Puerto Rico’s status as a U.S. territory creates unique challenges, some of which must be confronted to resolve its debt crisis. The good news is that policymakers do not have to reinvent the wheel to solve Puerto Rico’s current crisis—in fact, the Obama administration’s plan to deal with Puerto Rico is straightforward because it consists of steps previously taken in cities and states across the United States.
When many Americans think of Puerto Rico, they think of the beach resorts that are advertised on the mainland as the heart of the island’s local economy. In fact, Puerto Rico has a manufacturing-heavy economy that has been heavily depressed for nearly 10 years, in part as an unintended consequence of a change in federal tax policy. The Obama administration’s plan should be lauded for not falling into the austerity trap that has cost Europe a lost decade and instead recognizing that policies that promote economic growth are a key pillar to solving this crisis. To be sure, the plan asks a lot of Puerto Rico, but it also shows that United States has learned the lessons of the Great Recession.
The most important and straightforward aspect of the plan is the use of the existing U.S. legal infrastructure to restructure Puerto Rico’s outstanding debt. After a decline of the local economy and outmigration, Puerto Rico faces a debt crisis similar to the ones many American municipalities have already addressed. Because Puerto Rico’s $72 billion debt involves 18 separate debt issuers and more than 20 creditor committees, it is difficult to imagine an orderly process for negotiating these claims fortuitously falling from the sky. Chapter 9 of the U.S. bankruptcy code provides a sensible, tested legal framework to navigate this kind of restructuring, but because Puerto Rico is a territory, an act of Congress is needed. Bankruptcy reorganization is not a bailout—the federal government would not assume Puerto Rico’s debt—it is just a quicker, more orderly way to resolve the crisis.
Clearly, steps must be taken to prevent future debt crises, and the Obama administration’s plan provides helpful mechanisms to ensure this does not occur again. There is a fiscal oversight board to increase transparency and reassure investors of fiscal discipline. Importantly, the plan avoids some of the mistakes made when the federal government assumed the District of Columbia’s debt and appointed a fiscal oversight board without local accountability. The proposal also identifies reforms to align technology and budgeting practices within Puerto Rican agencies to make their finances more efficient and transparent.
Importantly, the proposal also addresses the federal government’s underfunding of Medicaid in Puerto Rico, a key source of fiscal stress going backward and forward. Relieving some of the Medicaid burden would provide Puerto Rico more breathing room to make high-return investments in public infrastructure that would improve competitiveness.
The most far-sighted portion of the administration’s proposal recognizes that stronger incentives for work are crucial for the future fiscal health of Puerto Rico. Puerto Rico has a staggeringly low labor force participation rate—roughly 40 percent compared with more than 60 percent in the rest of the United States. Levels this low do not happen because people are not working but because they are working in the informal cash economy, where low productivity and low pay are the norm and tax compliance is rare. This also helps explain why roughly 45 percent of Puerto Ricans live in poverty.
Tax policies such as the Earned Income Tax Credit and Child Tax Credit have a proven track record of raising incomes, reducing poverty rates, and putting people to work on the U.S. mainland, but they do not currently apply to Puerto Rico. Extending these programs to Americans living in Puerto Rico, an issue the Government Accountability Office has already studied, would not only address these problems but would also provide more incentives for work in the formal sector, where worker protections and tax collection are easier to enforce.
Reigniting growth in Puerto Rico is crucial to raising incomes and ending the depression that has driven hundreds of thousands of Puerto Ricans to the mainland. Getting past the current debt crisis is the first and most important step, yet it should not be hard. The Obama administration’s plan spells out that the United States already has the legal and economic tools to handle this crisis and spark economic growth. All that is needed is for Congress to pass legislation that ensures Puerto Rico has access to the tools that the nation has already developed.
Michael Madowitz is an Economist at the Center for American Progress. His expertise includes macroeconomics, public finance, and environmental economics.