Ring the alarm bells over Puerto Rico

Reuters

The national flags of Puerto Rico and the U.S. wave in front of a building belonging to UBS bank, whose retail customers' portfolios are heavily invested in Puerto Rico bonds, in the Hato Rey Financial District in San Juan, February 27, 2014.

Article Highlights

  • It’s about time American officials criticized what’s happening in Puerto Rico, a U.S. territory since 1898.

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  • Puerto Rico’s economy is a shambles. In its eighth year of recession, its workforce has declined by one-third.

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  • If it were a state, PR, population 3.7 million, would rank behind only CA and NY as the 3rd most indebted.

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Puerto Rico’s government-owned electric power authority is facing a deadline Thursday to make $661 million in payments to Citibank and a consortium headed by Scotia Bank. The authority, Puerto Rico Electric Power Authority, which goes by the acronym PREPA, had its rating cut by Standard & Poor’s on July 31 to CCC, or eight steps below investment grade and “vulnerable to nonpayment.”

PREPA will probably be able to meet the payments through high-interest rollovers, but the last-minute scrambling is only the latest episode in a Puerto Rican debt crisis that has been largely ignored on the mainland.

The New York Federal Reserve Bank, whose jurisdiction includes Puerto Rico, warned recently that the island needs to face up to its financial challenges or face a “painful adjustment.”

It’s about time American officials criticized what’s happening in Puerto Rico, a U.S. territory since 1898. But the Fed’s warning isn’t tough enough nor its assessment of Puerto Rico’s woes scary enough. If action isn’t taken soon — either by the Obama administration or the Congress — U.S. taxpayers could end up holding the bag.

The day before the New York Fed issued its report,with the bland title, “An Update on the Competitiveness of Puerto Rico’s Economy,” I testified before the Western Hemisphere subcommittee of the House Foreign Affairs Committee. Unlike the Fed, I was blunt:

“Puerto Rico’s economy is a shambles. In its eighth year of recession, its workforce has declined by one-third. Meanwhile, the island has piled up debt of $73 billion. If it were a state, Puerto Rico, population 3.7 million, would rank behind only California and New York as the third most indebted.”

Rather than trying to reform a sick economy with a bloated public sector, the government of Gov. Alejandro García Padilla has decided to follow the lead of Argentina, which still hasn’t resolved its $100 billion default after 13 years. The Argentine model of responding to a debt crisis by intimidating creditors and stonewalling courts inspired Ecuador, which defaulted in 2008, and Belize, which threatened creditors with a restructuring offer even worse than Argentina’s.

On June 25, García Padilla signed a law called the Recovery Act that strips basic rights from creditors who own about one-third of the island’s bonds — including many small U.S. investors with money in mutual funds — while giving continued protection to other bondholders, many of them hedge funds.

But this ploy does not seem to be working. Rating agencies, wary of what Padilla might do next, quickly downgraded both types of bonds well below the threshold of junk status.

The New York Fed’s July 31 report is on the right track. It takes aim at high tax rates, the difficulty of starting a business, the inadequate education system, the lack of economic transparency, the poor performance of state-run corporations like the electric power company, and the lack of a balanced-budget requirement (in force in 49 states).

And rather than blandly describing it, the Fed should have condemned the Recovery Act, which picks winners and losers, and selectively repudiates creditors’ rights — and may be put into practice this week to defer payments on those PREPA debts. PREPA, which lost $267 million last year and owes $8.63 billion, uses fuel oil, incredibly enough, to generate 68 percent of the island’s electricity.

Most important, however, the Fed should have recognized the need for a financial control board, similar to the one that was established in the Clinton Administration and ran the affairs of the District of Columbia for six years. The board had authority over spending, borrowing, hiring, and contracts.

Puerto Rico is no longer a disaster waiting to happen. The disaster is happening. The New York Fed should be ringing the alarm bells, and Congress and the White House should be laying the groundwork for a control board.

Ambassador James K. Glassman, a visiting fellow at the American Enterprise Institute, was formerly U.S. Under Secretary of State for public diplomacy and public affairs. 

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About the Author

 

James K.
Glassman
  • James K. Glassman is a visiting fellow at the American Enterprise Institute (AEI), where he works on Internet and communications policy in the new AEI Center for Internet, Communications, and Technology Policy.

    A scholar, diplomat, and journalist, Glassman rejoins AEI after having served as under secretary of state for public diplomacy and public affairs, during which time he led America’s public diplomacy outreach and inaugurated the use of new Internet technology in these efforts, an approach he christened “public diplomacy 2.0.” He was also chairman of the Broadcasting Board of Governors, the independent federal agency that oversees all US government nonmilitary international broadcasting. Most recently, Glassman was instrumental in the creation of the George W. Bush Institute, where he remains the founding executive director.

    Before his government service, Glassman was a senior fellow at AEI, where he specialized in economics and technology and founded The American, AEI’s magazine, which he led as editor-in-chief until his departure from AEI in 2007.

    In addition to his government service, Glassman was a former president of The Atlantic, publisher of The New Republic, executive vice president of US News & World Report, and editor-in-chief and co-owner of Roll Call. As a columnist for The Washington Post, Glassman wrote about political and economic issues. He was also the host of CNN’s “Capital Gang Sunday” and of PBS’s “TechnoPolitics.” In 2000, he cofounded TCS, a technology and policy website. His most recent book is “The Secret Code of the Superior Investor” (Crown Forum).


    Glassman has a B.A. in government from Harvard College where he was a managing editor of The Crimson.


     

  • Email: [email protected]

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