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Posted August 04, 2003 by publisher in Business In Cuba

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by Philip Peters | [url=http://www.LexingtonInstitute.com]http://www.LexingtonInstitute.com[/url]

On July 16, Cuba’s central bank announced new foreign exchange controls that apply to Cuban banks and state enterprises.

The new regulations, intended to ensure “efficient use of financial resources,” will “establish the use of the convertible peso as the only means of payment to denominate and execute the transactions that are currently carried out by Cuban entities in United States dollars or other foreign currency.”

The regulations respond to a hard currency crunch brought on by reduced sugar and tourism income, and low economic growth. In a sense, the regulations formalize a phenomenon that has grown during the past two years: the strict husbanding of all available foreign exchange to pay for essential imports, including American agricultural products – which are bought without credit, with cash, at time of delivery.

Under Resolution 65/2003, all Cuban state enterprises and all Cuban banks are required to convert foreign currency holdings to “convertible pesos,” the Cuban currency that is used interchangeably with the dollar in Cuba and that trades on a par with the dollar.

Businesses that need foreign exchange will need the central bank’s approval to purchase it with their convertible peso reserves. The resolution implies that this approval process will not have the effect of restricting trade; “In no case,” the resolution states, will the central bank’s approval be used to “impede or obstruct” payments to settle debts or obligations overseas. However, enterprises will pay a two percent fee and wait up to two weeks to obtain foreign exchange.

The licenses now granted to banks and enterprises to have accounts in foreign banks are cancelled, and those that want to maintain these accounts must re-apply within 15 days. For those who win approval, the Central Bank will determine the amount of foreign currency they may hold in those accounts.

The resolution grants two explicit exceptions. Joint ventures may continue to transact all business in foreign currency, and Cuban citizens may continue to hold dollar accounts in Cuban banks.

However, some enterprises will do business differently. A state-owned hotel that earns dollar and Euro income from tourism will apparently have to convert those hard currency earnings to convertible pesos on an ongoing basis. As the hotel needs Euros, for example, to buy specialty foods and kitchen equipment from a supplier in Madrid, it will pay a 200-Euro fee to Cuba’s central bank for every 10,000 Euros it buys, and it will not be able to make a normal, same-day currency transaction.

What will be the impact?

The first impact is to make Cuba’s convertible peso less convertible from the point of view of the banks and enterprises that hold them. Instead of a same-day trade at par, there will be a delayed transaction with a two percent surcharge. In effect, that surcharge will act as a two percent tax on imports.

The regulations partially reverse a policy of decentralization that has changed Cuba’s foreign trade sector over the past decade. While they may not bring back the day when a governing ministry approved every personnel decision and every transaction in a Cuban state enterprise, they do erode a degree of autonomy that had been extended to Cuban managers an autonomy that created efficiencies internally and improved Cuba’s ability to do business with foreign partners.

The impact on Cuba’s investment climate will most likely be small, and negative. The term “exchange controls” always spells risk to international investors. Because joint ventures with foreign investors are exempt from the new regulations, there is no threat to their ability to repatriate profits. However, many of these joint ventures are suppliers or creditors to Cuban customers whose payments are in arrears and the new currency conversion process seems likely only to delay payments.

By amassing and managing centrally Cuba’s stock of convertible currency, the central bank may earn higher interest or reduce Cuba’s exposure to exchange rate fluctuation, yielding marginal benefits. As a policy measure, it is of a piece with the belt-tightening occurring elsewhere in the economy.

But the new currency regulations do nothing to increase the flow of foreign exchange to Cuba. Government could only achieve that result by changing some of the basic rules and incentives that govern economic activity an option that is not in play in Cuba today.

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