Debt / Economy / Latin America

Bankruptcy is Just a Band-Aid, Puerto Rico Needs Meaningful Reform

The global economy has been experiencing its fair share of ups and downs.  Many eyes, including my own, have been locked on Greece as the country struggles to stay afloat under the overwhelming weight of its government debt.  Furthermore, Prime Minister Tsipras’s leftist economic policies have all but dismantled the Greek economy.  Outlandish tax rates have turned tax evasion into a national pastime, hefty public pensions persistently demand significant government spending, and huge regulatory burdens choke the very businesses that should be the lifeblood of Greece’s economy.  Now, as Greece is poised to receive its third bailout in five years, eyes around the world are beginning to turn to the next likely victim of a huge debt crisis: Puerto Rico.

Comparisons between Puerto Rico and Greece can be drawn for a variety of reasons, including their mounting government debt and the fear of default.  And, like in Greece, investors are losing confidence.  Last month Puerto Rico’s S&P credit rating was downgraded to a “CCC minus,” the same rating given to Greece.  And just last week, Puerto Rico missed its first-ever payment on its $72 billion debt.  However, one significant difference remains between Puerto Rico and Greece: Puerto Rico is not an independent country.  It is a commonwealth of the United States.  Therefore, with Congress’s blessing, Puerto Rico may have the option to declare bankruptcy and restructure its debt.  This option is rapidly gaining support among some politicians in Washington, especially following Governor Padilla’s recent announcement  that Puerto Rico will not be able to repay its debt.  Democratic presidential hopefuls Hillary Clinton and Bernie Sanders have both advocated for Puerto Rico’s access to bankruptcy, asserting that it is an essential step toward economic recovery.  Even Republican Presidential Candidate Jeb Bush has suggested that Puerto Rico should be awarded the same bankruptcy protections as U.S. municipalities during their debt crises.

While extending bankruptcy rights to Puerto Rico may be merited, it will not be a long-lasting solution.  Puerto Rico needs meaningful reform.

Puerto Rico’s own Government Development Bank (GDB) recently released a report created by former International Monetary Fund officials outlining the root causes behind the island’s growing debt.  Like Greece, Puerto Rico struggles with a spending problem.   Exceptionally high energy and transportation costs have put a strain on the government and contributed to economic hardship for years.  This may explain why PREPA, the state electric company, and HTA, the highway authority, have been among the main drivers of the soaring government debt.  Furthermore, these financial burdens are being passed along to its citizenry: Puerto Ricans are faced with rising costs of goods from gasoline to Cornflakes while per capita income remains at only $19,000 per year.  And although only 43 percent of the adult population is either employed or actively searching for work, the government has still not addressed numerous barriers to Puerto Rican business creation and employment.  For instance, Congress’s mandate that Puerto Rico adopt the U.S. federal minimum wage has reduced employment by an estimated 8 to 10 percent.  The minimum wage as a percentage of its median hourly wage, 77 percent, far exceeds the 28 percent minimum-median ratio in the United States.  This puts Puerto Rico at a competitive disadvantage compared to its neighbors and is especially unjustified for the Commonwealth’s large proportion of unskilled labor.  Puerto Rico’s artificially high minimum wage, coupled with its overly generous welfare benefits, has created a toxic environment for individuals seeking employment.

The structural and fiscal issues plaguing Puerto Rico make it hard to imagine that access to Chapter 9 bankruptcy would be the comprehensive solution it requires.  The graph below clearly demonstrates this point: long before the recession, the chief operating fund of Puerto Rico was running deficits of hundreds of millions of dollars.  And although these deficits rise during hard economic times, Puerto Rico’s high costs and lackluster competitiveness produce substantial General Fund deficits even during times of economic growth.

Puerto Rico

The GDB Report brings up another important consideration: the General Fund account greatly underestimates Puerto Rico’s true deficit.  The numbers shown above exclude any deficits that arise from delayed payments, capital expenditures, and around 150 agencies in Puerto Rico.  Therefore, the Commonwealth’s debt problem may be worse than previously realized.  These factors confirm that persistent deficits and a swelling government debt will likely burden Puerto Rico for years after the recovery is over.

If Puerto Ricans ever desire to enjoy the benefits of a prosperous economy, pro-growth reform must be instituted.  The island’s current minimum wage laws, regulations, and high costs for both people and businesses do nothing but impede economic progress.  Hilary Clinton and her peers are right: bankruptcy is a temporary fix that may allow the islanders to keep their heads above water.  But unfortunately, the true source of Puerto Rico’s debt crisis will not fade away so easily.

la bandera una vez mas by Oscar Rohena is licensed under CC BY 2.0