Ricardo Torres: ‘The cost of the model is invisible, but it is high’

There are still many questions regarding the next monetary reorganization that the Cuban authorities are calling for. It is logical, in the first place, because it is about the nominal cost of living, the main sources of income, and the economic security of the population. But the uncertainty is also brought about by the fact that there are six processes that will occur simultaneously, as explained by Cuban professor and economist Ricardo Torres. They are:

1. The Cuban Convertible Peso (CUC) will be retired.
2. Unification of exchange rates — there are currently several for different sectors.
3. The national currency (CUP) will be devaluated.
4. There will be an increase in prices.
5. Subsidies will be eliminated.
6. An increase in wages and pensions.

All this begins, as the authorities have indicated, on Day Zero. But the impact of each of these measures will not occur simultaneously.

One exchange rate, one economy

Professor Torres tells us that if we take into account that the exchange rate (high or low) reflects the scarcity or abundance of foreign exchange in the economy, when there is a shortage of foreign exchange in the country —as is the case— the national currency loses value. But speculation also affects these values, especially in the informal market, which is currently the only way for the population that does not receive remittances to acquire foreign currency and access essential products that are offered in Freely Convertible Currency (MLC) and not in the Cuban Convertible Currency (CUC) .

“So the exchange rate is the price that balances the domestic economy with the foreign market. If you export less, your national currency will lose value [the price of the currency increases], and when the currency depreciates, imports will cost you more. Therefore, you import less, and you adjust the balance again,” explains Torres. This is an objective equation that does not take into account the consequences of less imports for citizens.

In any case, this is a rule for market economies, which is not the case in Cuba. According to Torres, since the 1990s, a monetary and exchange system has been operating on the island that relied on two monetary signs used by different sectors of the economy and with different exchange rates. For a long time, he says, the CUC exchange rate was guaranteed by the Central Bank. In the case of CADECA, it was the mechanism for the population that took away the sale of foreign currency from the informal market, which began with the formal exchange rate of 120 pesos for one CUC.

“We survived, but that still created problems. Because the economy was segmented by types of currencies and access to those currencies. Add to that the problems when measuring economic activity, because not all currencies are traded at the same exchange rate. This, among others, is a good reason to devalue the currency now. This ordering is necessary. The cost of having the current economic model is invisible, but it is very high and we are paying for it every day,” adds Torres.

He also points out that another reason are the “perverse incentives” that this exchange rate created for exporters, adjusted downward over time until 1 Cuc is worth 24 Cuban pesos (Cup) today for the population, but one to one for the business sector. They are simply given one Cuban peso for every dollar they export. As Torres explains, this one-for-one exchange rate for the business sector is an accounting reality, not an economic one. A peso doesn’t really buy a dollar. And neither can companies buy unlimited amounts of dollars at that rate, because that amount is allocated and planned annually.

With this rearrangement, as the authorities have stated, the domestic input is expected to be more profitable than imported products. At least in cases where both products are of similar quality.

Distribution of the same pie

The people will be impacted in other ways. Torres tells us that “the wealth created in the country at the initial moment of the [new] order does not change. It is not greater production, so there is no gain in purchasing power for the average citizen because it is the same pie that is being distributed.”

According to government officials reporting on television, they expect people who receive a salary from the public sector will come out of this process economically better. But if one group receives more, does it mean that another group receives less? According to Torres, this cannot be seen in terms of wages, but in terms of goods and services. “If some population groups are going to gain in purchasing power, and that will allow them to buy more chicken, for example, the result is that that amount of chicken is subtracted from another group, because the amount of the product in the country remains the same.”

Now, for many people in the country, the guaranteed income from these changes is zero. According to the Cuban economist this portends that there will be two large groups more vulnerable than others to the negative impacts of the reorganization process. First, all the people in the informal sector of the economy, a sizable group, since they do not have access to public sector salaries or pensions from the Social Security and Assistance system. You cannot classify this entire group as de facto lazy, and who do not work because they don’t want to. In that micro country there is much diversity and causalities that must be taken into account by the country’s leadership.

Second, there are the self-employed and the private sector in general, as they do not automatically receive a salary adjustment at the start of the process. “The day this starts, the private companies will have to calculate how much they will be able to sell, and at what price, and from there determine wages. In the state sector, this will already be calculated prior to the changes. The private sector will have to adjust after they’ve made their sales,” explains Torres.

We are not talking about purchasing power, which is another discussion and will be clearer when the rearrangement finally begins. In the first instance, it is a question of the compensation mechanisms, of the protection that people will have for this transit.

Another issue is that of savings. “This is a tough part, because those savings are going to depreciate. People who have saved, for example, in fixed-term accounts for years, as prices increase, those savings will be worth less. Even if they leave the money in the bank, that money will lose value,” says Torres. It can be measured by the goods and services accessed with that money before and after.

And then there are the prices, which have been on the rise for some time due to the pressure exerted on them by shortages. On the one hand, the country’s management explained that to ensure that private sector prices do not grow beyond the expected design, tax cuts will be implemented, the minimum deductible for permitted activities will be increased, and there will be negotiations with local governments.

For Torres, the guarantees of this control over prices are not clear for several reasons. As he explains, “There are no guarantees that negotiations with local governments will be effective. There is also an inflationary process underway due to the acute shortages, and the same expectations of the people before the rearrangement. And, for example, there is the informal market. How can you negotiate with the informal sector, if by definition it does not exist? And this is a very important part of our economy, especially now that the airports have reopened.”

“I do not know of any economic theory,” he adds, “to control prices in the informal sector — other than to eliminate it — that does not exist because it is not necessary. This is not done administratively. So this sector acts as an anchor because it provides the goods and services that you cannot find in the formal sector. Therefore, if the cost of living grows, so will prices in that market.”

Also with regard to prices, it would be necessary to analyze the calculated cost of the basic food basket — which is not only the regulated family basket that is received by way of ration book. Torres says that prices taken into account for these calculations will continue to grow after Day Zero. It is therefore to be expected that as time passes the cost of that basket for which salaries and pensions will already be set will not be 1,500 pesos. The risk of hyperinflation can be high, putting us in a situation similar to that of the 1990s.

Too many external factors also affect the increase in the flow of foreign currency that contributes to stabilizing the value of the national currency; many of them are not in the hands of the Cuban authorities. Among them, Torres mentions the recovery of the tourism industry worldwide and the measures to reverse sanctions on travel and remittances that President-elect Joe Biden could take once he moves into the White House. None of them depend on Cuba.