Cuba begins currency reform

Cuba begins currency reform

CUBA STANDARD — Trying to create a currency that helps increase
productivity and restores the buying power of salary-earning Cubans, the
government announced it agreed on a schedule of steps towards
unification of the two currencies that currently circulate on the island.

In a curtain raiser to currency reform, state media on Tuesday published
an "Official Note" short on specifics announcing that the Council of
Ministers agreed on a schedule and that "the process towards currency
merger will be started." The first stage will apply just to state
enterprises and government institutions, the note said.

Most Cubans earn salaries in non-convertible Cuban pesos (CUP). However,
many goods and services are available in convertible pesos (CUC) only,
at prices that are out of reach for Cubans who exclusively depend on a
salary. This has forced Cubans into a vicious circle of lower
productivity and black markets, in which workers are seeking informal
sources of hard-currency income inside or outside their workplace.

The decision to unify the two currencies dates back to a rank-and-file
congress of the Communist Party in 2011.

The gradual approach that begins with state enterprises spares regular
salary earners and consumers the harsh effects of a devaluation, for
now. The intent behind devaluing the CUP for enterprises first is "to
attain the conditions for an increase in efficiency, improve measurement
of economic facts, and stimulate sectors that produce goods and services
for export and the substitution of imports," the note said. The process
will start with a preparation period to work out a legal framework, make
changes in the computer accounting systems and adjustments to accounting
norms, and train the people who will implement the transformations.

Beginning devaluation at state enterprises makes sense, said Pavel
Vidal, a Cuban economist who teaches at Colombia's Universidad
Javeriana. "There are financial controls in state companies, so the
potential for speculation is muted."

The announcement comes after a meeting Saturday of the Council of
Ministers presided by Raúl Castro, which deliberated about currency
unification as well as changes in agriculture.

The Council of Ministers in the official note lowers expectations,
saying that monetary unification "is not a measure that by itself solves
all current economic problems." In a July speech, Raúl Castro said that
currency reform has popular support, and he rejected the idea of Eastern
European-style "shock therapy and abandonment of millions of persons."

According to Vidal, a former Central Bank of Cuba economist, Cuban
economists and finance executives have been pondering two options within
the gradual model. One option is complete reform, consisting in the
implementation of gradual devaluation in the CUP exchange rate for all
companies at the same time. The second option would be currency reform
by sector, consisting in the gradual incorporation of some sectors in a
particular system with a devalued official exchange rate.

Ninety-percent devaluation?

Based on pilot projects implemented over the past two years, Vidal
believes the CUP devaluation will be in the 90-percent range. In 2011,
the government established a special exchange rate of 7 CUP : 1 US
dollar for direct transactions between state hotels and agricultural
cooperatives. This year, the government raised the rate to 10:1. Also
this year, the sugarcane industry has begun to use multiple exchange
rates — 12:1 for the accounting of export revenues, 7:1 for imports, and
4:1 for imports of Venezuelan oil and fuel. Finally, recently created
transportation service cooperatives will be allowed to buy supplies —
such as fuel, tires, parts and components — not at the official 1:1 rate
but at 10 CUP : US$1. Given that the convertible peso is pegged to the
dollar, this translates to 10 CUP : 1 CUC — which means an effective
90-percent devaluation of the official exchange rate for the sectors
that participate in the exchange rate adjustment.

Foreign investors

How the devaluation of the CUP will affect foreign investors in Cuba is
not clear yet. One area where the impact could be felt quickly is in the
salaries foreign companies pay their Cuban employees via a government
agency, Vidal says. In the mid-term, if state companies adapt to the new
opportunities, a stronger CUP should incentivize foreign participation
and competition in domestic markets that have been off-limits. Sectors
foreign investors may begin to watch include transportation, telephony
and other communications, as well as agriculture.

Challenges

The biggest challenge, according to Vidal, is the fact that "everything
depends on state companies. We all know the slowness and bureaucracy of
state companies. If there is an absence of effective response to take
advantage of the devaluation, it could become difficult," Vidal says.

Meanwhile, Juan Triana, an economist with the Center for the Study of
the Cuban Economy (CEEC) at the University of Havana, lays out a list of
tasks ahead for Cuba's currency managers. They include making sure there
is continuous exchange between the two currencies, decide on one figure
and set a fixed exchange rate, avoid the emergence of a variety of
sectorial exchange rates and eliminate existing ones, begin to watch for
inflation and set benchmark goals, create a fund that provides temporary
aid to enterprises affected by the devaluation, and set a ceiling for
public debt.

For more analysis, click here.

The history — a tale of three currencies

Since 1993, the Cuban peso and the U.S. dollar have officially been
circulating in the Cuban economy, side by side. In 2003 and 2004, the
government took a bundle of measures that brought about the substitution
of the dollar's functions by a third currency: The CUC. This effectively
stopped the dollarization of the Cuban economy, while maintaining
parallel circulation of the two currencies, both of which are issued by
the Central Bank of Cuba.

In the 1990s, together with the double currency, an even bigger
distortion occurred: The duplication of exchange rates. From 1990 to
1993, the exchange rate of the CUP suffered an enormous depreciation
vis-a-vis the dollar in the informal market. This was accepted by the
government network of exchange houses (Cadeca) created in 1995. However,
the new value of the CUP was never applied to the accounting and
exchange operations of the business sector. Institutions continued to
operate with the official 1:1 exchange rate. Today, Cubans and tourists
get 24 CUP for US$1 in Cadeca exchange houses, but the official exchange
rate used to calculate macro-economic performance and that of state
companies continues to be 1:1.

Source: "Cuba begins currency reform « Cuba Standard, your best source
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http://www.cubastandard.com/2013/10/23/cuba-announces-currency-reform/