per pound. This was below production costs for an agricultural system that had not invested in modern technology. Sugar fell from supplying 91.2 percent of export revenues in 1990 to 38.5 percent in 2000 to 27.1 percent in 2006. Without this hard currency, the country could no longer afford energy, 94 percent of which was imported. The country’s GDP fell by 34 percent from a very low level in the early 1990s.

About 10 years ago, Cuba made another poor choice of bedfellows — Venezuela, which has supplied much of its energy. However, after the death of Hugo Chavez, the Venezuelan economy has become very unstable and knowledgeable Cubans report that Brazil is rapidly becoming Cuba’s new best friend. A leading source of export revenues is now Cuba’s medical doctors and other health professionals, some 50,000 of whom are alleged to be migrating from Venezuela to Brazil. Many Cubans complain of the diminished quality of medical care as the result of this export.

With virtually no industry and a non-competitive agricultural sector, Cuba has become a service-based “mojito” economy, named after the sweet, mint-flavored rum drink that is popular with tourists. Tourism and health (including the export of health professionals) now account for 72 percent of GDP.

Remittances from Cuban-Americans are the third largest source of income. To capture these remittances, the government set up “dollar stores” where Cubans can buy goods that are otherwise unavailable by converting their foreign currency to convertible pesos known as “CUCs.” Even this intermediary step will soon be eliminated as Cuba reverts to a single currency, its peso. This will make imported goods available to all Cubans, a major step toward open markets.

Currently, the average pay for Cubans is the equivalent of just $20 U.S.D. per month. While this is somewhat mitigated by the facts that some 95 percent of Cubans own their own home (and pay no rent) and there is free medical care and education, subsidized energy and no income tax, it is still very little income. As a result, many capable, well-educated Cubans have gravitated to the tourist sector where a week’s hard-currency tips can equal their government pay for an entire year. Privately-owned restaurants called “paladares” are providing more opportunities for Cuban entrepreneurship, as are “bed-and-breakfasts,” which many enterprising Cubans have set up in their own homes.

It is difficult to tell the extent to which the movement toward a market-driven economy is driven by dire foreign currency needs or by the switch in leadership from Fidel to Raul Castro. Regardless, private sector employees, “trabajadores cuenta propia” or TCPs can now be licensed to work in 201 different types of jobs. These include the ubiquitous “habaneras” or women dressed in colonial attire found in the tourist sectors of Havana who will pose for pictures for a few CUCs.

State jobs have been cut by 10 percent since 2009, and in 2013 more than 200 state-owned small and medium-sized businesses were turned into private cooperatives with hundreds of additional conversions expected in 2014. Just a few weeks ago, Cuba approved a new foreign-investment law that allows Cuban expats to invest in some Cuban enterprises.

It is apparent that the transition to a market-based economy is being done with some care to not excessively exacerbate the inequality of income and wealth. Tourism, a major source of hard currency for its practitioners, is concentrated in Havana and the beaches. In addition to further concentrating wealth in these areas, it is causing unsustainable internal migration from other places in the country.

And the hard-dollar remittances from Cuban-Americans, so necessary to sustain the economy, are having unintended consequences. Fifty-nine percent of remittances come from just 10 percent of Cuban emigrants and this money tends to go to the most highly-educated Cubans who have relatives in the States. The value of the remittances, in comparison to state salaries, has caused many skilled workers, reportedly including cardiologists, to just stop working.

Cuban economists feel that reform must be done carefully. As more people earn private sector salaries and business profits, taxes must be instituted in a thoughtful way. A real estate market must be developed in a manner designed to not dispossess the poor from their homes. A retirement system must be designed. Inherited rights to totally free health care and education must be reconsidered. Guidelines are being submitted for consensus and much of the labor force must be retrained for productive activities. Decentralization from central to local governments is a very important goal right now.

Even more fundamentally, food, which is rationed and heavily subsidized, must eventually have its production privatized to encourage more production. Today, farmers’ markets allow Cubans with farms to sell what they grow to those who have the necessary pesos. There are also modern supermarkets, but only for those with hard currency.

The eventual structure of Cuba’s economy is not likely to mirror that of the U.S. It may be closer to the economies of Western Europe and could even have similarities with that of China. Cuban economists are studying the rapid development of countries such as South Korea for clues to their own potential. Recognizing the difficulties experienced by China and Russia as they moved toward market-driven economies, they want Cuba to move deliberately to minimize the destabilizing, demoralizing impact on a large segment of their population.

Tell me again why we want to interfere with this process!