Marcano Rivera, Rashid Carlos Jamil Merref Yetim International Political Economy 13 December 2012

ECONOMY IN TRANSITION: A case study of Cuban monetary policy shifts after the fall of the USSR, compared to Vietnams Chnh sch i Mi ABSTRACT
This paper provides a summary of monetary policy shifts in the transitional economies of Cuba and Vietnam, and an analysis of whether, and to what extent, the management of the ER regimes has been consistent with certain key policy objectives that were put in place after the dissolution of the USSR and the COMECON (specially in Cubas case) up to today. I will also analyse the possible implications of the Vietnamese Di Mi reforms in Cubas upcoming expected reforms of its ER policy. Using FMI Frameworks for ER Arrangements and Monetary Policy, I will try to categorise and predict the type of ERs arrangements pursued by Cubas and Vietnams governments; general macroeconomic variables will also study the possible impact of these shifts on the general economy of the aforementioned countries. It is implied that Cuba will probably follow, with some amendments, the Vietnamese path of the Di Mi when it comes to currency and ER. Further analysis and investigation is required to fully and conclusively understand the behaviour of the Cuban and Vietnamese ER policies.

I. INTRODUCTION
The ER (ER) in an open economy is typically one of the most important macroeconomic variables, exerting inuence over the ination rate, international competitiveness, trade performance, nancial stability and the functioning of the foreign exchange market. (Frieden, Ghezzi, and Stein 2001). In Cuba, however, the ER played a relatively low-key role under the central planning system, becoming a central tool of economic policy making during and after the special period of the 1990s. Since then, the management of the ER got complicated, as a dual monetary system was introduced to face the macroeconomic disaster1 brought by the collapse of the Union of Soviet Socialist Republics (USSR) and the Council for Mutual Economic Assistance (COMECON), Cubas then leading

Cubas real GDP shrank by 34,8% from 1989 to 1993. La Economa Cubana en el Periodo Especial (1990-2000) Banco Central de Cuba (2000).
1

commercial partner2 and ally, in 1991. Almost twenty years after the introduction of this dual system, Cubas Communist Party and government have approved a set of lineamientos indicating that during the near future this system is to be eradicated by merging both currencies and ERs.3 Cuba is not the rst economy to change from dual or multiple ERs to a single rate: Viet Nam changed a multiple ER to a single announced xed rate, and then it changed the announced xed rate to a system incorporating a narrow adjustable band around the ofcial rate, which is set and reviewed on a daily basis, meant to reect the interaction of market forces (Nguyn Trn Phc and Nguyn c Th, 2009). Because of this relation, I will analyse and compare policies implemented during and after Viet Nams Di Mi, and Cubas Periodo Especial, the Recovery, and the reforms proposed through the guidelines of the Communist Party.

II. BACKGROUND
II.a CUBA The Cuban economic reforms began on the onset of the collapse of the USSR and the COMECON4 in 1991. According to Cuban Central Banks (henceforth BCC, following its Spanish acronym) reports5 about 80% of Cubas trade relied on these nations, and the collapse of this economic organisation meant harsh exogenous economic shocks to the Cuban economy: imports were reduced by 78% between 1989 and 1993, real GDP shrank by 34.8% in the same period, consumption of fuels were cut by 50%. The loss of inows further drove the economy on its recessionary spiral: the loss of earnings from exports accounted for the contraction of two-thirds of

2 3

USSRs and COMECONs trade accounted for more than 80% of Cubas trade by 1989.

Se avanzar hacia la unicacin monetaria, teniendo en cuenta la productividad del trabajo y la efectividad de los mecanismos distributivos y redistributivos. Por su complejidad, este proceso exigir una rigurosa preparacin y ejecucin, tanto en el plano objetivo como subjetivo. Lineamientos de la Poltica Econmica y Social del Partido y la Revolucin, VI Congreso del Partido Comunista Cubano, 2011. Trad.: Work will be made towards monetary unication, while taking into consideration productivity [changes] and the effectiveness of the distributive and redistributive mechanisms. Due to its complexity, this process will require rigorous preparation and execution, both in the objective and subjective elds. Known as CAME in Spanish, this group comprised the following countries: the USSR, Poland, Bulgaria, Czechoslovakia, Hungary, Romania, Albania, East Germany, Mongolia, Cuba, and Vietnam
4 5

Banco Central de Cuba (2000)

the import capacity, while the disappearance in nancing accounted for the remaining third (Morris 2008). The dissolution of the socialist bloc also meant the loss of major creditors and investors, which led to a currency crisis, hikes in interest rates that were probably articially low, and the paralysation of investments, construction, technical assistance, and the loss of advantages6 made through bilateral and regional trade agreements. To make matters worse, the United States Congress approved two laws to tighten the US embargo (or blockade) against Cuba: i) the Torricelli Act of 1992, which forbids American companies, including subsidiaries abroad, from engaging in any trade with Cuba, forbade that ships that docked in Cuban ports with commercial ends may touch American soil at least for six months after the aforementioned docking, and also forbade Cuban families living in the US to send remittances to Cuba7, and ii) the Helms-Burton Act of 1996, which aimed to block foreign direct investments in Cuba by criminalising trade and investment in this country performed by non-U.S. companies, subjecting them (the companies) to legal action and barring their leadership entering the U.S.8 9 . This last part had a stiing quality towards the Cuban economy of the time, due to the importance that foreign investments play in an economy that has been barred from borrowing from regional or international nancial institutions and the lack of allies during this period (Morris 2008). The 1991 Cuban Communist Partys 4th Congress called authorities to seek new forms of foreign investment (as FDI), including private sector, to alleviate the situation10. This opening to foreign

6 7 8

Like reduced costs of transportation of Cuban merchandise. Cuban Democracy Act of 1992 (http://www.state.gov/www/regions/wha/cuba/democ_act_1992.html).

Cuban Liberty and Democratic Solidarity (LIBERTAD) Act of 1996 (http://www.gpo.gov/fdsys/pkg/PLAW-104publ114/ html/PLAW-104publ114.htm).
9 This

act was protested by Mexico, the European Union, Canada, and several other allies, which in some cases created laws like Mexicos Law of Protection of Commerce and Investments from Foreign Policies that Contravene International Law Fourth Congress of the Cubas Communist Party Economic Resolution (1991) (http://congresopcc.cip.cu/wp-content/ uploads/2011/02/IV-congreso_Resolucin-economica.pdf)
10

capital was ratied by the 5th and 6th Congresses in 1997 and 2011, and this issue has been broadly studied (see Morris 2008, Mesa Lago 2004, and Prez Lpez 2005). The economic shock was absorbed partly through hikes in government decit and the use of reserves, which were probably exhausted by 1993, when the crisis rendered the government basically unable to guarantee basic food needs of the population (FIGURE 1). This actions helped preserve relatively low unemployment and wage stability by covering losses in state-owned enterprises (SOEs) 11. However, this movement brought an increase of liquidity (BCC 2000, 2006) in the population, as goods and services diminished by the aforementioned adverse economic circumstances. At rst this monetary disequilibrium had no effect on price levels, except the increase of liquidity in an environment with repressed ination (sometimes known as monetary overhang), but this eventually lead to speculation and growth of the informal economy, where prices acquired briey an hyper-inationary 12 characteristic that was itself transmitted to the rest of the economy (Prez Soto 2011; FIGURE II). This meant the loss of purchasing power for those using the moneda nacional or Cuban Peso, which eased the way for de facto partial dollarisation due to remittances at the beginning of the 1990s and the money poured in the countrys economy by the new tourists and investors attracted due to new policies. (FIGURE II) In 1993 the government effectively institutionalised this dollarisation, allowing for the opening of bank accounts and exchange houses to allow convertibility from dollars to moneda nacional and established a dollarised retail market to collect currency, all of this provoking increases in remittances from abroad. At the same time, the government issued a new parallel currency, the peso cubano convertible or CUC, with a xed pegged rate of 1:1 to the United States Dollar (USD), in a rather

Ofcial unemployment reached a maximum 7.9% in 1995, although other data suggest it may have been higher See Mesa Lago 2010. (Espacio Laical)
11

CEPAL (UN Economic Comission on Latin America and the Caribbean) estimated that ination reached 1500% (CEPAL 1997, 2000)
12

limited manner at rst. The exchange houses (Casas de Cambio or CADECA) sold CUC and retained USD, while the retail market offered its clients the ability to pay their transactions in the currency and the government offered incentives of productivity in the new currency (Prez Soto 2011). Thus, the dual monetary system was, spontaneously born in an effort to deal with the de facto dollarisation of the economy. It also served as a way to segment markets for tourists and foreigners, from those of Cuban nationals, a way to collect currency for the government. Researchers point that argue that a combination of FDI and the dollarisation may had provoked the reactivation of Cuban economy, which grew at a averaged annual rate of 3.9% from 1995 to 2003, the scal decit and the ination were tackled, and the currency gained a certain degree of stability. At this moment, the CUC is tied with the U.S., Bahamas, Bermuda, and Panama as the eleventh-highest valued currency in the world. (FIGURES III and IV) II.b VIET NAM The economic reform process in Viet Nam, the Chnh sch i Mi (Innovation Policy, from here on just Di Mi, renovation) has been extensively studied (see Nguyn Trn Phc and Nguyn c Th, 2009; V Tr Thnh, nh Hin Minh, Do Xun Trng, Hong Vn Thnh and Phm Ch Quang 2000). Viet Nam performed steps towards economic reform in the 1980s, moving from centrally-planned economy towards a modied planned economy. Even though the Di Mi began in 1986, it was not until the spring of 1989 when the country completely unied through sharp devaluation its currencies. The entire process was planned in advance in the Third Five Year Plan which was approved in the context of the merging of capitalist South Vietnam and socialist North Vietnam after a painful, bloody, and costly long war which left hundreds of thousands dead. The Second and Third plans aimed to reconstruct and develop agriculture, infrastructure, productivity and trade capabilities, but the Second

Plan failed and ination ran high in the pre-1986 economy, uctuating between 50% and 90%. During the execution of the plan, the Vietnamese Communist Party agreed in 1985 to decentralise economic decision making [source], granting production autonomy to factories and individual farmers, and ended subsidies on food and other goods for state employees and terminated compensation for losses incurred by SOEs. To implement these changes, the vietnamese ng (VND), perceived to be greatly overvalued, was devalued by 1,000%. After the devaluation, ination spiralled, reaching 487.2% in 1986 and staying above 300% until 1989, when it went back to acceptable levels (34.7%)13. The reason for this burst of sustained hyperination lies on the General Adjustment of Price initiative of the Di Mi, which altered centrally planned prices and pegged them to market prices as ways of incentivising agricultural workers productivity, while effectuating monetisation of public workers income (instead of paying them with the rationing system), increasing nominal income, and provoking, through the liberalisation of demand, a rise in aggregate demand for goods, which was confronted with the inelasticity of the aggregate supply (Nguyn Tr Hung, 1999). Eventually, however, this inelasticity was surpassed with the supply growth from agriculture and manufacture, and the 1989 devaluation helped drive economic growth through FDI and rising exports, particularly of rice. In 1994, the U.S. lifted its economic embargo, originally imposed in 1975 after the demise and subsequent annexation of South Vietnam in the war, and the eventual occupation of Cambodia. The decision, urged by the Senate in a 62-38 vote and effectuated by President Clinton, was reportedly based on cooperation on nding MIA soldiers, as well as pressure from US companies wanting to do business in Vietnam14. Viet Nam has since grown at a moderate but steady pace, from a GDP of 6.3 billions current USD in 1989 to 123.9 billions in 2011, at an average rate of 7.9%.

13

Nguyn Tr Hung,1999, p. 5

14 The

Independent (UK) US nally ends Vietnam embargo 4 February 1994, (http://www.independent.co.uk/news/world/ us-nally-ends-vietnam-embargo-1391770.html) Retrieved 12 December 2012.

III. METHODOLOGY
The qualitative case study is conducted following Pavel Vidal Alejandros (2012), Nguyn Tr Hung (1999) and Nguyn Trn Phcs et al (2009) studies in Vietnamese and Cuban economic reform, with an additional personal interest to framework Cuban monetary and exchange rate policy following the Exchange Rate Arrangements and Monetary Policy Frameworks classication system, as presented by the International Monetary Fund (See TABLE I in Appendix I). It follows also a process tracing with descriptive inference as described Collier (2011). Viet Nams ER and monetary evolution has been analysed profoundly and more than 20 years in data exist concerning how this change was made and who have been the major beneciaries (and losers) of this process. Also, there is evidence on how it has inuenced Vietnamese global openness to trade, economic growth, and ination rates, without requiring major political-institutional changes (as of 2012, the Vietnamese Communist Party and their allies, the Vietnamese Fatherland Front, retain absolute15 de facto and de jure power16 in the Socialist Republic of Viet Nam). Following Boixs game theoretic arguments on the behaviour of democracies, right-wing authoritarianism and left-wing authoritarianism and the choice between these regimes, it is assumed that the Cuban Communist Party (or PCC)17 and its leaders would like to retain political power, preferrably without sharing elections with other competing parties or independent candidates. To attain this, the governments/PCCs preferable strategy is based on sustained economic growth and

15 The Vietnamese

Communist Party retains control of 91.6% of the National Assembly, its allies of the Vietnamese Fatherland Front holds 7.6% of the seats (combined seats 99.2%), while independents hold 4 seats, or 0.8% of the votes of the Assembly, and dont veer ideologically much from the VCP and the VFF.
16 17

Constitution of the Socialist Republic of Viet Nam (http://www.vietnamlaws.com/freelaws/Constitution92(aa01).pdf/)

In power since 1965, the PCC has its origins on the Integrated Revolutionary Organizations which merged in 1961 the Popular Socialist Party, the 26 de Julio Movement, and the 13 de Marzo Revolutionary Directory.

development, while keeping low ination levels, attracting capital and investment, while keeping its current Gini/Lorenz18 inequality levels, or even better, lowering them. Since theory suggests that the ER regime can inuence economic growth through factors of production (labour and capital), as well through ination, and trade (V Tr Thnh et al., 2000), and since the Cuban government exerts control over this regime to, rationally, maximise the attainment of their macroeconomic and political objectives. Therefore, any decision on the change of the ER regime is taken as a dependent variable, based on the following independent variables: development of the factors of production (which may be measured through foreign and government spending, or may use GDP for general economic growth), ination, trade, inequality measurements (Boix 2003 19) and the government objectives for each of these previous variables. This may be expressed in this linearisation:

where ERRt is the Exchange Rate Regime at year t, the result which will be given by the Foreign Direct Investments (the preferred investment by the government, which ts the investments in factors of production, K and L provided in the theory) on year t, t is the change in ination on year t, (XM)t is the change in the commercial balance on year t, GINIt is the level of inequality in year t, and PCCLt is the position of lineamientos or guidelines and political stances of the Communist Party in year t, as approved in Congress, usually every ve years20 . The Guidelines are chosen because of the strength of the PCC for determining which public policies will be approved by the National Assembly and because there are no other opposition parties or movements that may challenge the legitimacy of the government and the PCC.

18 The

Gini coefcient rose from 0.24 in 1988 to 0.41 by 1999, and even though ofcial data is not available, some point that it may have risen up to 0.5. The Economist Special Report on Cuba, March 2012. (http://www.economist.com/node/ 21550421) Following Boixs Democracy and Redistribution argument on the relationship between inequality, distribution and political regimes.
19 20 The

Congress has met in 1975, 1980, 1985, 1991, 1997, and 2011.

It is therefore assumed that the PCC and its government will try to emulate the Vietnamese in their future ER and ERR policies to further encourage full growth and development of the economy, investment (specially FDI), and trade, while maintaining full or most control of the political system in the years to come. This leads to the hypothesis which follows:
The Cuban Government will shift its monetary and exchange rate and regime policies in a manner that sustains the political system, while encouraging further economic growth, development, and trade, lowering inequality levels and keeping ination at bay. It will, therefore emulate the Vietnamese experience, except where amendments that may take into consideration certain structural differences are needed.

A question that may require attention now is if theres cherry picking going on, that is, if the model is being made to t a conclusion, and if there is selection bias in picking a Viet Nam - Cuba comparison. Based on Vidal Alejandro, I will compare Cubas and Viet Nams conditions at the year of the starting point of reform (t), assuming 2012 for Cuba and 1985 for Viet Nam, unless otherwise stated. Major differences are stressed in red, similarities in green


TABLE II - Characteristics at the starting point of reform

Characteristics
Population size Demographics Natural Resources Oil US Embargo Marxist-leninist system Recent past of capitalism Educated population Infrastructure dev. Ination Inequality (Gini coefcient) Exchange rates Size of the government (GGFC as % of GDP; WB)

Viet Nam (t = 1985)

60.3 million Young and rural population Relatively abundant Relatively abundant Yes Yes Yes, South Vietnam Relatively small Lower than Cubas 200%-500% (1985-1986) 0.33 (in 1993) Dual, overvalued 7.85% (in 1989)

Cuba (t = 2011)
11.3 million Ageing and urban Relatively scarce Relatively scarce, exploring Yes Yes No (+50 years w/o capitalism) Highly abundant Higher than Vietnams 2.9%-4.7% (2010-2011) 0.41 (1999) (0.5 in 2000s) Dual, perceived as overvalued 37.92% (in 2010)

The table summarises the main differences and similarities between these countries. The rst four rows state differences in size, demographics and natural resources that may had actually determined Vietnams policy, more geared towards agricultural growth. Major differences exist, like the fact that Cuba has a growingly old population (ONE estimates that 12.77% of Cubas population is +65 years old) unlike Viet Nam in 1985 (4.9% UN estimates), or the fact that Cubas population us urbanised, unlike Viet Nam (75% urban population in Cuba; 18.8% in 1975 in Viet Nam; UNDP, 2008). The relatively small size of the government may have been a major advantage for Viet Nams policies, and suppose a hurdle in Cubas path to reform. Also, Cuba has critical disadvantages in relation with Viet Nam when it comes to the availability of vast amounts of exploitable resources (except for nickel, one of its main exports; and speculation on recent oil explorations), the size of the government sector (which in Cubas case may lead to resistance of change by the bureaucratic sector), and the fact that it doesnt have recent experiences in market style economics. However, the benet of looking for a Vietnamese reference for the Cuban problem lies in the following similarities: i) the time of the beginning of the reforms both governments operated with a Marxist-Leninist system, ii) both were subjected to economic embargoes by the United States, iii) both faced economic mayhem or crises at the start of the reforms, iv) changes mainly focused on the economic sphere21, maintaining the political system running mostly unscathed (assumed in this paper as an objective of the PCC), v) most changes in Viet Nam were taken in a gradual manner, with exceptions, avoiding the big collapses experienced by Russia and Eastern Europe.22

IV. EXCHANGE RATE ARRANGEMENTS THROUGH AND AFTER THE DI MI PROCESS

Both countries liberalised usage of FDIs but other types of capital ows are not allowed usually. (Nguyn Tr Hung,1999; Pavel Vidal Alejandro 2012).
21 22

Pavel Vidal Alejandro (2012): p. 6

10

The Di Mi process, begun originally with a devaluation of around1,000% in1985 of the dual exchange system and some price liberalisation, accompanied with monetisation of wages in the public sector, provoked considerable hyperination until the second phase of the Di Mi kicked-in in 1989. Further price liberalisation, the cutting of government bureaucracy by almost 33% in a process of labour adjustment (most of which took effect in SOEs), the implementation of scal restraints by the cutting of subsidies to SOEs, postposition or cancellation of government investments, another large devaluation, currency unication, and ending the nancing of the budgetary decits via monetary policy were all part of the 1989 big bang phase of reforms (Vidal Alejandro 2012). Supply sided policies, like the encouragement for the opening of private and cooperative micro-enterprises, restructuring of SOEs in a more productive mindset, and the granting of land and property rights in the agricultural sector helped Viet Nam outgrow its then-current production levels: from experiencing food shortages while importing millions of tons of food in the 1986-1988 period, the country became the second biggest exporter of rice, behind neighbouring Thailand, which also helped to control its ination. Before 1989, the dual ER system was based, like in Cubas case, in an ER for foreign trading and an ER for non trading or internal use. The ER for the trading currency was 225VND/USD before 1988, and was devalued to 900VND/USD, and for internal transactions, from 368VND/USD the exchange rate passed to 3,500VND/USD, both keeping a xed rate system to the United States Dollar via currency board based on economic agreements with COMECON countries (of which Viet Nam was a member like Cuba). In 1989, the Sixth Communist Party Congress decided to unify the currencies into one ER, further devaluing all currencies to 4,500VND/USD under the supervision of the State Bank of Viet Nam (SBVN). Under SBVN supervision, the ER was adjustable in principle, based on several macroeconomic indices, and commercial banks were allowed to set ERs within a band of 5% of the ofcial ER. This band was changed to 0.5% in 1991, and then to 1% in 1996, while SBVN lowered its interest rates to reduce conversion of USD into VND. The internal band widened from 1% to 10% in 11

1997 responding to the Asian Financial Crisis, and a 16.3% devaluation has led the ER arrangement to become more exible, and is reported to be an adjustable peg exchange system, which may resemble, varyingly, to something between the crawling pegs, the exchange rate with crawling bands or the managed oat regime. By 2001, authorities turned off the peg, allowing further devaluations against the USD (Nguyn Trn Phc 2009) to regain some competitiveness after the crisis. It has remained, ever since, classied as a managed oat ER regime by the SBVN itself, as well as the World Bank (although researchers often emphasise on the managed aspect of the regime vis--vis other countries). At all times, the value of the peg has been directly named by the SBVN, and even though it tries to remain near market value, controls are tightened and loosened according to macroeconomic and political objectives, which mostly gravitate towards control of ination, and then some importance is given to the control of imports and exports. All of these relations can be seen on TABLE III, which is roughly based on the time periods discussed in Nguyns and V Tr Thnhs papers, and World Bank and IMF data: TABLE III - Averaged macroeconomic indicators of Viet Nam after the beginning of the Di Mi
Period ER Arrangement Trade balance as % GDP** FDI inflow as % GDP Communist Congress guideline

Inflation

GINI index*

19851988 19891991 19921996 19972003 20042007

Fixed, dual ER Crawling peg, single ER Crawling peg, single ER Managed oat, single ER Managed oat, single ER

328.7% 56.6% 10.86% 2.79% 7.93%

-5.33% -6.0% -9.34% -0.69% -3.31%

0.02% 2.25% 8.41% 5.02% 5.15%

Unknown Unknown 0.33 0.38 0.36

VI Congress L VI Congress L VII Congress L VII Congress L VII Congress L

12

Period

ER Arrangement

Inflation

Trade balance as % GDP**

FDI inflow as % GDP

GINI index*

Communist Congress guideline

20082012

Managed oat, single ER

14.43%

-0.93%

8.62% (2008-201 0)

0.35

XI Congress L

*Data is insufficient in many years. ** From 1996 onwards the data is provided by the World Bank, before 1996 data comes from IMFs International Financial Statistics. Takes into account the general stance of the Communist Party Congress for the period covered: L- Liberalisation, NL- All options not including liberalisation. There were other congresses in the period, but the VIIth Congress Platform remained unchanged until 2011. Source: World Bank Databank, International Monetary Fund, General Statistic Office of Vietnam

V. CUBAN EXCHANGE ARRANGEMENTS

Cubas monetary policy on ER arrangements has been mostly xed before and after the triumph of the Revolution back in January of 1959. After 1960, the Cuban peso (moneda nacional) was pegged to the Soviet ruble, mostly after the relationship of the Caribbean country with its northern neighbour turned sour. The implementation of the embargo weakened the value of the currency, making ofcials stay with the xed peg to the ruble, which maintained parity with the pound sterling of the United Kingdom. After the collapse of the USSR, the Cuban peso severely depreciated in relation to the USD in the informal market going from 5MN/USD to 125MN/USD, which was provoked, partly, by the monetary overhang that many COMECON countries experienced after the dissolution, general mistrust of the peso in this context, and the scarcity of goods exposed in section I. The demand of dollars rose, and this led to partial dollarisation that had to be recognised by the state as a valid transaction currency, while the government introduced the CUC at xed parity with the USD, formally introducing the dual system now used. The differences in exchange rates in the informal market was completely assumed by the CADECAs, which allowed the government to hold control on this value. Eventually, the peso gained value by this peg and the dual currency system which allowed the government to maintain low unemployment while it stabilised the ER and the economy.

13

Fidel Castro Ruz stated that the the two pesos would be unied once the economy allowed (Dreher 2009). (FIGURE V) In 2003, due to internal and external (US-led) pressure, the government implemented measures to de-dollarise replacing the USD with the CUC. During this time period (1993-2005) the government maintained xed parity of 1 CUC = 1 USD, which falls in the Currency Board Arrangement (see TABLE I, on Appendix I). The previous period which saw de facto dollarisation to the point that the government had to commit to it, and the USD was used as method of exchange throughout the country, mostly due to remittances, which may had led to complete de facto Exchange Arrangement without a Separate Legal Tender if the government hadnt acted with the implementation of the CUC. From 2005 to 2011 the peg was reevaluated and appreciated by 8% in relation to the USD and 7% in the internal market foreseeing positive conditions in the future, fostered by the economic alliances established with Venezuela and China, who supplied FDI and oil, and the expansion of the nickel extraction industry. This period followed too a xed peg with Currency Board but sometimes in this period it approached other conventional peg exchange rate systems in that it was pegged in that there was no commitment to keep this exchange in the long term, specially if conditions got better. In this case we see some liberalisation from the fully xed system. However, this was reverted in 2011 to the 1:1 ER of the CUC:USD (appreciated in gure IV). TABLE III - Averaged macroeconomic indicators of Cuba after the USSR
Period ER Arrangement Account balance as % GDP** FDI inflow as % GDP Communist Congress guideline

Inflation

GINI index*

19891993

Fixed peg/ Float(?), single ER

70.62%

0.02%

0.24

IV Congress L

14

Period

ER Arrangement

Inflation

Account balance as % GDP**

FDI inflow as % GDP

GINI index*

Communist Congress guideline

19941998 19992004 20052011 2012-?

Currency board, dual ER Currency board, dual ER CB/Conv. Peg, dual ER Currency board, dual(?) ER

-4.02% 1.28% 3.66%

* -13% -0.6% +0.85% (2012)

0.04% 0.01% 0.06%

0.35 0.4 0.5*

IV Congress L V Congress L V Congress L VI Congress L

3.2%

Unknown

Unknown

*Little or no official data exists as in recent times Takes into account the general stance of the Communist Party Congress for the period covered: L- Liberalisation, NL- All options not including liberalisation. Source: ONE, Economist Intelligence Unit, World Bank

VI. IMPLICATIONS AND CONCLUSION

Following the VI Congress, Cuba decided to unify its currencies as conditions had stabilised. As argued in Section III, it is assumed that the PCC will follow the Vietnamese path to currency and market liberalisation to maintain the political system mostly intact or without compromising certain central tenets. The PCC of course, will have to make adjustments to some of the policies applied in the liberalisation process: it doesnt have a large agricultural sector, its population is urbanised and educated; the size of the government and the SOEs makes it more difcult to follow the big bang approach of sudden devaluation, which in Cubas case would be between 2,300% to 2,500% (it is assumed that the CUC will be downgraded to reach the MN levels). Therefore, a more gradual approach is the probable method to be applied by the Cuban government. In any case, the government has started shrinking the size of the government with 125,000 in government lay offs, the diminishment and elimination of subsidies to SOEs due to losses, the opening of credit and loans for the non-state sector, and the allowed growth of the private sphere (180,000 new enterprises and self-

15

employed citizens registered in 2011) are all reminiscent of the early stages of the Vietnamese process. However the Cuban system still does not emit government bonds, foreign banks have not entered fully into the regulated nancial system (perhaps due to the recent nancial crisis in Cuba), and there isnt complete transparency of the monetary policy. Price levels liberalisation (the rst step in the Vietnamese process) has not happened. The redistributive system has been failing in the recent decades after the USSRs dissolution, inequality rising to dangerous levels. The US embargo persists over the country, limiting its options. The ER arrangement is not ready to liberalise quickly as devaluations (which are unavoidable) will not be well-received and are not usually considered in Cuban monetary policy, its historical focus lying on ination control. Even with drastic and fast changes like those experienced in Viet Nams Di Mi, the reform took several years to complete signicant, observable, transformations in the economic system. There is an endogeneity problem that is based on the selection of these two countries with very dissimilar traits on demographics, investment, and other economic data. The main reason for the comparison established in the previous pages is that both countries had the same marxist-leninist system of government, the dual currency, confronted US led embargoes, and started moving towards reform in period of crises. However, the behaviour of the ER arrangements and policies could be ascribed to other variables: Viet Nam started its reforms with COMECON help, its population was mostly rural, and they had experience in capitalism, something Cuba does not have at this moment. The little control I have on the selected variables makes it difcult to see if there is other relations that may explain these changes. FDI, for example, did not behave as expected in the Cuban example, many data sets are incomplete or could be questioned as doctored. These limitations make a comparison in some sections difcult, and a conclusive conclusion remains therefore elusive until further analysis is conducted.

16

BIBLIOGRAPHY
Boix, Carles (2003). Democracy and Redistribution, Cambridge University Press, UK: pp. 1-64. CEPAL (1997,2000). La economa cubana. Reformas estructurales y desempeo en los noventas. Mxico, United Nations/Comisin Econmica para Amrica Latina y el Caribe (Economic Commision for Latin America and the Caribbean). Cuban Central Bank (2001): Economa Cubana 1990-2000. Available at: http://www.bc.gov.cu/ Anteriores/Otros/economia%20cubana.pdf Cuban Central Bank (2007): Economa Cubana 1996-2006: Available at: http://www.bc.gov.cu/ Anteriores/Otros/Economia_Cubana_1996-2006.pdf Dreher, Silvia (2009): Monetary Policy in Cuba, in Cuba in Transition, ASCE 2009. pp. 286-291. Economist Intelligence Unit International Monetary Fund (2004): Classication of Exchange Rate Arrangements and Monetary Policy Frameworks. Available at: http://www.imf.org/external/np/mfd/er/2004/eng/0604.htm Mesa Lago, Carmelo (2004). Economic and Ideological Cycles in Cuba: Policy and Performance in The Cuban Economy, Pittsburgh. 2004: pp. 35-41. Mesa Lago, Carmelo (2010). El desempleo en Cuba: de oculto a visible, in Espacio Laical de Cuba: pp. 59-66. Available at: http://espaciolaical.org/contens/24/5966.pdf Morris, Emily (2008): Cubas new relationship with foreign capital: economic policy making since 1990. Journal of Latin American Studies, Cambridge University Press. Nguyn Tr Hung (1999) The ination of Vietnam in Transition, Centre for ASEAN Studies,1999. Available at: http://webh01.ua.ac.be/cas/PDF/CAS22.pdf Nguyn Trn Phc and Nguyn c Th (2009): Exchange Rate Policy in Vietnam, 1985- 2008, ASEAN Economic Bulletin vol. 26, no. 2. Ocina Nacional de Estadsticas [ONE] (Various years): Anuario Estadstico de Cuba. www.one.cu, Havana, Cuba. Prez Soto, Carlos (2011) Esquema de poltica monetaria para el segmento de la poblacin de la economa cubana, PhD Thesis, Universidad de la Habana, Cuba. United Nation Development Program [UNDP] (2008): Human Development Index. V Tr Thnh, nh Hin Minh, Do Xun Trng, Hong Vn Thnh and Phm Ch Quang (2000): Exchange Rate Arrangement in Vietnam: Information Content and Policy Options. Hanoi. World Bank (2012): World Data Bank. Washington D.C., U.S.

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APPENDIX I Classification of Exchange Rate Arrangements and Monetary Policy Frameworks - International Monetary Fund
TABLE I 23 Legend: Fixed Exchange Rate System Pegged Float Rate System Free/Dirty Float Rate System Exchange Rate Arrangement
Exchange Arrangements with No Separate Legal Tender Currency Board Arrangements

Denition
The currency of another country circulates as the sole legal tender (formal dollarization), or the member belongs to a monetary or currency union in which the same legal tender is shared by the members of the union. Adopting such regimes implies the complete surrender of the monetary authorities' independent control over domestic monetary policy. A monetary regime based on an explicit legislative commitment to exchange domestic currency for a specified foreign currency at a fixed exchange rate, combined with restrictions on the issuing authority to ensure the fulfillment of its legal obligation. This implies that domestic currency will be issued only against foreign exchange and that it remains fully backed by foreign assets, eliminating traditional central bank functions, such as monetary control and lender-of-lastresort, and leaving little scope for discretionary monetary policy. Some flexibility may still be afforded, depending on how strict the banking rules of the currency board arrangement are. The country (formally or de facto) pegs its currency at a fixed rate to another currency or a basket of currencies, where the basket is formed from the currencies of major trading or financial partners and weights reflect the geographical distribution of trade, services, or capital flows. The currency composites can also be standardized, as in the case of the SDR. There is no commitment to keep the parity irrevocably. The exchange rate may fluctuate within narrow margins of less than 1 percent around a central rate-or the maximum and minimum value of the exchange rate may remain within a narrow margin of 2 percent-for at least three months. The monetary authority stands ready to maintain the fixed parity through direct intervention (i.e., via sale/purchase of foreign exchange in the market) or indirect intervention (e.g., via aggressive use of interest rate policy, imposition of foreign exchange regulations, exercise of moral suasion that constrains foreign exchange activity, or through intervention by other public institutions). Flexibility of monetary policy, though limited, is greater than in the case of exchange arrangements with no separate legal tender and currency boards because traditional central banking functions are still possible, and the monetary authority can adjust the level of the exchange rate, although relatively infrequently. The value of the currency is maintained within certain margins of fluctuation of at least 1 percent around a fixed central rate or the margin between the maximum and minimum value of the exchange rate exceeds 2 percent. It also includes arrangements of countries in the exchange rate mechanism (ERM) of the European Monetary System (EMS) that was replaced with the ERM II on January 1, 1999. There is a limited degree of monetary policy discretion, depending on the band width.

Other Conventional Fixed Peg Arrangements

Pegged Exchange Rates within Horizontal Bands

23

Source: http://www.imf.org/external/np/mfd/er/2004/eng/0604.htm

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Exchange Rate Arrangement

Crawling Pegs

Denition

The currency is adjusted periodically in small amounts at a fixed rate or in response to changes in selective quantitative indicators, such as past inflation differentials vis--vis major trading partners, differentials between the inflation target and expected inflation in major trading partners, and so forth. The rate of crawl can be set to generate inflation-adjusted changes in the exchange rate (backward looking), or set at a pre-announced fixed rate and/or below the projected inflation differentials (forward looking). Maintaining a crawling peg imposes constraints on monetary policy in a manner similar to a fixed peg system. The currency is maintained within certain fluctuation margins of at least 1 percent Exchange Rates within around a central rate-or the margin between the maximum and minimum value of Crawling Bands the exchange rate exceeds 2 percent-and the central rate or margins are adjusted periodically at a fixed rate or in response to changes in selective quantitative indicators. The degree of exchange rate flexibility is a function of the band width. Bands are either symmetric around a crawling central parity or widen gradually with an asymmetric choice of the crawl of upper and lower bands (in the latter case, there may be no pre-announced central rate). The commitment to maintain the exchange rate within the band imposes constraints on monetary policy, with the degree of policy independence being a function of the band width. The monetary authority attempts to influence the exchange rate without having a Managed Floating with No specific exchange rate path or target. Indicators for managing the rate are broadly Predetermined Path for the judgmental (e.g., balance of payments position, international reserves, parallel Exchange Rate market developments), and adjustments may not be automatic. Intervention may be direct or indirect. The exchange rate is market-determined, with any official foreign exchange market Independently Floating intervention aimed at moderating the rate of change and preventing undue fluctuations in the exchange rate, rather than at establishing a level for it.

Monetary Policy Framework

Exchange Rate Anchor

Denition
The monetary authority stands ready to buy/sell foreign exchange at given quoted rates to maintain the exchange rate at its pre-announced level or range; the exchange rate serves as the nominal anchor or intermediate target of monetary policy. This type of regime covers exchange rate regimes with no separate legal tender; currency board arrangements; fixed pegs with and without bands; and crawling pegs with and without bands. The monetary authority uses its instruments to achieve a target growth rate for a monetary aggregate, such as reserve money, M1, or M2, and the targeted aggregate becomes the nominal anchor or intermediate target of monetary policy.

Monetary Aggregate Anchor

Inflation Targeting Framework

Fund-Supported or Other Monetary Program

This involves the public announcement of medium-term numerical targets for inflation with an institutional commitment by the monetary authority to achieve these targets. Additional key features include increased communication with the public and the markets about the plans and objectives of monetary policymakers and increased accountability of the central bank for attaining its inflation objectives. Monetary policy decisions are guided by the deviation of forecasts of future inflation from the announced target, with the inflation forecast acting (implicitly or explicitly) as the intermediate target of monetary policy. This involves implementation of monetary and exchange rate policies within the confines of a framework that establishes floors for international reserves and ceilings for net domestic assets of the central bank. Indicative targets for reserve money may be appended to this system. The country has no explicitly stated nominal anchor but rather monitors various indicators in conducting monetary policy, or there is no relevant information available for the country.

Other

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APPENDIX II FIGURES
Figure I
Fiscal annual decit, subsidies to state owned enterprises due to loss
40% 36% 32% 28% 24% 20% 16% 12% 8% 4% 0% 6.000 5.400 4.800 4.200 3.600 3.000 2.400 1.800 1.200 600 0

1989 1991 1993 1995 1997 1999 2001 2003 2005 2007 2009 2011
Fiscal annual decit (as % of GDP) Subsidies to state-owned enterprises due to economic loss (millions of Pesos MN,)
Sources: Oficina Nacional de Estadsticas.

Figure II
Annual Macroeconomic Indicators: Periodo Especial and Recovery
200,00% 180,00% 160,00% 140,00% 120,00% 100,00% 80,00% 60,00% 40,00% 20,00% 0% -20,00% 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011

Budget decit as % of GDP

Ination

GDP growth rate

20

10

15

20

25

30

35

40

45

50

I 1993* II 1994 1962 1963 1964 1965 1966 1967 1968 1969 1970 1971 1972 1973 1974 1975 1976 1977 1978 1979 1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990* 1991* 1992* I 1995 IV 1995 III 1996 II 1997 I 1998 IV 1998 III 1999 II 2000 I 2001 IV 2001 III 2002 II 2003 I 2004 IV 2004 III 2005 II 2005 I 2006 IV 2006 III 2007 II 2008 I 2009 IV 2009 III 2010 II 2011 I 2012 IV 2012p 1961

150 135 120 105 90 75 60 45 30 15 0

1960

Pesos/Dollar

Dollar/Pesos

Figure III

Figure IV

Averaged Yearly Exchange of Pesos and Dollars

Averaged Quarterly Exchange Rate of Pesos (MN, ) and Dollars

Source: Banco Central de Cuba

Dollars/Pesos

CUC/MN

21

0,006

0,012

0,018

0,024

0,030

0,036

0,042

0,048

0,054

0,060

I 1993* II 1994 I 1995 IV 1995 III 1996 II 1997 I 1998 IV 1998 III 1999 II 2000 I 2001 IV 2001 III 2002 II 2003 I 2004 IV 2004 III 2005 II 2005 I 2006 IV 2006 III 2007 II 2008 I 2009 IV 2009 III 2010 II 2011 I 2012 IV 2012p

Figure V

Pesos (MN)/Dollar

Averaged Quarterly Exchange Rate of Pesos (MN, ) and Dollars

Source: Banco Central de Cuba

22