The Obama administration has devised a plan to help rescue Puerto Rico from its insolvency and, per usual, it's more sizzle than steak, with no chance of enactment.
The island's financial problems are not in dispute: Puerto Rico's government, along with its various municipalities and public corporations, owe their creditors in excess of $72 billion, or roughly 70 percent of its economy's annual output. That proportion has been growing steadily, both because the island hasn’t come close to balancing its budget for years and because its economy has been shrinking for nearly a decade.
Its increasingly dire economic outlook and its threat to stop paying its bondholders if it means "not paying a teacher, policeman or nurse" have frozen the government out of financial markets, leaving it with just a few weeks of liquidity on hand. To head off a cash crunch, the island's government asked Congress to extend it the same Chapter 9 bankruptcy protection given to the states. Chapter 9 allows municipalities and governmental agencies (but not the states themselves) to reorganize their debts: Detroit recently availed itself of this form of bankruptcy and used it to dramatically lessen its debt burden.
To its credit, the White House's plan does contain some sensible reforms. It would allow the island's residents to receive the earned-income tax credit — an effective poverty-reduction plan that is much more copacetic to the labor market than the minimum wage — and would substantially boost Medicaid spending in Puerto Rico. Nearly half of the island's residents are on Medicaid.
So far so good — but the proposal would also create a more expansive, or "super," version of Chapter 9 bankruptcy for Puerto Rico that would cover all of the island's debts, and not just the debts of its municipalities or government agencies.
The self-righteous justification for such a move is that a sizeable proportion of the bondholders of the general obligation bonds — which the island's constitution explicitly protects — are largely hedge funds and investment banks. Since these entities are understood to be morally dubious entities speculating on Puerto Rican debt — leaving aside the fact that many retirees hold these investments as well — means these creditors are entitled to nothing.
Getting Congress to extend any version of Chapter 9 is already an uphill battle, but the administration's proposal turned an achievable task into a nonstarter. There is no shortage of Republican congressmen who remain angry about how the administration trampled over the Chrysler bondholders in 2009 by putting the workers' and their pensions ahead of the bondholders when getting paid, which many viewed as a direct contravention of federal bankruptcy law. Imposing a haircut on Puerto Rico's general obligation bondholders will never get through a Congress where Republicans have any sway. Besides, it's not clear that even these carrots would be enough to prod Gov. Alejandro García Padilla to make the politically difficult steps necessary to get the government's finances — and the island's economy — back on track.
At some point, a politician is going to have to make some difficult decisions that will anger some portion of the electorate for any recovery plan to work, and the current government has evinced no intention of doing this, at least not before the next election.
It would be churlish to say that Puerto Rico got into this mess on its own. Its ambiguous relationship with the United States has had both an upside — its residents are exempt from federal income taxes — and a downside — namely, that it is subject to all the laws and regulations of the mainland.
While at first glance that trade-off seems like a great deal for the island, the reality is that it's been a big drag on job creation. The left may lament that the federal minimum wage of $7.25 isn't enough to raise a family in the mainland, but it's the equivalent of a $20 per hour wage on the island when put into the context of Puerto Rican economy's wage distribution. As a result, companies are loath to hire young adults or people with few tangible skills, since they cost too much for what they can do, leaving the island with unemployment rates that dwarf the rest of the U.S.
Republicans are mistaken if they think that doing nothing will protect the federal government from having to bail out the island. If we let Puerto Rico's problems fester — and its current government has shown itself willing to do precisely that if it helps wins the next election — then somewhere down the road, the U.S. Treasury may find itself having no choice but to cover some of its obligations. And if it does that for Puerto Rico, what will it be forced to do when, say, Illinois finds itself broke in five or 10 years?
A more viable reform plan for Congress to consider would be to explicitly forbid Puerto Rico from changing its constitution to harm the constitutionally protected bondholders; exempting the territory from the minimum wage and other federal regulations that don't fit the island; and extending Puerto Rico the same version of Chapter 9 bankruptcy that is in force in the rest of the country. Ditto for the earned-income tax credit and Medicaid.
It should also insist that any bankruptcy declaration be done in conjunction with the creation of a fiscal control board to give the Puerto Rican government some political cover to make some difficult decisions such as reducing its bloated workforce, privatizing more government agencies and devising a sensible tax reform plan that reduces the Greece-like evasion problem and generates more revenue.
Puerto Rico ought to have a thriving economy; its location and myriad tax advantages should make it a magnet for commerce. Its current malaise is primarily due to a series of poor choices by successive governments, exacerbated by access to cheap credit as well as the imposition of ill-fitting federal government regulations. Congress can help the island's government right itself first and foremost by prodding Puerto Rico into facing its current problems and dealing with them posthaste. There's no reason that it ought to cost U.S. taxpayers anything to do so.
By Ike Brannon
A politically viable Puerto Rico reform plan
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