William N. Trumbull, PhD
Dean and Robert A. Jolley Chair
The Citadel Tommy and Victoria Baker School of Business

To understand the Cuban economy, we have to know the type of economic system that Cuba implemented under Fidel (and now Raúl) Castro. That system is quite unlike the capitalist system that we are used to here in the U.S. I will explain the economic system in Cuba and then discuss the implementation of that system during various periods from what the Cubans call the “Triumph of the Revolution” to today and then add a few words about future prospects for the Cuban economy.

Economic Systems

Cuba has a planned-socialist economy. Planned socialism was the economic system of the Soviet Union, the Soviet-bloc countries like East Germany (the German Democratic Republic), Czechoslovakia, Hungary, Poland, and Bulgaria prior to the fall of the Berlin Wall. Planned socialism was the economic system of Maoist China. For three decades after World War II, about a third of the World’s population lived under the planned-socialist economic system. Today, only Cuba and North Korea remain.

Planned socialism and capitalism differ along four distinct dimensions: ownership and control of resources, the structure of decision making and information, the incentives that motivate economic behavior, and the mechanism that coordinates the decisions of economic actors (producers and consumers).

The capitalist system is based on private ownership and control of all resources: labor, capital, land, and entrepreneurship. Planned socialism is based on state ownership of all resources other than labor. While labor is not owned by the state (they are not slave economies!), the planned-socialist state nevertheless exerts a great deal of control over labor and almost total control over all other resources. Of course, there are all sorts of different kinds of labor, from ditch digging to brain surgery but, for our purposes, we’ll just lump them into one category. So, whether in a capitalist or a planned-socialist economy, individuals provide labor services and are compensated with wages.

Capital is anything that we produce that we then use to produce other things. A carpenter’s hammer is capital. So is an assembly line, a factory building, a forklift, or a truck. In a capitalist economy, capital is privately owned, either by individuals or by firms that are owned by individuals. The income that private owners of capital get is interest. In a planned-socialist economy, there are no private owners of capital – the state owns all capital. Therefore, there is no income that individuals get from capital. All such income goes to the state.

Farmers use land to grow things on. Factories are built on land. In a capitalist economy, land is generally owned by individuals or firms that are, in turn, owned by individuals. The income earned by owners of land is called rent. In a planned-socialist state, the land is generally owned by the state and any income that would have gone to owners of land in a capitalist economy goes to the state.

By the way, there is considerable state ownership of capital and land even in capitalist economies. For instance, we have federal, state, and local parks. We have the military services with all their bases and buildings and equipment like aircraft carriers and tanks and canons. But in a capitalist economy, private ownership of capital and land is by far the dominant form of ownership while it is all but nonexistent in a planned-socialist economy.

The last resource is entrepreneurship. The entrepreneur is the owner of the firm. He or she contracts with providers of labor, capital, and land and pays them whatever wages, interest, and rent is owed them. Of course, a firm has to pay for all sort of things they purchase from other firms. For instance, the power company produces electricity, much of which it sells to other firms that produce cars and shirts and corn. An automobile manufacturer buys tires, headlights, upholstery, paint, and all sorts of things that go into its cars. We call these things that firms buy from other firms intermediate products. So what does the entrepreneur get out of all this? Profit, of course. Profit is whatever is left over from the firm’s revenue after paying for all the resources and intermediate products that go into its product. Note what is different about profit as compared to the income to owners of the other resources. Those who provide labor services know what they will be paid, since the wage is agreed on in advance. So is interest and rent. But the entrepreneur does not know what profit is in advance. It could be a lot, it could be little, it could even be negative. Thus, the entrepreneur is the risk taker in any productive enterprise in a capitalist economy. It is this risk-taking role of the entrepreneur that we need to focus on here. The entrepreneur may also manage the firm but this activity is a form of labor. He or she may also provide capital and land to the enterprise. It is the entrepreneur’s assumption of risk that is the resource that is distinctive from other resources. In a planned socialist economy, there are no individuals who provide this resource, since there are no private enterprises.

To summarize this first dimension over which capitalist and planned socialist economies differ, all productive resources are generally privately owned and controlled in a capitalist economy, while all non-labor productive resources are owned and controlled by the state in a planned-socialist economy (with considerable control, though not ownership, of labor). In the most fully implemented planned-socialist economies, there is no private property. It is true that individuals own clothes, furniture, kitchen appliances, and even tools, like hammers and screw drivers for use around the home (as opposed to use in a productive enterprise like a factory or farm where they are forms of capital). The planned-socialist economies tend to not refer to this sort of ownership as “private property.” Rather, they tend to use the term “personal property.” The difference may seem purely semantic, but private property is really not very consistent with socialist ideology and there have been attempts to eliminate even these relatively minor examples of personal property. The most well-known is China’s Great Leap Forward of the 1950s when much of the population was organized in massive communes where the people were housed and clothed and fed by local units of the state. This experiment in pushing the system to extremes did not last long and it did not end well. Tens of millions starved. This kind of great leap forward was tried in Cuba during the mid to late 1960s. That did not go well, either.

The second dimension is the decision-making and information structure. The decision-making and information structure is highly decentralized in a capitalist economy but highly centralized in a planned-socialist economy.

In a capitalist economy like we have in the U.S., there are many, many thousands of businesses producing goods and services and millions and millions of consumers. Each firm makes its own decisions about what to produce, how to produce, what prices to charge, and how their products will be marketed. Consumers are all making their own decisions on what to buy, within the constraints of their budgets. No one is telling anyone what to do. If General Motors decides to stop producing cars and start producing bicycles instead, there is no one to tell them they cannot. Thus, decision making is decentralized with individual economic agents, producers and consumers, making their own independent decisions.

These individual decisions are based on information, which flows horizontally between market participants in a capitalist economy. Information is generally of three types. The first is price, which is determined by the forces of supply and demand. When you decide to look into buying a car, say, you are obviously going to be interested in the prices of various models. Price is a very important form of information in a capitalist economy because price acts as a signal that drives resources. If the price of a good goes up, say because more people want to buy it, that will make producing it more profitable, so firms will devote more resources to producing it. Another way to put this is that price signals a change in scarcity. When a good or service or resource becomes more scarce, either because of an increase in demand or a decrease in supply, the forces of supply and demand drive the price up. The increased price encourages producers to find ways to supply more and it encourages consumers to buy less, exactly the right responses to an increase in scarcity. Finally, price, as determined in a properly functioning market, is a measure of value. In other words, we use price as a measure of the value of all goods and services. Thus, we can meaningfully talk about how many dollars worth of cars a dealership sold last month even though it sold many different kinds of cars. It is also meaningful to talk about the value of all cars sold in the U.S. last year. And it is meaningful to add up all the prices charged for all the goods and services produced in the U.S. even though we produced many different things, as we do with the measure known as gross domestic product.

Another type of information is descriptive data. That car you might be interested in buying has all sorts of characteristics that you would want to know about, like gas mileage, acceleration, leg room, trunk space, and so on. Note that each of these has its own unit of measure. Gas mileage is measured in miles per gallon. Acceleration is usually expressed as the time it takes to reach 60 miles per hour. Leg room in inches. Trunk space in cubic inches. Unlike dollars, these measures are non-additive. That is, you cannot get meaningful information by adding gas mileage and trunk space, since each is measured in different units.

The third type of information is commands. Commands are common within firms in a capitalist economy and certainly within state structures like the military. However, they are relatively rare between the state and individual firms.

The decision-making and information structure is highly centralized in a planned-socialist economy. The state in a fully-implemented planned-socialist economy controls every productive activity from the largest factory to the smallest retail outlet. There are no individual firms or farms or shops. All are part of a single entity, the state. Thus, a factory producing gloves in Vladivostok and the grocery store in Kaliningrad (eight time zones apart!) were all part of a single organization in the Soviet Union. The state decided how many gloves that Vladivostok factory would produce, what resources it would get to produce those gloves, where the factory would send the gloves it produced, what price it would get for its gloves, and what prices it would pay for the resources and intermediate goods it used to produce its gloves. At the same time, the state decided what that grocery store in Kaliningrad would sell, how much it would sell, and the prices it would receive for everything it sold. Thus, decision making on the production side of a planned-socialist economy is highly centralized. Even on the consumption side, there is little decision-making autonomy for individuals relative to the autonomy individuals enjoy in a capitalist economy. Since the state decides what will be produced, it can give consumers very limited choices. In fact, consumption goods have always been very low on production priorities in these economies. Further, for various reasons, the system results in shortages of most consumer products and services, including basic needs like housing. (For instance, in the Soviet Union, the waiting time for a young person’s first apartment was about fifteen years. If the state planners detected the wait time getting shorter, they would order fewer apartments be constructed. If the wait time got longer they would order more.) So consumers have few choices to make and whenever they did go shopping, they would be confronted by empty shelves. Here is a picture I took in the shoe department of a Soviet department store. If you look closely at the picture, you will notice that there is exactly one shoe to choose from, perhaps in various sizes. If that’s the shoe you want, then you’re in luck! Finally, the state provides for free or at highly subsidized prices much of what consumers in a capitalist economy would have to purchase at market prices, including education (K through Ph.D.), health care, transportation, housing, and some foods and other basic necessities. Workers in a planned-socialist economy receive very low wages. The average monthly wage for a Cuban state worker is around $25. This works because there is almost nothing to buy. Instead, the state provides and, therefore, the state decides.

Information flows in a centralized decision-making structure such as this are primarily vertical. Commands flow down through the hierarchy to each enterprise and descriptive information flows back up as enterprises report on their progress in meeting these commands. There is little horizontal communication, and prices, which are set by the planners and not by markets, are of little importance because they convey little useful information, though consumers do have to take prices into account as they make their buying decisions, however constrained those decisions might be. By the way, scholars of the planned-socialist system often use the term “command economies,” which emphasizes the importance of commands in a centralized socialist economy.

To summarize the differences in decision-making and information structures, capitalism has a relatively decentralized structure with individual economic agents (producers and consumers) making their own decisions based, in part, on horizontal flows of information between buyers and sellers in the form of prices and descriptive information. (I should point out, though, that even in the most free-market capitalist economies, there are some vertical flows of commands. I mentioned, for instance, that no one can tell General Motors that it cannot stop making cars tomorrow. That’s true but, as long as General Motors does make cars, there is a regulatory structure that requires General Motors to install seat belts and airbags, meet fuel-efficiency standards, and all sorts of other things.) Planned-socialist economies have relatively centralized decision-making and information structures with all productive units following the decisions of the state administrative hierarchy with mostly vertical flows of information in the form of commands flowing from the center to individual enterprises and descriptive information flowing from enterprises to the center.

Our third dimension is the motivation structure. There are two types of incentives that motivate us: material and non-material (or moral).

What is it that motivates economic actors to make economic decisions? For instance, what motivates us to work? Is it the wage we get paid? Wage is an example of a material incentive. So is a bonus. Interest, rent, and profit from supplying non-labor factors of production are material incentives. Perhaps you are also motivated by a sense of duty to others. Or you may seek praise from your superiors. Or status. These are non-material or moral incentives. All economic systems rely primarily on material incentives. The difference is that there is relatively little use of moral incentives in capitalism and a whole lot in planned socialism.

The final dimension is coordination. In a capitalist economy like the U.S., hundreds of millions of individuals are making consumption decisions every day and many millions of producers are supplying products. And each consumer and each producer is making independent decisions without any guidance from a central authority. What coordinates all these independent decisions? By what miracle, for instance, do we go to the supermarket looking for apples and always find there a large selection of apples from which to choose but with plenty of room for all sorts of other products we might also want? In a capitalist economy, the market coordinates economic activity. If producers supply more of a good or service than consumers are willing to buy, the excess supply drives the price down. As price falls, consumers become willing to buy more and producers find it less profitable to supply so much. This process continues until the quantity that producers bring to market is exactly matched by the quantity that consumers are buying. If consumers want to buy more than producers are supplying, the price gets bid up making it more profitable for producers to supply to the market but, at the same time, discouraging consumption. This process continues until the quantity that producers bring to market is exactly matched by the quantity that consumers are buying.

There are, of course, many consumers and many producers in a planned-socialist economy (though all producers are mere branches of a single entity, the state), but there are no markets to coordinate activity. In other words, the market forces of supply and demand that determine what will be produced and how much of them to produce and the best way to produce them and what prices to charge are absent in a planned-socialist economy. Instead of the market, the plan coordinates economic decision making (thus the term “planned socialism”). The plan takes close to a year to construct and requires a huge bureaucracy. It begins with a highly aggregated set of basic economic goals for the year and ends with a highly detailed set of instructions for every state enterprise (factories, farms, hospitals, construction enterprises, transportation enterprises, shops) on what to produce, how much to produce, how to produce, what resources it will be allocated, and what prices it will pay for resources and intermediate products, what prices it will pay for its products, and where to send its products. Plan fulfillment is rewarded with bonuses (about a third of total household income in the Soviet Union came from bonuses). Enterprise managers who do a good job fulfilling their plan were also rewarded with promotions. Failure to fulfill planned requirements means the loss of the bonus and possible demotions for managers. 

Cuba’s implementation of planned socialism

Now that we know something about the type of economic system Cuba has today, let’s focus on what the Cuban economy that got replaced looked like. That replacement began January 1, 1959 when Fidel Castro’s troops entered Havana, just hours after the dictator Fulgencio Batista fled the country. This is the date Cubans call the “Triumph of the Revolution.”

In the 1950s, Cuba was a middle-income developing capitalist country. According to Ward and Devereaux (2012), Cuba’s per capita income in the mid-1950s was about the same as Italy’s. It was three times higher than that of neighboring Dominican Republic and about nine times higher than Haiti’s. It was three times higher than Brazil’s. It was about sixty percent higher than Mexico’s and seventy percent higher than Costa Rica’s and about eighty percent higher than Panama’s. It was about 17 percent higher than Chile’s. In all of Latin America and the Caribbean, only Uruguay, Argentina, and Venezuela had higher per capita incomes and then only by a small amount. In other words, Cuba was a fairly well-off country, at least by Latin American and Caribbean standards. Other measures of living standard are even more impressive. In 1955, Cuba had a car-ownership rate two and a half times that of the Latin American average. TV ownership was nearly seven times the Latin American average in 1960. The infant mortality rate in 1955 was a third the Latin American average in 1955 and about the same as Europe’s. Life expectancy was 64 years, 14 years higher than the Latin American average. The number of doctors per capita was about on par with Europe and two and a half times the Latin American average. Finally, literacy was 79 percent while the Latin American average was 58 percent.

Why, if Cuba was so prosperous, was there a revolution? A complete answer to this question would take us somewhat far from the main topic of this essay. A few observations will suffice for our purposes here. First, Cuba was relatively prosperous in the 1950s because it had been even more prosperous in the 1920s, according to Ward and Devereux (2012). In 1925, Cuba’s per capita income and consumption levels were comparable to Europe’s and considerably higher than Italy’s. During that time, Cuba had a fairly free-market environment and world sugar prices were high. However, starting in the late 1920s, a series of labor and product market regulations were imposed with the result that, by the 1950s, markets had become badly distorted and inefficient. Also, the Great Depression caused world sugar prices to fall, which had a devastating impact on the Cuban economy, since sugar production was a mainstay of the economy. Thus, from the late 1920s through the 1950s until 1959, the Cuban economy, especially in terms of household consumption, stagnated and may have even shrunk.

Another cause of discontent was that the distribution of income and wealth was extremely unequal. Most of the wealth and income-earning opportunities were in Havana and a few other urban centers, and even in the cities there was substantial unemployment. Most of the people in the countryside depended on seasonal work in the sugarcane fields and whatever they could scrape from subsistence farming. While overall literacy was high relative to Latin American standards, in the rural areas literacy was very low.

Finally, the Cuban people were suffering under a repressive and corrupt dictatorship since 1952 when Fulgencio Batitsta staged a military coup and suspended the constitution and all its guarantees of human rights. By 1959, Havana had become a mafia-dominated mecca for gambling and prostitution and much of the economy was dominated by U.S. ownership. There was widespread support from all classes to get rid of Batista. There was not, however, widespread support for a socialist economy but Fidel Castro did not announce the socialist character of the Revolution until 1961.

Fidel Castro had five economic goals for the Revolution (Mesa-Lago, 1981):

  • Achieve rapid economic growth.
  • Reduce dependency on sugar through rapid industrialization and diversification of agriculture.
  • Reduce dependency on the U.S.
  • Achieve full employment.
  • Redistribute income more equally.

Since these were his stated goals, it would seem fair to evaluate the Revolution by reference to them.

Mesa-Lago (1981) divides the early socialist period into five stages, with the first four occurring in the first decade or so. The first decade was a period of disruption and reversals of course reflecting a struggle between idealism and pragmatism. Starting in 1971, the regime finally commits (sort of) to central planning until another reversal of course, the sixth stage called the “process of rectification of errors and negative tendencies,” or the rectification period for short, which Mesa-Lago (2000) describes. Then in the early ’90s, with the fall of the Soviet Union, Cuba enters yet another stage, the “special period in time of peace,” which we will discuss a little later.

The graph below shows national income (as measured by gross domestic product, adjusted for inflation) from 1959 to 1993, divided into four periods. The first period, which I label “period of reversals” corresponds to Mesa-Lago’s (1981) first four periods of disruption and reversals of course.

 

Source: The Maddison-Project, 2013 version.

There was no stated ideological basis guiding economic policy during the first two years as it was not until 1961 that Fidel Castro announced the socialist character of the Revolution. The goal was simply to take from the enemies of the Revolution. The result, though, looks very much as if the intent were to build a socialist economy. There were successive rounds of collectivization and nationalization, which destroyed the foundations of the market economy. The professional and managerial class was forced out, as these persons were seen as enemies of the Revolution. Jobs were assigned according to revolutionary credentials rather than expertise. Finally, trade shifted away from the U.S., which imposed a trade embargo, to the Soviet Union and China.

For a couple years after Castro’s announcement that the Revolution was socialist, there was a half-hearted attempt to institute central planning. It did not get very far since there was no one trained in the rather complex mechanisms of planning and Castro just was not interested. Central planning to the extent that it did exist prioritized heavy industry, which was clearly inappropriate for an agricultural economy like Cuba’s. It also attempted to become more self-sufficient, that is, to close off trade, which is typical of planned-socialist economies. By 1963, agricultural output had fallen 23 percent below its 1958 level. The fall in agricultural outputs and consumer goods created huge shortages, which required rationing, which continues today. It also resulted in the emergence of black markets. Trade with the U.S. and other capitalist economies was cut off and replaced by the Soviet Union and Soviet-bloc countries. Cuba was importing all its oil from the Soviet Union, pretty much all on credit, so its debt to the Soviet Union skyrocketed.

In 1964, an ideological debate broke out between the idealistic Maoists, led by Che Guevara and inspired by China’s Great Leap Forward of the 1950s, and the followers of the Soviet economist Evsei Liberman, whose writings are generally credited with inspiring Soviet and Soviet-bloc reforms of the 1960s that helped to revitalize those economies, which were fast becoming moribund. Che ended up getting himself killed in 1967 attempting to foment revolution in Bolivia. Though Che was dead, or perhaps because he was dead, Mao-Guevarist ideology triumphed over the Libermanists. This was a period of radical collectivization. The state either nationalized private plots or subjected them to increased acopio (a system in which private farmers are required to deliver a large portion of their product to the state at state-determined prices). What was left of a non-agricultural private sector was eliminated, including some 56,000 small businesses like food vendors, barber shops, restaurants, bars, and handicraft shops. The normal methods of central planning were rejected in favor of ad hoc allocation by the revolutionary leadership. Monetary calculation and market mechanisms to incentivize behavior were eliminated, including in agriculture. Cuba entered its own Great Leap Forward, and like the Great Leap forward in China, it was not a success.

The goal was rapid industrialization. Thus, capital accumulation was prioritized over consumption but capital investment was irrational, leading to a sharp fall in capital productivity. There was also a sharp drop in labor productivity as material incentives were reduced in favor of mass labor mobilizations. The lack of planning resulted in all sorts of bottlenecks as inputs became unavailable to enterprises, which were then unable to produce assigned outputs. Imported equipment and machines were left to rot on the docks. Newly completed factories were left closed because of missing components. Maintenance was neglected (a common problem in the socialist world), causing the shutdown of factories and power plants.

The trade deficit with the Soviet Union increased, increasing Cuba’s dependence on the Soviet Union. At the same time, the Soviet leadership became increasingly irritated by the Cubans’ assertion that Cuba has taken the lead in the development of the socialist economy. Cuba publicly rejected the Soviet Union’s incrementalist approach to socialist development, its dependence on technical planning by bureaucrats, and on material incentives, which Cuba perceived as a betrayal of Marxist ideology. In 1968, the Soviet Union retaliated by reducing its oil shipments.

Growth was generally negative. While there was full employment in the sense that everyone had a job, much of this labor was wasted. Labor absenteeism reached 20 percent. The distribution of income became flatter as wage differentials and bonuses were reduced.

Thus the first decade ends in chaos. Growth was slow, especially for a low-middle income, developing country, which would normally be in a fast-growth stage of development. In fact, the well-known Maddison dataset (from which I constructed the graph above) shows Cuba’s per capita GDP slightly lower in 1969 than in 1959. According to these data, per capita growth was more or less flat the first several years. There was a spurt in 1966-7 and then a crash during the disastrous Mao-Guevarist attempt to leapfrog socialist development. This slow growth was a result of the destruction of material incentives, the numerous changes in economic organization as Cuba embraced and then rejected planning, the exodus of technically trained professional and managerial talent, overall low world prices of sugar, irrational investment decisions creating massive inefficiencies and low productivity, and the heavy burden of ramping up the military and subversion abroad. And there was the U.S. embargo, which, during that time, was supported by the members of the Organization of American States.

The distribution of income was distinctly flatter. In large part, this was a result of the rich emigrating. It was also due to the loss of household income from the nationalization of capital and land. The state set wages so as to achieve a more equal distribution of income, especially during the Mao-Guevarist period. Everyone had a job, and therefore a paycheck (of sorts), even if there was nothing to do at work.

Cuba certainly succeeded in its goal of reducing its dependency on the U.S. However, what it got in exchange was as great a dependency on another country, the Soviet Union.

Despite its attempts to industrialize, Cuba failed in its goal to reduce its dependency on sugar during this period.

After the failed Mao-Guevarist period, the regime turned to the Soviet Union for help. They admitted that the foundations of socialism had first to be laid so that the economy could be developed and put on a sound footing as the consciousness of the population was raised. They admitted, as well, that the Soviet Union was much further along in developing their socialist economy and that theirs was the model to follow. In particular, they recognized the importance of a highly institutionalized model of central planning and the importance of using material incentives, including market mechanisms, where appropriate, to motivate desired behaviors. For instance, the acopio system was continued, but private farmers were paid higher prices for their state deliveries and permitted to sell their surpluses on free farmers’ markets at market prices.

With the help of Soviet and Czech planning experts, Cuba constructed a proper planning structure complete with vertical channels of information and control. In 1972, Cuba was incorporated into COMECON, the socialist trading bloc orchestrated by Moscow, which cemented Cuba’s dependency on sugar. By 1976, Cuba launched its first five-year plan. Enterprises were managed by experts trained in enterprise management, replacing managers whose only credentials were loyalty to the Revolution.

There was considerable decentralization, with 300 enterprises broken up into 3,000, each on a self-financing basis in which prices were set to cover input costs. Each enterprise had an account at the central bank where it could borrow funds to finance day-to-day operations (working capital). They reintroduced the Soviet system of work quotas and wage scales reflecting differences in skills, relative scarcity, undesirable conditions, location, etc. The bonus system was reintroduced. And, to make wage differentials meaningful, there was an increased supply of consumer goods.

The result was an impressive growth spurt thanks to a far more efficient organization of the economy, improved individual incentives, more rational allocation of capital, reliance on trained engineers, enterprise managers, and skilled workers rather than political cadres, and mechanization of the sugar industry. In addition, the Soviet Union provided additional credits and postponed repayments of Cuba’s debt and the U.S. eased somewhat its embargo. Finally, Cuba benefited from an increase in the world price of sugar. However, growth slowed in the mid ‘80s with a slump in the world price of sugar and a leveling off of industrial output. Income distribution became less equal during this period with the reintroduction of material incentives, increased use of market-based prices, curtailment of some free social services, and the laying off of surplus labor to increase efficiency.

Cuba had continued decent (by Cuban standards) growth in the first half of the 1980s. This was a period of large increases in both labor and capital and massive Soviet subsidies primarily in the form of the highly favorable price (in the form of oil) the Soviets paid for Cuban sugar. The increase in labor came from a dramatic rise in the female labor-force participation rate and a baby boom in the early ’60s. While the quantity of labor and capital inputs was increasing, the quality of labor, that is, labor productivity, was stagnant, while capital productivity was falling.

Growth peaked in the mid ’80s and then became negative as Cuba exhausted its ability to throw additional labor and capital into production. Exports stagnated and both trade and government budget deficits increased. By the mid-1980s, these problems became obvious to the Cuban leadership, who started to question the applicability of the Soviet model to the Cuban situation. In 1986, they launched the “process of rectification of errors and negative tendencies.” The so-called Rectification Period was yet another reversal of course. There was a return to labor mobilization and farmers’ and artisans’ markets were yet again outlawed.

Were Fidel and the Cuban leadership correct in asserting that the Soviet model was inappropriate for Cuba? Certainly by the 1980s, and especially by the second half of the 1980s, the Soviet model was not working well even in the Soviet Union. The 1980s had been a period of stagnation in the Soviet Union and by 1989 GDP peaked and turned negative. Nevertheless, the Soviet model had served the Soviet Union more or less well for six decades. But the Soviet Union was a huge resource-rich country that could afford to close itself off from the outside. Cuba was a small resource-poor country that could not afford to be closed and was certainly in no position to ignore economic realities. But what were its options, if not a market economy? Certainly not the Mao-Guevarist model that it attempted to implement in the late ’60s.

Cuba was facing a problem shared by all economies, whatever the economic system, that are dependent on supplying a basic commodity. While sugar had made Cuba wealthy in the past, it faced the reality that, in the long run, the terms of trade tend to turn against suppliers of basic commodities. This was certainly the case for Cuba. For instance, in 1959, a 60 horse-power tractor could have been imported with the proceeds of 24 tons of sugar but by 1982 a comparable tractor cost Cuba 115 tons of sugar. In 1960, a ton of coffee (another important Cuban export) bought 37.3 tons of fertilizer but by 1982 a ton of coffee bought only 15.8 tons of fertilizer. Yet, it was locked in as a supplier of basic commodities by its COMECON relationship.

The Berlin Wall fell in 1989 and shortly after the Soviet-bloc countries abandoned COMECON and launched their transitions to capitalism. In 1991, the Soviet Union disintegrated and the newly-independent states of the former Soviet Union launched their own transitions. COMECON was essentially no more. Thus, Cuba lost its primary trading relationships. It also lost its subsidies from the Soviet Union. Between 1989 and 1993 Cuba’s economy contracted by over a third during a time when the rest of Latin America was growing rapidly.

The Economic Reforms of the Special Period

The following graph shows GDP growth for the years 1990 to 2016. The information is the same as the previous graph but simply replaces GDP in each year with the percent change in GDP. Note the overlap of the years 1990 to 1993 in the two graphs. Thus, the graph below corresponds to the dramatic fall in GDP at the end of the previous graph.

Gross Domestic Growth from 1990 to 2016

Source: The Maddison-Project, 2013 version. Updated from CIA WorldFactbook

Between 1989 and 1993, Cuba’s economy contracted by a little over one third. It lost some 80 percent of both imports (mostly oil) and exports with the collapse of the Soviet Union and COMECON. And it lost its subsidies from the Soviet Union, which had been importing Cuban sugar for its oil on terms that were extremely favorable for Cuba. In fact, the Soviet Union had been selling so much oil to Cuba at below-market prices that the Cubans then turned around and resold so much on world markets that petroleum products became Cuba’s second largest export. Not bad for a country that produced virtually no oil!

Although outright starvation was averted, there was certainly malnutrition. The average adult lost 20 pounds and infant growth was stunted. Power outages were widespread and could last most of the day. Most public transportation ground to a halt. This truly was a crisis. Suddenly, Cuba found its socialist economy adrift in an ocean of capitalism. Something had to be done. What was done was yet another reversal of course. The Cubans referred to this time as the “Special Period in Time of Peace,” or Special Period for short.

With the loss of its socialist trading partners, since socialism no longer existed outside of North Korea, which hardly represented an opportunity, there was no longer any question that Cuba would have to find a way to operate in a capitalist world. It was also evident that Cuba lacked the capacity to feed itself and provide for other forms of consumption. It could no longer be a closed economy and would have to learn to trade in a capitalist world that does not obey central plans.

What emerged was a “dual economy model.” One economy, including the main state enterprises, hospitals, and schools, would operate as before under central planning. However, a new emerging economy operating under market rules (sort of) would be permitted. Thus, there emerged a new private sector. Individuals could apply for “self-employment” licenses to engage in private-sector activities, producing and selling goods and services for the domestic population and tourists. The emerging economy also included foreign businesses that could form joint ventures with Cuban enterprises or foreign firms opening offices in Cuba. And it included private-sector activities of select state enterprises that were allowed to engage in trade using foreign currencies as long as such trade was profitable.

Another, perhaps surprising, element of the reforms was the dollarization of the emerging economy. The US dollar was legalized and required for transactions in the emerging economy.

It is important to keep in mind that the intent of these so-called reforms was not transition to a market economy. Rather, the stated intent was to preserve socialism while trying to integrate into a capitalist world. Unfortunately, this attempt to integrate into the capitalist world created all sorts of contradictions and ideological confusion. The reforms were also too shallow to have a major impact, though they did stop the collapse, and were subject to reversals, since Fidel saw them as a pact with the Devil. The attempt to insulate Cubans from the evils of capitalism limited the impact of foreign investment.

The reforms certainly wreaked havoc with the socialist notion of a classless society, creating a class of persons who had access to dollars, whose income potential was huge compared to those who did not. It also resulted in Cubans being placed in an inferior position relative to foreigners. Cubans could not enter the new fancy hotels. Cubans were prohibited from eating lobster and beef so as to ensure supplies for the tourists. Cubans could not afford to eat in the new restaurants catering to foreigners. Cubans could not ride in the new taxis imported for use by tourists. Cubans suddenly became subservient to foreigners, including perhaps the clearest expression of subservience, prostitution, which became rampant.

References to the Special Period start to fade by the end of the ’90s after which there is a significant retrenchment of reforms (2001-2004) and recentralization (2004-2006) at the end of the Fidel Castro period. Now, under Raúl Castro, there is yet another reversal and a major expansion of the private sector, as well as other market-oriented reforms.

Initially, this pact with the Devil was quite successful. The economic collapse bottomed out in 1994 and the economy started growing again. By 1996, growth was nearly eight percent. However, progress on economic reforms came to a crashing halt in 1996. Self-employment licenses were reduced and new regulations and taxes imposed. Reformist academics were demoted or purged. This happened despite the success of the reforms in stopping the economy’s free fall and generating real GDP growth. By 1997, GDP growth had slowed to 2.5 percent and only 1.2 percent in 1998. It surged again in 1999 and 2000 because tourism was taking off and because of foreign investment in oil (which, so far, has turned out to be a bust) and mining, but the rest of the economy was stagnant. The regime just could not stand it anymore. Fidel especially saw these reforms as a pact with the Devil, a betrayal of the socialist promise, and he was determined to put a stop to reforms as soon as he could.

Then came 2001. By this time, foreign investors were getting fed up and were pulling out. Tourism was maturing and the Dot.com recession of 2001 hit Cuban tourism hard, especially after the 9/11 terrorist attack on the World Trade Center and the Pentagon. The recession also caused remittances (the Cuban diaspora sending money to family left behind in Cuba) to fall. The sugar harvest came in well below targets. Russia closed a huge military installation (the Lourdes listening post), causing a loss of $200 million per year in rent alone. And then Cuba got smacked by Hurricane Michelle, the most destructive since Hurricane Fox in 1952. Yet, Cuba announced the following year that GDP in 2001 had increased 3 percent. This was impossible. Cuba was clearly contracting and everyone knew it.

Cuba was starting to cook the books.

In 2004, Cuba announced the adoption of their own unique methodology to calculate national income, making it impossible to compare Cuba’s GDP with its own past or with any other country. Under this new methodology, Cuba’s stated GDP surged. Then in 2005 they recalculated the value of the medical services Cuba was providing to other countries like Venezuela resulting in an 80 percent increase in the health sector in a single year.

Under this new methodology, Cuba’s growth came in at a whopping 11.2 percent in 2005 despite a fall in oil and gas production (such as it was), flat nickel production (though price did rise), a sharp drop in sugar production, a severe drought in the first half of 2005, and three major hurricanes.  Then in 2006, Cuba claimed a GDP increase of 12.1 percent, which, if true, would have made Cuba the fastest growing economy in the world. Obviously, it was not.

Then Cuba hit a brick wall. Even under its new GDP methodology, reported GDP growth fell precipitously, falling to 1.4 percent in 2009, increasing a little for a few years, and then falling again to 1 percent in 2014. Thanks to a surge of tourism after the opening up that was announced by Raúl Castro and Barack Obama in December, 2014, growth was a fairly respectable 4.3 percent in 2015 but turned negative in 2016 and will probably turn out even worse in 2017. This despite the economic and political reforms under Raúl Castro that have been so much in the news the past several years. Let’s turn now to those reforms under Raúl Castro.

Reforms under Raúl Castro

Fidel Castro suddenly entered a hospital in 2006 for abdominal surgery. The surgery apparently did not go well and, in July, he handed over the powers of President to his brother Raúl.  This arrangement was meant to be temporary but it eventually became apparent that Fidel would never return to office so, in February of 2008, the National Assembly elected Raúl President. During his time as Acting President, Raúl was understandably hesitant to enact sweeping reforms. Nevertheless, reform was clearly needed.

After half a century of (half-baked) central planning, Cuba was facing social and economic crisis, necessitating, from the regime’s perspective, outright lying about the state of the economy. Reform could be put off for a time, thanks to the support of Venezuela, which was swapping its oil for health care services on terms that were very favorable to Cuba, much as the Soviet Union had once swapped oil for sugar, but it was becoming increasingly clear that that support was not going to last much longer. According to Carmelo Mesa-Lago (2013), growth by 2013 was slowing dramatically, fixed capital investment had fallen to almost nothing, industrial production was 55 percent lower now than it was in 1989, sugar production was down from 8 million tons in 1989 to 1.3 tons, overall food production was down, natural resource (oil, gas, nickel) production peaked in ’06-’08 but then started to fall, hotel occupancy was falling (though it is up now, thanks to Obama), trade deficits were worsening, the economy was becoming increasingly dependent on Venezuela (which is clearly unsustainable, since Venezuela is on the verge of collapse), real salaries had declined by 72 percent, social services, including health care and education, were declining, almost 1.8 million workers in the state sector were redundant, and there was a huge housing shortage.

Mesa-Lago categorizes the reforms of the Raúl regime into two types, administrative and structural. Administrative reforms do not alter the structure of the system. Rather, they merely alter rules that are not directly related to the system without changing its basic character. Structural reforms, on the other hand, are much deeper, to the point that the nature of the system itself is changed. Raúl’s reforms were limited to the administrative sort initially when there was still the expectation that Fidel would eventually resume his role as President. Structural reforms began only after Raúl was elected President by the National Assembly and Raúl felt that he had consolidated his control.

Administrative reforms began early and continue. They mostly have to do with lifting irritating prohibitions that effectively made Cubans second-class citizens in their own country. These include allowing Cubans to book rooms in hotels that had previously been reserved for international tourists only. Since most Cubans lack the income to stay in such hotels, this makes little difference as a practical matter, except for the few Cubans who have sufficient access to dollars who can now enjoy these facilities, which exacerbates the distinction between those who have access to dollars and those who do not. Similarly, Cubans can now purchase computers and cell phones. Again, for most Cubans, these are simply out of reach. They can also buy new cars now, though the huge state markup places new cars far beyond the reach of almost all Cubans. The following is from a July 1, 2014 NBC online news article:

Cuba’s 11 national car dealerships sold just 50 cars and four motorcycles in the first half of the year under a new law that removed limits on auto purchases for the first time in half a century. Cubans had welcomed the new law which removed limits on auto purchases, but many are in sticker shock at the 400-percent markup. Cuba has said it would invest 75 percent of the sales’ proceeds for its public transportation system, but total sales at the country’s dealerships reached just $1.28 million. A Peugeot dealership in Havana was pricing its 2013 model 206 at $91,000 when the new rules came into effect, and it wanted $262,000 for the sportier 508. Most state workers make around $20 a month. In 2011, Cuba started allowing people to buy and sell used cars from each other. Before then, only cars that were in Cuba before the 1959 revolution could be freely bought and sold, which is why there are so many U.S.-made, vintage 1950s cars on the streets.

In 2013, Cuba abolished the exit permit that had been required to travel abroad. Cubans can now, in theory, come and go as they like (subject, of course, to getting visas from the countries they want to travel to). In practice, there are all sorts of ways to restrict travel and most dissidents are not allowed to travel. Also, most Cubans cannot afford the cost.

Cubans can now buy and sell houses. Previously, there was a system in which Cubans could trade apartments and houses. In other words, if I wanted a house closer to town, I would have to find someone who wanted a house where I live. The houses would have to be substantially alike, according to the rules. As you can imagine, Cubans came up with all sorts of ways to get around these rules, and some Cubans made a living brokering deals in what developed into an almost full-blown real-estate market that barely bothered to even acknowledge the formal rules, so this reform basically legalized what had already become a de facto reality.

Structural reforms did not begin until 2008, after Raúl was more or less out from under Fidel’s influence. Again, these reforms are more likely to go to the heart of socialism. They affect the nature of the system. They renege on the promises of socialism. In no particular order, these reforms involve the distribution of idle state land to households, reduction of state expenditures, reduction of public-sector employment, and the expansion of self-employment.

Distribution of Idle Land

Individuals were given usufruct rights to land the state wasn’t using with the requirement that the right-holder would grow crops and contribute to the state’s food-production targets. Usufruct gives the individual the right to use the land for profit but not own it. The farmer must get state approval for whatever he or she plans to grow. If approved, the state takes 70 percent of the harvest and pays the state-administered prices, which, of course, are below market price. That is a pretty big disincentive. The farmer still has to purchase inputs, such as fertilizer and seed, from the state, which continues to monopolize inputs. The farmer cannot hire labor, so the whole things has to be a family affair. And, until recently, the farmer was not permitted to build on the land. Even now that building is permitted, the state could always take the land away, along with the building, once the contract period is over. Most of this land is covered with marabú, an invasive tree from Africa that is extraordinarily tough to clear away. The upshot of all this is that food-production targets are not being met, which means Cuba continues to import most of its food.

Reduction of State Expenditures

Cuba cut expenditures across the board. One of the ways they did this was by closing work-place cafeterias that had been providing free lunches or converting cafeterias into worker cooperatives (see below) that charge for the lunches they provide. This was hugely unpopular. For many workers, these free lunches were a substantial part of their diet. Similarly, the state closed universities and schools and made cuts in health care. The monthly ration was also cut. Cubans have ration books (right), called libreta, that permit them to purchase bulk staples each month at special ration stores at very low peso prices. Prior to this cut, these rations would typically last people about ten days. Anything consumed beyond these rations has to be purchased in markets at market prices, which is hard on a $25 monthly wage. Recall that the state had always justified its low wages on the grounds that the state provides most of the people’s needs. These cuts mean that the state is, at least in part, reneging on the fundamental promise of socialism that the state provides for the people’s needs. Maintenance, already sorely inadequate was further reduced.  Unfinished investment projects were further delayed. All of this was an effort to reduce the budget deficit, since deficits have to be covered by borrowing, which is very hard to do for Cuba.

Reduce Public-sector Employment

Raúl announced that one million workers in the state sector were redundant and would need to be laid off. That is approximately one in every five state workers!  This is a really dramatic retreat from the promise of guaranteed employment — economic security — in a socialist economy. Of all the structural reforms of the Raúl era, this is the biggest. So big, in fact, it keeps getting put off. There has been little headway on this.

Self-employment

Self-employment goes hand in hand with the goal of reducing public-sector employment. The idea is that as workers get laid off from the public sector they find employment in the private sector as self-employed entrepreneurs. The problem with this plan is that those who are entering self-employment are primarily those who were operating in the underground economy prior to legal self-employment, as well as retirees. Thus, self-employment is not absorbing laid-off state workers and, as a consequence, lay-offs are being delayed.

Of course, self-employment dates back to 1993 under Fidel, so this is not new under Raúl. What is new is a renewed emphasis on self-employment specifically as a strategy tied to the retreat of the state sector. In 2010, the state published a new list of 181 activities authorized for self-employment. These are practically all services and in low-priority sectors. Included in the list was offering one’s services as a clown. It included hairdressing and taxi services. By the way, this last, taxi services, has resulted in a dramatic increase in the number of classic ’50s American cars on the road as run-down clunkers suddenly become an asset, after extensive rehabilitation. Not only has self-employment meant more taxi services, it has also resulted in new business restoring these old clunkers.

This list gets expanded from time to time and is now a little over 200 but the general characteristics of the list remain unchanged. An occupation that competes with anything the State is interested in doing does not get on the list. Not included on this list, for instance, are most professional activities.

Non-agricultural Workers’ Cooperatives

A worker cooperative is a form of non-state ownership. Formally, the workers in the enterprise own it and receive the income derived from the enterprise. This arrangement has long existed in the agricultural sector in Cuba, as well as other planned-socialist economies, including the Soviet Union. While an alternative to a state-owned farm, the practical distinction between these two forms of ownership in agriculture was minimal. The cooperative, just like the state farm, was required to deliver most, if not all, its output to the state at state-administered prices. It received all its inputs from state suppliers. And it did not own land or capital, all of which was owned by the state.

The concept of workers’ cooperatives has been extended to non-agricultural occupations as an alternative to the traditional state-owned enterprise. The idea is to expand the non-state sector and take a burden off the state budget but to preserve some aspect of socialist production. Hundreds of small to medium state enterprises have simply been handed off to their workers as worker cooperatives. I have already mentioned that cafeterias in some state enterprises have been converted into cooperatives that charge for lunches that had been provided free by the state enterprise. Cooperatives can also be formed by private individuals.

Preliminary research on cooperatives finds that those formed by individuals perform much better, on average, than those formed from state enterprises. This is probably unsurprising. Those formed by individuals are probably indistinguishable from what we would call a partnership. These are persons getting together to form a business and sharing in the profits. On the other hand, think about workers in a state enterprise that gets converted into a cooperative. One day the workers are working for the state; the next day they are supposed to be working for themselves. Nothing has really changed except that they can no longer get state subsidies. If the enterprise was unproductive before the change of legal status, it will continue to be unproductive after the change

Prospects for the Future

With all these reforms, especially those that represent a retreat from the promises of socialism, one might wonder if Cuba is still socialist or, if it is, if it will be for long. Employment is no longer a state guarantee. Is guaranteed employment — economic security — not a fundamental promise of socialism? Social services, including health care and education, are being cut. The monthly ration, already woefully inadequate, is being cut. Is it not fundamental to socialism that the state provides, at least the basics? The private sector is being expanded, which, of course, means resource allocation being determined by price signals and motivation by profit. Are not market allocation and profit seeking not anathema to socialist ideology? Thus, will these reforms save or ultimately destroy socialism in Cuba?

Is Cuba in a transition from planned socialism to capitalism? The regime says it is not, that socialism will be forever in Cuba. Of course, that is what the Soviet regime under Gorbachev said during perestroika and look what happened there. We will see.

How will we know that what is happening in Cuba really is transition, despite the regime’s current assertions that Cuba will always be socialist? Recall the basic characteristics of a planned-socialist economy. First, non-labor factors are state owned. Transition therefore requires that the state divest itself of its non-labor factors, land and capital. Is Cuba doing that? To some extent, though much of it appears to be in the form of converting state-owned enterprises into cooperatives, much like state farms were converted into cooperatives, without anything of real substance coming from it. What is not happening is the outright privatization of state-owned enterprises. Doesn’t look much like transition to me.

Second, planned economies have highly centralized decision-making and information structures while capitalist economies have highly decentralized structures. There has clearly been some decentralization with enterprises, both state owned and cooperatives, having much more decision-making authority than they did prior to the Special Period. There is also the private sector, which has grown substantially over the past few years. These are accommodations to the reality that Cuba must operate in a capitalist world, which requires flexibility and the ability to respond to opportunities as they arise. It is also an accommodation to the reality that the state does not have the resources to support as many state enterprises as in the past. The communist party still has a monopoly over the political process and the economy is still, for the most part, planned. I don’t see evidence of transition in the decentralization of the decision-making and information structures. At least not yet.

Third, socialist economies make much greater use of moral incentives and less use of material incentives than do capitalist economies (though all economies depend primarily on material incentives unless they are attempting some sort of “great leap,” as occurred in China and Cuba in the past). I don’t think there has been much change here, either. The rhetoric is still revolutionary. Revolutionary exhortations are everywhere. The school children still participate in the Young Pioneers, a mass organization of all school-age children (you can see what level Pioneers they are by the color of the scarves worn as part of their school uniform). No transition here.

Finally, planned economies are coordinated by the plan, capitalist economies by markets. There is clearly less planning and more market coordination today than in the past. But the market is relegated to lower-level, mostly service or agricultural (that is, low-priority), activities (like this street vendor).

Cuba is not now a transition economy. It will be when the regime says it is and commits to privatization and much more fundamental decentralization, ceases its revolutionary rhetoric, and dismantles its planning apparatus. We will see.

If Cuba is not in transition to capitalism, what are its prospects as a socialist economy? I do not have a crystal ball but it is hard to see how the planned-socialist economic system there is sustainable. It has not been sustained anywhere except Cuba and North Korea, neither of which are thriving economies. It was not even sustained in the Soviet Union, which was probably the resource-richest country in the World. For much of Cuba’s socialist history, its economy was propped up by the Soviet Union. Venezuela took over that role after the collapse of the Soviet Union but now Venezuela appears to be in a state of collapse and there is no replacement in sight. The various reforms described here have failed to reenergize the economy. Furthermore, in what appears to be yet another reversal of course, on August 2, 2017, Raúl Castro announced a freeze on the issuance of new self-employment licenses until the self-employment sector can be “perfected” with new regulations. One suspects that these new regulations will not make it any easier to do business in Cuba.

Finally, what is the impact of the U.S. embargo (what the Cubans call el bloqueo, the blockade)? There is no question that the embargo hurts the Cuban economy (as well as our own). The embargo outlaws all imports from Cuba (with the exception of items licensed travelers bring back for their personal consumption) and all exports to Cuba with the exception of food and medicine and household items that Cuban-Americans take to Cuba on family visits.

It is a basic principle of economics that free trade is beneficial to any economy and the embargo is a severe barrier to trade. However, it only restricts trade between Cuba and the U.S. Cuba can and does trade with other countries, so the impact of the embargo is limited. Much more important is what Cubans call el auto-bloqueo, the internal embargo, which is the system itself. According to Ted Henken and Archibald Ritter, two long-term observers of the Cuban economy, “While we believe that it is both good and necessary for the United States to open up to Cuba and vice versa…, little economic progress or political freedom will be enjoyed by Cubans themselves until the Cuban government opens up to its own people, ceases to demand their acquiescence as subjects, and begins to respect them as citizens, consumers, and entrepreneurs with defensible and inalienable economic and political rights of their own. (Henken and Ritter, 2015)”

Before closing, let me recommend two books on the Cuban economic and political scene, one by Ritter and Henken (2015): Entrepreneurial Cuba: The Changing Policy Landscape. The other is Marc Frank (2013) Cuban Revelations: Behind the Scenes in Havana. Another excellent source of information and analysis on the Cuban economic and political scene is the  of the Association for the Study of the Cuban Economy annual conference proceedings.

And for a fun read, and having nothing to do with the Cuban economy, is Aran Shetterly (2007), The Americano: Fighting with Castro for Cuba’s Freedom, about William Morgan, the only American commandante (the highest rank in the revolutionary army)

Enjoy!


References

Frank, Marc, Cuban Revelations: Behind the Scenes in Havana, University Press of Florida, 2013.

Henken, Ted A. and Archibald R.M., “Perspective: Overcoming Cuba’s Internal Embargo” in The Cuban Economy Blog.

Mesa-Lago, Carmelo, The Economy of Socialist Cuba: A Two-Decade Appraisal. University of New Mexico Press, 1981.

Mesa-Lago, Carmelo, Market, Socialist, and Mixed Economies: Comparative Policy and Performance — Chile, Cuba, and Costa Rica. The Johns Hopkins University Press, 2000.

Mesa-Lago, Carmelo, “Panorama de las Reformas Económico-Sociales y sus Effectos en Cuba,” Annual Proceedings of the ASCE Conference, 2013.

Ritter, Archibald R.M. and Ted A. Henken. Entrepreneurial Cuba: The Changing

Policy Landscape. Boulder, CO: FirstForumPress/Lynne Rienner Publishers, 2015.

Shetterly, Aran, The Americano: Fighting with Castro for Cuba’s Freedom, Algonquin Books, 2007

Ward, Marianne and John Devereux, “The Road Not Taken: Pre-Revolutionary Cuban Living Standards in Comparative Perspective,” The Journal of Economic History, Vol. 72, No. 1 (2012).

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