By Aisha Ali
Earlier last week, Puerto Rico’s Governor Alejandro Garcia Padilla announced that his government would be unable to make the $400 million debt payment due on Monday. This comes after the Puerto Rican Senate and House of Representatives passed an emergency declaration in April meant to allow the governor to suspend payments on the country’s $72 billion debt. Since then, U.S. Speaker of the House Paul Ryan has been trying to get a bill passed in Congress that would help Puerto Rico restructure its finances before July 1, when the country is slated to pay $2 billion to its creditors.
Puerto Rico’s path to incurring $72 billion in debt spans over 40 years. A change to U.S. tax code Section 936 in the 1970s allowed U.S. companies to operate in American territories without paying corporate income tax. Coupled with Puerto Rico’s own tax code essentially eliminating corporate tax income liability, the U.S. territory became incredibly attractive for American companies. In the years following, Puerto Rico developed a fairly large manufacturing sector, primarily focusing in pharmaceutical production. Investments by American corporations after the passage of Section 936 contributed to Puerto Rico’s positive GDP growth rate between 1976 and 2006, when Section 936 was officially phased out of the tax code. The repeal of Section 936 is, in large part, the reason why Puerto Rico is in such deep debt; when American corporations could no longer receive enormous tax breaks for their operations on the island, they left. As Puerto Rico’s debt grew from constituting 60% of its GNP to 100% of GNP, another group of investors started looking toward Puerto Rico as a way to make money. Hedge fund managers bought up Puerto Rican municipal bonds, an attractive investment due to their triple-tax exempt status, which then allowed the government to pay for public services while continuing to incur debt.
Despite worsening conditions, some believed Puerto Rico would find a way to repay its debt. Municipal bonds have always been marketed as a relatively safe bet for investors because the bonds are backed by the credit of the city, state, or territory’s government. But over the last few years, particularly with bankrupt cities like Stockton and Detroit, investors have started to realize that there are no guarantees with municipal bonds. Luckily for investors, though not for Puerto Rico, the territory is not included in Chapter 9 of the U.S. Bankruptcy Code, which means, unlike Stockton and Detroit, Puerto Rico cannot restructure its debt by filing for bankruptcy. This exclusion comes from an amendment made to an unrelated congressional bill in 1984, which removed both Puerto Rico and the District of Columbia from being able to file for Chapter 9 bankruptcy.
Unfortunately, the debt crisis has already had drastic consequences for the island since Mr. Garcia Padilla announced in June 2015 that the “debt is not payable.” Over the last year, the government has already shut down nearly 100 schools and cut other public services as well in an attempt to save money. This week, the country’s Executive Director of the Medical Services Administration (ASEM), a division of the Department of Health, said that in response to mounting debt, ASEM would reduce the number of beds in their emergency rooms and trauma hospitals. Even without reducing bed space, the island might not be able to take care of its sick as more doctors are leaving for mainland U.S. This all comes at a time when Puerto Rico has seen a sharp increase in the number of Zika virus cases with 70,000 people currently infected and a possible 700,000 total cases by the end of 2016, according to the Center for Disease Control (CDC). Puerto Rican economists project that the spread of the virus will affect more than just healthcare costs by also reducing worker productivity by $31 per day.
So what can be done to remedy the situation? H.R. 4900, the bill introduced by Representative Sean Duffy (R-WI), failed to pass in time for Puerto Rico’s May 1 payment, but attempts are being made to reintroduce and pass the bill before July. The bill would include criteria necessary for Puerto Rico to restructure its debt, including the ability to modify all $72 billion of its debt while also allowing a ‘stay’ on any lawsuits from creditors regarding payments. However, the bill would also create a control board for the country, similar to one imposed by President Bill Clinton during District of Columbia’s financial crisis in 1995, essentially removing the island’s autonomy for the first time since 1948. Additionally, only one out of the five members of this potential control board would need to be a Puerto Rican resident even though all five would have complete approval over the territory’s budget and laws.
Sadly, Mr. Duffy’s bill is the best-case scenario. Creditors who are still owed money have started lobbying against the bill and measures meant to help Puerto Rico restructure and repay its debt. The Center for Individual Freedom, a “dark money” group with unknown donors, released an advertisement on April 22 targeting lawmakers in favor of H.R. 4900 by calling the bill a “bailout” on the backs of American taxpayers. Despite the inaccurate distillation of HR 4900, if the advertisement works, Puerto Rico will have to find other ways to appease creditors before July 1.
Image By Alexander Rabb