Puerto Rico Indicates September May Be Start of Defaults

Puerto Rico has indicated that September may be the start of the commonwealth government's monetary defaults.

The disclosure came in a financial report that concluded that an exchange of notes may be needed in September to maintain liquidity at the Government Development Bank of Puerto Rico.

"Internal GDB liquidity projections as of the date of this supplement suggest that, assuming no capital market transaction is completed and that the commonwealth repays its appropriation lines of credit as budgeted, GDB would still be unable to comply with its legal reserve requirement by late in the first quarter of fiscal year 2016," the June 30 report said.

The GDB is required to hold liquid assets of at least 20% of its demand deposits, or about $500 million at this time.

"This liquidity projection does not take into consideration the implementation of other potential liquidity enhancing or conservation measures, requiring the transfer to GDB of public deposits at private financial institutions, implementing liability management transactions with respect to GDB's outstanding notes and bonds and/or imposing other restrictions on liquidity outflows."

A GDB spokesman explained that "implementing liability management transactions with respect to GDB's outstanding notes and bonds," refers to the "exchange of notes and other options."

The spokesman declined to say whether the possible exchange would be voluntary or not. With Puerto Rico running low on cash and the governor saying the commonwealth's debt needs to be restructured, it remains to be seen if the ratings agencies or other observers would see any exchange as voluntary.

In mid-June El Vocero news website reported that GDB leaders were meeting with investors about possible exchanges of up to $4 billion of GDB notes.

The GDB may manage to pull in enough public deposits, restrict liquidity outflows, or find some other approach to avoid the note exchanges in September.

A year ago Puerto Rico's government introduced a public corporation bankruptcy law to protect its general obligation, Puerto Rico Sales Tax Finance Corp. (COFINA), and GDB debt, said Bank of America Merrill Lynch head of municipal bond research Phil Fischer. Now, it seems the commonwealth plans to restructure all of this starting in September, he said.

The government doesn't have a bankruptcy process to work with now, said Gustavo Vélez, chairman of Inteligencia Econ-mico, a Puerto Rico-based economic consulting firm. Puerto Rico has to depend on the goodwill of lenders, he said.

Puerto Rico's first step should be on getting the federal government to give it Chapter 9 bankruptcy, Vélez said. While the territory may ultimately need more help than that, "If you try to get everything, you won't get anything," Vélez said.

In the financial report, Puerto Rico projected the fiscal year 2015, which ended at midnight Tuesday, would end with a General Fund deficit between $705 million and $740 million. This would be a 7.4% deficit. Fiscal year 2015 had been budgeted with a $0 deficit.

Using the wider view of commonwealth spending and revenues advocated by the authors of recent comprehensive report on Puerto Rico's debt, "Puerto Rico - A Way Forward," that looks beyond just the General Fund Puerto Rico government's deficit in the just-ended fiscal year was $2 billion.

The report also said the government now believes in fiscal 2014 the General Fund ended with a $1.1 billion deficit. This is bigger than the initially announced $783 million.

 

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