Cuba's Small Businesses: Taking a Wild Ride

by Philip Peters

Cuba's cuentapropistas—170,000 entrepreneurs operating with a license plus at least an equal number working outside the legal system—mark the arrival of a new small business sector within the island's socialist economy. They are dramatically improving their standard of living, supplying needed goods and services, and learning the habits of independent actors in competitive markets. They account for about 8 percent of the labor force and probably put food on the table of one in ten Cubans.

These small businesses—in official parlance, "self-employment"—are the result of one in a series of new policies that respond to Cuba's economic crisis. These include reduced subsidies to state enterprises, large-scale layoffs, increased foreign investment, introduction of incentives in the agricultural sector, and legalization of dealings in foreign currency. After a 35 percent contraction of GDP between 1990 and 1993, official figures showed nominal growth in 1994 and 1995, and 7.8 percent growth in 1996.

The impetus for change seems to come both from economic policymakers, who want to use market forces to spur growth, and from the Cuban security forces, who are concerned that deteriorating economic conditions could provoke social unrest. Officials praise self-employment as a source of jobs, services, and growth—even as they reaffirm that the fundamental socialist character of Cuba's economy will not change.

By official estimates, 10,000-15,000 Cubans were self-employed in 1993, working as hairdressers, tailors, shoe repairmen, and in other home-based occupations. A September 1993 decree allowed self-employment in 117 new occupations. Initially, university graduates were not eligible, but that ban was lifted on July 1, 1995. As additional occupations were permitted, the number of licensed entrepreneurs reached 170,000 in June 1995 and peaked at 209,000 in January 1996.

By December 1996, principally due to the introduction of a personal income tax for the first time in thirty-seven years, the level dropped to about 180,000. Today it stands at 170,000, and officials say it is growing again.

The labor ministry estimates that 58 percent of these entrepreneurs were previously unemployed, 26 percent are retirees supplementing their pension income, and 16 percent still hold a full-time job in the state sector. One in four is a woman.

The largest concentration is in food service: 29 percent are involved in preparing and selling snacks and workers' lunches. In May 1996 about 1,800 small private restaurants were operating—the famous paladares that took their slang name from a Brazilian soap opera broadcast in Cuba. The rest of this sector is spread across a broad range of service providers, including carpenters, plumbers, auto and tire repairmen, "messengers" (shoppers), barbers, hairdressers, glasscutters, bicycle parking lot operators, flower vendors, tutors, home video theater operators, taxi drivers, and others.

Ten days of observation in Havana last December showed that many of these entrepreneurs are well educated and trained. They are industrious and use great ingenuity to keep prerevolutionary cars and equipment in working order and to obtain basic supplies. They calculate market conditions, scout good locations, try to set optimal prices, and care about customer service. (One paladar owner told us that after seeing the slow service in competitors' establishments, he set a standard, which he meets, of serving his customers within ten minutes of receiving their order.)

For their hard work, many earn several times the salaries they earned in government offices or state enterprises. Elena, a single mother working at a Havana food stand, was typical. She earned 171 pesos monthly as a government secretary; in her current job, she earns that in a week. "I prefer this kind of work," she said. "Here you always see the results of your work and I can take better care of my daughter."

The cuentapropistas we interviewed described their main challenges and concerns:
• Lack of access to a legal wholesale supply system means that they have no predictable basis for calculating prices and profit margins. Many must resort to black market sources, a risky and time-consuming practice that exposes them to possible legal penalties.
• Some regulations are designed to limit competition with state enterprises. For example, the self-employed cannot hire employees unless they are in food service. Paladares are not permitted to offer beef or shellfish, they are limited to twelve seats, and they can only employ family members.
• There is concern that the government might reverse course and reduce the scope for self-employment.
• Cuba's new personal income tax, enacted to produce revenue and reduce income inequality, has led to widespread confusion and misunderstanding. Clearly, it has driven some entrepreneurs out of business and others underground. But last December, dozens could also be found in lines at local tax offices signing up to pay taxes. Their revenues made the tax payments affordable, and they wanted to end their risk of being fined for tax evasion.

What Does the Future Hold?

Cuba has clearly weathered the economic crisis that produced a near-standstill in 1993 and 1994. But serious economic difficulties remain, including severely restricted and expensive international credit options, dilapidated capital stock, and vast underemployment. Policymakers are under pressure to generate growth. Against this backdrop, self-employment represents an attractive option. The entrepreneurial energy of Cuba's people represents the only sure source of goods, services, and employment that requires no credit or investment from overseas.

Self-employment is unique in another respect, however. Because it is the one economic reform that relies not on state planning, but on individual initiative, it is politically sensitive. It has given independence and high incomes to scores of thousands of Cuban citizens.

Last December Cuban officials called for the "consolidation" of the sector, by which they mean enforcement of regulations and getting businesses on the tax rolls. Reports from Cuba indicate that some enforcement actions targeted tax evasion; others were aimed at allegedly stolen raw materials; still others may have been aimed at reducing competition with state enterprises. (Of course, the surest way to "consolidate" the sector, end theft of raw materials, promote recordkeeping, and collect more tax revenue would be to adopt pending proposals to create a legal wholesale supply system for cuentapropistas, and to allow entrepreneurs to hire employees.)

Rhetoric has also heated up. In an April speech President Fidel Castro said Cuba now confronts both external and internal capitalism. He called for an ideological offensive to counter selfishness, mercantilist psychology, the desire for unfair profit, and consumerism. With rhetorical winds blowing in the antireform direction, Cuban economic policy may tread water until the October communist party congress, or beyond. It seems unlikely that Cuba's entrepreneurial sector will be permitted to reach its full potential in the near term.

But in economically strapped Havana, rhetoric doesn't always guide policy. Before the 1991 party congress, Cuban officials predicted widely that farmers markets would be permitted to open. During that congress, Fidel Castro took the floor and blasted the proposal in a vociferous, orthodox speech. The proposal was formally rejected. Two years later, the markets were open.

Philip Peters is Senior Fellow at the Alexis de Tocqueville Institution, Arlington, Virginia. This report is based on his December 1996 field research in Cuba. To contact the author: peters@dgs. Dgsys.com.

Taxes, Wages, and Prices in Havana, December 1996

Income tax rates and monthly minimum tax payments for each occupation are set by the Ministry of Finance. Nationwide, the average monthly payment is 102 pesos ($5.10, as $1=20 pesos); local averages range from 40 pesos ($2.00) on the Isle of Youth to 174 pesos ($8.70) in Havana. The monthly payments count against a taxpayer's year-end tax payment, which is calculated by applying the progressive tax rates to total income. Overpayments are not refunded. Regardless of occupation or actual expenses, entrepreneurs may deduct 10 percent of gross income to account for business expenses. The year-end tax computation is done in January and February. Taxpayers are required to submit income statements by March 1.

Hypothetical Tax Return: Havana Hairdresser

Since this taxpayer paid 2,400 pesos in monthly minimum tax payments, and these payments exceed the tax she would owe based only on the progressive rates, she owes no additional tax at year's end. Her 1,878 peso overpayment is not refunded. Her effective tax rate is 33 percent since her monthly payments equal one-third of her gross revenues.

Income and Purchasing Power

Monthly salaries in state enterprises range from 150 to 200 pesos for secretaries and laborers to 300 to 425 pesos for engineering and medical professionals. Pensions are generally 120 to 190 pesos per month. Self-employed persons rarely had exact figures to offer, but most seemed to make a monthly net of about 300 to 1,200 pesos.

To give an indication of purchasing power, the following are prices observed at a Havana farmers market, in December 1996 (in pesos): 1 pound rice: 4; 1 pound tomato: 3; 1 bunch carrots 6: 1 orange: 1; 1 whole turkey: 200; 1 pound pork: 28; 3 heads garlic: 3; 1 pound black bean: 10; 1 lime: 0.5.