Great Expectations: Were Hopes About U.S. Opportunities In Cuba Unrealistic? by Knowledge@Wharton
Is the honeymoon in U.S.-Cuba economic ties already over? Only a year ago, the Barack Obama administration announced a series of changes in U.S. policy aimed at stimulating U.S.-Cuba trade, investment and travel. Despite last July’s establishment of U.S. diplomatic ties with the island and the March 2016 visit to Cuba by President Obama — the first by a sitting U.S. president since Calvin Coolidge in 1928 — some would-be U.S. exporters and investors are already expressing impatience about the slow pace of concrete results. Some are wondering whether too much was initially made about the importance of the U.S. embargo of Cuba as a barrier to progress, and too little has been said about the importance of the Cuban government’s own impediments to opening the country’s market to foreign trade and investment. Given Cuba’s unique social and political history, and its traditional suspicion of the U.S., what levels of expectations are appropriate?
In February 2016, U.S. exports to Cuba amounted to a modest $19.2 million, up from $14.5 million in 2015, but far below the $44.5 million recorded in February 2014. After peaking at $464.4 million in calendar 2012, the figure dropped to $180.2 million in 2015, because of Cuban fears of avian flu in imports of U.S. chickens. In comparison, U.S. exports to the neighboring Dominican Republic amounted to $7.1 billion in 2015. As of March 2016, the U.S. had recorded absolutely no imports from Cuba since March 2012, compared with the $4.6 billion from the Dominican Republic in 2015 alone.
Why is it taking longer for the Cuban market to open up to American goods and investment dollars than many had anticipated? On the one hand, a new report by the U.S. International Trade Commission (USITC) says that “U.S. restrictions on trade with and travel to Cuba have largely prevented U.S. suppliers and investors from accessing the Cuba market.” More positively, however, the report also notes that “new or expanded U.S. exports in several goods and services sectors could occur if U.S. restrictions are lifted.” The 449-page report provides a comprehensive analysis of market opportunities and challenges for U.S. firms in Cuba.
But does such a conclusion imply that lifting the U.S. embargo would provide a quick fix? Not at all, unfortunately. Adds the report: “Even if U.S. restrictions are lifted, Cuban non-tariff measures, institutional and infrastructural factors, and other barriers — including those associated with a non-market, state-controlled economy — still exist and may affect the ability of foreign partners to trade with or invest in the country.”
The Problem of Infrastructure
For trade to occur between the two countries, there needs to be a modern infrastructure in both, explains Mauro Guillen, Wharton management professor and director of The Lauder Institute. The end of the embargo will provide a major step forward in achieving that goal. “While the U.S. has been building up its infrastructure over the years — especially for trade — Cuba hasn’t [done so],” he says. Once the embargo is lifted, building the infrastructure required for normalization of trade “would be part of the evolution in Cuba,” he says. The process will require huge inflows of capital. “After the embargo is lifted, the infrastructure will get built … port infrastructure, the airport, all the facilities” required for enabling Cuba to participate fully in the global economy.
“To expect results within a year-and-a-half or two years is totally unrealistic.”–Mauro Guillen
“Cuba still has to decide how much it wants to open up its market in specific areas, and how much it wants to privatize that market,” adds Jay Brickman, vice-president of government services and Cuba service at Crowley Maritime, which established the first regularly scheduled common carrier service for licensed cargo from the U.S. to Cuba back in 2001, some 40 years after such services were suspended. “There has not been significant growth in trade between the two countries. A number of companies have expressed a huge amount of interest and they continue to develop their relationship with the Cuban government, but not to the point of saying that there is a huge increase in trade.” Despite last year’s flurry of encouraging announcements and the establishment of diplomatic ties, “things have not changed much,” Brickman notes.
Sailings by Crowley were actually reduced in 2015, Brickman explains, because “the Cuban government was very concerned about avian flu, and they were not sure whether they wanted to buy poultry from the U.S. In order to protect themselves, they shifted their purchases of poultry to Brazil. We are now back to three sailings a month, which is a positive thing for us. That reflects that Cuba is again increasing its agricultural imports from the U.S., which is the base cargo…. [Cuba] changed back to the U.S. because the country is a very competitive producer of poultry.”
Brickman agrees that ending the U.S. embargo will not provide a quick boost for U.S. exporters and investors. “From the Cuban side, they still have a number of different things they have to resolve. How much do they want to privatize? How much of it is going to continue to be [controlled by the] government?” he asks. “They’re saying that about 80% of the economy should still be under the control of government entities, liberalizing little by little.”
Cuba is faced with some difficult things over the short-and-medium term, Brickman added. The first one is: “What is going to happen with Venezuela? That’s so important for them because of the economic support they get from Venezuela. If they lose that, they need to replace it, and certainly one of the ways they want to replace it is by increasing tourism — and also [increasing] remittances from Cuban-Americans and Cuban-Spaniards, and so forth.” To the extent that Cuba is able to replace the Venezuelan contributions and other support, they probably will be more conservative and slower-paced about making their other changes domestically, he said. “If they figure they are getting more money in, which they can use for social programs, that buys them additional time to slowly make other changes, as opposed to being rushed into changes.”
David Lewis, vice-president of Manchester Trade, a Washington, D.C. consultancy, advises U.S. exporters and investors to study the USITC report carefully. “For the first time in many years, we have the closest thing to an independent baseline economic research on what’s going on in the economy of Cuba and how it relates to the changes in the relationship between the U.S. and Cuba. And, therefore, what can you forecast in terms of business prospects.” Lewis adds that the report for breaks down the Cuban market by industries and sectors so that prospective shippers have background information that “helps them decide whether their plans might work or not.”
“Cuba still has to decide how much it wants to open up its market in specific areas, and how much it wants to privatize that market.”–Jay Brickman
The prospective end of the U.S. embargo will not put an end to the multiple political, legal and administrative constraints that exist within Cuba’s socialist economy, notes Lewis. “Because of the focus on the heavy lifting of liberalizing the embargo restrictions, a lot of people were lulled into thinking the embargo was the Alpha and Omega issue in the U.S.-Cuba economic and business relationship,” he says. “That’s not the case. It’s one of many issues. It’s probably the 800-pound gorilla in the room but [as the USITC report shows] even if we were to eliminate many of the restrictions in the embargo, that has nothing to do with the fact that this is a state-run, socialist-model economy with its own rules and regulations about how you do business.
“The Cubans are running a one-by-one top-down system; it’s not like when you go to Colombia, which has a foreign-investment law published,” adds Lewis. “In Cuba, they have such a foreign-investment law, but nobody knows if it works. I tell Cubans, ‘Guys, you need to help us show people that they can do business successfully and make money in Cuba. Otherwise, this is going to dry up fast. And if it dries up, we’re not going to have anybody advocating in the new U.S. administration — Democrat or Republican — that ‘this is important to continue,’ and ‘eventually let’s get rid of the embargo.’ There’s no incentive [now]… and a lot of people are saying that the U.S. government gave away the store, and has nothing to show for it.”
Faquiry Diaz Cala, president and CEO of the Tres Mares Group, which co-invests with venture capital, private equity funds and multilateral organizations, agrees that many initial reactions to the U.S. initiatives were overly optimistic. “At the end of the day, the opening by the Cuban government is a small opening in a very controlled manner. They do want — and need — the dollars that will flow from it,” he says. “But they are still in control.” Cuba is not a country that has gone through some sort of transition where the government has lost control and new market players are making the rules, he adds. “This is far more of a government that is cautiously opening the door because Venezuela and other countries are not there to provide it financial support.”
Diaz Cala notes that Cuba is also a country that has learned the hard lessons of depending on one country as its source of funding. “Cuban government officials bring it up over and over again that Cuba is going to have a diversified set of trading partners. It’s not going to depend only on the U.S. as its main trading partner,” he says. “Maybe, almost to a fault, it is trying to keep that policy going. They realize that from 1961 to the early 1990s, they depended on the Soviet Union and the Soviet bloc and that, in the 1990s, they went through a very difficult period when the Soviet bloc went away. Then they depended to a great extent on trading with Venezuela and the oil that Venezuela was providing them. Now, they don’t want to begin making changes to their economic model only to fall prey to U.S. tourism becoming the only source of funding.”
But Guillen disagrees with those who downplay the role of the U.S. embargo. “Obviously, if you lift the embargo, things will not instantly go back to normal,” he says. “As for the structural change in Cuba’s economy, with its control by state-owned companies, there would need to be some evolution away from that.” However, he cautions, “It’s not easy, as we saw in Eastern Europe where, first, most countries went into a recession. Many of them are still having trouble, 25 or 26 years after the fall of the Berlin Wall. It won’t be easy, but I think that to expect results within a year-and-a-half or two years is totally unrealistic.”
Lessons from Eastern Europe
According to Guillen, the experience of Eastern Europe helps to make sense of the current economic challenges and opportunities in Cuba. “When the Soviet Union removed its tight grip over those countries, one country after the other started to make a political transition,” Guillen says. “The support for the ruling parties just crumbled. In Cuba, you have a repressive regime that has at its disposal all the instruments of power. It’s not a normal situation and you have this very large mismatch between what the majority of the population wants and what the government is doing.”
“People were lulled into thinking the embargo was the Alpha and Omega issue. It’s probably the 800-pound gorilla in the room, but it’s one of many issues.”–David Lewis
Although there has been no abrupt regime change in Cuba, as there was in Eastern Europe, Guillen says, “It’s very clear that the level of information that most Cubans have today about the true situation is much higher; Cuba is not as impervious as it once was. There is much more flow of information and news than there was in the former East Germany or the former Romania….” As for the absence of external events that pressure Cuba to reform, he adds, “Let’s not forget that Cuba used to be supported by the Soviet Union economically but, in more recent years, it was supported by Venezuela. Now Venezuela is in no position to help anybody else; it can’t even help itself.” According to Guillen, the central issue is how is the transition going to take place, not whether the transition is going to take place. “What we should be asking ourselves is whether it is going to happen very quickly or gradually; whether there is going to be bloodshed or not,” Guillen says. “Look at where we were two years ago, and where we are now. It’s night and day.”
For his part, Brickman is optimistic that things will get easier for U.S. suppliers. “As Cuba decides what it wants to buy from the U.S., as the trade terms and credit terms are better defined and the confidence is built, there certainly ought to be room for growth in the agricultural sector and in other commercial sectors such as machinery and packaged goods.” Will Crowley share in that growth? “We’d better. If not, what have we been doing here? Crowley has made a huge investment in developing and staying in the Cuban market, both in time and operating expenses. It’s certainly our hope that as the market opens up and grows, we’ll continue to stay in the market and ideally be one of the leaders in developing trade between the two countries.”
Confidence building is extremely important and it is still very much a work in progress, Brickman says. “The two governments continue to have different agendas to some degree, with one government [the U.S.] kind of wishing that the other would change its entire structure and the other government thinking, ‘That’s not really what we plan to do.’” As commerce tries to come in, questions will continue to arise, Brickman adds. “The confidence building is still going on, and it is somewhat of a slow process. But there has been progress,” he said. “Things like the Carnival Cruise Line, with their ships going in, are certainly progress. The growth in the industrial zone in Mariel, also. The changes that the U.S. has made are certainly big steps in the process.”
What can U.S. investors learn from the patience displayed by other capitalist countries in Cuba? Diaz Cala says, “The reality is that no other country has the proximity or the links to Cuba that the U.S. has. The Spanish have been there since the 1990s as hotel operators. The charter companies have been flying into Havana for a long time, but it’s going to be miniscule compared to what will happen once U.S. tourists begin coming in to the island.” What have the early movers done right? “First, to establish relationships on the ground from day one. Second, to be patient and be there as the Cubans have gone through all sorts of processes,” Diaz Cala notes. “The Cubans respect that. Cubans want to see the commitment by U.S. firms and they don’t want to be seen as a market to dump products… They are looking for companies that want to develop projects and be there for the long term. Otherwise, they realize, they will become just another Caribbean island that is a stopover for whoever shows up.”