Is the Dollarization of the Cuban Economy Possible?

Photo: Rolando Pujol, EFE

14ymedio bigger14ymedio, Elías Amor Bravo, Economist, 29 October 2019 — Since the Cuban regime authorized the new system of buying home appliances and car parts with hard currency and magnetic cards, Cubans once again feel a special attraction to the American dollar. Information from Havana  speaks of a spectacular increase in demand in the first days of this new measure.

Some data.

It could be said that in quantitative terms, the operation does not seem complicated. The current GDP of the United States, 19.39 trillion dollars, is 221 times larger than that of Cuba (87.73 billion dollars); that is, Cuba’s GDP is only 0.45% of that of the United States. Monetary absorption would be immediate.

If looked at from the perspective of the value of the GDP of individual US states,, Cuba would occupy the 36th position behind Nebraska and before New Mexico. In that case, it represents such a small fraction of the US economy that it seems negligible. Florida alone, for example, has a GDP of 754 billion dollars, eight times higher than that of the island of Cuba.

In absolute terms, the total dollars needed to finance the monetary circulation and transactions of the Cuban economy would be equivalent to those of a state like Nebraska, which, however, has a per capita GDP of $49,778 seven times higher than that of Cuba, which is only $7,602.

From a quantitative perspective, it would not be problematic to replace the currencies that circulate on the island with the dollar, in a massive conversion operation similar to that carried out in the European Union when it was agreed to establish the euro as a common currency.  But what the communist authorities would be willing accept is something else altogether, surely contrary to this process. The main difficulty of this is to establish a type of conversion that allows the Cuban economy to be competitive at the regional level, and I do not believe that the US would have any problem with this.

Bypassing the political obstacles, which are the most important, dollarization, under such conditions, would not be a quantitative problem, but a qualitative one. Because before establishing the dollar as a currency in Cuba and suppressing the other currencies, the variables of the fundamentals of the economy would have to be adjusted, and this requires determining what state they are currently in, what has been their recent evolution, and if it is possible to intuit what the dynamics may be in the coming years.

In that sense, the fundamentals of an economy include the qualitative and quantitative information that is essential to determine economic and financial well-being, and the consequent estimation of the value of the economy, having as its primary reference its currency.  And given that qualitative information implies the need to access elements that are not easy to measure, such as managerial experience or the qualifications of human capital, economists use quantitative information whose statistical or mathematical analysis is very useful for measurement purposes.

It is useless to promote the dollarization of the Cuban economy if there is no necessary convergence of the fundamentals with the US macroeconomic scenario, which, on the other hand, cannot be immediate, and which would demand different economic policies from today’s. If that convergence did not occur, the Cuban economy could break into a thousand pieces, and dollarization would not be a correct decision.

The truth is that the contrast between the main fundamentals of the two economies forces us to reflect. Basically because the distance is huge.

First, GDP growth in the US is currently around 3%, showing remarkable strength, while Cuba is inexorably approaching a recession, after announcing a growth rate of 0.5%, and probably even lower for this year. The difference in terms of growth is very relevant, and places the Cuban economy far from convergence. Either it grows more and more stable, or it is better not to make the move.

Second, inflation, which in Cuba cannot be estimated with comparative data, because its current consumer price index does not follow the rules used in international calculation. In this case, it should be approximated through the price index of the GDP deflator, a figure that has experienced an average annual growth from 2013 to 2018 of 3.5%, with notable inflationary tensions.  In the US in the same period, the inflation rate has stood at an average of 1.7%, or roughly half, which illustrates that the Cuban economy is at a considerable distance from any convergence process in terms of fundamentals.

Third, interest rates in Cuba are not determined by the market based on supply and demand, but are set by the government to finance the public deficit through debt issuance. The most recent data has interest rates at 2.5%. In the US, the Federal Reserve, autonomous in its monetary policy decisions in relation to the government, has set rates at 1.75% annually, which again displaces the Cuban economy from any convergence process, further separating its monetary conditions from those existing in USA.

Fourth, in relation to the state deficit, that is to say the difference between income and public expenditures, Cuba has announced for 2019 an imbalance of 11%, higher than in previous years, while the US, although it its deficit is high, 960 billion dollars, its economy has such outstanding dimensions that the deficit’s percentage of GDP stands at 4.95%, once again distancing the Cuban economy from any process of convergence with the US in the fundamentals.
Finally, the external sector of the Cuban economy is strongly deficient in trade in goods with an unfavorable real exchange relationship, which undermines the competitiveness of the economy. The trade deficit of the Cuban economy in 2018 (most recent data from Cuba’s National Statistics Office, ONEI) stood at 10.45% of GDP, totalling $9.112 billion, while in the US, although it rose to the figure of $621 billion, once again its relationship with GDP placed it at 3.2%, so that the necessary convergence of the Cuban economy with this indicator also is not observed.
The distance that separates the Cuban economy from that of the US in the fundamentals makes it very difficult for the currency of that country to serve as a benchmark for integration. It can be affirmed that there would be a serious danger in moving towards the dollarization of the Cuban economy, because it could pose serious problems for the different sectors and productive activities of the Cuban economy if the necessary adjustment are not made beforehand to correct for the notable distances that exist in the fundamentals.

It is enough to look at the current conversion that is established between the dollar and the Cuban peso (CUP), through the CUC (Cuban convertible peso), to understand the difficulty involved in the process. Similarly, the upward tension of the dollar that has been announced in recent days in Cuba reminds us of the times of the “Special Period” when the free circulation of US currency on the island was authorized. The Cuban peso is practically dead. Cubans’ betting on the dollar shows the remarkable distance between the two economies. The doors to the dollarization of the Cuban economy have been opened by the enemies of the colonial empire. Playing with fire in monetary operations means getting burned. We will see how this all shakes out.


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