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Puerto Rico's Debt Crisis: How It Happened And Why A $1 Billion Default Is Coming Friday

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Puerto Rico's Debt Crisis: How It Happened And Why A $1 Billion Default Is Coming Friday
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On July 1, 2016, Puerto Rico will default on more than $1 billion in general obligation bonds, the island's senior credits protected by a constitutional lien on revenues. -Puerto Rico Governor Alejandro García-Padilla.

On Wednesday, García-Padilla wrote an article for CNBC explaining why the commonwealth he governs will default again on Friday. “Puerto Rico does not have the ability to repay the $70 billion debt that was generated by past administrations and their creditors. The debt must be restructured fairly and equitably to both the people of Puerto Rico and the bondholders,” the note explained.

How Puerto Rico Got In So Deep

Puerto Rico’s financial crisis began years ago when its government started issuing debt seeking to cover its public spending deficit — a very common practice in emerging economies. The catch here was that the municipal bonds and other debt titles were tax-exempt (some say, triple tax-exempt) for U.S. investors and paid higher yields than most other munis. So, the bonds became very popular and easy to place.

However, as corporate tax breaks on the island expired in 2006, a lot of business fled, leaving a large portion of Puerto Rico’s population jobless and its government dealing with more than it could handle. This led it to issue even more debt.

Related Link: Puerto Rico Being Sued By Hedge Funds For Dodging Payments

However, unlike other American cities and states, the island was not allowed to file for bankruptcy, and therefore, could not get a court order to restructure its debt. In addition, the commonwealth was not allowed to borrow from the IMF, as it was not a sovereign nation either.

To make a long story short, the island was in trouble, as it had spent even more than it had borrowed, and, thus, could not return the money, neither could it easily restructure its obligations.

What Now?

On Wednesday, Puerto Rico’s governor said the island would go into default, yet again, stressing the need for a long-term restructuring plan that’s fair and equitable “to both the people of Puerto Rico and the bondholders.” And, a restructuring could finally come…or so it seems.

Earlier on Wednesday, Bloomberg reported a bill that would allow the commonwealth to access some of the bankruptcy protections other U.S. states enjoy seemed close to passing — and could be approved as early as Thursday, as it had already passed the threshold it needed in the Senate. Moreover, the White House has stated that the president will sign the measure, if accepted by the Congress. Of course, a break would come with certain obligations, like spending cuts and external oversight.

Related Link: Puerto Rico's Default Hurts Local Investors The Most

While García-Padilla expressed his discomfort with the oversight Congress wants to impose, arguing it would undermine the democratic Independence of the Commonwealth, he accepted it as the best choice available. Moreover, he said, whatever the Congress decides, Puerto Rico will still default on Friday.

“The emergency measures we have taken are unsustainable, harm our economy, reduce revenues and diminish our capacity to repay our debts. Puerto Rico cannot endure any more austerity,” he elaborated.

“We are facing a government less capable of providing the services which the public needs,” the governor added, making allusion to the cuts in education and healthcare that the so-called vulture funds (some hedge funds that own the debt and claim they “should be paid before essential services”) are asking for.

“As governor, I will use my remaining time in office to benefit from the tools provided by PROMESA and develop a fiscal plan that is faithful to the best interests of the people of Puerto Rico,” he concluded.

Check out Broadway star Lin-Manuel Miranda asking bondholders and the U.S. Government to help relieve Puerto Rico’s situation…with a rap!

 

 

Disclosure: Javier Hasse holds no interest in any of the securities or entities mentioned above.

Posted-In: CNBC News Bonds Emerging Markets Emerging Market ETFs Politics Events Global Best of Benzinga

 

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