What Puerto Rico has not realized yet…

<<en español>>

Ever since the much anticipated downgrade of Puerto Rico’s debt was announced, I have noticed that all of the sudden there has been an avalanche of discussions prompted by the downgrade announcements.  Recently, all of the topics below have been discussed:

  1. Opinions on what will be the effect of the downgrade on the government’s finances and on the economy in general (including myself since march of 2013 <in spanish only>)
  2. Who is to blame (as if that would help resolve the problem)
  3. Ideas on how to increase revenues and reduce expenses (and for every idea proposed there is one or more persons or groups opposed to having their “kingdom” touched)
  4. The importance of maintaining the so-called “liquidity” of the Government Development Bank  of PR (which is non other than avoiding the situation where the government bank runs out of cash so that the check it issues do not bounce)
  5. Who is to blame (yet again…)

What I have not seen discussed in any detail is the scariest reality, the one that ALL OF US should be focusing our efforts on in order to resolve it, that which I will explain next.

What is the current situation?

The government has issued (in other words, must eventually pay off) over $72 billion in debt (without taking into consideration the underfunded pension liability of several government employee pension plans – money which the plans need to receive in order to assure that they oil be capable to cover their future pension payout obligations, even with the latest legislative changes to these plans).  A portion  of this debt is structured in a way so the government does not have to pay absolutely anything for a long period of time, accumulating interest, and at the end of the term, the government has to pay the totality of what it borrowed plus the accumulated interest.  Another portion of the debt is structured in such a way so that the government pays a fixed interest for  long period of time, and at the end, it has to pay the totality of what it borrowed originally.

What happened over time?

When the “maturity date” arrives (the day when the government has to pay the whole amount owed in a lump sum), it finds itself with the situation that it does not have the cash in hand to make the full payment.  Then, what do you think the government has done throughout many years to be able to make those lump sum payments?  Well, the same thing that many Puerto Ricans have done when faced with the need to pay off a big debt but do not have enough cash to do so:  take out a new loan, pay what was owed on the old one, and while they’re at it, ask for more money to continue spending more than what they can spend.

 

 

Puerto Rico's Public Debt, in millions

Puerto Rico’s Public Debt, in millions

To what point have we gotten so far?

Our credit has been downgraded to junk status.  Therefore, when we go out and try to take out a new loan to do the same we have been doing up to this point, there is a higher probability that one of the following situations will occur:

  1. The interest rate that will be offered to us may be very high (over 10%)
  2. The interest rate may be so high (over  12%) that the constitution itself will prohibit the government from borrowing under those conditions
  3. That there may not be sufficient interest in lending money to us because the investors are simply not willing to lend us more money (probably due to the situation described in #2).

If #1 occurs, then we will have to separate even more money from our budget to pay for the increased interest payments. But if #2 or #3 occur, this is when we will face one of the problems that is not being discussed:  the government will literally not have the necessary funds in their bank account to meet its obligation to repay what it promised to repay.  If this situation happens, our credit will be downgraded even further (there are at least 5 more steps that we can go down in credit rating) and the negative effects on our economy will be much greater.

But even this is not what should worry us the most.  What we should be most worried about is that we depend totally on continuing to borrow more only to refinance old debt.  There is ABSOLUTELY NO WAY to eventually lower our debt if we don’t start repaying what we borrowed before.  Therefore, until we start separating money from our budget for the repayment of principal, the problem will only get worse.

How big is the problem?

Using simple math, assuming we owe $72 billion with different maturity dates each year for the next 30 years, this means that we will have to repay, on average, $2.4 BILLION EVERY YEAR.  This represents almost 25% of the annual government budget.  In other words, even after enacting all the necessary cuts in order to stop spending more than what we take in, we will have to lower expenditures by an additional 25% (an additional $2.4 billion).  In my humble opinion, this will simply not be possible.  This would result in massive layoffs and/or cuts in working time of government employees, massive cuts in government assistance programs, with nefarious effects on our economy.

What is the solution?

I believe that the government will have no other option than to renegotiate the existing debt with the bondholders, be it to extend the repayment terms, reduce the interest rate, and even negotiate the forbearance of part of the debt.  The government does have some leverage (if we could call it that) in these negotiations since the alternative would be so horrendous for the economy that it would endanger its capacity to meet its obligations.  On the other hand, since the government cannot declare bankruptcy, the bondholders could demand in a court that they be paid with government properties.  But reality is that that value of that equity would also go down significantly in case that happens, so that would be a lose-lose option for both parties.

The sad reality is that any of these three options will result in investors losing faith in lending money to Puerto Rico since what was originally agreed now will not be possible to do, and therefore, it will become much harder to convince investors to lend money to us again until we demonstrate that we have righted the ship and that they should trust us again.

What can we do?

What’s important is that we do not hide this reality and that we face it as a people, instead of what is happening today.  Let’s discuss this openly.  Let’s start right now.  Offer your ideas and comments here.  How do you believe we should face this challenge?  Let’s not leave it to the government.  The most important thing is, instead of complaining about what’s going on, what we have to do is to focus our efforts in doing our part correctly.

Stop complaining about your country, simply do YOUR part well, because YOU are your country and everything starts AT HOME.

Stop complaining about your country, simply do YOUR part well, because YOU are your country and everything starts AT HOME.

Comments

  1. For the period of 8 years – two full administrations – then re-evaluate:

    Some of these ideas are undesirable, others are harsh – retribution is never popular or easy:

    Address the under ground (cash) economy.
    Place VAT (12% max) on all goods and services imported
    Enforce the laws of Puerto Rico with adherence to fines.
    Place a heavy penalty on tax evasion (work farms for violators) not jail time as this is a cost!
    Return to basics of agriculture and home industries –
    Income tax and property tax
    Unemployment and Welfare benefactors must be drug and alcohol free
    Unemployment and Welfare benefactors need to perform public service for their keep
    Unpaid Internships (3 months-480 hours) required from all Pell Grant recipients for each year the student collected on a Pell Grant..

    Bring PRIDE back into a job well done
    Acknowledge success and DO NOT Publicize details of crimes for “Copy Cat” violators to act upon.
    Bring education back to the simple “3 R’s” Reading, Writing and Arithmetic.

    Tax ALL income on all churches and charities and non-profits collected funds over 10% (TITHING) used in “administration” of the said organization.

    Place and additional Tax on all “Perks” of officials/employees (Private and Public) that are provided off the island of Puerto Rico..

  2. Privatize and sell selected public assets. Use proceeds to pay debt.

    • “Since the government cannot declare bankruptcy, the bondholders could demand in a court that they be paid with government properties. But reality is that that value of that equity would also go down significantly in case that happens, so that would be a lose-lose option for both parties.” ~ Omar Pereira

      Once the public assests are gone, they will never be regained – Let us rethink your idea.

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