Country Report

Cuba

Cuba at a glance: 2007-08

OVERVIEW It now seems unlikely that the president, Fidel Castro, will return to office. Since he handed over "temporarily" to his brother and vice-president, Raúl, in July 2006, the process of succession has taken place. Raúl Castro has settled into his role as acting president, reducing political risk in the event of Fidel Castro’s death. The Economist Intelligence Unit expects evolutionary, rather than sudden, political and economic change within the existing political system. Hostile relations with the US will persist, but there is a growing possibility of improvement after 2008. The Banco Central de Cuba (BCC, the Central Bank) will maintain discipline in macroeconomic management but liberalising reforms will be slow. GDP growth will decelerate to 7% in 2007 and 5.7% in 2008. Investment will drive growth, supported by rising household spending. Construction, infrastructure and manufacturing will expand, and there will be some recovery in agriculture. The current account will show a small deficit, which will be matched by net direct investment and debt financing flows.

Key changes from last month Political outlook • Raul Castro!s speech on the July 26th confirmed the change in style of leadership. It was relatively short, and reiterated the priority being given to improvements in productivity. It also repeated the "olive branch" offered to the US, but we do not expect US-Cuban relations to improve until after 2008. Economic policy outlook • Public statements by the acting president and other officials confirm a policy of gradual adjustment. In the coming year a greater availability of consumer goods will be coupled with a series of reforms of official prices, while a series of commissions examine more far-reaching proposals. Economic forecast • The cost of imports has been higher than expected in 2007, and may have contributed to recent trimming of state investment plans. Our GDP growth forecast has been cut slightly, from 7.1% to 7%, in the light of this adjustment.

August 2007

The Economist Intelligence Unit 26 Red Lion Square London WC1R 4HQ United Kingdom

The Economist Intelligence Unit The Economist Intelligence Unit is a specialist publisher serving companies establishing and managing operations across national borders. For 60 years it has been a source of information on business developments, economic and political trends, government regulations and corporate practice worldwide. The Economist Intelligence Unit delivers its information in four ways: through its digital portfolio, where the latest analysis is updated daily; through printed subscription products ranging from newsletters to annual reference works; through research reports; and by organising seminars and presentations. The firm is a member of The Economist Group.

London New York Hong Kong The Economist Intelligence Unit The Economist Intelligence Unit The Economist Intelligence Unit 26 Red Lion Square The Economist Building 60/F, Central Plaza London 111 West 57th Street 18 Harbour Road WC1R 4HQ New York Wanchai United Kingdom NY 10019, US Hong Kong Tel: (44.20) 7576 8000 Tel: (1.212) 554 0600 Tel: (852) 2585 3888 Fax: (44.20) 7576 8500 Fax: (1.212) 586 0248 Fax: (852) 2802 7638 E-mail: [email protected] E-mail: [email protected] E-mail: [email protected]

Website: www.eiu.com

Electronic delivery This publication can be viewed by subscribing online at www.store.eiu.com Reports are also available in various other electronic formats, such as CD-ROM, Lotus Notes, online databases and as direct feeds to corporate intranets. For further information, please contact your nearest Economist Intelligence Unit office

Copyright © 2007 The Economist Intelligence Unit Limited. All rights reserved. Neither this publication nor any part of it may be reproduced, stored in a retrieval system, or transmitted in any form or by any means, electronic, mechanical, photocopying, recording or otherwise, without the prior permission of The Economist Intelligence Unit Limited. All information in this report is verified to the best of the author's and the publisher's ability. However, the Economist Intelligence Unit does not accept responsibility for any loss arising from reliance on it.

ISSN 1465-6388

Symbols for tables “n/a” means not available; “–” means not applicable

Printed and distributed by Patersons Dartford, Questor Trade Park, 151 Avery Way, Dartford, Kent DA1 1JS, UK.

Cuba 1

Contents

Cuba

3 Summary

4 Political structure

5 Economic structure 5 Annual indicators

6 Outlook for 2007-08 6 Political outlook 7 Economic policy outlook 8 Economic forecast

11 The political scene

19 Economic policy

23 The domestic economy 24 Agriculture 26 Infrastructure 27 Mining and energy 29 To u r i s m

31 Foreign trade and payments

List of tables 8 International assumptions summary 10 Forecast summary 24 Average price increases in 2006 29 Tourist arrivals by source country 30 Tourism indicators 32 External debt

List of figures

11 Gross domestic product 11 Consumer price inflation 21 Household consumption by market 25 Fresh fruit and vegetables 28 Oil, gas and nickel production 29 Installed generating capacity by type

Country Report August 2007 www.eiu.com © The Economist Intelligence Unit Limited 2007

Cuba 3

Cuba August 2007 Summary

Outlook for 2007-08 Fidel Castro is now unlikely to return to office and the succession has taken place. Since taking over "temporarily" in July 2006, Raúl Castro has settled into his role as acting president, reducing political risk in the event of Fidel Castro’s death. The Economist Intelligence Unit expects evolutionary, rather than sudden, political and economic change within the existing political system. Hostile relations with the US will persist until 2008. The Banco Central de Cuba (BCC, the Central Bank) will maintain discipline in macroeconomic management as household consumption rises. GDP growth will slow to 7% in 2007 and 5.7% in 2008. Growth will be led on the demand side by investment and consumer spending, and on the supply side by construction and infrastructure, with some recovery too in manufacturing and agriculture. The current account will show a small deficit, matched by capital inflows.

The political scene With the leadership succession looking increasingly permanent, Raúl Castro has consolidated his authority. Economic efficiency and the justice system have been under review. Dissidents have continued to risk prosecution. Cuba has offered talks to the US despite angry rhetoric. US policy has not shifted, and EU policy has not changed sufficiently to satisfy Cuba. Diplomatic efforts beyond the OECD have yielded political and economic rewards.

Economic policy The leadership has encouraged the airing of problems and suggestions. The level of household consumption has grown but consumer choice has been lacking. Uncomfortably tight monetary discipline has contained pressure on market price, but perceived inflation is high. Industrial policy debates have highlighted low productivity and weak incentives.

The domestic economy GDP growth appears to have slowed, and inflation data are hard to interpret. More rain and cash have brought relief to farmers, but the sugar crop has been hit by high humidity and supply delays. Oil and gas output are up and progress on the "energy revolution" has been reported. A decline in tourist arrivals has prompted a policy response.

Foreign trade and payments Price and output trends suggest that the trade deficit has widened. Foreign direct investment (FDI) flows have held up despite an increase in state control. Financing from Venezuela and China has contributed to a sharp rise in the external debt stock, while US restrictions have deterred the activities of international banks.

Editors: Emily Morris (editor); Ondine Smulders (consulting editor) Editorial closing date: August 14th 2007 All queries: Tel: (44.20) 7576 8000 E-mail: [email protected] Next report: Full schedule on www.eiu.com/schedule

Country Report August 2007 www.eiu.com © The Economist Intelligence Unit Limited 2007 4 Cuba

Political structure

Official name Republic of Cuba

Form of government Centralised political system, with close identification between the PCC and the state

Head of state The president, Fidel Castro Ruz, has been absent from office through illness since July 31st 2006. His deputy and brother, Raúl Castro, is acting president

The executive The Council of Ministers is the highest executive body; its Executive Committee is composed of the president, the first vice-president and the vice-presidents of the Council of Ministers

National legislature National Assembly of People’s Power; 609 members elected by direct ballot; the Assembly meets twice a year, and extraordinary sessions can be called

Legal system A People’s Supreme Court oversees a system of regional tribunals; the Supreme Court is accountable to the National Assembly

National elections Provincial and national assemblies: last elections January 2003; next elections due in January 2008. Municipal elections: last held April 2005; next due in October 2007

National government The organs of the state and the PCC are closely entwined, and power devolves principally from the Executive Committee of the Council of Ministers

Main political organisation The Partido Comunista de Cuba (PCC) is the only legal political party

President of the councils of state & ministers Fidel Castro Ruz First vice-president (& current acting president) Raúl Castro Ruz Vice-president Carlos Lage Dávila President of the National Assembly Ricardo Alarcón de Quesada

Key ministers Agriculture Acting minister (since Sep 2005): María del Carmen Pérez Armed forces Raúl Castro Ruz Audit & control Gladys María Bejerano Portela Basic industry Yadira García Vera Communications & informatics Ramiro Valdés Menéndez Culture Abel Prieto Jiménez Economy & planning José Luis Rodríguez García Finance & prices Georgina Barreiro Fajardo Foreign investment & economic co-operation Marta Lomas Morales Foreign relations Felipe Pérez Roque Foreign trade Raúl de la Nuez Ramírez Government Ricardo Cabrisas Ruíz Justice María Esther Reus González Labour & social security Alfredo Morales Cartaya Light industry Estela Domínguez Ariosa Public health Jose Ramón Balaguer Science, technology & the environment Acting minister (since Oct 2004): Fernando González Bermúdez Sugar Ulises Rosales del Toro To u r i s m Manuel Marrero Cruz Transport Jorge Luis Sierra Cruz

Central Bank president Francisco Soberón Valdés

Country Report August 2007 www.eiu.com © The Economist Intelligence Unit Limited 2007 Cuba 5

Economic structure

Annual indicators 2002a 2003a 2004 b 2005 b 2006b GDP at market prices (CUP bn)c 30.7 32.3 34.0 37.0 45.2 GDP (US$ bn)d 28.4b 29.9b 32.0 35.8 41.0 Real GDP growth (%) 1.5 2.9 4.2 8.6 11.1 Consumer price inflation (av; %) 8.8b 0.6b 1.3 7.0 6.2 Population (m) 11.2 11.2 11.2 a 11.2 a 11.2a Exports of goods fob (US$ m) 1,421.7 1,671.6 2,188.0 a 2,107.8 a 2,980.2a Imports of goods fob (US$ m) 4,140.8 4,612.6 5,562.0 a 7,960.8 a 10,173.8a Current-account balance (US$ m) -674.1 -347.0 -340.0 a -633.0 145.8 Total external debt (US$ bn) 10.9b 11.3b 13.8 14.5 16.6 Debt-service ratio, paid (%) 13.4b 12.3b 14.3 10.4 8.7 Official internal exchange rate CUP:CUC (av) 1.0 1.0 1.0 1.0 1.0 Unofficial internal exchange rate CUP:CUC (av) 26.0 26.0 26.0 24.4 24.0 Official external exchange rate CUC:US$ (av) 1.0 1.0 1.0 a 0.9 a 0.9a Unofficial external exchange rate CUP:US$ (av) 26.0 26.0 26.0 a 23.1 a 22.2a a Actual. b Economist Intelligence Unit estimates. c The nominal local currency GDP series is not compatible with the US$ GDP estimates at either the official rate (PS1:US$1) nor the unofficial (market) rate, which applies only to domestic personal transactions. d This is a best estimate only, based on limited information available. This series is not consistent with nominal GDP and exchange rate because neither the official nor unofficial exchange rates can be used to derive dollar GDP.

Origins of gross domestic product 2006 % of total Components of gross domestic product 2006 % of total Agriculture & fisheries 3.9 Private consumption 65.1 Mining 1.6 Government consumption 21.9 Construction 7.3 Gross fixed investment 12.1 Electricity, gas & water supply 1.9 Changes in stocks 0.7 Manufacturing 13.5 Exports, goods & services 21.8 Services 71.7 Imports, goods & services 21.6

Principal exports 2006 US$ m Principal imports cif 2006 US$ m Nickel 1,406 Machinery & equipment 3,315 Tobacco products 257 Fuel 2,466 Sugar and sugar by-products 237 Food 1,435 Medicines 162 Chemicals 713

Main destinations of exports 2006 % of total Main origins of imports 2006 % of total Netherlands 26.0 Venezuela 21.7 Canada 18.3 China 15.4 Venezuela 9.9 Spain 8.3 China 8.2 US 4.8 Spain 5.0 Italy 4.0

Country Report August 2007 www.eiu.com © The Economist Intelligence Unit Limited 2007 6 Cuba

Outlook for 2007-08

Political outlook

Domestic politics Despite the apparent improvement in the health of Fidel Castro (who was 81 on August 13th), it looks increasingly unlikely that he will be able to resume office. The lack of disruption since his temporary handover of power on July 31st 2006 to his brother, Raúl Castro (76), has reduced the degree of uncertainty surrounding his fate, as a team of leaders have assumed greater authority than before. In his new role as elder statesman, Fidel Castro will continue to over- shadow the decisions of the successor government. When he dies, the succes- sion will be smooth, but the new leadership will face a challenge in terms of establishing a new balance of authority to substitute for the long unquestioned primacy of the "commander-in-chief". The Economist Intelligence Unit conti- nues to believe that the most likely scenario is one of gradual, rather than sud- den, political (and economic) change in Cuba in the medium term. The main risks to this forecast stem from potential rivalries within the post-Fidel Castro leadership, which could be heightened by social pressures or actions by the US. If, as we now expect, Fidel Castro does not return to office, Raúl Castro!s continuation as acting president and head of the Partido Comunista de Cuba (PCC) will be subject to ratification by election: the presidency by the National Assembly (due in 2008) and the PCC by its Central Committee and eventually by its Congress (no date yet set). Once considered a hardline communist and an enforcer, Raúl Castro has gained a reputation over the past two decades as an innovator in terms of economic management. Lacking his brother’s charisma, he depends on a more collective approach to decision-making and will seek to strengthen institutions to support governance. Regardless of how long the Castro brothers remain in office, the transfer to the next generation of leaders has already begun. Responsibility for economic management is shared and oversight of important sectors"energy, education and healthcare"has been delegated. The most senior members of the younger generation who might succeed or govern alongside Raúl are Carlos Lage (55), a vice-president and de facto prime minister, and Felipe Pérez Roque (42), a former personal secretary to Fidel who is currently minister of foreign relations. Mr Lage is known as a people-manager and pragmatist. Mr Pérez Roque has been extremely close to Fidel Castro and is thoroughly trained by him, and so far has had a less distinct political identity. Ricardo Alarcón, a former Cuban ambassador to the UN and the current head of the National Assembly, will remain an important member of the government although he is ruled out as a successor by his age (70).

International relations There has been no change in official policy on bilateral relations on either the Cuban or US sides, but there are signs of change ahead. The US government continues to insist that it will engage only with a “transition” government, but the succession in Cuba, and the waning fortunes of the hardliners in the ruling US Republican Party, have opened the possibility of a gradual re-engagement. That said, the bilateral tensions will not disappear, and the current US

Country Report August 2007 www.eiu.com © The Economist Intelligence Unit Limited 2007 Cuba 7

administration will resist the growing domestic political pressure for a change in policy towards Cuba, and hence no radical relaxation of sanctions is likely while it remains in office. US hostility towards Cuba will continue to deter potential investors from third countries and constrain economic performance. Ties with China, Venezuela and other important emerging markets, which have provided a major economic stimulus, will continue to be nurtured. This will make Cuba’s official relations with the EU and Canada less significant, encouraging its rejection of political conditions. Cuba will continue actively to build relations with countries in the Americas and the wider developing world.

Economic policy outlook

Policy trends Our central scenario assumes that the successor government will make no sudden changes in the overall economic policy stance, although significant adjustments are likely. Higher tax revenue and contributions from state enterprises will keep the overall fiscal deficit close to target, while the Banco Central de Cuba (BCC, the Central Bank) uses a broad range of both direct and indirect means to control monetary growth and the use of foreign exchange. Adjustments of some prices towards market levels will reduce some distortions and improve efficiency, but there will be no radical market liberalisation. Efforts to strengthen state oversight and regulation will continue. A strategy for moving towards a single currency and single exchange rate is under way, but until this objective is achieved, the economy will continue to be plagued by dislocation and perverse incentives. We expect further progress towards creating the conditions for exchange-rate unification. Although there is a possibility of a sudden adjustment before the end of 2008, our forecast assumes there will continue to be two domestic currencies until after 2008. A need for improvements in the efficiency of economic management has been officially recognised, but progress will be constrained by conservatism and a commitment to full employment. The agricultural sector is under review, and some liberalisation is possible here, in the form of further price reforms, less use of quotas and more autonomy for farmers. Other experiments with gradual and partial liberalisation are likely. However, full market liberalisation of the type envisaged in the “transition” economies of the former Soviet bloc is not on the agenda.

Fiscal policy According to official reports, strong revenue growth narrowed the nominal fiscal deficit from 4.2% of GDP (using the Cuban measure) in 2005 to 3.2% in 2006. Using our measure of nominal GDP, the deficit/GDP ratio was around 3.8% in 2006, down from 4.5% in 2005. We forecast that it will ease in 2007-08. Although spending will continue to grow, the deficit will be kept close to the planned target for fear of feeding inflation and eroding the “unofficial” (but legal) value of the Cuban peso. Higher real wages, social spending and public investment programmes will be financed by an increase in tax revenue and contributions from state enterprises. Earnings from the export of Cuban services (mainly healthcare) to Venezuela will continue to make a significant contribution. Subsidies to enterprises and consumers are also likely to decline.

Country Report August 2007 www.eiu.com © The Economist Intelligence Unit Limited 2007 8 Cuba

Monetary policy Changes in the monetary system over the past two years have increased the Central Bank’s role in the management of the economy. In the context of a surge in state investment and rising real household incomes, the monetary authorities have been charged with maintaining the balance between the demand and supply of the two currencies currently circulating within the domestic economy: the Cuban peso (CUP) and the convertible peso (CUC). The Central Bank is closely monitoring monetary emission and credit growth, and the use of indirect instruments is growing. It is seeking to keep monetary demand and supply in balance through the use of interest rates, credit controls, price adjustments, and influence over the quantity of goods and services available. However, a large informal economy and the co-existence of different markets with divergent prices will complicate monetary management.

Economic forecast

International assumptions International assumptions summary (% unless otherwise indicated) 2005 2006 2007 2008 Real GDP growth World 4.8 5.4 5.0 4.8 OECD 2.6 3.2 2.6 2.6 EU27 1.8 3.0 2.7 2.4 Exchange rates US$:€ 1.246 1.256 1.349 1.378 Financial indicators US$ 3-month commercial paper rate 3.38 5.03 5.21 5.20 Commodity prices Oil (West Texas Intermediate; US$/b) 56.5 66.0 68.9 70.0 Sugar (US cents/lb) 9.9 14.8 9.8 10.1 Nickel (US$/lb) 6.7 11.0 19.5 18.3 Note. Regional GDP growth rates weighted using purchasing power parity exchange rates. Our forecast is based on the assumption that there will be no sharp shocks to threaten the current relatively favourable conditions for Cuba’s external accounts. Following world GDP growth (at purchasing power parity exchange rates) of 5.4% in 2006, we expect the rate of expansion to ease in 2007-08 to less than 5%. This is still a brisk pace, and will be sufficient to ensure the continued expansion of international trade and underpin commodity prices. However, large and persistent imbalances within the economies of the OECD and China present important risks to this forecast. If the current turbulence in US credit markets spreads, it could hit global economic performance. A further major risk arises from Cuba’s growing dependence on economic ties with Venezuela, which would be sharply affected by political upheaval within Venezuela or a sudden downturn in international oil prices. The main determinants of Cuba’s terms of trade are the prices of nickel exports and the cost of oil imports. Both commodities are trading at historically high levels. We expect the average world nickel price to slip in 2008, after peaking at US$19.5/lb in 2007, while oil prices remain firm. The impact of the deterioration in the price of nickel exports relative to oil imports will be only partly offset by

Country Report August 2007 www.eiu.com © The Economist Intelligence Unit Limited 2007 Cuba 9

slightly higher sugar prices. However, the terms of an oil agreement with Venezuela cushion Cuba from oil price shocks by linking the prices of its services exports to Venezuela to oil import prices.

Economic growth Cuba!s GDP growth in 1990-2004 was tightly constrained by its restricted import capacity; in 2005-06 major new trade agreements, investment commitments and credit lines from Venezuela and China relaxed this constraint, lifting average real annual growth to around 10%. Growth will remain firm in 2007-08, but will come down from the peak, as the surge from expansion of service earnings subsides. External financing and trade in services will continue to fuel strong investment, while domestic demand will accelerate in line with an expansion of productive capacity. Growth will remain below potential due to restrictions on private investment and continued US sanctions. Domestic demand will provide the main stimulus to growth in 2007-08, in contrast with the externally driven surge of 2005-06. Government programmes to repair and improve infrastructure will be combined with growing investment by state enterprises and increased real disposable incomes (which have lagged behind economic growth over the past decade). On the supply side, growth will be broader, with upturns in manufacturing, transport and agriculture. Construction and services will continue to grow, but less strongly. Expansion in the oil and nickel sectors will be modest and we expect that earnings from tourism will be down. Risks to the outlook include Cuba’s heavy dependence on nickel and services exports. Economic performance would be vulnerable to any upsets in the country’s relations with Venezuela. A slowdown in the OECD economies would hit tourism, and sustained high nickel prices are dependent on continued Chinese economic dynamism.

Inflation Consumer price inflation is determined by the net effect of price movements in the formal and informal markets, denominated in both Cuban pesos (CUP) and convertible pesos (CUC). The government can influence inflation by using price controls and regulating the limited free markets, but the prices of goods in the retail outlets"both those operating in convertible pesos and the free agricultural and produce markets denominated in Cuban pesos"are affected by market pressures. In the case of the CUC markets, prices in Cuban peso terms fluctuate with changes in the unofficial CUP:CUC exchange rate; and in the case of the free markets, prices are sensitive to movements in demand and supply. We expect inflation to ease in 2007-08. Pressures from an increase in demand (arising from higher household earnings and upward adjustments in some administered prices) will be offset by improved supply. We assume that appreciation of the Cuban peso against the convertible peso will be gradual, and so have only a slight moderating influence on peso inflation. On the other hand, a reduction in the share of consumption accounted for by subsidised goods and services will add to the cost of living.

Exchange rates The Cuban peso can only be exchanged for the convertible peso for personal transactions, and neither unofficial nor official exchange rates, which are widely divergent, are close to purchasing power parity level for the economy as

Country Report August 2007 www.eiu.com © The Economist Intelligence Unit Limited 2007 10 Cuba

a whole. This distorts the labour market and creates an obstacle to the integration of the domestic and external economies, and so acts as a barrier to the growth of Cuba’s domestic economy. Changes in the currency system introduced over the past two years are part of a strategy for the unification of the two Cuban currencies. Our forecast assumes that the existence of two domestic currencies will continue until after 2008, although we expect that further changes in the currency system will bring the two domestic currencies slightly closer to alignment. Greater progress towards unification could potentially galvanise an upturn in the domestic economy, although the resultant disruptions to the price structure could create adjustment difficulties in the short term.

External sector Official data show a small surplus on the current account in 2006, owing to the strong boost from the sale of professional services to Venezuela. In 2007-08 we expect the current account to slip back into deficit, although at close to 1% of estimated GDP it will be comfortably financed by capital inflows. The goods trade deficit will widen as spending on imports of capital and consumer goods outpaces export earnings growth. Despite the lack of growth of tourist arrivals, we expect the surplus on services to grow further thanks to further expansion" albeit less rapid than in the past two years"of earnings from professional services. Lower interest rates on external financing will maintain the income account at close to balance. Net current transfers will grow at a relatively modest pace. The Cuban authorities have cut the number of small foreign businesses active within Cuba, but they continue to woo larger companies for foreign investment in major projects in strategic sectors, particularly mining and energy. Although EU and Canadian companies will continue to play an important role, much of the new investment will come from outside the OECD, from state companies or private companies backed by official guarantees. Venezuela and China will take a growing share of the business. There are no official data on the level of international reserves, but we expect inflows of external financing to be sufficient to provide a slight further rise in reserves, despite strong import growth. The total debt stock will grow, but the improvement in the external financing position will make it possible for the authorities to improve the structure of the debt to reduce servicing costs.

Forecast summary (% unless otherwise indicated) 2005 a 2006 a 2007b 2008b Real GDP growth 8.6 11.1 7.0 5.7 Industrial production growth 5.1 11.8 7.0 6.5 Gross agricultural production growth -11.6 c -6.0 c 5.3 7.6 Unemployment rate (year-end) 2.0 c 1.9 c 1.9 1.8 Consumer price inflation (av) 7.0 6.2 3.6 4.1 Consumer price inflation (year-end) 3.7 c 5.7 c 4.8 3.7 General government balance (% of GDP) -4.5 -3.8 -3.2 -2.4 Exports of goods fob (US$ bn) 2.1 c 3.0 c 3.7 4.3 Imports of goods fob (US$ bn) 8.0 c 10.2 c 11.8 12.6 Current-account balance (US$ bn) -0.6 0.1 -0.5 -0.6 Current-account balance (% of GDP) -1.8 0.4 -1.2 -1.1

Country Report August 2007 www.eiu.com © The Economist Intelligence Unit Limited 2007 Cuba 11

Forecast summary (% unless otherwise indicated) 2005 a 2006 a 2007b 2008b External debt (year-end; US$ bn) 14.5 16.6 16.8 17.0 Official internal exchange rate CUP:CUC (av) 1.00 1.00 1.00 1.00 Unofficial internal exchange rate CUP:CUC (av)d 24.42 24.00 23.64 21.45 Official external exchange rate CUC:US$ (av) 0.95 c 0.93 c 0.93 0.90 Unofficial external exchange rate CUP:US$ (av)e 23.13 c 22.22 c 21.89 19.30 a Economist Intelligence Unit estimates. b Economist Intelligence Unit forecasts. c Actual. d Available only domestically, for personal transactions. e "Unofficial" exchange rate used domestically, for personal transactions. Since 1994 Cuban pesos (Ps) have been exchangeable for convertible pesos (CUC) or US dollars legally, in state-run exchange houses, known as Casas de Cambio (Cadecas). Until April 2005 the CUC:US$ exchange rate was fixed at 1:1; on April 9th 2005, the fixed rate was replaced by an adjustable peg, with the rate set initially at CUC0.93:US$1.

Gross domestic product Consumer price inflation (% change, year on year) (av; %)

Cuba Latin America Cuba Latin America 12.0 12.0

10.0 10.0

8.0 8.0

6.0 6.0

4.0 4.0

2.0 2.0

0.0 0.0 03 04 05 06 07 08 03 04 05 06 07 08 2002 2002

The political scene

The leadership succession The health of the president, Fidel Castro (81), appears to have improved since

looks increasingly permanent he stood down from office a year ago, but the question of his possible recovery has become less crucial to Cuba’s future. There is increasing acceptance that Mr Castro is unlikely to return to active leadership, while his brother and deputy, Raúl Castro (76) has entrenched his position as acting head of state. Official business has not been significantly disrupted by the succession, with little alteration in either domestic or international policy, but there has been a change of style that may lay the groundwork for reforms ahead. Speculation about Fidel Castro’s possible return to his former position has died down over the past quarter. Since he handed over to his brother at the end of July 2006, each major national event has been preceded by expectations that he might reappear, and each no-show has confirmed the seriousness of his condition. Thus his absence from the official celebrations for both May Day and July 26th (despite press photographs and television images that had showed him looking stronger than before), has made his return to office seem increasingly unlikely. He appears to have been settling in to a new role as senior statesman. Since his first article published in the Granma, the official

Country Report August 2007 www.eiu.com © The Economist Intelligence Unit Limited 2007 12 Cuba

newspaper of the Partido Comunista de Cuba (PCC, the communist party) in late March (May 2007, The political scene), he has produced a steady stream of such "reflections". Although he has insisted that he has been following events in Cuba closely, and holding regular conversations with his successors, the articles have mainly focused on issues beyond Cuba!s immediate concerns, such as the environment, US foreign policy, poverty and world peace, or on more personal comments on his own adjustment to being an invalid. However, at the end of July he turned to problems within the domestic economy and society, albeit sticking to general comments about challenges and principles, rather than specific ideas about policy. The issues raised in his “reflections” (which have been published in booklet form) have been taken up by Cuba’s state television in its nightly Mesa Redonda (Round Table) discussion programme, which seems to have become a forum for disseminating and elaborating on Mr Castro’s thoughts.

Approaching elections may If Fidel Castro does not return to his former presidential role, the constitution

resolve uncertainty (amended in 1992) provides a clear framework for the succession. The president is elected each five years by a newly elected National Assembly (along with the first vice-president, vice-president, secretary and other members of the Council of State, and president, vice-president and secretary of the National Assembly). Mr Castro!s permanent replacement in his other role, as first secretary of the PCC, will be determined by election at the next PCC congress. The national assembly election is due in early 2008, but the date of the next PCC congress has still not been set. There is no fixed period between PCC congresses, but the traditional period of five to six years between them has long elapsed (the last congress took place in 1997), raising expectations that there will be another in the near future. Each five years since the constitution was first introduced in 1976 Mr Castro has been elected to the National Assembly as a member for a constituency in the eastern province of Santiago, and then to the presidency by the assembly. The process of candidate selection for the next National Assembly elections will begin before the end of 2007. Fidel Castro has not yet announced whether he will be standing. If he were to stand, there is no doubt that he would be duly elected, although his deputy (the first vice-president, currently his brother, Raúl Castro) would continue to stand in for him as president until he was fit to return to his post. If he were to decide not to stand, his retirement would be confirmed and the assembly would then choose his successor. The exact date of the National Assembly election has not yet been announced, but the dates for the elections for municipal governments, which take place every two and a half years and precede the five-yearly elections for the provincial and national assemblies, were announced in mid-July. The first round will be on October 21st and the second on October 28th. Electoral commissions, comprised of representatives from Cuba!s national and local "mass organisations" (including trade unions, neighbourhood groups, students, trade unions, women and farmers), have been created to oversee the process of candidate nomination and selection. At local meetings of the electorate, only one candidate is chosen for each seat, but in order to win the seat he or she requires 50% of the eligible vote.

Country Report August 2007 www.eiu.com © The Economist Intelligence Unit Limited 2007 Cuba 13

There have been mentions in the official press that constitutional reforms are under consideration. The content of these proposals has not been specified, but official and unofficial discussions suggest that among the possible changes might be the creation of a new official role for Fidel Castro if he were to retire from the presidency. There have also been signs that there might be proposed changes to the constitution’s Chapter 4, which defines marriage, to allow for the introduction of same-sex unions.

Raúl Castro consolidates his Confidence in Raúl Castro’s leadership appears to have grown and, although it

authority is difficult to measure, there are signs that his personal popularity has strengthened. Before he stepped in as acting president at the end of July 2006, he had worked in the shadow of Fidel, and his personality was less known. As head of the armed forces, he had a reputation for demanding loyalty and discipline, leading to a hardline image. In his few public appearances since July 2006 he has focused on the job to be done, adopting a brief but firm, direct approach. This has pleased both those who are sorry to lose Fidel, who would have been disturbed by any over-assertiveness, and those alienated by Fidel’s overbearing personal style. In a sense, Raúl Castro has been enjoying an extended honeymoon period, as those impatient for change have attributed his failure to introduce any radical changes to the fact that his charismatic brother officially remains the president and, through not retiring, still influences policy from the wings. Lacking his brother!s forceful personality, Raúl Castro has worked hard to build consensus, and has stressed a desire to resolve difficulties by inviting debate. This has been illustrated by his contributions at the ordinary session of the National Assembly in late June, the creation of a series of commissions to examine specific policy issues, his handling of discussions with intellectuals and trade unions earlier this year (February 2007 and May 2007, The political scene) and the rarity and brevity of high-profile public appearances. At the July 26th celebrations in the central city of Camagüey, the crowd gathered early in the morning as usual, for an event that has in the past lasted for most of the day, with a speech by Fidel Castro frequently taking more than four hours. This year, the acting president’s speech lasted only one hour. It served as an overview and restatement of the government’s main current preoccupations" the search for more efficiency, participation and vigilance against internal and external threats"with little digression or embellishment. Although the speech signalled continuity in the revolution!s objectives, the stress placed on the need for bold initiatives--referring to the need to consider "structural" changes"has been widely read as an indication of changes ahead. The death of Raúl Castro!s wife, Vilma Espín, on June 18th has also contributed to the development of his new public image. He has in the past had an austere reputation, but at the funeral of Ms Espín, press photographs showed a family man mourning alongside his four children. Ms Espín, who met Raúl when she joined the guerrilla campaign that brought Fidel Castro to power in 1959, had been the leader of the Federación de Mujeres Cubanas (FMC, the Cuban Women!s Federation) since 1960, as well as a member of the Council of State and Party Politbureau. She had been ill for some years, and had withdrawn from public life although she had kept her official positions.

Country Report August 2007 www.eiu.com © The Economist Intelligence Unit Limited 2007 14 Cuba

Efficiency and justice are The main domestic concerns addressed by the government over the past

under review quarter have been practical economic ones: efficiency in general and the related issues of economic crime and labour indiscipline, and more specific problems within the agricultural, construction and transport sectors. Debates on these issues, which are also being explored by commissions of academics and officials and covered extensively in the official press, were held at the end of May at a meeting of all the presidents of Cuba’s 169 municipal assemblies; in June at a national council meeting of the Asociación Nacional de Agricultores Pequeños (ANAP, the national small farmers’ organisation); and in late June/early July at the National Assembly. Ideological issues have also featured in the public debate, albeit with less prominence. The discussion has centred on the perceived problem of alienated youth, and hazards of consumerism and individualism. The "Battle of Ideas", inaugurated in 2000, was born out of a sense among the ideological leadership that young people needed to participate more in order to understand the benefits of collectivism. With Raúl Castro’s focus on practical issues, the Battle had seemed to wane, but there are signs of an effort to revive it. At their May meeting, the presidents of municipal assemblies debated the need to better engage Cuba’s youth and the Battle’s main director, a former Young Communist leader, Otto Rivero, has had a higher public profile. The ideological drive was given support from off-stage by Fidel Castro, in some of his “reflections”, when he raged against the evils of consumerism. A further strand of official discussions has concerned the justice system. Occasional public statements indicate that an official review is under way. At the National Assembly on 2nd July, Raúl Castro presided over a debate on Cuba’s legal system, including the desirability of shifting the emphasis from punishment to prevention and rehabilitation, and the need to provide better employment conditions for legal professionals. Among the legal issues under review is the death penalty, which remains on the statute book but has been rarely used in recent years. In the few public debates about the subject, there have been indications from political leaders that its abolition might be favoured. The only executions during the past decade were in 2003, when three men were sentenced and shot within days of hijacking a passenger ferry in an attempt to leave the country. The executions, which provoked international condemnation, came at a moment of heightened tension with the US and coincided with the arrest and imprisonment of dozens of dissidents. In this context it may be significant that two army conscripts who committed a more serious crime in early May"having killed two soldiers in their bid to leave the country by hijacking a bus full of passengers and then attempting to hijack a small aircraft"have not been sentenced to death.

Dissidents keep up activities It is possible that the renewed ties with Spain, in which human rights have been included as an issue for discussion on the basis of "mutual respect" (that is, not tied to conditions), together with the removal of Cuba from the UN Human Rights Council list of countries of concern, may have encouraged the Cuban authorities to review the justice system. Although official policy towards the internal opposition is unchanged, the number of political prisoners has

Country Report August 2007 www.eiu.com © The Economist Intelligence Unit Limited 2007 Cuba 15

fallen since Raúl Castro took control. On July 6th the Cuban Commission for Human Rights and National Reconciliation (CCHRNR, a dissident group based on the island) reported that the number of people on its “partial list” of political prisoners was down from 283 when Raúl took over to 246 in June. One of Cuba’s longest-serving oppositionists, Jorge Luís García Pérez was released in June after 17 years, followed by René Montes de Oca (held since 2005) in July, and Francisco Chaviano in early August, after 15 years in jail. Despite the releases, the CCHRNR, together with both the Miami-based Directorio Democrático Cubano (the Cuban Democratic Directorate, known as Directorio) and a UK-based international human rights group, Amnesty International, have found no easing of official repression of dissent. The latter puts the number of “prisoners of conscience” in Cuba at 73, of which over a dozen have been “conditionally released” for health reasons. Another Cuban dissident human rights group, the Coordinadora Nacional de Presos y ex-Presos (National Co-ordinator for Prisoners and Ex-prisoners), cites a figure of 105 prisoners of conscience plus a further 213 prisoners falsely accused or convicted on unproven charges. The Cuban government denies that there are any prisoners of conscience, arguing that those imprisoned have been convicted for other offences, mainly acting as “mercenaries” for the US. Despite the threat of prosecution, opposition activity has continued, although fragmented and debilitated by deep differences between moderates and hardliners. The moderate dissidents have been positioning themselves to participate in a process of “national conciliation” in which it is hoped that the government (perhaps even under Raúl Castro) will eventually accept political reforms. They include the Damas de Blanco (Ladies in White), a group started by wives of political prisoners, who have continued with their Sunday protests, mainly in the Miramar residential suburb; some pro-dialogue dissidents who on June 21st set up a new Church-linked organisation in April, known as the Concertación Pro Diálogo y Reconciliación (Consensus for Dialogue and Reconciliation), and have since met to debate a series of documents (including Fidel Castro’s own historic 1953 speech, "History will absolve me"); and Osvaldo Payá, a Catholic dissident best known for heading the Varela Project (a petition for liberalising reforms submitted to the National Assembly in 2002), who in late June launched a new Foro Cubano (Cuban Forum) to demand democratic rights, freedom of expression and the release of political prisoners. The hardliners, who envisage instead the collapse or overthrow of the communist system, include those who are openly hosted by Michael Parmly, head of the US Interests Section. On June 21st a group of them met in his house to celebrate the tenth anniversary of "La Patria es de Todos" (The Nation Belongs to All), a document written by four prominent dissidents, Martha Beatriz Roque, Félix Bonne, René Gómez Manzano (who, in June, was awarded the annual prize of the Bordeaux College of Lawyers’ Institute for Human Rights) and Vladimiro Roca. Mr Roca has since gravitated more towards the Church-linked moderate opposition, but the other three have maintained their hardline stance. Those in favour of conciliation have been operating with some degree of official tolerance (although harassment by people they claim to be government agents is common), but those who work closely with the US

Country Report August 2007 www.eiu.com © The Economist Intelligence Unit Limited 2007 16 Cuba

Interests Section tread a more dangerous path. The harshest sentences are for dissidents convicted of collaboration with the US authorities, and by publicising such activity the Cuban authorities help to keep most of the Cuban population, whose nationalism outweighs criticisms of the government, from joining or sympathising with the opposition. Collaboration, or "mercenary activity", was the charge used for the imprisonment of 75 activists in 2003, and it is probable that if tensions with the US were to increase, those closest to US officials would once again be targeted. In July the Latin American Bishops Council (CELAM) was held in the capital, Havana, for the first time since 1959, confirming the improvement in relations between the Cuban government and the Catholic church hierarchy that has taken place over the past 20 years (reflected in the constitutional reform in 1992 removing the barriers to membership of the Partido Comunista de Cuba"PCC, the Communist Party"for practitioners and the pope’s visit in 1998). The church appears to have actively sought to dissociate itself from dissidence, even though some of the dissidents organise around church-based activities. It appears that the closure in April of Vitral, a publication produced by a dissident Catholic group organised by a priest, Dagoberto Valdéz, may have been connected to the bishops’ desire to be seen as seeking conciliation rather than confrontation.

Cuban anti-US rhetoric The Cuban criticisms of the US government have not abated, but nor have they accompanies quiet overtures intensified. The focus of Cuban accusations, in speeches and widely aired in the press and television, has remained on the cases of Luis Posada Carriles, an anti-Castro activist accused of involvement in terrorist acts that caused civilian deaths in the 1970s and 1990s; and of the five imprisoned Cuban agents who had infiltrated anti-Castro émigré groups in Florida. In the former case, the US legal authorities have allowed release on bail having charged Mr Posada Carriles only with immigration offences; in the latter, defence lawyers are work- ing on appeals against the convictions. The discussions of the Posada Carriles case, in particular, have allowed the Cuban authorities to keep returning to past US-backed conspiracies and outrages (with newly declassified information confirming that the Central Intelligence Agency"CIA"had sought to recruit the Mafia in a plot to assassinate Fidel Castro in the 1960s), helping to bolster the government’s claim to be the defender of the nation from external threats. The migration issue has also been a perennial area of Cuban-US contention, particularly since 2004, when the US broke off regular high level official six- monthly migrations talks that had been taking place under a 1994 bilateral accord. Cuba has repeatedly suggested that the US has failed to process the annual quota of 20,000 entry visas allowed under the 1994 agreement as a deliberate ploy to create frustration within Cuba. On July 17th the Cuban Ministry of Foreign Relations accused the US Interests Section of delaying entry visas to Cubans, alleging in a statement published in the Granma that, in the nine months since October 2006, only 54% of the annual quota had been granted. The US authorities have in turn claimed that their Cuban counterparts have obstructed the normal operation of the migration process by refusing the entry of State Department officials and supplies, and withholding authorisation for recruitment of sufficient local staff.

Country Report August 2007 www.eiu.com © The Economist Intelligence Unit Limited 2007 Cuba 17

Despite the persistent antagonism, there are signs of Cuban willingness to broaden bilateral co-operation in some areas. The authorities permitted Federal Bureau of Investigation (FBI) officials to visit Cuba in May, to collect infor- mation to support immigration charges against Mr Posada Carriles, and Raúl Castro has reiterated his insistence that the Cuban government is extending an “olive branch” to the US, while complaining that the US will not accept it. On June 6th US State Department officials confirmed that it had received messages from the Cuban government through representatives of third countries and foreign individuals, offering talks.

US policy is unchanged despite While the US has publicly acknowledged the Cuban approaches, there are no criticism signs of movement from the policy stance set out in the reports of its Commis- sion for Assistance for a Free Cuba, despite widespread and growing domestic criticism. Recent statements have confirmed that the US government rejects any reconciliation with a “successor” government (that is, one led by Raúl Castro or anyone else who reaches office within the existing political system) in Cuba, and is instead committed to assisting a “transition” government, following the removal of the communist government by the Cuban people. The main justification given for the US hardline stance on Cuba is the question of human rights, and in particular civil and political rights. The mid-June decision by the UN Human Rights Council meeting in Geneva to remove Cuba (along with Belarus) from its list of countries of most serious concern has prompted new moves within US Congress to withhold US funding for the body. The US has also continued to insist that Cuba is a security threat. In the annual US Department of State’s 2006 Country Reports on Terrorism published at the end of April, Cuba remained among the groups of countries listed as “sponsoring" terrorism. The report points to the fact that Cuba has given asylum to former Basque separatist ETA activists, although this was done in line with an agreement with the Spanish government; it also cites the presence of Colombian guerrillas in Cuba, although Cuba is currently working with the Colombian government in hosting peace talks with the Ejército de Liberación Nacional (ELN) guerrilla group. A further accusation concerns the existence of around 70 US fugitives in Cuba, but the report acknowledges that Cuba ceased providing safe haven to US fugitives in 2005 (and has even extradited two would-be fugitives in the past year). Finally, it charges that Cuba has "close relations" with countries, such as Iran, which "support terrorism". An annual State Department report on "people trafficking" published in June also accused Cuba of being among the worst offenders, repeating a claim"vehemently denied by Cuba"that the government makes no effort to stop child prostitution. US government policy has been challenged by US business groups hoping to benefit from a relaxation of sanctions, and by some members of the Cuban- American community who object to tighter restrictions on travel and sending remittances to their families; it has also been questioned by elements within the security services. However, expectations that US sanctions might be relaxed when the Democratic party won a majority in both houses of the US Congress in November 2006 have not been met. Legislative proposals to ease trade and travel restrictions have so far failed (see Foreign trade and payments). Instead, in

Country Report August 2007 www.eiu.com © The Economist Intelligence Unit Limited 2007 18 Cuba

mid-June, the House of Representatives approved the president’s request for an increase in funds for the "democratic transition", voting 254-170. There appears to be concern within the US security services that any instability in Cuba would threaten security: from the security perspective, the “succession” represented by the smooth handover to Raúl Castro might be preferable to the political upheaval involved in a “transition” outcome favoured by the US government, which would present risks not only of a migration crisis but also of a weakening of the Cuban state’s capacity to counter drug-trafficking or terro- rism. This concern has not swayed official policy to date, but could encourage a reassessment under the next US government. At present, the only approved contacts between Cuban and US agencies are between the US Coast Guard representatives and their Cuban counterparts and between the commander of the US military base at Guantánamo Bay and Cuban military officers.

An EU review of Cuba policy An EU review of its policy towards Cuba has yielded little result, as a result of

results in no change irreconcilable differences over the issue. Some (particularly new eastern European members) have been pushing for an increase in pressure for political reform, whereas others (led by Spain) have favoured more engagement. In institutional terms, the first group have stronger influence over the European Parliament and the latter over the EU Commission and Foreign Ministers. On June 7th, a panel of the Parliament called on the EU to strengthen its support for dissidents and human rights in Cuba, and on June 21st the Parliament passed an emergency resolution (by 50-21, with three abstentions, out of 785 representatives) demanding conditionality in any moves to improve relations. But after a review that led to the publication on June 13th of its "Conclusions on Cuba", proposing greater dialogue, the EU ambassadors resisted a call to reinstate sanctions imposed in 2003 that had since been suspended. However, a Spanish proposal to abolish the sanctions altogether was not approved. These sanctions remain a sticking point in EU-Cuban relations, as Cuba regards them as a form of conditionality that represents "persistent and humiliating subordination" of the EU to the US. Cuba thus rejected an EU invitation to discuss politics and human rights, stating that it was in "no hurry", and had "all the time in the world" to wait for the EU to accept unconditional terms. While Cuba has spurned dialogue with the EU, it has turned towards bilateral trading relations with those individual EU member countries willing to pursue a different approach. Relations with Spain in particular have deepened over the past year, in response to Spain’s policy of engagement (May 2007, The political scene). A joint communiqué in June reported of cordial, frank and constructive discussions, with topics including prisoners, the death penalty and internet access. Subsequently, a Spanish delegation visited three Cuban jails. The Spanish government has remained committed to its position despite criticism not only from some EU partners but also from opposition and Cuban émigré groups within Spain, and from the US (with the US Secretary of State, Condoleezza Rice, delivering a sharp and public rebuke over the issue during a brief visit to Spain on June 1st).

Diplomatic effort brings In contrast with its dismissive attitude towards the EU, Cuba has continued to rewards devote much effort to developing its relationships within the Latin American

Country Report August 2007 www.eiu.com © The Economist Intelligence Unit Limited 2007 Cuba 19

and Caribbean region and beyond. One of the rewards for these efforts has been the outcome of a mid-June meeting of the UN Human Rights Council (UNHRC), which voted 46-1 (with only Canada opposing) to remove Cuba from its list of countries under scrutiny for its poor human rights performance. The Cuban foreign relations ministry welcomed the vote as a "resounding" diplomatic victory, clearly perceiving it as the result of long-running efforts to cultivate broad support from non-OECD countries that dominate UN voting. Among the Latin American countries, the warmest political relations are with Venezuela, Bolivia, Ecuador and Nicaragua, but important steps have also been taken involving two countries with which relations have been difficult: Mexico and Honduras. Having seen a deterioration in bilateral relations with Mexico under the previous presidency, of Vicente Fox, on June 20th the Cuban minister of foreign relations, Felipe Pérez Roque, noted an improvement under the presi- dency of Felipe Calderón and thanked Mexico for its support in the June UN Human Rights Council vote. Following the re-establishment of bilateral rela- tions with Honduras in 2002, the Honduran president, Manuel Zelaya Rosales, has announced plans to visit Cuba in August, the first such visit since relations were broken in 1961. The presence of around 300 Cuban medical staff in Hond- uras, working in remote and poor regions since the country was hit by Hurri- cane Mitch in 1999, and the involvement of dozens of Cuban experts in a liter- acy campaign, has paved the way for the current improvement in relations. The central purpose of the visit was to sign a new maritime boundaries agreement. Elsewhere in the region, Cuba has hosted visits by the Haitian foreign minister in late April, the Guatemalan foreign minister and the Ecuadorean vice- president in May, and the Dominican Republic secretary of state and presidents Evo Morales (Bolivia) and Daniel Ortega (Nicaragua) in June. Mr Pérez Roque travelled to Bolivia and Grenada (to a summit of the Organisation of Eastern Caribbean States, OECS) in May, and the minister of culture, Abel Prieto, led two large delegations to the World Social Forum in Cochabamba, Bolivia. Further indications of an improved regional environment for Cuba were a June statement by the secretary-general of the Organisation of American States (OAS), José Miguel Insulza, repeating his call for moves towards dialogue with Cuba; and the decision of Latin America’s Catholic bishops (CELAM) to hold their 2007 annual meeting in Havana in July. Beyond the western hemisphere, the most broad-ranging discussions appear to have been with Asian partners"China, Vietnam, Japan, India, Singapore and Malaysia. The emphasis has been on economic co-operation, particularly in biotechnology and pharmaceuticals, with new major joint ventures being developed. Two separate visits by Iranian officials (in late April and June) also confirm deepening economic ties there. Other visits to Cuba have included senior government figures from Russia, Namibia, Angola, the Gambia, Yemen and Botswana.

Economic policy

Many questions are raised and There have been strong indications that new economic policy initiatives are

proposals called for ahead, although no major measures have been introduced over the past

Country Report August 2007 www.eiu.com © The Economist Intelligence Unit Limited 2007 20 Cuba

quarter. The scope of discussions has been notably broad, and the acting president, Raúl Castro, has provided a clear lead in calling for a wider debate. Cubas! municipal, provincial and national assemblies have been involved, as well as the Partido Comunista de Cuba (PCC, the Communist Party), trade unions and academics. Critical articles have appeared in the press, and radio discussion programmes have aired the complaints of listeners. The focus of many of the discussions has been on problems in specific sectors, but more general questions of productivity, incentives, income distribution and property rights have also been raised. The issues that have received closest attention have been food supplies, which have an immediate impact on living standards, and three of the industries that have been receiving a big injection of public investment: transport, construction and energy. Although the problems and proposed solutions were specific in the Municipal and National Assembly discussions, the general themes of administrative weaknesses and distorted incentives came up repeatedly. Following an instruction from the previous National Assembly in December 2006 to investigate and tackle the failings in food distribution, the June meeting heard a report on a major overhaul of the system for ensuring timely state payments to farmers. It was reported that all arrears had been cleared and the payments system had been streamlined to ensure that farmers receive their payment within ten days of delivery, rather than up to six months, and that the improvement had begun to feed through to higher output, as farmers had the cash to pay for inputs. A review of the pattern of incentives in the food chain has also resulted in a sharp rise in some of the prices paid by the state to farmers for food destined for the state distribution system (see The domestic economy, Agriculture). More broadly, the role of the state in agriculture is under review: studies have found over-complex bureaucratic procedures, transport bottlenecks and an urgent need for investment. With privately-owned farms having achieved higher yields than those owned or directed by the state, and concern that more than one sixth of agricultural land is not in use, the review is examining possible reform of land tenure.

Investment inefficiencies are As a result of reviews of the progress of major investments, the authorities have

exposed tightened up on the rules for planning and implementation and trimmed back the scale of programmes. Poor co-ordination has led to bottlenecks, which have left materials and machinery lying idle and vulnerable to theft. In the transport sector, the minister faced criticism for the "irrationality" of the way urban transport is organised, with parallel systems run by different ministries and workplaces resulting in under-use of vehicles, and was called on to explain why new equipment purchases had so far failed to bring promised improve- ments. He cited delays in purchases and warned that it would take more time to establish the new services. Similarly, in the debate on the housebuilding programme (see The domestic economy, Infrastructure), the resources have been allocated but the implementation of the programme has lagged. In this case, transport difficulties were among the reasons given for underperformance; other problems included delays in the planning process and labour shortages. A particularly severe rebuke was given to those responsible for over-reporting the number of completions, concealing the scale of the problems.

Country Report August 2007 www.eiu.com © The Economist Intelligence Unit Limited 2007 Cuba 21

In contrast, the report on the energy sector was generally positive, with generating capacity now sufficient to meet needs and the investment programme having moved on to the next stage, involving the overhaul of the transmission and distribution systems. But even here, the shortcomings of the "energy revolution" have been debated, including continued over-dependence on diesel, the need for further efficiency improvements, technological deficiencies and problems relating to the distribution of domestic appliances.

More consumption but little The acceleration of national income growth over the past two years has raised consumer choice expectations and presented new challenges for policymakers, who are grappling not only with the issue of how to raise real incomes without feeding inflation or increasing income inequalities, but also with an ideological resistance to consumerism. Official policy is to try to boost the real spending power of Cuban peso incomes not only by increasing wages but also by making more goods available to buy in the domestic currency. This has been confirmed in recent months, with suggestions that more goods will soon become available in the peso market. Until now, most non-essential goods have been available only in hard currency shops, which are prohibitively expensive because of the undervalued Cuban peso. The prices of the goods now starting to arrive in the shops are being set below their hard currency equivalent.

Household consumption by market (CUP m; constant 1997 prices)

State market Agricultural market Market supplied by the self-employed Other sources 25,000

20,000

15,000

10,000

5,000

0 2001 02 03 04 05 06

Source: Oficina Nacional de Estadísticas.

Official data from the Oficina Nacional de Estadísticas (ONE) show that there has already been a 19% increase in goods sold in pesos over the past two years. However, the public perception is less rosy. The new consumption has been on a very limited range of goods, most of which have been allocated by the state as part of the "energy revolution" or housing programmes, rather than being freely available in consumer markets. This has meant little or no consumer choice. As part of the "energy revolution" households were obliged to pay" albeit at relatively low prices and with credit on favourable terms"to replace their old, energy-hungry appliances with new (mainly Chinese) ones. And for the construction programme, local committees decide which households should have priority access to materials, leaving shortages for others who may have saved up enough money to pay.

Country Report August 2007 www.eiu.com © The Economist Intelligence Unit Limited 2007 22 Cuba

Monetary discipline is Many of the policy debates on low real incomes, weak incentives, income uncomfortably tight distribution and productivity have touched on the underlying problem of the distortions caused by the dual exchange rate system. Exchange rate unification remains a policy objective, and the authorities appear confident that progress has been made in creating the conditions necessary for eventual unification; but the cautious monetary stance adopted towards this end has meant keeping a tight rein on real incomes. Hikes in administered prices in 2005-06"mainly for fuel and electricity"served to contain pressure on market prices and the exchange rate arising from increases in basic wages and social security transfers (as well as being crudely redistributive and encouraging energy saving), but they were not popular: the state appeared to be giving with one hand and taking with the other. There are some signs that the policy of keeping real income growth in line with the growth in the supply of domestically produced goods to keep market prices steady (see The domestic economy) may be restricting output growth. Economist Intelligence Unit calculations based on official household spending data for 2005-06 suggests that prices in the free markets rose by an average of only around 1% in 2006; and in the agricultural sector, prices rose by only 0.2%. In a year when crops had been hit by drought, the lack of higher prices is likely to have squeezed margins and so acted as a disincentive for farmers to put in the extra work needed to deliver more food for sale in the markets.

A gap between real and Although inflation is low, public debates and articles in the official press have perceived inflation increasingly focused on prices as the cause of the low real value of incomes. The arrival of the new goods in the peso markets represents an increase in real purchasing power, but the public perception is that the prices have increased, because the point of comparison is the 1990 price. This has led to articles and debates calling for price cuts. But given that average administered prices in the peso markets are in fact very low by international standards"if the unofficial exchange rate (which is the one used for personal transactions) is used"their reduction would increase the burden of subsidy and exacerbate market distortions. In the free agricultural markets, lower prices would reduce incentives for farmers to bring products to market. Although it has encouraged the airing of views and suggestions, the govern- ment has resisted demands for price reductions in recent months. Instead, officials in June and July repeatedly emphasised the high cost of subsidies, exacerbated this year by rising international food prices (powdered milk up by 50%; rice by 10% and chicken by 200%). To the extent that a strategy has been sketched out, officials have indicated that the eventual aim is to move away from a general system of subsidised consumption towards targeted assistance for households in most need. No progress has been made on this as yet.

Industrial policy debates The monetary authorities insist that increases in real incomes must be linked to highlight low productivity increases in output, which in turn requires higher productivity. There have been three approaches to the problem of raising industrial productivity: state investment in new, more technologically-advanced production facilities; reforms designed to improve labour discipline and incentives; and exhortation,

Country Report August 2007 www.eiu.com © The Economist Intelligence Unit Limited 2007 Cuba 23

appealing particularly to managers! moral obligation to maintain standards of punctuality, attendance and diligence and set an example. An increase in state investment has been made possible by the new sources of external financing that have become available over the past two years. This has brought output increases in some industries (particularly construction materials and utilities), but the lack of a clear improvement in terms of overall labour productivity has spurred new debates. The results of the application of the new labour regulations were analysed at the National Assembly meeting in late June. A decline in absenteeism was reported, but the issue remains vexed. The transport improvements needed to create conditions for tighter rules on punctuality have not been delivered, and participants in the debate argued that more meaningful material incentives were needed to complement tighter discipline. This in turn brought up once again the issue of low salaries, which is tied to the undervaluation of the Cuban peso. Policymakers also wrestled with the tensions between the need for improved productivity and two of the central pillars of socialist economic management: the commitment to full employment and state ownership of the means of production. Some of Cuba’s economists, who have been reanimated by the current opening of debate, have been suggesting that a policy designed to keep the official unemployment rate below 2% not only discourages rationalisation in individual industrial plants, but also necessitates the creation of employment in labour-intensive and inherently low productivity sectors, such as agriculture and public services. Some have also called for more space for non-state forms of property and a wider opening to direct foreign investment (FDI; see Foreign trade and payments).

The domestic economy

Growth has slowed; inflation No official data have been published for GDP growth in the first half of the is hard to measure year, but it seems that the rate has been not only slower than the past two years (11.8% in 2005 and 12.5% in 2006 according to official figures) but also below the official projection of 10% for the year. Continued expansion of public investment will have helped to reanimate some sectors of manufacturing and food production has risen; but earnings from professional services, although still rising, are unlikely to be increasing at their previous pace, while there has been a decline in tourism and disappointing performances in the sugar, transport and construction industries. Overall trends in prices are difficult to discern. In the year to date official prices have been unaltered, while prices in the free markets (including the informal sector as well as agricultural markets) appear to have remained broadly steady despite an apparent increase in supplies of food and other goods. This might reflect strengthening demand, or sellers’ reluctance to reduce prices in the absence of strong competitive forces. Official data from the Oficina Nacional de Estadísticas (ONE, the national statistics agency) throw some light on the pattern of price changes in 2006. Household spending figures in the Anuario Estadístico de Cuba (the annual economic report) show a 19% real increase in final consumption, but the same

Country Report August 2007 www.eiu.com © The Economist Intelligence Unit Limited 2007 24 Cuba

report shows a nominal rise of 30%. This implies that the average price level for household goods and services rose by around 10%. A breakdown of nominal and constant price spending by type of market shows that the inflation was greatest in state markets, where an implied rise in the average price level of 12% can be attributed to the rise in electricity tariffs at the beginning of 2006 (February 2006, Economic policy). Inflation in the other markets was below 2%, with food prices in the agricultural markets up by only 0.2%. This is surprising, as the supply of food fell markedly in 2006 as a result of drought. Possible explanations are that the amount of disposable income, and therefore demand, was squeezed by the electricity tariffs; or that state intervention in the food markets, including forcing down prices in the markets served by state producers, succeeded in keeping prices down. In either case, the cost of keeping down prices would have contributed to frustrations elsewhere: consumers finding their spending power reduced even as the economy is reported to be booming; and farmers experiencing tighter margins as well as suffering drought.

Average price increases in 2006 (% change) Total household consumption basket 9.9 Purchases in state outlets 12.4 Purchases in agricultural markets 0.2 Purchases from the self-employed 1.3 Goods purchased from other sources 1.7

Source: Economist Intelligence Unit calculations, based on data from the Oficina Nacional de Estadísticas.

The 10% overall increase in consumer prices derived from the household spending figures differs significantly from the official inflation figure for 2006 of 5.7%. The methodology used is unclear, but the wide discrepancy may arise because the basket of goods used for measuring national inflation reflects the spending patterns of families dependent on peso incomes, while the final consumption figures include spending by those with hard currency incomes. The peso spending of those with hard currency, who benefit from the undervaluation of the Cuban peso, will have a large influence on aggregate final consumption. The increases in electricity prices will have had an above- average impact on these households, as their ownership and use of electrical appliances"particularly energy-hungry air conditioners"will be relatively high.

Agriculture

More rain and cash bring After two years of drought, the level of rainfall in 2007 has been above average.

relief for farmers In general, this has benefited the production of food for domestic consumption, but it has badly damaged the sugar harvest. No official aggregate data for overall non-sugar agricultural production have been published for the first half of 2007, but most individual crops have seen improvements. Harvests of most fresh vegetables for the first five months are larger than the same period in 2006, although the heavy rains"and associated floods and high humidity"have damaged some crops, notably potatoes (down by a half) and tomatoes. Despite the recovery, the debate about the weaknesses

Country Report August 2007 www.eiu.com © The Economist Intelligence Unit Limited 2007 Cuba 25

of food production that resulted in the creation of a special commission to investigate the difficulties at the end of 2006 has continued.

Fresh fruit and vegetables ('000 tonnes unless otherwise indicated)

Root vegetables Bananas & plantains Other vegetables Citrus Pulses; '00 tonnes 3,500 3,000 2,500 2,000 1,500 1,000 500 0 1990 91 92 93 94 95 96 97 98 99 2000 01 02 03 04 05 06

At the late June National Assembly, officials responsible for the agricultural sector were called to account. The Ministry of Agriculture lacks a minister, but as one of the major problems identified in December was delays in payments by the state for agricultural deliveries, it was the minister of finance and prices, Georgina Barreiro, who explained the action that had been taken. She reported not only that new procedures had eliminated payment arrears to farmers, but also that provisions were being made to liquidate their debts and a decision had been taken to raise sharply prices paid by the state distribution system (known as the acopio) for milk and beef from July. As milk and beef are either sold at fixed low prices on the ration system or provided free for consumo social (meals at schools, workplaces and hospitals), the higher prices paid for supplies would appear to raise the burden of subsidy; however, as the ration currently includes imported milk and beef, the new peso price paid to farmers (up from 33 centavos to CUP2.53 per litre of milk, and to CUP8.90/kg for beef) will be offset by hard currency savings if, as expected, it stimulates an increase in domestic production and reduces the diversion of supplies to the black market. Transport and storage improvements have also been made for dairy and beef products.

Record low sugar harvest is The 2006/07 sugar harvest is unofficially estimated to have been only 1.1m

blamed on rain and delays tonnes (similar to the record low of 2005/06), compared with an official forecast of 1.5-1.6m tonnes. With domestic consumption at around 700,000 tonnes, Cuba was"for the sixth consecutive year"obliged to import sugar to fulfil its export delivery contracts. In his presentation to the National Assembly, the minister of sugar, Ulises Rosales del Toro, said that the heavy rains and unusually high humidity throughout the season (December#May) had made it impossible to harvest in some areas. The result was particularly disappointing as the amount of resources available for sugar production had been increased for the 2006/07 harvest, and, before the season began, the amount of sugar in the fields was greater than last year. But although he attributed most of the shortfall to the weather, he argued that some of the losses could have been

Country Report August 2007 www.eiu.com © The Economist Intelligence Unit Limited 2007 26 Cuba

prevented if materials and inputs for harvesting had been available more quickly, and called for a streamlining of the system for ordering and delivery of inputs. This complaint may reflect frustration on the part of sugar growers (now mainly organised into large co-operatives known as Unidades Básicas de Produccíon Cooperativas"UBPCs) with their lack of autonomy in terms of the control of budgets and supplies. The Ministry of Sugar stopped using targets a decade ago, but the official projection for the 2007/08 harvest is around 1.5m tonnes, with a stronger rise projected for 2008/09, to reach 3m tonnes. This remains well below the 8m tonnes grown before the demise the Soviet bloc, which had provided favourable prices and cheap inputs for sugar, and is still substantially lower than the 4m tonnes industry experts have cited as a sustainable level of output in the absence of favourable terms. To demonstrate that preparations for the coming harvest were under way, Mr Rosales del Toro reported that work had begun for the 2007/08 harvest, with 45% of the resources (including fertilisers and herbicides) having been contracted, of which 23% were for imports.

Infrastructure

Transport improvements are Despite a surge of investment in new vehicles in the past two years, transport

elusive problems remain severe. At the late-June National Assembly, the minister of transport, Jorge Luis Sierra, was called on to explain the lack of improvement. His report was not encouraging. He revealed that delays in purchases of new vehicles and equipment had been caused by some sort of dispute in negotiations, and warned that the roll-out of the new services once the goods arrived would be gradual, as it was necessary to set up new management and maintenance systems. The problems in management and maintenance seem to have arisen not just from the expansion of services and use of new technologies, but also from a chronic problem of pilfering of parts by drivers and maintenance workers. Investments planned for the coming year include road repairs and improve- ments for the main national highway, the causeways to Cayo Coco and Cayo Santa María (offshore keys that have been developed for tourism) and long- neglected smaller roads in the eastern provinces; repairs to the central railway line; the upgrading of ports (with a US$180m budget); and the purchase of new aircraft from Russian suppliers. At a meeting in July between the transport ministers of Cuba and Russia, bilateral working groups were also created to examine potential projects in rail, maritime and road passenger transport.

Housebuilding hits snags Housing completions have been running behind schedule"with less than 25% of the year!s target completions achieved by May"leading to an uncomfortable review of the programme at the National Assembly for those held responsible. Roberto López, a member of the secretariat of the Central Committee of the Partido Comunista de Cuba (PCC), asked why completions were so far behind when the construction materials had been made available. The implication was that the shortcomings might lie in organisation. Those responsible have to con- tend with a complex system for the allocation of materials, involving permits

Country Report August 2007 www.eiu.com © The Economist Intelligence Unit Limited 2007 Cuba 27

granted by local committees that have to take into account the level of need, and prices with different levels of subsidy. As a result, those who would be able to pay the full price are often unable to obtain materials through formal chan- nels, giving rise to a parallel black market in building materials that serves to encourage pilfering, exacerbating supply bottlenecks"and slowing progress on repairing the housing in the most serious (and often dangerous) state of disre- pair. The co-ordination of the programme is also complicated by the use of vol- untary labour, which is sometimes in short supply and unreliable. Given the tran- sport and labour problems, together with inherent tensions between the pressure to accelerate building and the political imperative to allocate resources accor- ding to social priorities, the programme is likely to continue to suffer from delays. The local press has reported on a US$60m, five-year water services improve- ment plan for the capital, Havana, and four other main cities. Repairs to water supply networks aim to cut the current distribution losses from current levels (reported to be between 40% and 55%), and the waste water systems, which in many cases have become a public health hazard, will be repaired and upgraded.

Mining and energy

Oil and gas output is rising After strong growth in the 1990s, overall hydrocarbons and nickel production in 2007 have seen little growth since 2000, and new investments have been slow to come on stream. Rising gas production has barely compensated for a decline in oil output since 2003, and a recent increase in exploration activity in Cuba’s onshore zones has not yet produced any major new finds. In the past quarter there have been some positive, albeit not dramatic, developments in the oil and nickel sectors. According to press reports, oil and gas production is projected to rise to 4m tonnes in 2007, up from 3.9m tons in 2006, and, thanks to new studies, oil output from existing wells"which had previously been expected to decline in 2008"is now projected to remain steady for another year. Investment plans outlined by the leading foreign investor in the sector, Sherritt International (Canada), are expected to provide some additional output within five years, but the main hopes are pinned on possible finds in Cuba’s deep water territory in the Mexican Gulf. Although the amount of exploration activity there is limited by the deterrent effect of US sanctions, a handful of foreign investors are involved. One of them, India’s Oil and Natural Gas Corporation (ONGC), is currently conducting seismic surveys and plans to sink its first well in 2008 or 2009. A new arrival, the Vietnamese state oil company, was announced in June. Petrovietnam has signed two contracts: one for exploration in three of the deep sea blocks, and another for three onshore blocks.

Country Report August 2007 www.eiu.com © The Economist Intelligence Unit Limited 2007 28 Cuba

Oil, gas and nickel production

Oil; m tonnes; left scale Gas; m tonnes of oil equivalent; left scale Nickel; '000 tonnes; right scale 4,500 90.0 4,000 80.0 3,500 70.0 3,000 60.0 2,500 50.0 2,000 40.0 1,500 30.0 1,000 20.0 500 10.0 0 0.0 1990 91 92 93 94 95 96 97 98 99 2000 01 02 03 04 05 06

Renewable energy remains at an early stage, with less than 10 mw of installed capacity for electricity derived from these sources (May 2007, Mining and energy) and ethanol production still at low levels. In terms of electricity output, most of the generation from renewables comes from wind energy, which is projected to increase capacity to 12 mw by 2008. Solar energy capacity is only around 3 mw, but is also planned to grow. Around 180m litres a year of ethanol is produced in 17 refineries, 11 of which are scheduled for modernisation. So far the ethanol has been used for drinks (rum and other spirits) and medicines, but industry sources have reported that fuel for cars could be produced within five years. Although the president, Fidel Castro, has criticised the use of food crops for producing ethanol in his "reflections" (see The political scene), the crucial factor in determining whether Cuba begins to produce ethanol for fuel will be economic (that is, the cost of producing ethanol relative to the oil price) rather than political arguments. The modernisation of the Cienfuegos oil refinery is reported to be on schedule. The first stage, which will allow for processing of 65,000 barrels/day (b/d) is due for completion around the end of this year. This is planned to increase to over 100,000 b/d on completion. No figures have been given for nickel output in the first half of the year, but officials have indicated that production for the full year is expected to rise from 74,000 tonnes in 2006 to 76,000 tonnes in 2007. Sherritt International has indicated plans to expand production from its joint venture nickel plants in Cuba over the next five years, but there has been no news of the outcome of negotiations with the Venezuelan authorities for a proposed joint venture.

Electricity "revolution" is The government has reported on the progress of the overhaul of the electricity

reviewed system under the auspices of the “energy revolution”. An investment programme of around US$2bn has expanded and modernised the generating system, reportedly ending power cuts caused by generation shortages. The composition of generating capacity has changed, with gas turbines and a new network of around 200 local generators reducing the contribution to the network of the 11 major thermoelectric plants from nearly 90% in 2004 to 62% by the end of 2006. The generation of electricity from gas has expanded further

Country Report August 2007 www.eiu.com © The Economist Intelligence Unit Limited 2007 Cuba 29

in the past quarter, with the inauguration of two 35-mw units by Energas, a joint venture between Sherritt International and Cuba’s state power company. A further 125 mw is planned in the medium term. The only large thermoelectric plant that uses gas (as well as oil), at Santa Cruz de Norte, near Havana, is under- going modernisation to improve efficiency and restore its capacity to 100 mw.

Installed electricity generating capacity by type (mw)

Large thermo-electric plants Small generating stations Gas turbines Diesel Hydroelectric plants Autonomous generators 6,000

5,000

4,000

3,000

2,000

1,000

0 1990 2000 01 02 03 04 05 06

To ensure security of electricity supply for essential users such as hospitals, polyclinics, water suppliers and bakeries, the Ministry of Basic Industry has undertaken to install 700 mw of emergency generating capacity, of which 500 mw has been completed. Work is still in progress to upgrade the transmission and distribution networks, which continue to suffer frequent failings, and to provide a full service to areas of low supply.

Tourism

Arrivals have slumped Following a 4.3% decline in 2006, the tourism downturn has worsened in the first five months of 2007, with year-on-year arrivals down by 8.9%. One-off events have sharply cut arrivals from Spain and Venezuela. In the case of Spain, the downturn is largely attributable to the abrupt cancellation of bookings by two Spanish tourism operators (TTOO Iberojet and Pullmantur, which owned a cruise operator based in the port of Havana), following their purchase by US companies. The number of arrivals from Venezuela has shrunk as the official bilateral health programme moved on from the initial stage, in which Venezuelans were brought for treatment in Cuba, to the provision of health services at facilities within Venezuela. Data for the first quarter of the year show the number of visitors to Cuba on health programmes at 7,700, compared with 24,900 in the same period of 2006.

Tourist arrivals by source country (Jan-May) 2006 2007 % change Canada 383,304 393,547 2.7 UK 90,640 85,908 -5.2 Italy 74,951 64,264 -14.3 Germany 57,797 51,303 -11.2

Country Report August 2007 www.eiu.com © The Economist Intelligence Unit Limited 2007 30 Cuba

Tourist arrivals by source country (Jan-May) 2006 2007 % change France 59,682 49,778 -16.6 Spain 78,711 44,511 -43.5 Mexico 38,875 38,997 0.3 Argentina 17,189 19,967 16.2 Holland 15,077 14,273 -5.3 Russia 12,087 13,992 15.8 Venezuela 47,233 13,646 -71.1 Portugal 11,792 9,756 -17.3 Switzerland 9,774 8,825 -9.7 Austria 8,191 8,234 0.5 Belgium 8,618 7,626 -11.5 Chile 9,011 7,268 -19.3 Colombia 6,382 6,517 2.1 Denmark 5,208 5,877 12.8 Others 197,290 187,165 -5.1 Total 1,131,812 1,031,454 -8.9

Source: Oficina Nacional de Estadísticas.

Arrivals from countries other than Spain and Venezuela were down by a less alarming 1.9% in January-May, but nonetheless the underlying trend is weaker than expected. To some extent, this reflects a deterioration in conditions in the Caribbean tourism market in general. According to preliminary and incomplete data from the Caribbean Tourism Organisation (CTO), in January-March two of Cuba’s closest competitors, the Bahamas and Jamaica, reported falling stopover arrivals (with declines of 5% and 2.1% respectively) and arrivals to the Dominican Republic were up by only 0.5% in January-May. Some of this is explained by the diversion of tourists in the year-earlier period from the Mexican Caribbean (Cancun and Cozumel), where many of the hotels had been closed in early 2006 in the wake of Hurricane Wilma in October 2005. Arrivals to these resorts were up by 50% in the first quarter of 2007. A further explanation for the relatively weak demand for Caribbean destinations lies in US plans to require US citizens travelling to Mexico, the Caribbean and Canada to have passports. Although administrative difficulties have delayed the implementation of the change, it has precipitated price-cutting within the region, reducing the competitiveness of Cuba.

Tourism indicators (Jan-Mar) 2006 2007 % change Total foreign visitor arrivals 743,421 689,272 -7.3 Stopover arrivals 717,641 678,309 -5.5 Cruise & other short-stay arrivals 25,780 10,963 -57.5 Overnight stays 5,195,739 5,029,468 -3.2 Rate of occupancy 77.1 70.5 -8.6 Income (CUC m) 511.1 506.3 -1.0

Source: Oficina Nacional de Estadísticas, Principales Indicadores del Turismo, April 2007.

Country Report August 2007 www.eiu.com © The Economist Intelligence Unit Limited 2007 Cuba 31

Evidence of stagnation Officials have acknowledged that full-year arrivals in 2007 are likely to be

prompts policy response lower than the 2.2m reached in 2006. Monthly data in April and May show even sharper year-on-year declines than January-March. Amid the gloom some slightly more positive signs have been reported: an increase in the number of weekly flights from the Dominican Republic and Costa Rica (by the Cuban carrier, Cubana, and an El Salvador-based airline company, TACA, respectively); and the fact that earnings and the number of overnight stays have fallen less sharply than arrivals, meaning that it is still possible that gross earnings might be close to the US$2.4bn reached in 2006. The increase in earnings per overnight stay may be attributable to efforts to develop the non-hotel tourism infrastructure to increase the variety and availability of supplementary options. However, the Ministry of Tourism has not denied that the decline in arrivals is cause for concern. In response to the disappointing performance a series of measures have been announced. These include a 20% reduction in charges for landing, handling and airport services, a sharp cut in the price of aviation fuel, and new marketing campaigns. Restrictions on importing electronic goods were eased in May, and changes in customs rules have been introduced to reduce airport delays and frustrations. For the longer term, a US$185m investment programme has been announced. Of the total, only US$23m is earmarked for hotel development, and this will be for the creation of a chain of 50 small boutique hotels, using historic buildings for high-end visitors; the rest will be spent on the development of non-hotel infrastructure, including golf courses and marinas.

Foreign trade and payments

The trade deficit is wider The Cuban government has published no new data on external flows, but prices and output trends for the main goods exports suggest that trade growth has slowed in the first half of 2007. There has been little if any growth in goods exports earnings. Output of nickel, the largest earner, may be up slightly (see The domestic economy, Mining and energy), but with the international price no longer making the gains seen in the past two years, earnings will have been flat. Gains from higher international sugar prices will have been offset by the decline in sugar output (see The domestic economy, Agriculture). Earnings from services will also have slackened as a result of a downturn in tourism (see The domestic economy, Tourism) and some moderation in the pace of expansion of earnings from the sale of professional services. On the imports side, costs have been pushed up by high prices of oil and food products. This will have increased total import spending but slowed volume growth. As a result of these trends, the trade deficit will have widened in the year to date, and the current-account balance, which was reported to be in surplus in 2005-06, is likely to have slipped back into deficit.

T h e m i ni st er d e fen d s fo re ig n Capital inflows, which have been rising over the past three years, are supported

investment policy by deepening relations with non-OECD countries, particularly Venezuela and China. Data for foreign direct investment (FDI) have not been published systematically since 2001, and a decline in the number of foreign companies

Country Report August 2007 www.eiu.com © The Economist Intelligence Unit Limited 2007 32 Cuba

participating in economic associations with Cuba (from 403 at the end of 2002 to 237 in 2006) has led to speculation that the amount of investment may have slowed. In her report to the National Assembly the minister of foreign investment and economic collaboration, Marta Lomas, refuted this. She reported that despite the smaller number of partners, FDI inflows reached US$981m in 2006, a 22% rise on the 2005 figure, and that sales from associations with foreign partners amounted to 8% of GDP having grown by an average of 10.3% a year since 2001. New economic co-operation with Venezuela and China has caused concern at the emergence of a new dependency, despite reports that existing major partnerships with companies from other countries appear to be flourishing"the latest news is that Sherritt International of Canada plans to invest US$1.25bn in its Cuban operations in mining and energy over the next few years. There has also been criticism within Cuba of the policy of restricting the scope of foreign investment mainly to large-scale projects in basic industries. The relative absence of foreign involvement in agriculture or manufacturing has been cited by some economists as one of the reasons (along with the dual exchange rate system) for the lack of recovery of output or productivity in these sectors. Official policy appears to be to use domestic finance for projects to lift production in domestic agriculture and manufacturing for the domestic market. The government also aims to expand Cuban investments abroad. These currently include nickel processing in Canada and tourist facilities in China, and recently announced mixed enterprises working on infrastructure projects in Venezuela and the electricity sector in Angola.

Venezuelan and Chinese A sharp increase in Cuba!s external debt in 2006 has been revealed in Central financing swells debt Bank data released in July by the Oficina Nacional de Estadísticas (ONE, the national statistics agency).

External debt (CUC m) 2004 2005 2006 Total external debt 13,789 13,412 15,385 Total "performing" debt 5,806 5,898 7,794 Official 2,573 2,787 3,945 short-term 798 261 734 medium- long-term 1,775 2,526 3,212 Bank debt 1,312 1,147 1,371 short-term 424 346 318 medium- long-term 888 801 1,054 Supplier credits 1,921 1,964 2,477 short-term 357 315 896 medium- long-term 1,564 1,649 1,581 Total "immobilised" debt 7,983 7,514 7,592 Official 5,007 4,527 4,570 Bank debt 2,976 2,399 n/a Suppliers 0 589 n/a

Source: Oficina Nacional de Estadísticas.

Most of the CUC1.97bn (US$2.1bn) increase is in the form of officially-backed lending (CUC$1.16bn) and suppliers! credits (CUC514m). The rise in officially-

Country Report August 2007 www.eiu.com © The Economist Intelligence Unit Limited 2007 Cuba 33

backed long-term debt is largely owing to the arrangements for imports of Venezuelan oil, which include long-term credits on favourable terms to cover a rising portion of the cost when the international oil price is high. Trade with China also benefits from the provision of official and supplier credits on relatively favourable terms. As a result, debt-service costs are unlikely to have increased as sharply as the debt stock. The "immobilised" debt refers to arrears dating from the 1980s. Much of this debt has been sold on to secondary markets, where it trades at a deep discount, and debt service on this portion of the total is very low compared with its size. Since 1997 it has been held separately from "active" debt on the books of the Banco Nacional de Cuba (BNC), one of a set of state banks. After the failure of rescheduling talks in the late 1990s with the London and Paris Clubs (for private and official creditors respectively) Cuban negotiators have struck a series of bilateral deals, linked to wider economic agreements. The warming of Cuban- Spanish relations is reported to have sparked new interest in rescheduling some of the debt to Spain, as part of an agreement that could include the opening of new credit lines.

US restrictions on financial Despite campaigners! attempts to challenge US sanctions, they remain firmly in

services bite place. A July report by the International Trade Commission (ITC) suggested that a relaxation of current rules on the financing of Cuba!s imports of food from the US could boost sales by more than US$300m and that 1m US tourists would visit Cuba if the travel restrictions were lifted. The rules on payments stipulate that Cuba has to pay in cash. A change introduced in March 2005 made them even tighter, with a requirement that payment had to be cleared before the goods are shipped. According to the ITC report, "cumbersome, non- transparent and time-consuming" licensing procedures present a particularly heavy burden for small exporters. Taken together, it estimates that the requirements add between 2.5% and 10% to the cost of doing business, and that if they were removed the US share of Cuba!s food imports could increase from the current 32% to 70%. The anti-sanctions lobby seized on the report as evidence to support an amendment seeking to reverse the 2005 rules that tightened restrictions. In the event, although the amendment was approved by the House of Representatives it was defeated in the US Senate on July 27th. A Reuters report on July 22nd highlighted the impact of provisions contained in the US Patriot Act (introduced following the attacks on the US on September 11th 2001) on international banks! business with Cuba. Under the law, companies that fail to report dealings with states on a list of "state sponsors of terrorism", which includes Cuba (see The political scene), can face fines and confiscation of assets. A US$100m fine imposed on UBS, a Swiss bank, in 2004 (for handling business with Cuba as well as other countries on the list), led to cessation of UBS operations with Cuba, and served as a warning to others. Cuban diplomatic missions and companies operating abroad have been advised that their banks can no longer offer services, and Cuban payments to international organisations have been hampered. The list of companies whose business has been affected includes HSBC, Barclays, Credit Suisse, Royal Bank of Canada, Bank of Nova Scotia and ING Group, according to the report.

Country Report August 2007 www.eiu.com © The Economist Intelligence Unit Limited 2007