Puerto Rico is staring down a deadline on July 1st when some of its $72.3 billion in public debt will come due. There’s the $630 million payment on general obligation bonds, and the Puerto Rico Electric Power Authority owes money on its $9 billion debt.
“They’re reaching the Rubicon now and have to decide how to proceed,” says Peter Hakim, president emeritus of the Inter-American Dialogue. “Debts are coming due. They don’t have the money in the bank to pay them.” In an interview with the New York Times, Puerto Rico’s Gov. Alejandro García Padilla openly admitted the island is not able to pay its debt.
Moody’s Investors Service has rated Puerto Rico’s debt at CAA2, one of the lowest ratings the agency can give. On a 21 level scale, CAA2 is third from the bottom and considered “junk” status.
“It indicates a high risk of default and significant expected losses for bond holders,” says Ted Hampton, vice president and senior credit officer at Moody’s.
Moody’s downgraded Puerto Rico’s debt a month ago, driven by disclosures the commonwealth had made about its declining cash reserves and the potential to run out of cash this summer if it couldn’t sell more debt.
“The House of Representatives passed a measure that would suspend the practice of setting aside the money they need to pay future bond service,” Hampton says. “That’s an indicator of severe distress and lack of liquidity, even if that law is not enacted.”
Charles Blitzer, principal at Blitzer Consulting and a former International Monetary Fund official, sees some potential for a turnaround. “I’ve seen many distressed sovereigns suffering from fiscal crises in my career, and I would say this is the most stress for least fundamental reasons,” he says. “This can be solved without too much effort.”
The government raised the sales tax in May from 7 percent to 11.5 percent, though that won’t help with the July 1st deadline as revenues won’t come in until late in July.
While most investors have abandoned the territory, Puerto Rico is negotiating right now with hedge funds for loans to keep its budget afloat.
Some proposals involve raising electricity bills, and one lawmaker has warned of massive furloughs of government workers. This has left Puerto Ricans swimming in uncertainty.
Christina Sumaza is an entrepreneur who moved back to the territory to pursue business interests and fight the exodus of talent from the island. “I try to look at the positive side of things and be solutions oriented, but a lot of people are very, very frustrated and scared even. Can the government sustain itself economically for the next few months? You know, what’s going to happen?”
Puerto Rico’s troubles have several origins. In 2006, a U.S. tax break that incentivized manufacturers to produce in the territory expired.
“At one time about half of all pharmaceuticals used in the U.S. were manufactured in Puerto Rico,” Hakim says. “When Washington decided to phase out that tax-free situation, by the end of it the companies were leaving Puerto Rico, and unemployment jumped very high very quickly.”
Hakim says government leaders in Puerto Rico have not been held accountable for economic management because so much economic power and support derives from Washington.
The territory borrowed to finance current expenditures, and combined with the recession’s toll, Puerto Rico found itself having difficulty repaying those debts.
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