Puerto Rico should consider cutting employee benefits, boosting employee contributions and implementing a special tax to shore up its pension system, according to a report Wednesday from the Center for the New Economy.

The commonwealth’s pension system is 9.8% funded. It has a total liability of $18.9 billion and assets of $1.85 billion, leaving the system with an unfunded obligation of $17 billion as of June 30, 2009. The fund will run out of assets by fiscal 2019.

CNE, a nonpartisan think tank in San Juan, states that the pension system is in a “dire situation” due to issues that include the addition of new benefits, inadequate planning, lack of discipline by lawmakers, and the failure to consistently make actuarially required payments.

To help strengthen the pension fund, CNE suggests several strategies that would affect all stakeholders, retirees, current employees, and residents. The recommendations include reducing benefits already promised to employees and retirees, asking current employees to contribute more to their retirement, and placing a special tax on residents to help raise needed revenue.

“It appears to us that any fair solution to this $17 billion problem will require each one of those groups to make painful tradeoffs,” the report reads. “Perhaps retirees could be asked to accept cutbacks on recently enacted benefits; current employees could be asked to increase their contributions; and taxpayers in general could be asked to pay a special tax to be applied towards reducing the [pension’s] unfunded liability.”

The report points out that Colorado recently passed legislation to reduce annual cost-of-living increases for current retirees. In addition, employee and employer fixed contributions have not been raised in Puerto Rico since 1990, according to the report.

The administration is currently reviewing the pension system. A special nine-member commission will release its recommendations for improving the pension fund by late September. Gov. Luis Fortuño, who took office in January 2009, announced the special commission in late February.

The Government Development Bank for Puerto Rico, which serves as the commonwealth’s fiscal adviser, said that it was too soon to speculate on different strategies as the commission has yet to release its findings and suggestions. Fernando Batlle, executive vice president of financing and treasury at the GDB, stressed that the committee is comprised of all the major stakeholders.

Under the prior administration, Puerto Rico sold $2.9 billion of taxable pension bonds to help meet costs. Sergio Marxuach, CNE’s policy director, believes that borrowing will not resolve the issue.

“I don’t think an additional offering of pension obligation bonds will solve the problem,” Marxuach wrote in an e-mail. “The unfunded liability is currently equal to 27% of Puerto Rico’s gross national product. There is no capital solution to a problem of that magnitude.”

Since taking the helm of the GDB in January of 2009, bank president Carlos Garcia has said that the administration would not issue additional pension bonds. The administration does not generally support pension borrowing, but Batlle said it is up to the commission to indicate whether pension bonds are a viable alternative at this point.

“In a vacuum, just issuing more pension bonds is not something that we think is smart to do,” he said. “But we would like to wait until the commission comes out with suggestions saying whether issuing bonds is something that is part of the solutions. But at this stage, we have no plans to issue any more.”

Moody’s Investors Service on Aug. 10 revised Puerto Rico’s general obligation credit to negative from stable, citing the pension’s low 9.8% funding ratio. Moody’s rates the commonwealth’s $9 billion of outstanding GO debt A3. Standard & Poor’s rates the credit BBB-minus with a stable outlook.

Following Moody’s outlook revision, Bank of America Merrill Lynch in an Aug. 13 report described the change to negative as “unfortunate” in light of the administration’s progress in reducing Puerto Rico’s structural imbalances. It said the low funding ratio “is not new and only recently has been reported as even more challenging.”

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