A half-baked plan for Puerto Rico
House Republicans should be applauded for recognizing that Puerto Rico needs to restructure its $72 billion debt mountain. They should also be complimented for insisting that an undisciplined Puerto Rican government needs to have a control board imposed upon it, especially if it is unable to balance its budget on its own. However, it is to be regretted that the congressional plan being advanced for the island contains nothing that might help put an end to Puerto Rico’s 10-year economic slump. Without economic growth, the proposed plan would at best be a short-term fix to prevent the island from experiencing a full-blown economic crisis in the run-up to this year’s U.S. presidential election.
{mosads}The Puerto Rican plan, being drafted by Republicans on the House Natural Resources Committee, in consultation with Democrats in Congress and the Treasury Department, has two basic components. The first sets guidelines for restructuring some portion of Puerto Rico’s $72 billion of debt, “where necessary.” The second would be to closely tie that restructuring process to an oversight board for the island that would insist of budget discipline.
The debt restructuring component of the plan would effectively cover all debt-issuing groups in Puerto Rico and stretch to the island’s most senior debts. While Puerto Rico would not be granted standing to seek debt relief in bankruptcy court in a way that U.S. municipalities might under Chapter 9, it would get some of the legal tools found in bankruptcy proceedings as long as it first jumped through a number of hoops.
As an example of those legal tools under the proposed plan, creditors’ demands for immediate debt repayment would be halted for 18 months, much as creditor lawsuits are automatically stayed in bankruptcy cases. Such a stay would preempt a possible economically damaging legal battle in the courts with creditors if Puerto Rico were to default on its more significant debt obligations due in May and July. In addition, under certain circumstances, Puerto Rico would also have the authority to impose losses on unwilling creditors, an extraordinary power that is normally available only in bankruptcy proceedings.
The second important component of the proposed plan would be the establishment of a five-person oversight board for the island. That board would have the authority to set a balanced budget for the island if the Puerto Rican legislature and governor failed to do so. Potentially, the board might require cuts to basic public services to bring the island’s public spending into line with its tax revenues. The oversight board’s duties would also include keeping Puerto Rico from abusing its power to restructure its debt.
While the proposed plan must be viewed as a welcome step forward in the sense that it at least postpones an economically damaging legal battle between the island and its creditors that would otherwise all too likely would have ensued, it contains nothing that might put an end to the island’s 10-year economic slump. Indeed, it would seem that by insisting that the island balance its budget in the absence of countervailing measures that might promote economic growth, the plan would in all likelihood deepen the island’s economic slump.
The basic point that the plan’s drafters seem to be overlooking is that, very much like Greece, Puerto Rico is stuck in a monetary union and does not have a currency of its own. As such, it does not have the ability to use either monetary policy or exchange rate depreciation as an offset to the blow to aggregate demand that would result from the large degree of fiscal policy tightening that would be involved in the attempt by the island to balance its budget.
Greece’s recent, very sad experience attempting large-scale budget tightening in a monetary union should be a cautionary tale for Puerto Rico on how counterproductive such policies can be in attempting to restore public debt sustainability. By deepening the economic slump, not only would aggressive fiscal policy tightening tend to depress tax revenue collection; it would also tend to raise the island’s already high debt to gross national product (GNP) ratio by compressing GNP.
If Congress really wants to help restore the Puerto Rican economy to health beyond simply avoiding a full-blown economic and financial crisis before the presidential elections, it needs to go very much further than it is now proposing. Beyond measures to help it restructure its debt and beyond imposing upon the island a control board, Congress needs to ask itself what it might do to make the island more competitive. Among other things, it might consider modifying the island’s prohibitively high minimum wage and reducing the island’s transport costs through amending the Jones Act.
Lachman is a resident fellow at the American Enterprise Institute. He was formerly a deputy director in the International Monetary Fund’s Policy Development and Review Department and the chief emerging market economic strategist at Salomon Smith Barney.