Why has Cuba Grown so Fast?

During a session of the Annual Conference of the Association for the Study of the Cuban Economy in August 2014, Armando Linde asked a very important question. If Cuba’s workforce is stagnant, if the country’s investment to GDP ratio is one of the lowest in the world, and if total factor productivity growth has been miserable, why has the Cuba economy increased so rapidly since the country emerged from its post-Soviet doldrums? The numbers illustrate the question: in 2012 real fixed capital formation in Cuba was a measly 12% of GDP; the population of working age and the labor force have grown at annual rates of less than 1% since 2004; and every econometric and anecdotal evidence suggests that total factor productivity (TFP) growth has been very low or zero. So how is it that the country’s real GDP has increased continuously from 1994 to 2012 at an average annual rate of 4 ½ %? The answer is that in 1994 the country still had considerable unused resources and that, over that in the following 18-year period, it has been using these resources with ever greater intensity<1>. Table 1 presents the results of a simplified growth accounting exercise.<2> From 1994 to 2012 the rise in the capital stock accounted for roughly one fourth of total output growth; the expansion of active employment for about 40%; and the increase in capacity utilization for about one half. The estimated contribution of TFP (alias residual growth) is a small negative number. The key point here is that we use a concept of active employment, by which we mean total employment minus hidden unemployment in the state sector. (Had we used published employment instead, the contribution of labor would have been only 0.6%, only one third of what is shown in Table 1 Table 1. Sources of Real GDP Growth. 1994-2012                                                                      Percentage changes                     Percent of total Average growth of real GDP                              4.5                                            100% Contribution to GDP growth of: Active labor force                                                   1.8                                            41% Capital stock                                                            1.2                                            27% Capacity utilization                                                  2.3                                          53% Residual growth                                                      -0.9                                         -20% A question that may arise is why the growth of active employment has been so much higher than the growth in the population and the labor force? As shown in the table below working age population growth was indeed close to zero from 1994 to 2012; but labor force growth was a little higher because the participation rate rose during the period and (published) employment growth was a trifle higher because the open unemployment rate declined as the economy expanded. Most importantly, the growth of the active population was much higher because of the fall in disguised unemployment. Population, Labor force and Employment Annual percentage change, 1994-2012           Thousands of workers in 2012 Population of working age                     0.15                                          6210 Labor force                                                0.66                                          5078 Employment                                              0.91                                         4902 Active employment                                  2.94                                          3353 Sources: Calculations based on data from Oficina Nacional de Estadística; and Hernández-Catá (2014). These results are good news in the sense that the long expansion of the Cuban economy is subject to a rational explanation. It is not so good news in the sense that relying on increasing utilization of resources is a game that cannot be played forever. Hidden unemployment has been rapidly absorbed during the period under review, reflecting the decline in subsidies for enterprise losses and the recent large scale transfer of workers from the state to the private sector. But sooner or later utilization of labor and capital will reach a limit and pressures on the fiscal and external current account deficit will emerge, threatening the sustainability of the fixed exchange rate. Unless, that is, there are further transfers of redundant state workers, private employment is seriously liberalized, and government spending continues to be pared down to make room for private investment. References. Mesa-Lago, Carmelo, and Jorge Pérez-Lopez (2009). “Cuban GDP Statistics under the Special Period: Discontinuities, Obfuscation, and Puzzles”. Cuba in Transition, volume 24. Association for the Study of the Cuban Economy. Miami. Hernández-Catá, Ernesto (2013). ”Accounting for the growth of real GDP in Cuba. An Experimental Empirical Study.” in Bryan Christensen and Basilgam Mȕslȕm, editors, Economic Behavior, Game Theory and Technology in Emerging Markets”. London: IGI editions. Hernández-Catá, Ernesto (2014). “The Estimation of Disguised Unemployment in Cuba.” Forthcoming. <1> Another, probably smaller, part of the answer is that numbers in the social services sector occasionally have been cooked to show higher than actual growth. For example, Mesa-Lago and Pérez-López (2009) have examined, and refuted, the Cuban official’s argument that GDP had to be revalued because health and education services in Cuba are supplied to the population for free. In my 2013 article I noted that the growth of GDP in health and social services in 2005 was a whopping 51%, obviously a ridiculous exaggeration. <2> The attribution is based on a Cobb-Douglas production function with capital elasticity equal to 0.4 and capacity utilization assumed to be proportional to the ratio of active employment to the labor force. The model is explained in Hernández-Catá (2013). Active employment is equal to total (published) state and non-state employment minus estimated hidden unemployment in the state sector (See Hernández-Catá, 2014).