Contributor Post Created with Sketch. Puerto Rico Says Its Debt Is “Not Payable.” Is America’s?

 

Via Bloomberg:

Prices on Puerto Rico’s newest general obligations sank to record lows after Governor Alejandro Garcia Padilla said investors should be prepared to sacrifice if they want the cash-strapped island’s economy to grow. … With two days left in Puerto Rico’s fiscal year, the commonwealth is struggling to pass a budget that would allow it to make payments on a $72 billion debt load. Investors should work with the commonwealth to reduce its obligations, Garcia Padilla told the New York Times in an interview. …

“The debt is not payable,” the governor said. “There is no other option.” The U.S. territory of 3.5 million people is grappling with a jobless rate double the national average and a debt load bigger than every U.S. state except California and New York. The governor’s remarks land in a jittery global debt market, as investors weigh the possibility of a Greek default and exit from the euro zone.

To put the island’s fiscal situation into perspective, it has amassed debt that is nearly half that of California’s for a population that is less than one-tenth the size, as the WSJ’s Nick Timiraos notes.

Let that sink in.

Also, its debt equals about 72% of its GDP. Now that’s about the same as the US federal government. So why isn’t Washington having a debt problem, too? Well, the US (a) has an economy that is much stronger, (b) can borrow at very low interest rates, (c) prints the currency its debt is denominated in. As for the first point, just look at this summary from Timiraos of Puerto Rico’s economy:

Puerto Rico’s problems date to the end of the Cold War, when the U.S. began closing military bases on the island, whose residents have American citizenship but don’t pay federal tax on their local income. The expiration of corporate tax breaks in 2006 prompted an exodus of pharmaceutical and other manufacturers, nudging the island into a deep recession. As the economy has worsened, migration to the U.S. mainland has accelerated, further shrinking the tax base. Puerto Rico’s population has fallen 4.7% since 2010 to 3.5 million, a period when the U.S. overall grew 3%. … The economy, meanwhile, faces big structural problems. Sprawling bureaucracy and high electricity costs stunt business investment. Tax evasion runs rampant. Unemployment is high, at 12%, and fewer than half of all civilians are in the labor force, compared with around 63% on the mainland. Economists say a bloated welfare state discourages work—the share of the working-age population on disability is nearly 50% higher than in the 50 states —while a minimum wage that is high relative to productivity and local income reduces job opportunities for young and low-skilled workers.

What a mess. So very similar to Greece. Deep supply-side structural problems, a currency straitjacket, brain drain. And a big helping of austerity on the way. One lesson for the US is that eventually the math stops working. And when that day comes, it won’t be a financial crisis as much as unpleasant choices in terms of raising taxes and cutting benefits. Reform sooner is better than reform later. And if you want to accelerate the day of reckoning, policies that stunt investment, work, and immigration will get you there ASAP.

There are 25 comments.

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  1. Dave Sussman Podcaster

    James,

    There has been a significant flight of US capital to PR. I know of a couple who moved from their high tax state and took advantage of PR’s capital protections along with their beautiful climate. With private high net worth communities popping up with money from CT, NY & CA, the level of investment seems to only be increasing.

    How will this debt crisis effect the local economy? Will there be a flight of capital from the island, devastating the recent appreciation in real estate?

    (For another discussion is the have/have-not split with the infusion these hedge fund managers and their capital.)

    • #1
    • June 29, 2015, at 12:27 PM PDT
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  2. Austin Murrey Inactive

    The difference is that, at the moment, no one is willing to call the U.S. on its debt problem.

    Creditors could pull down the U.S. government and economy but what happens then?

    • #2
    • June 29, 2015, at 12:37 PM PDT
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  3. Ross C Member
    Ross C Joined in the first year of Ricochet Ricochet Charter Member

    So…

    For PR the per capita debt is $21,428.

    For Greece the per capita debt is $311B euros/1.12/11 million = $25,243.

    For the US PCD is $18Trillion/310 million = $58,000.

    This does not look like they are that bad off.

    • #3
    • June 29, 2015, at 12:45 PM PDT
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  4. Ontheleftcoast Member

    Don’t worry, a consortium of Chinese nouveaux riches and nomenklatura will buy Puerto Rico. Or maybe ISIS; they have a bunch of cash.

    • #4
    • June 29, 2015, at 12:57 PM PDT
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  5. AIG Inactive
    AIG

    Austin Murrey:Creditors could pull down the U.S. government and economy but what happens then?

    Creditors get no money is what happens. So why would they do that?

    US cost of debt:

    43193d1244658610_russia_selling_bond_holdings_ju

    Puerto Rico cost of debt

    puerto-rico-municipal-bond-yield_chartbuilder

    Nothing to see here. US cost of debt is at record lows. Which is the market saying that it has no concerns about the US paying off it’s debt at all. In fact, it considers it about the safest investment in the world.

    • #5
    • June 29, 2015, at 1:15 PM PDT
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  6. Matthew Gilley Inactive

    So, what you’re telling us is (1) when you protest military exercises, the military may leave; (2) taxes influence behavior; and (3) entitlements create perverse incentives?

    Who knew?

    • #6
    • June 29, 2015, at 1:19 PM PDT
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  7. iWe Coolidge
    iWe Joined in the first year of Ricochet Ricochet Charter Member

    AIG:Nothing to see here. US cost of debt is at record lows. Which is the market saying that it has no concerns about the US paying off it’s debt at all. In fact, it considers it about the safest investment in the world.

    Which just goes to show why the efficient market hypothesis has been disproved time and again.

    Catastrophic economic events are obvious in hindsight: the market usually does not predict them in advance. If we could predict the future, we would not have to work for a living.

    • #7
    • June 29, 2015, at 1:22 PM PDT
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  8. AIG Inactive
    AIG

    iWe:

    Which just goes to show why the efficient market hypothesis has been disproved time and again.

    Catastrophic economic events are obvious in hindsight: the market usually does not predict them in advance. If we could predict the future, we would not have to work for a living.

    If only that’s what the efficient market hypotheses actually said ;)

    • #8
    • June 29, 2015, at 1:37 PM PDT
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  9. Jordan Inactive

    Austin Murrey:The difference is that, at the moment, no one is willing to call the U.S. on its debt problem.

    Creditors could pull down the U.S. government and economy but what happens then?

    Yeah, we get away with it, because everything is valued in dollars. So long as there’s no alternative to USD which is highly unlikely, the debt is both payable, and not payable simultaneously.

    It’s like Schrödinger’s Debt. If you don’t think about it, it might be payable, but the second you think about it (Language @ 2:00, Spoilers for HBO Silicon Valley), you effectively make the debt un-payable. As long as no creditor actually wants their money (which they know that by demanding they would not get), the debt is repayable.

    • #9
    • June 29, 2015, at 2:03 PM PDT
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  10. iWe Coolidge
    iWe Joined in the first year of Ricochet Ricochet Charter Member

    AIG:

    iWe:

    Which just goes to show why the efficient market hypothesis has been disproved time and again.

    Catastrophic economic events are obvious in hindsight: the market usually does not predict them in advance. If we could predict the future, we would not have to work for a living.

    If only that’s what the efficient market hypotheses actually said ;)

    It is in the same ballpark.

    The EMH deals with stock market prediction:

    it is impossible to “beat the market” because stock market efficiency causes existing share prices to always incorporate and reflect all relevant information.”

    You are relying on the market to indicate the risk in US debt. So an “efficient bond market” as opposed to an efficient stock market. Same principle.

    • #10
    • June 29, 2015, at 2:24 PM PDT
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  11. Brian Clendinen Member
    Brian Clendinen Joined in the first year of Ricochet Ricochet Charter Member

    Chicago city corruption looks like a little boy playing at corruption compared to Puerto Ricos. Of course electrical prices are going to be insanely high when you have a state run electrical company monopoly  that lets pretty much every single large organization get away with not paying for electricity from resorts to government agencies. It is pretty hard to get more regressive than that in a normally first world nation.  

    • #11
    • June 29, 2015, at 2:26 PM PDT
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  12. J Climacus Member

    AIG:

    Puerto Rico cost of debt

    puerto-rico-municipal-bond-yield_chartbuilder

    Nothing to see here. US cost of debt is at record lows. Which is the market saying that it has no concerns about the US paying off it’s debt at all. In fact, it considers it about the safest investment in the world.

    Your chart shows just the opposite. PR’s cost of debt went from perfectly manageable to nonpayable in a flash. Does that mean that PR’s actual ability to pay its debts went from perfectly payable to nonpayable in a flash? No, it just means the market discovered the truth about PR’s finances in a flash. The market has not yet discovered ours, for a variety of reasons. When it does, watch out.

    • #12
    • June 29, 2015, at 3:16 PM PDT
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  13. AIG Inactive
    AIG

    iWe:

    You are relying on the market to indicate the risk in US debt. So an “efficient bond market” as opposed to an efficient stock market. Same principle.

    1) It doesn’t say what you said in your prior post, however.

    2) It’s a theory about the speed and efficiency of processing information. Not about future prediction.

    3) It implies that the best information at the moment is the one the market has reached.

    4) The yield is the definition of risk.

    Jordan Wiegand: It’s like Schrödinger’s Debt. If you don’t think about it, it might be payable, but the second you think about it (Language @ 2:00, Spoilers for HBO Silicon Valley), you effectively make the debt un-payable. As long as no creditor actually wants their money (which they know that by demanding they would not get), the debt is repayable.

    The debt is repaid all the time. Buy a US government bond, and see if any money comes your way.

    • #13
    • June 29, 2015, at 3:18 PM PDT
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  14. AIG Inactive
    AIG

    J Climacus:

    Your chart shows just the opposite. PR’s cost of debt went from perfectly manageable to nonpayable in a flash. Does that mean that PR’s actual ability to pay its debts went from perfectly payable to nonpayable in a flash? No, it just means the market discovered the truth about PR’s finances in a flash. The market has not yet discovered ours, for a variety of reasons. When it does, watch out.

    4-5% isn’t “perfectly manageable” when it comes to government debt. Second, it spiked when a law was passed in PR which worried investors.

    Ahh, the market hasn’t “discovered” the truth that every “conservative” knows! ;) Stupid markets.

    • #14
    • June 29, 2015, at 3:21 PM PDT
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  15. iWe Coolidge
    iWe Joined in the first year of Ricochet Ricochet Charter Member

    AIG: Ahh, the market hasn’t “discovered” the truth that every “conservative” knows! ;) Stupid markets.

    I beat the market. Many investors do. Indeed, I pay my bills by betting that the general market is wrong.

    • #15
    • June 29, 2015, at 3:30 PM PDT
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  16. J Climacus Member

    4-5% is about the historical average, or even a bit low, for interest on debt. When the Fed talks about normalizing rates, this is where they mean we are eventually headed. I’m glad we agree that our debt would not be manageable under the historic norm for interest rates. I suspect the Fed knows it too, which is why it is blowing smoke about ever normalizing rates.

    As far as laws go, I guess its a good thing our Congress never passes any laws that worry investors.

    • #16
    • June 29, 2015, at 3:30 PM PDT
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  17. Jordan Inactive

    iWe:

    AIG: Ahh, the market hasn’t “discovered” the truth that every “conservative” knows! ;) Stupid markets.

    I beat the market. Many investors do. Indeed, I pay my bills by betting that the general market is wrong.

    I find the contrarian strategy to be the most rewarding as well. I have a job, but I’m able to put aside some money for investment purposes. Maybe in 5-10 years I can have enough of an investment income to not have to work though.

    Contrarian strategy has done quite well for me over the past 4 years. I only wish I had started in 2008 right after the crash. I’d have made a killing by now.

    • #17
    • June 29, 2015, at 3:48 PM PDT
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  18. AIG Inactive
    AIG

    iWe:

    I beat the market. Many investors do. Indeed, I pay my bills by betting that the general market is wrong.

    Which isn’t what the efficient market hypothesis says you can’t do.

    You should really try googling it.

    J Climacus: 4-5% is about the historical average, or even a bit low, for interest on debt. When the Fed talks about normalizing rates, this is where they mean we are eventually headed.

    Let me rephrase it again: 4-5% is hardly manageable for a place like PR.

    Also, you’re supposed to borrow more when the cost is cheap. You’d be stupid not to. The price right now is as cheap as it’s ever been. Hence, what the market is saying: give us more debt please!

    • #18
    • June 29, 2015, at 3:52 PM PDT
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  19. iWe Coolidge
    iWe Joined in the first year of Ricochet Ricochet Charter Member

    AIG, you presume lack of knowledge on my part which is unwarranted. But I cannot enlighten you without exposing my cover.

    Perhaps it would be better to simply acknowledge that, since we have never agreed on anything, our definitions will always vary.

    • #19
    • June 29, 2015, at 4:53 PM PDT
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  20. Kozak Member
    Kozak Joined in the first year of Ricochet Ricochet Charter Member

    J Climacus: Your chart shows just the opposite. PR’s cost of debt went from perfectly manageable to nonpayable in a flash. Does that mean that PR’s actual ability to pay its debts went from perfectly payable to nonpayable in a flash? No, it just means the market discovered the truth about PR’s finances in a flash. The market has not yet discovered ours, for a variety of reasons. When it does, watch out.

    If the Fed hadn’t stepped in and bought all that US debt, what would our borrowing costs have been? Even small increases in interest rates to what used to known as “normal” will destroy the Federal budget.

    • #20
    • June 29, 2015, at 11:25 PM PDT
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  21. Kozak Member
    Kozak Joined in the first year of Ricochet Ricochet Charter Member

    PR has been a wholly owned subsidiary of the Democratic Party for decades. It takes their special brand of corruption and ignorance to cause something like this.

    20150629_PR1

    • #21
    • June 29, 2015, at 11:30 PM PDT
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  22. Kermit Hoffpauir Inactive

    I’ve neither the time nor have resources to perform the research, but it seems to me that PR’s problems are of its own post-WWII making. The electric utility is a government owned entity as well as the once plethora of sugar mills.

    In 1982 a nice refining/petrochemical complex was closed all because the first domino fell due the electric utility raising rates on industrial consumers. That first domino was PPG’s olefins cracker at Penuelas (just west of Ponce) when the rate increase made it uneconomic to continue operation, in short order, Union Carbide’s largest complex, a few other smaller petrochemical companies, and the CORCO refinery all became uneconomic to operate and closed.

    Then there were was the government owned sugar mills, all but maybe one are closed now, and have been for some years. Considering that PR has the climate for 2 harvest seasons per year, this industry should be more lucrative than the single harvest season available to producers on the mainland.

    While researching the labor and repair facility market in 2010, to handle the dismantlement, refurbishment and shipping of a recently shuttered refinery there, I found that PR has amble machine shop capacity and expertise as well as a highly skilled and very productive labor force enough to rival any region in the mainland U.S..

    • #22
    • June 30, 2015, at 7:00 AM PDT
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  23. Big Green Inactive

    AIG:

    4-5% isn’t “perfectly manageable” when it comes to government debt. Second, it spiked when a law was passed in PR which worried investors.

    Meaningless blather in regards to “perfectly manageable”. Its true because you say so? Amazing that you engage in the very tactics you criticize others for.

    So you are suggesting that it only spiked because there was a law passed that worried investors and that in the absence of that law, everything would be just fine? You couldn’t be more wrong.

    You remind me of Paul Krugman…when markets tell the story you want its “what me worry” but go full bore when they don’t. The U.S. equity and bond markets thought everything was find in 2006 and halfway through 2007 too…that changed in a hurry.

    • #23
    • June 30, 2015, at 10:04 AM PDT
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  24. SParker Member

    J Climacus:

    AIG:

    Puerto Rico cost of debt

    puerto-rico-municipal-bond-yield_chartbuilder

    Nothing to see here. US cost of debt is at record lows. Which is the market saying that it has no concerns about the US paying off it’s debt at all. In fact, it considers it about the safest investment in the world.

    Your chart shows just the opposite. PR’s cost of debt went from perfectly manageable to nonpayable in a flash. Does that mean that PR’s actual ability to pay its debts went from perfectly payable to nonpayable in a flash? No, it just means the market discovered the truth about PR’s finances in a flash. The market has not yet discovered ours, for a variety of reasons. When it does, watch out.

    The chart shows neither thing. It doesn’t tell you the debt’s term. Which maturity Puerto Rico municipal bond? A change in rates (at all terms) doesn’t change the rates on the previously issued debt for the issuer. If most of your debt is longer term at lower rates you probably don’t have an immediate problem. Unless you have a really gigantic current year deficit to fund.

    The common-sense thing to do if you’re a government, need to borrow, and rates in general are very low is to borrow as much as you can at the longest rate. Sadly, as I understand it, the US Treasury has spent the last several years borrowing at 30-day rates, not 30-year.

    • #24
    • June 30, 2015, at 12:45 PM PDT
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  25. AIG Inactive
    AIG

    Big Green:

    Meaningless blather in regards to “perfectly manageable”. Its true because you say so? Amazing that you engage in the very tactics you criticize others for.

    So you are suggesting that it only spiked because there was a law passed that worried investors and that in the absence of that law, everything would be just fine? You couldn’t be more wrong.

    Amazingly, that is precisely the opposite of what I said :)

    SParker: The chart shows neither thing. It doesn’t tell you the debt’s term. Which maturity Puerto Rico municipal bond? A change in rates (at all terms) doesn’t change the rates on the previously issued debt for the issuer. If most of your debt is longer term at lower rates you probably don’t have an immediate problem. Unless you have a really gigantic current year deficit to fund.

    Right, absolutely. I only posted that as a chart indicating the “cost of debt”, by which of course it is implied it is the cost of…new…debt. Not old debt. I.e. its the markets saying “we ain’t lending you anymore”

    • #25
    • June 30, 2015, at 1:54 PM PDT
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