Americans do not need to worry about the financial travails of Greece, we have our own debt crisis in Puerto Rico. Prices of the U.S. territory’s general obligations bonds that were issued in March of last year fell to 70 cents on the dollar after Democrat Governor Alejandro Garcia Padilla said investors should be “prepared to sacrifice” being paid back if they want the insolvent island’s economy to grow.
The code words for demanding investors take a “haircut” on Puerto Rico’s spectacularly large $73 billion in municipal debt caused bond prices, stated in one thousand dollar increments, to plunge from $773 on Friday to $703 on Sunday.
Although part of the United States, Puerto Rico is the poster-child for multiculturalism with both Spanish and English as the official languages. In 1991 the Puerto Rican Legislature issued a bill making Spanish the official language in school and government use. Fourteen years later, about 86% of the island does not speak English in the home.
Governor Padilla, who has difficulty speaking English, told Bloomberg News last year that Puerto Rico had a constitutional and moral obligation to not default on the island’s $73 billion of debt. But he then passed a law giving local court proceedings the power to cancel much all of the island’s bond debt.
Puerto Rico’s economy had been shrinking at a 6% annual pace and only 1.2 million, or 32%, of the island’s 3.7 million of the inhabitants are employed. Among Puerto Ricans working full time, surveys reveal that 96.6% say Spanish is their first language.
The Puerto Rican economy should be benefiting enormously from the fact that Commonwealth residents are exempt from paying U.S. federal income taxes, unless the income is earned outside of the island. But poor English language skills are the main impediment to relocating call centers and other U.S. service businesses to Puerto Rico.
The Puerto Rico Department of Education only requires that students receive 50 minutes of daily English instruction throughout their twelve years of schooling. The 2005-06 academic assessment data showed that 81% of the students in the Public School System had not developed the “basic” English language skills necessary to be able to use it in either oral or written discourse. Just 60% of the 25 and over population of Puerto Rico have graduated from high school compared to over 80% in the U.S.
Padilla’s plan to solve Puerto Rico’s debt crisis when he took office in January 2013 was enacting $1.3 billion of new taxes to fund “targeted spending to kick-start the economy.” At about 10% of the government’s general fund spending, the tax increase is the equivalent of President Obama raising taxes by $378 billion. The two largest U.S. federal tax increases in history were both less than $80 billion in one year.
With just two days left in Puerto Rico’s fiscal year and a $400 million debt service payment due July 1, the US territorial commonwealth is struggling to pass a balanced budget that is required by law. The territory’s House of Representatives and Senate passed differing $9.8 billion budget bills last week that both plan to cut spending by $600 million and spend $1.5 billion on debt service.
Governor Padilla in an interview with the New York Times said, “The debt is not payable,” and, “There is no other option.”
His comments preceded the Monday release of a debt report commissioned by the Padilla’s Administration. Written by a group of former International Monetary Fund officials, the report stated, “There is no U.S. precedent for anything of this scale and scope, and there is the added complication of extensive pledging of specific revenue streams to specific debts. But difficult or not, the projections are clear that the issue can no longer be avoided.”
Of their $73 billion of debt, $56 billion is in the form of municipal bonds and a quarter of that is held by mostly unsuspecting retail investors in their tax-free mutual funds. On a per capita basis, that debt burden works out to $14,000 per resident; 10 times the average of the 50 states and higher than every state except California and New York.
In addition to debt, Puerto Rico also has a public employee pension plan that is only 11.2% funded. The current $30 billion in unfunded pension liabilities would add another $6,000 in per capita liability to each Puerto Rican resident.