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Puerto Rico’s Debt Clock Runs Out of Time

Tuesday June 30th, 2015   •   Posted by Craig Eyermann at 6:15am PDT   •  

34596971_S Back in December 2013, we featured a chart that showed how much debt per resident that Puerto Rico had accumulated. It also showed that Puerto Rico was second only to Detroit, Michigan, which had back then recently declared bankruptcy. Here is what we said at the time:

Considering Puerto Rico’s situation, in the absence of a much larger federal government bailout that doesn’t appear likely at present, the territorial government could soon be forced to default on its public debt, since filing for bankruptcy is not an option available to it.

Puerto Rico is well down the debt death spiral path, as it has significantly hiked tax rates in attempting to increase its revenue to service its debt payments, which have negatively impacted the territory’s economy. The economic situation of the territory is such that more Puerto Ricans now live elsewhere in the United States than are currently living in Puerto Rico, as its residents have increasingly fled the deteriorating economic conditions within the territory.

One year and eight months later, the time has almost fully run out for Puerto Rico to pull out of its debt death spiral. Bloomberg reports:

Prices on Puerto Rico’s newest general obligations sank to record lows after Governor Alejandro Garcia Padilla said investors should be prepared to sacrifice if they want the cash-strapped island’s economy to grow….

The governor is talking about restructuring general obligations, a change from his earlier stance to protect Puerto Rico’s direct debt, said Gary Pollack, who manages $6 billion of munis as head of fixed-income trading at Deutsche Bank AG’s Private Wealth Management unit in New York. In May, the governor said in his annual speech to the legislature that defaulting on the commonwealth’s bonds would be a mistake. He called it “folly” at the time….

With two days left in Puerto Rico’s fiscal year, the commonwealth is struggling to pass a budget that would allow it to make payments on a $72 billion debt load. Investors should work with the commonwealth to reduce its obligations, Garcia Padilla told the Times.

“The debt is not payable,” the governor said. “There is no other option.”

And speaking of Detroit’s bankruptcy, according to Reuters, a familiar face with experience in dealing with government bankruptcies has reemerged.

Puerto Rico is “insolvent” and will soon run out of cash, according to a newly appointed adviser to the commonwealth who was the judge who oversaw the historic bankruptcy of Detroit.

The U.S. territory’s future hinges on gaining eligibility for debt restructuring under the U.S. bankruptcy code, a process it does not currently have access to, said Steven Rhodes, who retired as a U.S. Bankruptcy Court judge earlier this year and has been retained by Puerto Rico to help solve its problems. He stressed that bankruptcy would not be a “bailout”.

Puerto Rico “urgently needs our help,” Rhodes said on Monday at a meeting where a dire fiscal report on the island by former economists of the International Monetary Fund was presented to the government. “It can no longer pay its debts, it will soon run out of cash to operate, its residents and businesses will suffer,” he said.

So what has Puerto Rico, under the leadership of Governor Alejandro Garcia Padilla, been doing about its fiscal problems during the past 14 months?

If you guessed “borrowing to sustain levels of spending it cannot afford while also hiking taxes to levels that cannot sustain economic growth,” you’re right, as confirmed by the Washington Post‘s reporting:

For now, the debt problems have done damage mainly in Puerto Rico, where it substantially raised loan costs for a government that has come to rely heavily on borrowing to fund its daily operations.

“You cannot pay daily expenses with your credit card, and that’s what Puerto Rico has been doing for years,” said Deepak Lamba-Nieves, research director of the Center for a New Economy, a San Juan think tank. “We borrowed just to keep the lights on.”…

Since taking office, he has tried to do both. Under pressure from the Wall Street rating agencies, his administration has enacted reforms far more dramatic than those made by cash-strapped states on the mainland.

He enacted $1.3 billion in taxes including increased corporate taxes, a broadened sales tax and a new gross receipts levy. The percentage increase in taxes is far larger than what the federal government has ever imposed, according to Richard Larkin, senior vice president of H.J. Sims, an investment firm.

“To say that Puerto Rico’s tax increase for 2014 was monumental is an understatement,” Larkin wrote.

At $72 billion, the U.S. commonwealth’s debt-to-GDP ratio is 70% — just slightly less than the publicly held portion of the U.S. national debt-to-GDP ratio of 74%. And that doesn’t include some $37 billion worth of guaranteed pension benefits that it owes to Puerto Rico’s government employees, liabilities which would boost its total debt load up to 106% of the island territory’s GDP, which compares to the U.S. total public-debt-outstanding-to-GDP ratio of 103%.

With those debt-to-income ratios, if Puerto Rico could declare bankruptcy, it would tomorrow. Its debt clock has run out of time.

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June 2015