Congress is expected to begin consideration of federal legislation to grant Puerto Rico extraordinary powers to escape a looming debt crisis. The island territory, home to just 3 million people, is faced with a massive $70 billion debt burden.
During negotiations of the omnibus budget deal at the end of 2015, House Republican Speaker Paul Ryan promised House Democrat Leader Nancy Pelosi that Congress would consider legislation to grant the Island with bankruptcy protection from its debts. The tentative deadline to begin action was March 31.
The House Natural Resources Committee is drafting a rescue package for Puerto Rico. Hearings on the measure will begin this week. The House conservative Republican Study Committee blasted an early draft of the Puerto Rico legislation, calling it a “bankruptcy-style involuntary restructuring.”
“The discussion draft legislation regarding Puerto Rico’s fiscal situation includes provisions that essentially provide for a federally forced restructuring the island’s debt,” Rep. Bill Flores, Chair of the RSC, said in a statement. “This approach is inconsistent with the Republican Study Committee’s position on this issue.”
The island and its supporters in Congress are seeking legislation to grant the territory access to federal bankruptcy courts to unload some of its debt. Currently, Puerto Rico is prohibited from seeking debt relief through bankruptcy.
In February, the RSC took a position against granting Puerto Rico access to bankruptcy courts. “Changing the rules mid-game would be unfair to Puerto Rico’s creditors who entered into these arrangements with agreed upon terms and would delegitimize future transactions,” the RSC position said. “Instead, Congress should consider pro-growth reforms that will spur economic development and investment in Puerto Rico.”
Puerto Rico has many advantages that ought to make the island a beacon for economic growth. Its residents are U.S. citizens, but are not subject to federal income taxes. Unfortunately, the island has been subject to many Congressional-mandated requirements and regulations. It has a bloated public sector and government spending has been exploding.
A government-commissioned economic study found that the island’s fiscal policies were at the heart of the territories problems.
Since 1996, there has been virtually no economic growth in Puerto Rico. At first, people thought there was a recession, but it was not. It has been two decades of stagnation with falling population and no measurable increase in real per capita incomes.
Attempts to “offset the recession” with expansionary fiscal policy financed by borrowing have been made for the past two decades. Since Puerto Rican bonds were triple tax exempt, the Commonwealth was able to borrow at favorable terms for a long period of time.
But fiscal expansion failed to renew growth, and debt mounted. Solving Puerto Rico’s problems through fiscal expansion has not worked, and will not work.
Congressional action to grant Puerto Rico access to federal bankruptcy court, a bailout in everything but name, will likely preclude the island from taking the fiscal and economic reform steps it needs to foster economic growth. Even the prospect of Congressional action is freezing needed reform on the island.
Last week, the island’s Governor, Alejandro Padilla, signed into law emergency legislation that lets him unilaterally suspend the territory’s debt repayments. The island is due to pay bondholders $422 million on May 1. The emergency law lets the governor stop that payment, no doubt in anticipation of Congressional action.
The Republican draft legislation to rescue Puerto Rico would shield the island from lawsuits filed by creditors for missed debt repayments. The prospect of civil immunity being granted by Congress no doubt spurred Puerto Rico to take the extraordinary step. The suspended payments would jeopardize many U.S. institutional investors, including pension funds.
Granting Puerto Rico bankruptcy protection after it has run up a massive debt creates moral hazard in the financial markets. Creditors extended loans to the territory on very favorable terms precisely because it could escape obligations through bankruptcy. Granting Puerto Rico special favors likely would drive up the costs of other U.S. units of government — states, counties and cities, for example — seeking debt financing in the markets.
The root cause of Puerto Rico’s debt crisis is an economy overburdened with regulation and an expansive public sector. In addition to high levels of government employment, the island also boast a rich welfare system. Welfare benefits in Puerto Rico actually exceed the median family income on the island.
At the very least, if Congress considers any legislation to assist Puerto Rico, it must be combined with sweeping reforms of the island’s economy and public sector. Granting the island a temporary reprieve from its debts without fundamental reform simply lays the seeds for a future crisis.
Legislation to bailout Puerto Rico isn’t likely to generate many headlines in the midst of the Presidential primary contest, but it does provide a serious test for Speaker Ryan’s leadership. Ryan is engaged in an almost national campaign to be the face of the Republican party. Some pundits have even suggested Speaker Ryan as a possible consensus candidate for the Republican nomination.
The populist movements behind the candidacies of Donald Trump and Bernie Sanders are fueled, in part, by public disgust with Washington-orchestrated bailouts or legislation granting special favors to protected interests. Granting an election-year bailout of Puerto Rico, no matter what Congress calls this special legislation, is precisely the kind of legislation that drives voter anger.
If Ryan entertains any ambitions to be a national voice for the Republican party, a Congressional bailout of Puerto Rico would be an inauspicious start to that effort.