How a Land-Rent Tax may enable Cuba to Open its Trade and
Investment Relations Without Giving Up its Economic Independence
Michael Hudson, Ph.D.
[February 1999]
Dr. Michael Hudson is the author of Super-Imperialism:
The Economic Strategy of American Empire (1972, Spanish
translation 1973). His 1973 memo to the State Department
reviewing the history of U.S. policies towards Russian
membership in the WTO, IMF and World Bank helped open economic
relations with Russia. He is presently a consultant to the
Russian Academy of Sciences, Economic Division, and has made a
number of trips to give support to Duma members opposing land
privatization and related World Bank-sponsored "reforms."
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It has long been recognized that countries may gain from trade by
exporting their specialties in exchange for those of other
countries. It also is commonly accepted that foreign investment may
provide capital to accelerate economic growth. Yet the past
half-century's trade and investment patterns have turned many
countries into heavily indebted raw-materials suppliers. The final
nail in their economic coffin typically has been to settle their
debts by relinquishing their land, natural resources and public
monopolies to foreign control.
Selling these hitherto public assets means that their revenue will
be remitted abroad, putting downward pressure on the exchange rate.
Meanwhile, government budgets are being squeezed as the tax laws are
changed to let global investors and domestic elites use transfer
pricing and debt pyramiding to avoid income taxation. Interest
charges on the debts resulting from cutting taxes on wealth and
income (especially for finance, real estate, tourism and privatized
monopolies) force governments to cut back their social spending
programs while shifting the tax burden onto labor.
Currency depreciation raises the price of dollarized imports of
food, fuels and other necessities, as well as machinery prices,
licensing fees, and especially debt service. (What really is
devalued is the major non-dollarized cost: the wages of labor.)
Workers suffer also as income and sales taxes are made regressive,
topped by a vicious circle of dependency created largely by IMF and
World Bank loan programs that benefit mainly foreign investors and
local elites. Client countries are left to bear the cleanup costs of
bailing out international lenders and speculators, who turn around
and blame their victims for mismanaging a "crony capitalism"
that their own loan programs and diplomacy have created.
In light of these problems there may be a silver lining in the
nearly four decades of economic sanctions that Cuba has suffered. At
least it finds itself in a relatively debt-free position, and
remains highly self-reliant and independent. The question is, how
will it cope with the pitfalls that await its opening the economy to
international market relations?
For one thing, normalization of trade relations involves
membership in the IMF and World Bank, whose philosophy of
development is adverse to Cuban ideas of economic justice. In
addition, families who left Cuba after its Revolution have made
claims for compensation for property they have left, and have
obtained U.S. backing for these demands.
The problem facing the Cuban people thus is how to deal with these
often hostile forces without relinquishing the principles that have
guided their policy since the Revolution. What is at stake is how
best to preserve the nation's gains in literacy and education,
public health and culture, technical innovation and investment in
pharmaceuticals and other sectors.
There have been long debates of how to introduce "market
socialism," using market reference points as an aid to price
resources economically. Above all, the value of land and naturally
desirable sites tends to be undervalued -- or rather, uncollected,
for the land's value and theat of publically supplied services
exists regardless of whether or not the government charges for them.
Not to charge for site values such as desirable urban locations
often leads to an uneconomic location of industry and housing, as
Russia is now learning.
Today's discussion of pricing, taxation and fair returns to
investors is taking place in the context of opening up Cuba's
economy to foreign trade and investment. The immediate problem
facing Cuba is how to do this in a way that does not relinquish its
ideas of economic equity and justice, to say nothing of its
commanding heights.
In addition to avoiding wasteful misallocation of resources and
corruption, it is necessary for Cuba (and for that matter, Russia
and other formerly socialist economies) to save domestic land-rent
from being remitted abroad. To relinquish land (whose rent is paid
in domestic currency) or to sell off public utilities (whose
services also are paid for in local currency) is to invite currency
depreciation and subsequent domestic inflation.
The disaster that Russia has suffered in the way it has undertaken
privatization under US, IMF and World Bank direction provides an
object lesson of what to avoid. A different approach is needed to
enable Cuba to retain control its land, beachfront and other
potentially rich tourism sites, as well as its urban land and public
utilities.
These sectors represent the bulk of any economy's assets. The
revenue they generate forms the natural and traditional basis for
future public investment rather than being turned over to foreign or
newly emerging domestic elites. How can they be protected as the
basis on which to build? If they pass into foreign control, Cuba
will be deprived of the bulk of its most productive present and
future assets and the income they generate.
This paper proposes an alternative way for Cuba to open its
economy and manoeuver within the context of international market
prices. A tax on land rent (the "Henry George tax") may
enable Cuba to respond to international pressures to open up its
economy without relinquishing its public resources to foreigners,
while retaining the principles of justice. Such a tax will free
Cuban land sites and other national patrimony for optimum use in a
way that reflects market incentives rather than relinquishing them
at distress prices. It also will free labor and investment from the
income tax and excise taxes that increase their price (although
workers and other producers will pay a tax on land and other public
resources).
Public collection of the land's rent -- that is, a tax on on site
values and natural monopolies -- may be done in such a way as to
yield the same amount that taxes on wages and profits would yield
(including sales and value-added taxes). The difference is that
whereas taxes on labor or manmade capital increase their costs and
reduce their supply, public collection of the rental value of land
does not discourage supply. The land, natural resources and
monopolies exist in any event. The question is whether their revenue
will be collected by the community, or privatized.
Public collection of the rent of land and other natural resources
has not been widely discussed because it involves governments
keeping the most lucrative sectors in the public domain rather than
involving direct foreign ownership by multinationals. It does not
involve loading down Cuba with debt from international banks or
creating a stock-market boom for foreign speculators. It involves
taking a step back to make a new beginning that can avoid entering
upon the path that leads to privatization and debt-bondage.
This policy is simple to enforce. It is to tax the land and
natural monopolies rather than labor or new investment. A land- rent
and public-resource-rental tax, legal under international law, can
protect Cuba's land and natural resources from foreign control,
while also effectively nullifying the claims of Batista-era
expatriots.
The rent-tax represents a form of market socialism. Fortunately,
the Cuban government already is legal possessor of the land. Little
or no rent exists has been pledged to the banks as backing for
mortgage loans. In fact, Cuba's economy is almost uniquely free of
interest and rent charges. Central to all such discussion is the
premise that the public sector must retain control of the land and
mineral wealth, natural monopolies and basic public utilities.
Indeed, despite the past five hundred years of European colonialism,
until quite recently all of Latin America retained this basic
national patrimony in public hands rather than relinquishing them to
private ownership by a domestic economic elite, to say nothing of
foreigners.
In radically overturning these basic principles, the IMF and
World Bank seemingly have created a single pathway into the
international economy -- a path based on privatization and foreign
debt under harsh "conditionalities." More specifically,
countries are told to sell their most valuable long-term resources
to global investors (mainly multinational firms raising the money
from global financial institutions). These resources represent their
national patrimony, whose productive powers and natural monopoly
position underpin the prosperity of the entire society. The problem
is that selling these resources turns over to foreigners the
economy's commanding heights. In effect, economic policy itself is
relinquished.
When prosperity increases, the value of good location rises. This
increase in value occurs even when no new investment is made in the
land. Either the landholder may sell this land at a capital gain --
keeping for himself the increased value created by the community --
or he may rent out this land at rising prices. A resource-rental tax
would preserve for public use those revenues which grow simply as a
result of general economic prosperity.
The object is to retain socialist economics while opening up
foreign trade and investment, and the market forces they involve.
All international investment agreements are subject to national tax
laws. Cuba thus may to contract loans and "aid" with
international organizations such as the IMF and World Bank in a way
that does not relinquish any policy-making control to them or
otherwise give them "advisory" power. A resource-rental
tax thus would enable Cuba to avoid the web of debts to foreign
financial institutions in which other Latin American and Asian
countries have become enmeshed. Land rents would be saved from being
privatized and sent abroad. As Cuba's population grows and becomes
more prosperous, the land's rent (and the revenue of other public
investments) will provide a rising stream of revenue to defray
public social spending. Furthermore, this money will be kept at
home, rather than remitted to foreign purchasers to put downward
pressure on Cuba's foreign exchange rate.
A land-rent tax also will enable Cuba to deal with the claims from
the Batista era for reimbursement of the value of properties or the
direct return of properties formerly owned. A land-value tax would
deftly solve this problem, for it renders the nominal ownership of
property meaningless. If the entire land value is taxed, then only
the actual users of property will be the bidders (save for
short-term distortions). Former owners may be given title to their
property, but the rental value will be collected by the government,
just as it collects the rental value of all other domestic property.
If the former owners would fail to make full use of their property
under Cuban law, their tax levy would exceed their revenue. They
presumably would either abandon the land, or make improvements to
yield the government an appropriate income on it.
The important point is that absentee ownership rights will be
rendered academic as the rental value is collected by the government
in lieu of income and excise taxes on labor and new captial
investment. As long as Cuba applies the same rules to foreigners
that it applies to domestic residents, its tax system will conform
to international law. Claims by Batista-era expatriates for return
of their property would be subject to taxes that would make these
properties economically valuable only if the former owners worked
them in accordance with what fiscal authorities decide to be the
most economic use.
Cuba's unique economic advantages
Cuba has made a virtue of necessity in the face of the foreign
sanctions blocking its trade and deterring foreign investment. Not
having sold off its public utilities to foreigners, it has no
remission of earnings, and hence no chronic balance-of- payments
outflow. Nor has Cuba pledged its rental income to domestic or
foreign banks. The prospective income from the land's value (much of
it not being collected at present), and from Cuba's natural
resources and public utilities, remains available to the public
sector, which may use its growing flow for purposes that benefit all
Cubans.
Taxes on income and commerce can be kept low by collecting the
rental value of the land and pricing public utility services to
provide government revenue in lieu of income and sales taxes. The
government need only collect the land's rental value and that of
public utilities. This means that Cuban net wage levels may rise
over time without necessarily adding to production costs, for
neither labor nor capital will not be burdened with income and
excise taxes.
Most important, Cuba's production costs will be free of the
personal and business debt-service charges -- and taxes to carry
heavy public debts -- that burden more indebted economies. Cuba is
fortunate in not having a banking system already collecting the
economy's rent and other monopoly revenue in the form of interest
charges. Its people and their enterprises hold property tenure at
very low carrying charges. Rather than having been made a direct
cost to be factored into socialist market pricing, the rental value
of much land and other real estate has been left uncollected.
However "uneconomic" this may have been, its bright side
is that rental charges and public utility fees remain free for
public collection.
In fact, no less a free-enterprise advocate than Milton Friedman
has pointed out the irony that only socialist economies are "pure"
market economies as depicted in modern textbooks. This is because
only socialist economies have no complicating financial webs of
interest-bearing claims on wealth. They alone operate without a
superstructure of sunk costs to be depreciated, financial
shadow-debts, economic rents and other creditor or ownership
charges. Such economies are in the enviable position of being able
to decide just what to do with their rental revenue -- sell the
right to collect it to foreigners, or keep it for public use.
Even free-enterprise advocates agree that taxing the rent of land
and natural monopolies creates an optimum investment climate, by
collecting "unearned income" rather than acting as a
disincentive to labor and productive capital investment. The
advantage of a natural-resource tax is to promote the efficient use
of Cuba's resources by establishing market reference points without
actually having to go so far as to privatize the land and other
natural monopolies. A land-rent and public resource charge would
enable Cuba to create an economic environment retaining its ideas of
economic justice. Rather than seeking "market- oriented
efficiency," the objective is not to rationalize the status
quo, but to improve it. Cuba may use its socialist legacy as the
basis for higher efficiency than can be achieved by the indebted "bubble"
economies of non-socialist countries and post-socialist Russia.
The greatest problem presently confronting Cuba is how to avoid
selling off land and other national patrimony at distress prices,
such as have occurred in other countries. Any auction under existing
conditions takes for granted the existing distribution of wealth. It
enables the wealthy (in this case, mainly foreigners) to pick the
most valuable rent-yielding resources, and gain possession of them
so as to exclude the rest of the population from using resource
rents to fund government spending for public rather than private
profit-making aims.
How Cuba may preserve what it has achieved
Since its revolution, Cuba has achieved high standards of
domestic literacy and public health, despite being confronted with
international economic sanctions at US insistance. Unlike most "aid-recipient
countries," it has not let the aid-granters strip away its
national patrimony as a condition for making loans to benefit local
elites. Cuba's potentially rich tourist areas on the beaches, its
agricultural land and other natural resources such as its nickel
mines, as well as its air waves and radio spectrum remain in the
public domain to provide revenue to fund a wide range of social
programs. These programs therefore need not face extinction as is
occurring in third world countries "going private."
The question is, how to mobilize this national patrimony to best
serve Cuba's social objectives. The economic rents generated by this
patrimony have become prime objectives of predator capital forcing
indebted countries to sell off their public assets to global
investors. But their sale would deprive Cuba of their potential
growth in revenue -- precisely that revenue which traditionally has
formed the basis for public spending on social programs and economic
infrastructure. Without this revenue stream, Cuba find it difficult
to fund such programs in years to come.
For many countries, opening up their economies to foreign trade
leads to lower wage rates as the price of making their exports
competitive. But in Cuba's case, labor costs can be kept low without
holding down living standards, by freeing it from high rent and
interest charges, income and excise taxes. Meanwhile, public subsidy
may finance education, culture, research and development.
Public collection of rental values could collect just as much as
would be generated by any combination of income taxation, wealth
taxation, excise taxation or value-added taxation. However, whereas
all these taxes add to costs (and hence, prices), an economic-rent
tax would not increase the cost at which land or other natural
endowments or monopoly goods are supplied. This is because an
economic-rent tax is paid out of the "free ride" which
owners of natural resources and monopolies enjoy as the value of
property increases to reflect the economy's general level of
prosperity. Instead of such rents accruing to the fortunate users or
absentee owners of high-rent resources (such as well-situated real
estate), the government will collect them as the basis of its fiscal
system.
The lessons of third world privatization in the 1980s and 1990s
Privatization has been a failure throughout most of the third
world. What ultimately has been at issue in such "market-
oriented" reform is, who will derive the income from the debtor
country's most valuable natural resources: foreign investors,
domestic elites, or the government?
The first effect of privatization is for indebted governments to
use the proceeds to pay off what otherwise would be bad loans,
including "aid debt" owed to the US agencies and large
international banks that extend credit under the World Bank and IMF
programs. It is as if debtor countries engaged in a voluntary
bankruptcy. Creditors find themselves bailed out instead of having
to take responsibility for the failure of their loans to create the
productive power capable of repaying the debt with its stipulated
interest charges.
The major assets demanded by international investors are land,
natural resources and public monopolies able to generate export
earnings. The effect of selling these hitherto public assets has
been to reduce future government revenue. Instead, the income is
remitted abroad, to the new owners. What complicates matters is that
most rental and public service receipts are paid in domestic
currency, and must be converted into foreign exchange, creating what
economists call a transfer problem.
A domestic budgetary problem is also created as foreigners rather
than the public sector benefit from the rental and service charges
that rise exponentially with the country's economic growth. If
government programs are not to be cut back, the money must be raised
by raising other kinds of revenue -- and the only way to do this is
by taxation. In many cases, privatization proceeds were used as a
means of cutting taxes on wealth. In any case, instead of taxing the
rent-yielding resources that have been privatized, governments have
been advised to finance their budgets by income and sales taxes,
which fall mainly on labor.
An income tax is difficult to enforce against business. As noted
earlier, global investors are able to make themselves tax- exempt by
using "transfer pricing," obtaining tax exemption for
interest payments, taking their profits in offshore banking centers
and tax havens, and making use of related "loophole"
techniques. The only way to capture their rents is through a
resource-tax. But such proposals are greeted by agonized
denunciations by international investors and the bank consortia that
stand behind them.
Now that privatization has been shown to be a blind alley, Russia
is belatedly shifting its tax system to public rent collection. It
is now talking of taxing Gazprom's exports, oil exports and other
minerals sales. Recognizing that these are the kind of taxes that
can be collected most readily, Russia's new government is adopting
the principle of collecting the land and resource rents (including
radio and television rights), as advocated in the early 1990s as an
alternative to World Bank and IMF "reforms."
Russian privatization could have been saved from degenerating into
a giveaway by enacting a full land- and resource-value tax.
Collecting the rent generated by the economy's real estate, mines,
oil and gas wells, radio and TV stations, electricity and phone
utilities would have enabled the government to balance its budget
while saving this revenue from being remitted abroad. If a hotel
were sold at a give-away price, or if a factory were bought by
foreign investors, torn down and converted into luxury housing so as
to increase its rent yield, the government would be able to collect
this rent by reappraising the property's value annually. Investors
would be permitted to earn normal profits on the man-made capital
they supplied, i.e., the buildings they constructed, the mining
equipment they provided, and so forth. But the land or natural
resource rent would be collected by the government for public use.
One way or another, some party will collect this rent. In most
countries this is done by the banking system and financial
investors. Absentee buyers go to their banks and take out mortgages
to obtain the money to buy rent-yielding properties. These buyers
then pay out their properties' rental cash-flow as interest to the
bank. For the U.S. commercial real estate sector, the entire rental
value typically is pledged to the bankers by holders who hope to
emerge ultimately with a capital gain. The upshot has been to indebt
real estate, mining and other monopolies up to the hilt.
Rather than using the proceeds of privatization sell-offs to put
in place tangible capital investment, debtor countries have used
these proceeds to service foreign debts that have been taken on for
projects that (for the most part) have failed to help their balance
of payments. For most countries, privatization has created chronic
balance-of-payments outflows of earnings, interest, fees and other
expenses to foreign buyers, putting chronic downward pressure on the
foreign currency. And inasmuch as most non-labor costs have been
dollarized throughout the world, the only "give" when a
currency depreciates is to lower the international price of its
labor.
A country's ultimate wealth is of course its labor, especially the
skills of its educated work force. The way to protect its living
standards is thus to avoid currency depreciation. By using its
national patrimony as a source of public revenue, Cuba can establish
social programs to elevate the status of its labor. Most notably,
Cuba has established the international value of its labor capability
in its pharmaceuticals and public health industry.
In addition to retaining growth in national rental and resource
revenues in the public domain, the adoption of such a fiscal system
would help Cuba use its resources to their greatest efficiency,
while helping to get rid of the nation's anti-market image. It has
been termed the "least bad tax," as its yield will enable
the government to avoid taxing capital and labor, while not
deterring the supply of land, mineral resources or monopoly
services.
Such a tax in fact could enable Cuba to emerge as an "economic
miracle" country, without a corporation tax or other business
taxes, and without taxing labor (thereby providing relative
low-priced labor without correspondingly low living standards!). By
taxing the rental value of properties, it would solve the problem of
speculators coming in to make a killing by speculating in such
revenues. In sum, public collection of land and resource rents would
make it unattractive for speculators who want to buy only in order
to sell later at a higher price.
The moral is that a rent-tax need not increase Cuba's cost
structure. Collecting the flow of rent generated by land and other
natural resources does not reduce their supply, for they are
produced by nature rather than by human effort. Regardless of how
highly they are taxed, they already are in existence. They have no
production cost, yet yield a revenue, which is determined by the
degree of general prosperity. The rental value and capital gains
that accrue to land and natural monopolies thus do not result from
their beneficiaries' efforts, but are created by - - and belong to
-- the community at large.