Cuba Inches Toward New Future

Exclusive: The half-century-old U.S. embargo on Cuba is a relic of the Cold War and a stunning example of American hypocrisy given U.S. trade with China. But even those old walls are finally cracking with Cuban economic reform and U.S. companies wary of other investors getting the jump, writes Andrés Cala.

By Andrés Cala

Expectations are high for Cuba in 2014, as it moves from flirting with potential international business partners into match-making in a globalized world of trade, commerce and investment a marketplace that a decades-old U.S. embargo has largely kept closed to Cuba.

For now, it appears the U.S. embargo is not going anywhere as politicians of both parties fear offending the shrinking but still powerful right-wing Cuban community in the pivotal swing state of Florida. But Cuba and its hopeful trading partners are counting on the gradual and profitable opening of the island’s economy and the gradual expansion of a new entrepreneurial middle class in the country of 11 million people.

This past week, the European Union approved a plan to seek a stable political and economic partnership agreement with Cuba. It was not exactly a breakthrough, but rather what some Europeans see as the beginning of a long process, which will be conditioned on democratic gains inside Cuba and improvement on human rights.

The EU said its decision was coordinated with the Obama administration, but the outreach suggests that Europe feels it can no longer wait for U.S. hostility toward Cuba to subside without letting other global powers get an inside track on Cuba’s economic potential. The EU’s move also puts the United States in the role as the last enforcer of Cuba’s isolation.

In another diplomatic coup for Cuba, heads of state flocked to Havana last month for a summit of Community of Latin American and Caribbean States. Also there were United Nations Secretary General Ban Ki-moon and Organization of American States Secretary General Jose Miguel Insulza, marking the first official visit by an OAS head to Cuba, which was effectively suspended from the OAS in 1962 and has declined to return despite an invitation in 2009.

The U.S. and Canada were not invited to the regional bloc’s summit. CELAC, one of the legacies created by the late Venezuelan President Hugo Chávez in 2011 to exclude the U.S. from these regional deliberations, seeks to increase Latin American integration. This recent gathering attracted more leaders than any recent Americas or Ibero-American summit.

But diplomatic support alone is not going to bring about the economic growth that Cuba badly needs, with the survival of its socialist revolution at stake, according to its leader Raúl Castro. Still, friendlier relations with other countries are a prerequisite for attracting foreign investment.

Cuba’s challenge is to match its relatively well-educated and healthy population with foreign capital to build the pillars of a new socialist economic model. This successful matching depends on changes to rules governing business and their timing, a complex equation that also includes domestic politics and foreign policies.

Investors find Cuba particularly attractive because it has the public infrastructure for an export-driven economy helped by its location along the Caribbean transit corridor and it has the strong potential for a surge in domestic consumption

But there’s also skepticism from many countries that Cuba can make the transition to a successful business model in a smooth and orderly fashion, with expectations that any democratic reform in Cuba will only be gradual and may be dependent on economic growth. Presently, foreign investment is trickling in, still relatively minute at $1.5 billion.

The economy also is in relatively poor shape, with an official 2013 growth rate of 2.7 percent, compared to the target of 3.6 percent. Foreign investment fell below projections, too, missing the target by nearly 15 percent, growing at a disappointing 7.1 percent. Foreign direct investment was only 8 percent of the economy, explaining the Cuban government’s concern about boosting those numbers.

Last Frontier

Cuba’s recent flirtations with foreign investors began with Raúl Castro’s ascent to leadership in 2011, replacing his ailing brother Fidel. State-owned companies began to entertain offers from more friendly countries, such as Russia, China, Brazil and Venezuela, which also offered generous credit for vital infrastructure upgrades.

Much of the political and legal framework for this expected foreign interest has been set in place and will culminate this March with the much anticipated approval of a thorough overhaul of foreign investment rules and a sweeping economic paradigm shift.

Cuba, which has shunned foreign investment and prioritized self-sufficiency since the barbudos the bearded revolutionaries marched into Havana in 1959, is now open for business with the vital goal of attracting more hard currency, which the regime has historically starved for. The plans also call for decreasing public spending.

Raúl Castro is pushing economic changes that will ultimately displace hundreds of thousands of public jobs in favor of foreign capitalist projects and a newly empowered self-employed and small entrepreneurial class. The government said foreign investment would play “a major role” in Cuba’s new economic model, not just a “complement.”

In accordance with the plan, the public workforce shrank by 1.5 percent, while employment in the non-state sector expanded 6 percent. State company productivity also improved slightly, increasing more than wages, but still far from what foreign investors would like to see.

Still. the prize for outside businesses is potentially huge. Cuba is set for a surge in foreign investment and what is expected to be a gradual expansion of a new bourgeois class, one that is starving to consume after decades of scarcity. What is uncertain is how the regime navigates this transition, whether like the chaotic collapse of communism following Russia’s glasnost or China’s embrace of a capitalist economy under the strict control of the Communist Party.

Pessimists expect yet another failed attempt to fix the chronic economic pain in Cuba, while optimists see a bonanza. The more likely result is somewhere in the middle, as the regime won’t risk opening its doors too quickly but will nevertheless press ahead with reforms as an urgent response of the regime’s survival instinct.

New Law, New Port

Currently, Cuba’s problem is that it has the welfare state of a northern European country offering its people quality health care, housing and educational opportunities but an economy that is inadequate to sustain those programs into the future. Cuba’s economic model has produced a highly qualified labor force but operates under a state-controlled economy that can’t provide the necessary job opportunities.

According to many analysts, the state needs to spend less while increasing revenue from other sources, all while improving local productivity and maintaining political stability. With little access to credit, Cuba’s only real choice is to seek foreign investment, public and private.

Addressing legislators in December, Raúl Castro called for the extraordinary March vote on revamping Cuba’s economic model, saying “you have to strengthen the country’s capacity to generate many of the products that we currently import.”

The government already decreed the creation of special economic zones where foreign companies will be able to set up manufacturing and other industries, ranging from oil exploration to assembly plants, at very advantageous terms.

The shinning new emblem of the strategy is the Mariel Port and its accompanying special economic zone. During last month’s visit, Brazilian President Dilma Rousseff was on hand to inaugurate the new installations built with a nearly $1 billion credit from the Brazilian government. Brazilian infrastructure company Odebrecht won the contract.

A unit of the same company was also the first foreign administrator in Cuba’s once prized sugar cane industry, a deal which is already working as a template for the vital agriculture sector. Earlier this month, a British company announced a similar but much smaller deal in the coffee industry.

Local cooperatives no longer on the government payroll get funds, equipment and training to improve efficiency, and the foreign companies benefit from the crop yields, whether it’s lucrative mountain coffee beans or a revival of the moribund sugar industry that once supplied much of the Soviet bloc’s needs.

A major drawback for investors is that the state will retain control of labor, which basically means companies will pay standard wages in dollar currency and the Cuban government will deliver a fraction of the equivalent in pesos to employees, acting as a labor middleman. This arrangement exists on top of high social security taxes.

Analysts say Cuba will soon have to reform its labor rules, but it needs to first narrow the current abyss between the dollar-earning and peso-earning Cubans. Investors, in any case, will demand terms that don’t condemn projects to the same inefficiency that plagues state-owned enterprises, including the agriculture sector.

And the U.S.?

Washington is expected to follow along the path blazed by Latin America and Europe, but it’s not clear when that will happen. At present, it does not appear that a change in U.S. attitudes toward doing business with Cuba is imminent or even in the planning stage. But the two main drivers now are political and economic, trumping outdated ideological calculations.

Politically, young Cuban-Americans increasingly don’t share their parents’ and grandparents’ hatreds and are seeking a more pragmatic reengagement with Cuba based on culture and family. The best illustration of this was the 2012 U.S. presidential election when Obama swept the Hispanic vote nationally but also in Florida, the stronghold of Cuban-Americans.

A more recent and perhaps equally powerful sign came from one of the most prominent anti-Castro leaders, Alfonso Fanjul, a sugar mogul who made his empire in the U.S. from scratch after his family had all its plantations expropriated in Cuba. A close friend of the Clintons and a top political contributor to both Democrats and Republicans, Fanjul timidly suggested there is room for flexibility.

Fanjul suggested that if Cuba offers appropriate investment reforms to secure investment and returns, he would be willing to invest in Cuba’s sugar industry. In making his comment, Fanjul was echoing a public opinion shift that leaves the anti-Castro hawks more isolated.

In Miami area, 64 percent of the people support reestablishing relations with Cuba, similar to the attitudes across Florida and higher than the nationwide level at 56 percent, according to a poll by the non-partisan Atlantic Council.

U.S.-based oil companies are also calling for easing of sanctions on Cuban investments to permit exploring Cuba’s Gulf of Mexico waters for oil, like their competitors already are. Those explorations have so far come up empty, but there are lots of opportunities in small and depleting wells using oil recovery techniques which U.S. companies are well placed to supply.

Still, it’s clear that the Obama administration and its successors will find it complicated to reverse the more than half-century-old policy of hostility toward Cuba.

Andrés Cala is an award-winning Colombian journalist, columnist and analyst specializing in geopolitics and energy. He is the lead author of America’s Blind Spot: Chávez, Energy, and US Security.