Puerto Rico continues to face a fiscal crisis of unprecedented proportion. The island of only 3.5 million people carries a massive debt load of $72 billion and $44 billion of unfunded pension liabilities. With dwindling tax revenues and a credit rating deep into junk territory, the Commonwealth cannot access the capital markets to obtain funding necessary to maintain municipal services and public works. Even the governor has suggested that default is all but inevitable, a scenario that would wreak havoc on Puerto Rican's economy and the lives of its citizens.
The Obama administration has proposed a plan for Congress to address the crisis. Its key features include: 1) amending the U.S. Bankruptcy Code to allow Puerto Rico and its public authorities to file for bankruptcy; 2) installation of a Federal Oversight Board; 3) removing the cap on the Commonwealth's Medicaid program; and 4) providing Puerto Rico residents access to the Earned Income Tax program. Congressional action is necessary. However, the plan falls far short of enhancing Puerto Rico's ability to jump-start its economy. And authorizing bankruptcy for the Commonwealth is not a solution.
A comprehensive strategy is needed to create jobs and mitigate population loss that have punished the island's economy in recent years. That requires a focus on key industries such as tourism, manufacturing, pharmaceuticals, petrochemicals, electronics or textiles, which have the potential to reverse the downward spiral undermining growth. It will have to utilize the public sector in a strategic manner to support such industries and to build out the infrastructure of the Commonwealth. Economic growth should focus on businesses committed to a long-term presence in Puerto Rico.
However, even the most ambitious turnaround plan will not succeed without changes in certain U.S. laws that disadvantage the Commonwealth compared with Caribbean nations. A primary example is the Jones Act, requiring imports to be shipped on U.S. vessels, thereby significantly increasing the cost of shipping goods to Puerto Rico. Also critically needed are measures to extend provisions of the tax code that expressly benefit Puerto Rico, and creation of tax incentives to promote economic development. None of these changes in law constitute a bailout.
As proposed by the administration, Congress needs to appoint a Financial Control Board to guide Puerto Rico through the crisis. While the Commonwealth's executive branch supports a law allowing the Governor to take that step, such a Board would not have the credibility and power to ensure implementation of plans and budgets unless it comes through an Act of Congress. Only Congress can create an effective board with powers beyond the reach of local politics and self-interest.
The Financial Control Board should be given extraordinary powers, including the discretion to establish a process with creditors allowing for the impairment of debt if agreed to by a supermajority in principal amount of holders of debt instruments in each bond issue proposed for impairment. Such a law offers the possibility of a consensual resolution between the Commonwealth and debt holders. It would set a context for the Commonwealth to take necessary actions to reach a binding agreement with creditor groups. It is the best alternative for bypassing years of costly and contentious legislation, in or outside of a bankruptcy.
A Financial Control Board would also need to address the public pension crisis in the Commonwealth. In three-to-seven years, Puerto Rico's public pension fund system will likely be insolvent. The government will then have to fund growing pension payments on a "pay as you go basis." Such payments are not viable. Something must be done to address this trendline or it is unlikely that a long-term fiscal plan will be feasible. Pensioners deserve the pensions promised to them and the government needs to achieve fiscal stability.
Lastly, the Financial Control Board should be charged with working with the Commonwealth to develop and implement a comprehensive economic growth plan along the line described above. Federal and Commonwealth policy should work together to support the plan to maximize the opportunity for successful implementation.
Without these steps taken by the U.S. government, Puerto Rico will be singularly focused on imposing budget cuts and impairing debt, while attempts at instituting economic growth and government accountability will be severely limited. Such a one-sided approach will lead to a further weakening of the Commonwealth's economy amidst years of litigation and power plays among creditors.
There is a humanitarian crisis brewing in Puerto Rico driven by widespread poverty, extreme unemployment and growing shortages in healthcare. The U.S. government has an interest and responsibility to assist in resolving the crisis. Congress should act in a bipartisan manner to provide critical support to Puerto Rico, which is very much a part of the American fabric.
This article is commentary by an independent contributor. At the time of publication, the author held no positions in the stocks mentioned.
Note: David L. Dubrow, a partner with law firm Arent Fox, focuses his practice on municipal bankruptcy and restructuring. He can be reached at email@example.com.