How Congress Can Help Puerto Rico
Gov. Alejandro García Padilla of Puerto Rico has offered a comprehensive proposal for reversing the territory’s downward spiral. Unlike prior proposals, which focused solely on restructuring Puerto Rico’s debt or cutting its spending, the new plan recognizes the urgent need for both. It could actually work, but only with a major assist from Congress.
Although the Puerto Rico Fiscal and Economic Growth Plan released last week outlines a wide range of proposals, its essence lies in two key features: Puerto Rico would establish a financial control board with broad budgetary authority, and it would restructure much of its $71.1 billion debt burden.
The governor’s recommendation of a financial control board suggests sincerity about reform. The proposal would give the board authority to approve a five-year plan and to implement “structural” reforms.
Central governments have imposed such boards in the past. In the 1990s, when Washington faced a deep fiscal crisis, Congress created a control board to oversee the city’s finances. The policies of the board’s chief financial officer, Anthony A. Williams, were sufficiently popular that he was subsequently elected mayor. Reforms initiated by the financial control boards that Albany imposed on New York City in the 1970s are widely credited with improving transparency and stability in the city’s budgetary process. The mayor of Detroit has embraced many of the reforms introduced by the state-appointed emergency financial manager for the city.
But sincerity requires that any control board have serious teeth. Mr. Williams essentially assumed the fiscal authority of Washington’s mayor. The boards overseeing New York City had the authority to withhold funds from the city to ensure compliance with the budget, and required a wage freeze for transport workers, tuition at the previously free City University of New York, and modifications of the city’s financial plan. The Washington board was authorized to withhold funds if revenues or expenditures deviated from the budget. In Detroit, the emergency manager replaced the mayor and City Council.
Such broad authority has raised claims that these boards are anti-democratic. But the absence of electoral accountability allows appointed boards to fashion budgets free from the political deal-making that often generates fiscal distress. And the power of these boards to dilute or displace the authority of elected officials counters the temptation by those officials to overspend and then seek relief from the state or Congress.
The credibility and viability of any financial control board will depend on granting it the power to impose seemingly harsh policies. Anti-democratic claims ring hollow in the face of Puerto Rico’s current predicament, which has led to sharp cutbacks in services that hardly reflect the desires of a majority of Puerto Rico’s citizens.
Fiscal reform alone isn’t enough, since a $14 billion financing gap will remain through 2020, according to the new plan’s estimates, even if all the reforms are implemented. The simplest way for Puerto Rico to achieve its other key objective, reducing the payments on its debt, would be for its public electricity provider, Prepa, and other troubled service corporations to restructure their debt in municipal bankruptcy, as Detroit did.
Every state is permitted to authorize its municipalities to file for bankruptcy. But Puerto Rico lacks that power, thanks to a 1984 amendment to the bankruptcy laws that — accidentally or arbitrarily — defined Puerto Rico as a state for every purpose except filing for Chapter 9, which governs municipal bankruptcy.
Congress could vastly improve the island’s prospects for recovery by extending Chapter 9 to Puerto Rico, as its congressional delegate, Pedro Pierluisi, proposed in a bill this year.
If Congress fails to at least give the island’s municipalities access to municipal bankruptcy, the odds that the island will fix its financial problems through unilateral restructuring alone are remote.
The solution lies in the power of bankruptcy law, which requires that all bondholders for each class of bonds must accept a restructuring approved by a majority of bondholders who hold two-thirds of the total value of the bonds. The problem for Puerto Rico is that, without access to bankruptcy, holdout creditors cannot be forced to accept the terms of a restructuring.
Some of Puerto Rico’s bonds are held by hedge funds, many of which believe restructuring can be avoided, and some of the bonds are promised first claim on the island’s revenues by Puerto Rico’s Constitution. Even if restructuring did succeed, holdouts who rejected the restructuring could continue to insist on full payment, as holdouts from the 2005 Argentina restructuring have done.
The best hope for reversing Puerto Rico’s crisis and solidifying the commonwealth’s increasingly fluid tax base is to provide Puerto Rico’s municipal entities access to bankruptcy and to make sure that any control board has the authority it needs.
Clayton P. Gillette is a law professor at New York University and David A. Skeel Jr. is a law professor at the University of Pennsylvania.
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A version of this op-ed appears in print on September 14, 2015, on page A23 of the New York edition with the headline: How Congress Can Help Puerto Rico. Today's Paper|Subscribe
How Congress Can Help Puerto Rico
Although the Puerto Rico Fiscal and Economic Growth Plan released last week outlines a wide range of proposals, its essence lies in two key features: Puerto Rico would establish a financial control board with broad budgetary authority, and it would restructure much of its $71.1 billion debt burden.
The governor’s recommendation of a financial control board suggests sincerity about reform. The proposal would give the board authority to approve a five-year plan and to implement “structural” reforms.
Central governments have imposed such boards in the past. In the 1990s, when Washington faced a deep fiscal crisis, Congress created a control board to oversee the city’s finances. The policies of the board’s chief financial officer, Anthony A. Williams, were sufficiently popular that he was subsequently elected mayor. Reforms initiated by the financial control boards that Albany imposed on New York City in the 1970s are widely credited with improving transparency and stability in the city’s budgetary process. The mayor of Detroit has embraced many of the reforms introduced by the state-appointed emergency financial manager for the city.
But sincerity requires that any control board have serious teeth. Mr. Williams essentially assumed the fiscal authority of Washington’s mayor. The boards overseeing New York City had the authority to withhold funds from the city to ensure compliance with the budget, and required a wage freeze for transport workers, tuition at the previously free City University of New York, and modifications of the city’s financial plan. The Washington board was authorized to withhold funds if revenues or expenditures deviated from the budget. In Detroit, the emergency manager replaced the mayor and City Council.
Such broad authority has raised claims that these boards are anti-democratic. But the absence of electoral accountability allows appointed boards to fashion budgets free from the political deal-making that often generates fiscal distress. And the power of these boards to dilute or displace the authority of elected officials counters the temptation by those officials to overspend and then seek relief from the state or Congress.
The credibility and viability of any financial control board will depend on granting it the power to impose seemingly harsh policies. Anti-democratic claims ring hollow in the face of Puerto Rico’s current predicament, which has led to sharp cutbacks in services that hardly reflect the desires of a majority of Puerto Rico’s citizens.
Fiscal reform alone isn’t enough, since a $14 billion financing gap will remain through 2020, according to the new plan’s estimates, even if all the reforms are implemented. The simplest way for Puerto Rico to achieve its other key objective, reducing the payments on its debt, would be for its public electricity provider, Prepa, and other troubled service corporations to restructure their debt in municipal bankruptcy, as Detroit did.
Every state is permitted to authorize its municipalities to file for bankruptcy. But Puerto Rico lacks that power, thanks to a 1984 amendment to the bankruptcy laws that — accidentally or arbitrarily — defined Puerto Rico as a state for every purpose except filing for Chapter 9, which governs municipal bankruptcy.
Congress could vastly improve the island’s prospects for recovery by extending Chapter 9 to Puerto Rico, as its congressional delegate, Pedro Pierluisi, proposed in a bill this year.
If Congress fails to at least give the island’s municipalities access to municipal bankruptcy, the odds that the island will fix its financial problems through unilateral restructuring alone are remote.
The solution lies in the power of bankruptcy law, which requires that all bondholders for each class of bonds must accept a restructuring approved by a majority of bondholders who hold two-thirds of the total value of the bonds. The problem for Puerto Rico is that, without access to bankruptcy, holdout creditors cannot be forced to accept the terms of a restructuring.
Some of Puerto Rico’s bonds are held by hedge funds, many of which believe restructuring can be avoided, and some of the bonds are promised first claim on the island’s revenues by Puerto Rico’s Constitution. Even if restructuring did succeed, holdouts who rejected the restructuring could continue to insist on full payment, as holdouts from the 2005 Argentina restructuring have done.
The best hope for reversing Puerto Rico’s crisis and solidifying the commonwealth’s increasingly fluid tax base is to provide Puerto Rico’s municipal entities access to bankruptcy and to make sure that any control board has the authority it needs.
Clayton P. Gillette is a law professor at New York University and David A. Skeel Jr. is a law professor at the University of Pennsylvania.
Follow The New York Times Opinion section on Facebook and Twitter, and sign up for the Opinion Today newsletter.
A version of this op-ed appears in print on September 14, 2015, on page A23 of the New York edition with the headline: How Congress Can Help Puerto Rico. Today's Paper|Subscribe
How Congress Can Help Puerto Rico
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