Financial crisis in Puerto Rico: will PROMESA help?

New PROMESA program gives complete control over Puerto Rico to seven member board chosen by President Obama, not elected by the people.

The popular island of Borikén, more commonly known as La Isla del Encanto or Puerto Rico, has been suffering an economic crisis for the past 10 years.    On June 30, 2016, President Obama signed the Puerto Rico Oversight, Management and Economic Stability Act (PROMESA).  Facing a $72 billion debt that it cannot repay, PROMESA was Puerto Rico’s last hope at avoiding being sued by creditors seeking repayment.  This economic crisis has been developing longer than 10 years.  In fact, Congress has played a major role in creating this financial crisis that has been developing since Puerto Rico became a U.S. territory.

After the Spanish-American war, President McKinley signed the Foraker Act on April 12, 1900.  The law established a colonial regime, administered by the U.S. President and Congress, and designated the island an “unorganized territory.”  Meaning Puerto Ricans were not granted U.S. citizenship, but those who swore loyalty to the United States would receive its protection.  On March 2, 1917, President Wilson signed the Jones-Shafroth Act into law, giving  Puerto Ricans U.S. Citizenship.  It also exempted interest on Puerto Rican government bonds from federal, state, and local income taxation in the United States.  In other words, investors who purchase bonds from the Puerto Rican government do not have to pay any taxes on the interests their investments make, making Puerto Rican municipal bonds very attractive.  Three years later, the Merchant Marine Act of 1920 prevented foreign ships from transporting goods between the U.S. mainland and its territories.  These provisions are still in effect today and are greatly influencing Puerto Rico’s perilous state.  Puerto Rico remains in limbo and as a result, it cannot help itself without asking Congress for permission.

Why is Puerto Rico in so much debt?

Why is Puerto Rico in so much debt?  Both the U.S. and the Puerto Rican Governments are to blame.  For years, Puerto Rico spent more money than it took in from taxes. American states are required to draft balanced budgets every year.  However, taking advantage of the island’s limbo status, Puerto Rican leaders never did.   Over time, Puerto Rico began to issue debt via bonds to fund many activities, including day-to-day operations, such as, education, policing, health care, et cetera.   In order to cover up their yearly deficits, Puerto Rico sold bonds to hundreds of private creditors.  This practice skyrocketed in the past decade, when the total debt went from $43.5 billion in 2006 to over $70 billion by 2014 (The island also has over $40 billion in unfunded pension liabilities).

Ten years ago, Congress took action.  While Puerto Rico used to be a tax haven for some big businesses, in the mid-1990s Congress began rolling back the special tax exemptions for businesses operating there.  The tax breaks phased out and fully ended in 2006.   Puerto Rico’s economy sunk after this, and has yet to recover.  Many private sector jobs were lost and tax revenues dropped.  The economy has shrunk almost every year since.  On top of that, the Merchant Marine Act of 1920 continues to increase prices on the island and make goods produced in Puerto Rico less competitive than those coming from cheaper Caribbean nations sending goods on their own ships.  This caused Puerto Rico to suffer a population loss that is steeper and more financially disastrous than in any U.S. state since the end of World War II.

Puerto Rico’s population slide is the worst since the Census Bureau began its first tally in 1920.

Puerto Rico has lost more than 9% of its population in the past decade causing its overall population to fall under 3.5 million.  So far this decade, the net migration from Puerto Rico to the U.S. is 250,000.  The island’s labor force shrank by 20% in the past ten years, compared to a 5% growth by the U.S. in the same time period.  Puerto Rico’s population slide is the worst since the Census Bureau began its first tally in 1920.  It is one of the worst in world history, even compared to war-torn countries, the closest being Albania from 1997-2007 which suffered a 7.1% population loss.  The population of Puerto Rican children under the age of five has declined 37% since 2000.  About one in five residents are at least 60, a higher percentage than any U.S. state.  This loss has created a form of “brain drain” from Puerto Rico, especially in the medical field.  The island’s public health-care system is critically underfunded.  Puerto Rico receives less in federal funds than it would as a state, even though doctors must provide the same level of care.  Residents also pay the same Medicare tax as mainland residents.  “You pay the same tax, but you receive less,” says Puerto Rico’s Governor Alejandro García Padilla.  “If you move to Florida, you will pay the same and receive more. What would you do?”

Banks stopped lending to Puerto Rico’s Health Insurance Administration two years ago.

Puerto Rico’s healthcare funding problems are expected to worsen next year when federal grants that shored up the Medicaid program run out.  Puerto Rico will have to come up with more than $1.6 billion or scale back services.  Banks stopped lending to Puerto Rico’s Health Insurance Administration two years ago.  It also has lost access to loans from Puerto Rico’s Government Development Bank, which defaulted in May, 2016, on bond payments.  Many doctors are coming to the U.S. because of the huge gap in pay. For example, pediatricians who earn as little as $27 for a patient visit in Puerto Rico can earn $200 on the mainland.  The lack of medical professionals is a growing concern because of the zika epidemic that Puerto Rico is currently experiencing.

Another major drawback for Puerto Rico is that it is denied access to the same bankruptcy laws that states use.  Chapter 9 of the bankruptcy code was created after the Great Depression to allow cities, towns, and other municipalities to address severe debt problems under a workout process overseen by the courts.  Puerto Rico used to have Chapter 9 bankruptcy rights, but the island lost them in the 1980s when Congress revised this part of the bankruptcy code.   On June 13, 2016, in Puerto Rico v. Franklin CA Tax-Free Trust, the Supreme Court ruled that Puerto Rico cannot adopt its own legislation to restructure its crushing debt because of the same 1980s federal bankruptcy provision that bars the commonwealth from using Chapter 9 of the bankruptcy law.

The act claims to tackle Puerto Rico’s debt…

On June 30, 2016, the day before Puerto Rico was set to default on $1 billion worth of loans, President Obama signed the PROMESA.  The Act aims to tackle Puerto Rico’s debt through the following:

  • It creates a fiscal control board comprised of seven members.  Only one of which is required to own a business or property in Puerto Rico.  The representative from Puerto Rico cannot be a government official.  The President will choose the other six from a list provided by Democrats and Republicans.  The board will be not accountable to the island government and will have control over Puerto Rico’s budget, laws, financial plans, and regulations.
  • The control board has the power to force the island government to balance its budget and force a restructuring with bondholders (about $65 billion of the island debt is in bonds) and other creditors if an agreement is not reached.
  • It allows for the federal minimum wage to be lowered to $4.25 an hour for island workers 24 and under.  Additionally, the U.S. Labor Department’s new rule on overtime pay for salaried workers would not apply to Puerto Rico.

This plan is only intended to be a short-term solution and will expire in 2017.   Congress hopes that by then, Puerto Rico will have restructured its loans.  Unfortunately, Puerto Rico is not receiving any actual funding to help its recovery.  Congress has made it clear that they will not bail them out.   Republicans especially, some who are receiving substantial donations from Puerto Rico’s creditors, have said even providing them with a bankruptcy option would be a bail out.  Puerto Rico cannot apply to the International Monetary Fund (IMF) because of its territory status.  In order to reach a long-term solution the United States must decide whether they will allow Puerto Rico to become a state or give them their independence.  It must support the 3.5 million U.S. Citizens there, rather than continue to treat them like a colony.  The real problem is Puerto Rico’s economy.  As long as resolving that issue is not a priority, restructuring debt will just be a waste of time.

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About Josue Jimenez, Managing Editor Emeritus (18 Articles)
Josue Jimenez is a 2017 graduate of Campbell Law School and served as the Managing Editor for the Campbell Law Observer during the 2016-2017 academic year. He is a Los Angeles, California native, but has lived in Charlotte, NC, since November, 2003. In 2013, Josue graduated from the University of North Carolina at Chapel Hill with degrees in Global Studies (Concentration in Politics, region Latin America) and Religious Studies (Focus on Early Christianity). From August, 2013- July, 2014, Josue worked as a legal assistant at an immigration law firm in Grand Rapids, MI. During the summer of 2015, he interned at Fayad Law, PC, where he worked on immigration and criminal defense cases. In the summer of 2016, Josue interned at the Charlotte Immigration Court where he prepared draft decisions for Immigration Judges on immigration matters including cancellation of removal and asylum applications. As well as, consulted with Immigration Judges and Judicial Law Clerks regarding pending decisions. During his final semester at Campbell Law Josue interned in the Legislative Analysis Division of the NC General Assembly. There, Josue assisted attorneys in the Division with numerous projects that dealt with constituent requests to pending legislation. These projects also covered a wide range of legal issues, ranging from multi-state surveys related to health and human services, agriculture, immigration, and aviation, to research on current state and federal law related to employment, local governments, veterans, immigration, and criminal law. Josue also served as the Vice-President of the Student Bar Association and a Peer Mentor during the 2016-2017 academic year.
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