June 4, 2014
Absent Major Changes, Puerto Rico Faces a Fiscal Calamity
By James Glassman
As U.S. officials and private investors become more concerned about the financial fate of Puerto Rico after nearly a decade of economic decline, attention has turned to an $8.5 billion bank, which may be the key to whether this island of 3.7 million people flourishes or self-destructs.
Puerto Rico's recession is now in its eighth year. The closely watched Economic Activity Index has plummeted from 155 to 128; the unemployment rate, at 14.1%, is more than twice that of the mainland U.S., and the total number of workers has dropped from 1.3 million at its peak in December 2006 to just under 1 million in April.
U.S. officials are worried because Puerto Rico, a territory acquired through an invasion during the Spanish-American War in 1898, is as much America's responsibility as a state.
Unless changes occur soon, the island appears headed for fiscal calamity. Government debt has doubled in a decade to $70 billion. That is, as theWall Street Journal put it, "gigantic compared with the roughly $18 billion owed by Detroit when it filed in July for the largest municipal bankruptcy in U.S. history."
U.S. financial officials have been meeting for months to figure out what to do. As a headline on the website of the National Legal and Policy Center put it, "Will Puerto Rican Bonds Trigger a Mainland Bailout?"
According to The Economist magazine, when compared to other U.S. states and territories, "The island's current debt...is the third-largest behind California's and New York's, despite a smaller and poorer population." Not only is Puerto Rico smaller and poorer, its economy isn't growing, so it has shaky prospects of paying the debt back. Personal and corporate income tax revenues are down by one-third since 2007.
In 2000, President Clinton set up a task force on Puerto Rico's political status, and in 2009 President Obama expanded its mandate to income economic affairs. "The Task Force," according to one of its 2011 report, "frequently heard from stakeholders that Puerto Rico, given sufficient support and opportunity, could become the ‘Singapore' of the Caribbean Like Singapore, a tiny island that today boasts an advanced market-based economy and one of the world's busiest ports, Puerto Rico could also emerge as a hub in the Americas." The report then listed boilerplate recommendations like "Investing in Education" and "Improving Knowledge About Workers' Rights."
Puerto Rico is no Singapore. It's been acting more like Venezuela or Argentina. But it can improve its economy by taking some simple steps to start:
1) live within its means by cutting spending, and
2) establish a strong rule of law by living up to its obligations
Puerto Rico has a classic moral hazard problem as a U.S. territory with special tax breaks: people want to lend it money, and, in recent years, the answer to a poor economy has been to borrow.
In February, Moody's and Standard & Poor's downgraded Puerto Rico's general obligation debt (bonds that are backed by the island's full taxing power) two notches to junk status. That didn't stop Puerto Rico the next month from issuing $3.5 billion in new G.O. bonds, carrying an 8% coupon and maturing in 2035. In trading May 29, those bonds were yielding 9.2%.
No wonder nearly three-quarters of U.S. mutual funds hold Puerto Rican bonds, according to a February survey by Morningstar. To U.S. investors, interest on Puerto Rico bonds is exempt from federal, state, and local taxes. An American in a 40% bracket gets a tax-equivalent yield of a whopping 15.3%. That compares to a yield of 3.2% for a U.S. Treasury bond or a tax-equivalent 7.2% for a typical 20-year G.O. issued by a U.S. state.
Puerto Rico needs to stop spending, and it can start with its bloated bureaucracy. Some 24% of all jobs are in government, compared with 16% in the U.S. Other fixable problems include what The Economist calls "inflated benefit payments, for disability for instance, [that] discourage work" as well as "stunted infrastructure and crime."
This is no Singapore. But perhaps it could be. One of the hallmarks of a great economy is legal certainty, an intangible but valuable asset. A reliable government does what it says it will do, and the courts and tax collectors can be trusted. Rule of law prevails.
The second step for Puerto Rico is to restore faith in the rule of law by meeting its obligations. That would attract the foreign capital that's absolutely necessary to revive the island.
Which brings us to that bank, Doral Financial Corporation, founded in 1972. It grew from a small mortgage company to Puerto Rico's largest residential lender. Now with 22 branches on the island and eight in New York and Florida, Doral a decade ago overpaid its taxes.
Over seven years, Puerto Rico's Treasury Department and Doral entered into a series of agreements about the size of the refund and the timing. But if you examine the records, there's no doubt that Doral is owed the money, which now amounts to about $230 million.
"Honoring debts is not only a constitutional but a moral obligation," Alejandro Padilla, Puerto Rico's governor, told investors last October. He was talking about the island's bonds, but he was also being hypocritical. The government has a constitutional and moral debt to Doral too, and by not paying it, Puerto Rico is sending the worst possible message to other businesses. Who would want to do invest in a country whose government refuses to pay what it owes?
"It is not an option for the government of Puerto Rico to issue that refund," said economist Robert Shapiro, a former top official in the Clinton administration. "They are legally, politically, and morally obliged to do so."
Shapiro added, in a telephone media conference last week: "By refusing to honor its obligations, the Puerto Rican government joins such deadbeat sovereigns as Argentina, which will measurably reduce the flow of direct investments to Puerto Rico."
But, instead of paying Doral or negotiating an equitable settlement with a bank that is counting on the funds to meet capital requirements, the Puerto Rican government on May 16 decided to declare its longstanding tax agreement null and void. The government reversed its position on May 16 and said that original agreement by Puerto to pay the refund was the result of a "simulation or illicit artifice."
Investors watching this circus can't be amused. Nor can Puerto Ricans themselves.Reuters reported last month, "Puerto Rico's April tax collections suffered a big collapse" - a 27% shortfall on projections. Who would want to run the risk of overpaying - and then be treated like Doral, waiting years for a legitimate refund?
Almost certainly, the reluctance to pay taxes has even deeper roots: doubt about the efficiency and even legitimacy of the Puerto Rican government itself. Overcoming such a lack of confidence may not be easy, but the first steps are clear: restore fiscal sanity to the budget and pay debts, like the one to Doral, that the government clearly owes.
The U.S. is not going to bail Puerto Rico out - and there is no reason to. The territory, especially if it has aspirations for statehood, must learn to live within its means and, like every other responsible government, meet its obligations.
James K. Glassman, former U.S. Under Secretary of State for Public Diplomacy and Public Affairs, is a Visiting Fellow at the American Enterprise Institute.
As U.S. officials and private investors become more concerned about the financial fate of Puerto Rico after nearly a decade of economic decline, attention has turned to an $8.5 billion bank, which may be the key to whether this island of 3.7 million people flourishes or self-destructs.
Puerto Rico's recession is now in its eighth year. The closely watched Economic Activity Index has plummeted from 155 to 128; the unemployment rate, at 14.1%, is more than twice that of the mainland U.S., and the total number of workers has dropped from 1.3 million at its peak in December 2006 to just under 1 million in April.
U.S. officials are worried because Puerto Rico, a territory acquired through an invasion during the Spanish-American War in 1898, is as much America's responsibility as a state.
Unless changes occur soon, the island appears headed for fiscal calamity. Government debt has doubled in a decade to $70 billion. That is, as theWall Street Journal put it, "gigantic compared with the roughly $18 billion owed by Detroit when it filed in July for the largest municipal bankruptcy in U.S. history."
U.S. financial officials have been meeting for months to figure out what to do. As a headline on the website of the National Legal and Policy Center put it, "Will Puerto Rican Bonds Trigger a Mainland Bailout?"
According to The Economist magazine, when compared to other U.S. states and territories, "The island's current debt...is the third-largest behind California's and New York's, despite a smaller and poorer population." Not only is Puerto Rico smaller and poorer, its economy isn't growing, so it has shaky prospects of paying the debt back. Personal and corporate income tax revenues are down by one-third since 2007.
In 2000, President Clinton set up a task force on Puerto Rico's political status, and in 2009 President Obama expanded its mandate to income economic affairs. "The Task Force," according to one of its 2011 report, "frequently heard from stakeholders that Puerto Rico, given sufficient support and opportunity, could become the ‘Singapore' of the Caribbean Like Singapore, a tiny island that today boasts an advanced market-based economy and one of the world's busiest ports, Puerto Rico could also emerge as a hub in the Americas." The report then listed boilerplate recommendations like "Investing in Education" and "Improving Knowledge About Workers' Rights."
Puerto Rico is no Singapore. It's been acting more like Venezuela or Argentina. But it can improve its economy by taking some simple steps to start:
1) live within its means by cutting spending, and
2) establish a strong rule of law by living up to its obligations
2) establish a strong rule of law by living up to its obligations
Puerto Rico has a classic moral hazard problem as a U.S. territory with special tax breaks: people want to lend it money, and, in recent years, the answer to a poor economy has been to borrow.
In February, Moody's and Standard & Poor's downgraded Puerto Rico's general obligation debt (bonds that are backed by the island's full taxing power) two notches to junk status. That didn't stop Puerto Rico the next month from issuing $3.5 billion in new G.O. bonds, carrying an 8% coupon and maturing in 2035. In trading May 29, those bonds were yielding 9.2%.
No wonder nearly three-quarters of U.S. mutual funds hold Puerto Rican bonds, according to a February survey by Morningstar. To U.S. investors, interest on Puerto Rico bonds is exempt from federal, state, and local taxes. An American in a 40% bracket gets a tax-equivalent yield of a whopping 15.3%. That compares to a yield of 3.2% for a U.S. Treasury bond or a tax-equivalent 7.2% for a typical 20-year G.O. issued by a U.S. state.
Puerto Rico needs to stop spending, and it can start with its bloated bureaucracy. Some 24% of all jobs are in government, compared with 16% in the U.S. Other fixable problems include what The Economist calls "inflated benefit payments, for disability for instance, [that] discourage work" as well as "stunted infrastructure and crime."
This is no Singapore. But perhaps it could be. One of the hallmarks of a great economy is legal certainty, an intangible but valuable asset. A reliable government does what it says it will do, and the courts and tax collectors can be trusted. Rule of law prevails.
The second step for Puerto Rico is to restore faith in the rule of law by meeting its obligations. That would attract the foreign capital that's absolutely necessary to revive the island.
Which brings us to that bank, Doral Financial Corporation, founded in 1972. It grew from a small mortgage company to Puerto Rico's largest residential lender. Now with 22 branches on the island and eight in New York and Florida, Doral a decade ago overpaid its taxes.
Over seven years, Puerto Rico's Treasury Department and Doral entered into a series of agreements about the size of the refund and the timing. But if you examine the records, there's no doubt that Doral is owed the money, which now amounts to about $230 million.
"Honoring debts is not only a constitutional but a moral obligation," Alejandro Padilla, Puerto Rico's governor, told investors last October. He was talking about the island's bonds, but he was also being hypocritical. The government has a constitutional and moral debt to Doral too, and by not paying it, Puerto Rico is sending the worst possible message to other businesses. Who would want to do invest in a country whose government refuses to pay what it owes?
"It is not an option for the government of Puerto Rico to issue that refund," said economist Robert Shapiro, a former top official in the Clinton administration. "They are legally, politically, and morally obliged to do so."
Shapiro added, in a telephone media conference last week: "By refusing to honor its obligations, the Puerto Rican government joins such deadbeat sovereigns as Argentina, which will measurably reduce the flow of direct investments to Puerto Rico."
But, instead of paying Doral or negotiating an equitable settlement with a bank that is counting on the funds to meet capital requirements, the Puerto Rican government on May 16 decided to declare its longstanding tax agreement null and void. The government reversed its position on May 16 and said that original agreement by Puerto to pay the refund was the result of a "simulation or illicit artifice."
Investors watching this circus can't be amused. Nor can Puerto Ricans themselves.Reuters reported last month, "Puerto Rico's April tax collections suffered a big collapse" - a 27% shortfall on projections. Who would want to run the risk of overpaying - and then be treated like Doral, waiting years for a legitimate refund?
Almost certainly, the reluctance to pay taxes has even deeper roots: doubt about the efficiency and even legitimacy of the Puerto Rican government itself. Overcoming such a lack of confidence may not be easy, but the first steps are clear: restore fiscal sanity to the budget and pay debts, like the one to Doral, that the government clearly owes.
The U.S. is not going to bail Puerto Rico out - and there is no reason to. The territory, especially if it has aspirations for statehood, must learn to live within its means and, like every other responsible government, meet its obligations.
James K. Glassman, former U.S. Under Secretary of State for Public Diplomacy and Public Affairs, is a Visiting Fellow at the American Enterprise Institute.
Read the whole story
· · · · ·
In 2000, President Clinton set up a task force on Puerto Rico's political status, and in 2009 President Obama expanded its mandate to income economic affairs. "The Task Force," according to one of its 2011 report, "frequently ...
New Official Named to Reform Police in Puerto Ricoby Freedom Re-Founders
The governor said that the naming of Claudio, confirmed by federal Judge Gustavo Gelpi, was agreed to with Puerto Rican authorities and the U.S. Department of Justice. Claudio replaces Juan Mattos, who in February ...
Commonwealther Elections Pres. Refuses to Recognize ...by Contributing Editor
The “Commonwealth” party president of Puerto Rico's Elections Commission this week acted to prevent insular voters from choosing what the territory's ultimate political status should be under a Federal law enacted in ...
Colonia or Colony? | Puerto Rico Report by hadeninteractive
One day, out of the blue she began a discussion about the political status of the island, an event completely out of the ordinary, for up to that moment, the political status of Puerto Rico had been presented to us, not discussed ...
EFE news agency reports that a small Puerto Rican group has launched a campaign to demand that the Caribbean island break all political links with the United States and annex itself once again to Spain to become an autonomous ... After decades of fruitless debates about how the political statusof this former Spanish colony should evolve or be altered, the option of rejoining Spain “has never really been on the table, but we're getting support”, said Nieves, thanks ...
Next Page of Stories
Loading...
Page 2
Such results have become a topic of political controversy (surprise, surprise, it's Puerto Rico), and as of 2014, the status question has since taken a back seat to other political and economic problems on the island. Last year ...
Virus Wipes Out New Hampshire Police Department's Computers
NBCNews.com Networking giant Cisco published a blog post about Cryptowall last week, a few days after federal agents arrested people connected to the similar "CryptoLocker" malware. Cybercrime costs businesses around $445 billion a year, according to a Monday ... and more » |
Pope Francis excommunicates mobsters by CNNInternational
 |
Pope Francis announced that members of the Mafia are excommunicated from the Catholic Church.
|
From: CNNInternational
Views: 0
0 ratings
|
| Time: 01:35 | More in News & Politics |
