Photo: Desmond Boylan / Reuters.
So far the issuing of a new regulatory framework for the Cuban financial system has had little impact. On October 12, 2018, decree-laws 361 and 362 were published in the Official Gazette of the Republic of Cuba, aimed at reorganizing the general operations of the Central Bank of Cuba, commercial banks and the rest of the financial system.
These regulations replace decrees-laws 172 and 173 that in 1997 gave rise to the Central Bank of Cuba, brought banking regulations closer to international standards and gave more autonomy to the monetary policy, although it never operated in a completely independent way. These were the two decrees that gave general legal coverage to the banking reform of the 1990s.
The new regulations issued last year do not distinguish the intention to promote a new structural banking reform, although new nuances are introduced in the regulations and new concepts that could provide some insight into the management of monetary, credit and financial policies in the future. Perhaps the most interesting is the new space granted to foreign capital and microcredit within the financial system.
New regulatory framework for the Central Bank
Decree-Law 361 establishes the mission, functions, and norms for the organization and operation of the Central Bank, as well as the responsibilities of its president, vice president, superintendent, and its Board of Directors. The mission of the Central Bank changes almost nothing in relation to the one defined in 1997. Now it is worded as follows:
The Central Bank of Cuba has the mission to promote, according to its faculties, the stability of the purchasing power of the national currency and to contribute to the harmonious development of the economy; to exercise the regulation and supervision of financial institutions and representation offices of foreign financial institutions authorized to be established in the country.
That is, monetary stability is the main objective, but leaving open the possibility of influencing other aspects that contribute to the “harmonious development of the economy” and to supervise and regulate financial institutions, which applies to the Cuban case, given that the banking superintendence is part of the Central Bank.
It is not a mission solely focused on the control of inflation, although it does appear as the first objective. The ambiguous inclusion of “harmonious development” means that the Central Bank can participate in policy decisions beyond the instruments directly available to it―amount of money, interest rates and other instruments of monetary control, etc.
In the more specific wording of its functions and faculties, a change is perceived regarding the intention of detracting autonomy from the institution and monetary policy, and emphasizing that this must be done in harmony with fiscal policy and with the rest of the macroeconomic policies. For example, the first two specific functions are written as follows:
- To propose monetary, financial, credit and exchange policies, coordinating their designs and scope with the fiscal policy objectives and, once approved, directing and executing their application.
- To regulate the amount of money, the interest rate and credit, depending on the monetary policy, directing the credit to the prioritized sectors defined in the economic policy.
A chapter on macroeconomic coordination that did not appear in the previous regulations is also added:
ARTICLE 83.1. The macroeconomic coordination will be arranged based on an annual policy agreement signed by the ministers of economy and planning and of finance and prices, as well as the president of the Central Bank of Cuba.
- The annual agreement contributes to harmonizing the policies in charge of the aforementioned organizations, and is aimed at achieving the macroeconomic objectives that are established. Among other aspects it will contain the ranges that must be insured to guarantee the growth of the economy, price stability, fiscal and external balances and assessment of the social repercussions of the economic policies used to achieve the objectives.
This type of economic policy arrangement, with this scale and objectives, would be completely new in the regulatory framework for the Central Bank. We do not know if it will be a public and transparent agreement, how its execution and monitoring will be organized, and what kind of relationship it will have with the annual plan of the Ministry of Economy and Planning. The truth is that the design and exercise of the monetary policy do not autonomously appear in the regulations, but rather this depends on a process of macroeconomic coordination.
On the other hand, the new regulations try to limit the financing of the fiscal deficit, although without completely prohibiting it. Article 58 says that:
The Central Bank of Cuba can grant credits to the State in the following cases:
- a) To meet transitory liquidity needs within the limits of the monetary program, through short-term advances or other credit modalities, payable before the last accounting day of each year; credits that will be granted at interest rates applied by financial institutions; and
- b) when determined by the Council of State in cases of national emergency.
Whereas Article 59 says:
The Central Bank of Cuba can act as a direct purchaser of State securities only for open market operations or for monetary policy reasons.
That is to say, with these two new articles, the monetization of the fiscal deficit is limited, only leaving the option for short-term financing (one year) and in cases of national emergency. The previous regulation said that the Central Bank could only finance the fiscal deficit if it was approved by the Council of State, which in practice occurred every year according to the State Budget approved by the National Assembly. Therefore, the new regulation represents a step forward in terms of limiting the issuance of money to finance public spending.
In practice, for some years the Cuban government has been issuing public bonds as a financing mechanism for fiscal imbalances. This method has allowed the fiscal deficit to be expanded to cushion the impact of the Venezuelan crisis on the Cuban economy, without this being reflected in higher inflation.
The new regulation, like the previous one, also allows the Central Bank to contract external credits on behalf of the State. The new regulation is worded as follows in article 57: “The Central Bank of Cuba can contract external credits for financing the Balance of Payments on behalf of the State, following a favorable report from the ministries of economy and planning and of finance and prices, and their cost and the exchange differential will be assumed with resources from the State Budget.”
This article establishes the Central Bank as an active institution in the management of Balance of Payments imbalances and with the possibility of getting into debt abroad.
A final detail that calls attention is that it is confirmed that the monetary unit of the Republic of Cuba is the Cuban peso and the possibility of the Central Bank being able to carry out operations in foreign currency is not mentioned, as in the previous regulation. Therefore, a regulatory framework for the Central Bank is being issued according to a future monetary system where only the Cuban peso remains as the sole currency.
Other functions that remain within the Central Bank regulation are:
- To regulate credit levels and the interest rate system.
- To execute, once approved, the exchange regimen.
- To establish legal reserve requirements and act as a lender of last resort for financial institutions.
- To grant licenses for the creation of financial institutions.
- To issue approval for the appointment of top-level managers of financial institutions.
- To dictate the rules, procedures and regulations to execute the supervision of financial institutions.
- To avoid the use of the Banking and Financial System for illicit activities, including money laundering and financing of terrorism.
- To exercise the regulation and surveillance of the country’s payment systems.
- To represent the State before international banking, monetary and credit organizations.
- To compile and publish the country’s Balance of Payments.
- To keep the statistical record of the country’s external debt.
The rest of the regulations on monetary policy and relations with the financial system do not show other outstanding changes. In general, the new regulations take the Central Bank’s more than 20 years of experience of operation and adjust the standard to what has been the practice of recent years within the Cuban banking system and the prevailing economic system. This differs from Decree-Law 172 of 1997, which was drafted taking as reference the regulations of central banks in the region and involved adjusting financial procedures and monetary analyses to serve an economy that was decentralized and was opening to international markets.
But many of these procedures remained unfinished or were never fully implemented with the rapprochement with Venezuela and the setbacks in the reforms since the beginning of the century. The new decree laws rather recognize that in an economy that remains centralized, with price controls and with state monopoly in most markets, the independence of the Central Bank is unrealizable and probably unnecessary. In the current system, coordination between different policies can be more useful.
New regulatory framework for the banking system
On the other hand, Decree-Law 362 establishes a new legal framework for the operation of the financial system. It regulates the procedure to create new financial institutions, establishes the type of financial institutions that can operate and the type of services they can offer, defines the role of foreign investment in the financial system and establishes a framework for the management of accounting and the presentation of the financial statements. It also sets standards for the management of bank secrecy, for banking supervision and for the operation of the new Risk Information Center.
In the new regulations, the different organization that is legislated for the structure of the financial system stands out. Previously, there was talk of types of licenses, which defined the scope of services and the type of financial intermediation that institutions could carry out. In contrast, Decree-Law 362 of 2018 defines 7 different types of financial institutions with separate functions. These are:
- Universal bank.
- Corporate bank.
- Second-tier bank.
- Investment bank.
- Non-banking financial institution.
- Exchange houses.
- Investment fund management companies.
The universal banks would be for operating with individuals (population) and the legal entities (enterprises and organizations), would receive deposits and lend to both. They can issue not only debit cards, but credit cards, something that was not contemplated in the previous regulation. This type of institution would be allowed to offer a wide range of financial services, such as the purchase-sale of currencies, the discount of bills of exchange and promissory notes, operations with letters of credit and other documents of international trade, offering services of coverage of interest rates, foreign exchange risk and other operations for risk management, offering advisory services and doing investment banking business, among others. As another novelty, the new legislation also mentions microcredits as part of the functions of universal banks.
Corporate banks would have similar functions to universal banks, but they would only be related to legal entities and would be more specialized in international banking and investment banking.
Second-tier banks, as the name implies, would not be directly linked to individuals and legal entities, but would channel their resources through other financial institutions, which would carry out risk analyzes and assume the risk of direct operations with the clients. Second-tier banks would not receive bank deposits from the population and businesses.
On the other hand, the investment bank would have among its main functions to advise in investigations on stock exchanges and foreign financial markets, and assemblies of investment funds and business administration. It would promote investment projects and could issue debentures and act as an agent for the issuance of bonds and other securities. It would invest in transferable securities, advise or participate as an agent in processes of purchase-sale of companies or debts. It would provide financial engineering services, offer coverage of interest rates, exchange risk and perform financial leasing operations, among others.
Non-banking financial institutions would be aimed at carrying out credit operations and various financial services, but could not attract deposits from the population and businesses. Among the services mentioned, the provision of microcredit financial services and products stands out, which again shows that the new legal framework tries to relate more the financial system with the national small-scale private sector.
Finally, exchange houses maintain their essential function of foreign exchange operations; and the Investment Fund Management Companies would have the mission of managing investment funds from or created outside national territory.
At the moment, there is no information on which banking institutions would be in each of the types referred to in the new regulation, nor is it known if new institutions will be created or some of the existing ones merged. The Central Bank’s website does not yet have an updated financial system structure.
Regarding foreign financial institutions, it is maintained that they can establish representative offices in Cuba, which act following the orders and on behalf of their head office. They can provide advisory services and technical assistance in order to facilitate foreign trade and coordinate businesses, but not to carry out financial operations in national territory.
However, the explicit highlighting of the possibility of participation of foreign investment in national banking and financial system is something new. Before, it only appeared implicit in Decree-Law 173 and it was not said that a financial institution with totally foreign capital could be created. Now it is worded in the following way in article 21:
Foreign financial institutions or foreign investors can participate in the Banking and Financial Sector under the following modalities:
- Through the acquisition of shares of Cuban financial institutions created under the Foreign Investment Law; and
- Through the constitution of financial institutions that adopt the form of a public corporation through registered shares with mixed capital or totally foreign capital or another form of international economic association, according to the Foreign Investment Law.
Article 24.1 lists the requirements to establish a totally foreign capital institution. In essence, it is said that they have the obligation to demonstrate that they are subject to supervision and that they are located in a country where the superintendence of the Central Bank of Cuba can sign agreements that ensure adequate coordination and exchange of information with the supervisory authorities of the country of origin.
Interested parties should send the application to the Central Bank of Cuba, accompanied by the documents required to create any type of financial institution. The documents include: type of institution that is requested and activity it intends to perform, statutes of the applicant entity, copies of financial statements, feasibility study and business plan, information on shareholders and the capital to subscribe, organizational structure for the financial institution that intends to be created, name of the person proposed for president, as well as the managers who will hold high-level positions, among others.
Finally, it is worth noting that in the new legal framework the possibility that financial institutions provide their services in national currency and in foreign currency is maintained. Therefore, this would be indicating that monetary unification will not lead to prohibiting the use of foreign currencies to operate bank accounts and make loans.
As in the 1990s, we will have to see how much of this new regulation can be put into practice. The new structure and expected financial services appear to be broader and more diverse, but the effective demand for such options will depend on structural changes in the business system and consumer markets.
While the new regulations do not seem to be promoting a banking reform, they do leave the financial system in a more comfortable and more prepared position to accompany a deepening of the structural changes in the real economy, in case these are assumed in response to the current moments of crisis.
* This text originally appeared on the blog Horizonte Cubano.