Puerto Rico...Uncle Sam's Next Bailout Victim?

♠ Posted by Emmanuel in , at 10/09/2013 02:29:00 PM
They could use more tourists right about now
 I don't wanna be your lover...I just wanna be your victim - Elvis Costello's "The Beat"

The post title may strike you as unusual: How can someone be a "bailout victim" when a bailout is some sort of "rescue" from financial calamity? Well, read on. Recently I have been on a tear classifying episodes of economic stagnation combined with depopulation as "Detroitification." Unbeknownst to many, the American protectorate of Puerto Rico is in a major financial bind a la Detroit with increasingly unpayable debt and a declining population:
Puerto Rico, with 3.7 million residents, has about $87 billion of debt, counting pensions, or $23,000 for every man woman and child. That compares with about $18 billion of debt for Detroit, with a little more than 700,000 people, or about $25,000 for every person in the city. Detroit and Puerto Rico have been rapidly losing population, leaving a smaller, and poorer, group behind to shoulder the burden.
Since the start of the year, bond prices have fallen 18.1% in a selloff as investors (suckers?) took fright. Fine then, you say--let Puerto Rico declare bankruptcy alike Stockton, Detroit, or any other Brokebank Yank town. Unfortunately for Puerto Rico, it's not that easy. As a protectorate, its status is unlike that of a municipality but rather a nation-state. In other words, it cannot "work out" its issues with creditors since, well, there's no international bankruptcy court out there. Nor can it go to the IMF since it's not a member. So tough:
Detroit, at least, was able to seek relief in bankruptcy court, but Puerto Rico is in a legal twilight zone. Territories, like states, have no ability to declare bankruptcy. Another territory, the Northern Mariana Islands, tried in 2012, but its case was rejected.  
Now, to the part about being a "bailout victim." The United States has been roiling the world economy at an increased rate with its myriad dysfunctions and financial chicanery since 2007. When all the (premature) talk about tapering introduced panic into global capital markets midyear, it was the United States' collateral damage that dealt Puerto Rico the knockout blow. As bond investors chased yield in a low-to-no yield environment, Puerto Rico abused its peculiar attractiveness to engage in high-risk borrowing. The worst symptom, as you would expect, is borrowing to pay off previous borrowing:
Until a few months ago, Puerto Rico was the belle of the bond markets. As a territory, it can sell bonds that pay tax-exempt interest in all 50 states, a rare and desirable trait. Puerto Rico’s bonds also pay higher interest than many others because its credit rating is relatively low — but not low enough to scare off investors. Some of its bonds were insured against default; others have special legal structures that make them seem bulletproof. The territory’s constitution explicitly states that general bond obligations have first call on all available resources.

Because Puerto Rico’s bonds have these unusual advantages, investors snapped them up year after year, even as the territory’s overall debt load started to snowball. In each of the last six years, Puerto Rico sold hundreds of millions of dollars of new bonds just to meet payments on its older, outstanding bonds — a red flag. It also sold $2.5 billion worth of bonds to raise cash for its troubled pension system — a risky practice — and it sold still more long-term bonds to cover its yearly budget deficits.
So Puerto Rico was pyramid scheming its debt. Let it pay the price, you say. Once more, it's not that easy. Last I checked, the US (federal) government was closed and could not reach agreement on anything dealing with fiscal matters. With Puerto Rico's credit rating set to be downgraded to junk status, things could get even worse. Uncle Sam is aware of the impending catastrophe, but can he get the legislators on board to execute a rescue? It's certainly an open question:
As a result, officials at the White House, Treasury Department and Federal Reserve have been meeting to discuss the matter and to assess the potential consequences for the overall municipal-bond market, people familiar with the discussions said [...]

A Treasury spokeswoman said: "Given the potential for Puerto Rico's financial challenges to impact U.S. markets, including the municipal market, Treasury continues to closely monitor developments." The Federal Reserve Bank of New York and Fed officials in Washington declined to comment. The New York Fed has regulatory jurisdiction over Puerto Rico. The White House advisory group is coordinating with other federal agencies "to make sure that federal resources are fully utilized for maximum impact for the people of Puerto Rico," one senior Obama administration official said.
In a manner of speaking it's partly the American's fault by worrying capital markets for no good reason whatsoever with vapid taper talk. However, a larger part is due to Puerto Rican financial mismanagement plain and simple. Sammy may have delivered the coup de grace, but PR leaders had already done the bulk of the damage to set it teetering. From where I come from, $87 billion is still a lot of money. Nevertheless, just as jurisidiction over working out the debt issues of an insolvent protectorate is uncertain, so is the culpability of the US government.

At any rate, here's another headache for the Brokebank Yanks when it least needs another one. That, dear friends, is the beat.