What critics say the Oversight Board overlooked

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Part IV of five-part series "Austerity on the Island"

Even if austerity has negative social effects and at least temporarily negative economic effects on Puerto Rico, there is a question as to whether there are alternatives. After all, Puerto Rico does need to balance its budget.

Center for a New Economy Policy Director Sergio Marxuach said that it was difficult to expand an economy while the board is cutting spending and increasing taxes. However, he said there were things that could be done now and more that could be done after structurally balanced budgets had been achieved and the board was gone.

The Puerto Rico Oversight, Management and Economic Stability Act directed that Congress create a task force to release a report with proposals to promote economic growth on the island. In December 2016 the task force, which consisted of four U.S. senators and four members of the U.S. House of Representatives, released the report making dozens of recommendations. Most of them were for federal government actions that could help Puerto Rico.

Marxuach complained that nothing was done with the task force’s report. An Oversight Board spokesperson pointed to a section of the board’s annual report to Congress, submitted in August, where it asked the federal government to enact several of the policies found in the report.

Among the recommendations were for the island in the Medicaid system to be treated in a more equitable, generous, and sustainable manner. This wouldn’t only improve health outcomes, but also “reduce the incentive for migration from” the island to the states and “stabilize and strengthen the fiscal condition of the territory governments.”

The task force recommended that Congress make the full amount of the rum cover-over-payment to Puerto Rico and the U.S. Virgin Islands permanent. Currently part of it is permanent and part of it is subject to federal tax extenders legislation.

The task force said that a domestic production activities tax deduction, enjoyed by about one-third of corporate activity in the 50 states, be extended to Puerto Rico. Affected companies are allowed to deduct 9% of their taxable income from qualified production activities.

The federal Small Business Administration should give a higher than existing guaranty rate to the Puerto Rico loans made under its 7(a) loan program, the task force said. These loans are used to expand existing, operate, or acquire businesses.

Puerto Rico residents currently are ineligible for federal Supplemental Security Income, which proves benefits to low-income aged, blind, and disabled persons in the states. Puerto Rico has a program called AABD that attempts to do something similar. The task force said that Congress should consider including the island in SSI.

“Puerto Rico has yet to establish a comprehensive economic development strategy that exploits the island’s many comparative advantages, both intrinsic and acquired, and that endures after power passes from one local party to the other,” the task force stated. “The task force recommends that the government of Puerto Rico take this constructive criticism to heart.”

Marxuach said if the island could get federal incentives or some of the other recommendations from the task force report, there could be growth even in the midst of austerity.

Federal hurricane aid will be coming in the next few years and this will help the economy, Marxuach said.

In the short term, business permitting and the overly complicated tax system need to be reformed and the cost of electricity must be reduced, Marxuach said. He acknowledged that the government and the board were working toward these goals.

In the long term, Puerto Rico must create something quite different from what has prevailed, Marxuach said. There must be change to its political and economic system and its relations with the federal government.

What Congress will do with Puerto Rico in terms of its status as a state or territory is important. However, Marxuach said he thought the status wouldn’t change much in the next two to three years.

Marxuach said Puerto Rico doesn’t have control over monetary or trade policy for the island, and that this lack of control is central to the island’s current economic problems. If the island were to become independent it could control both. If it became a state it would have more input on federal trade treaties.

Marxuach brought this conundrum up and these two possible ways of addressing them not to advocate for one or the other. Rather, he said he did it to say that since the Oversight Board took over in the summer of 2016, “Puerto Rico’s economic policy took kit is empty."

“That situation calls for a fundamental rethinking of Puerto Rico-U.S. economic interactions/relations. The status quo is simply not working,” Marxuach said.

Once the board disappears, Puerto Ricans will have leeway to change education, healthcare, and move toward a more environmentally sustainable energy system, he said.

The island needs to try to develop an economic plan or growth strategy now, Marxuach said. But it will be hard to put together an effective one in the next few years, until its debt is consolidated and it regains access to the capital markets, he said. It is worth working on now but it may not have a major impact in the next few years.

José Villamil, chairman of Puerto Rico-based economic and business consultant Estudios Técnicos, agreed with some of Marxuach’s suggestions.

While the board has necessarily imposed austerity measures on government spending, austerity and stimulus measures are not mutually exclusive, he said. They can be combined, he said in an October essay. Earlier this decade “Portugal did so and was very successful. These initiatives include those that stimulate competition, ease of market entry, productivity and flexibility in the economy, lower transaction costs, and minimize social costs.”

He went on: “In comparing Puerto Rico and Portugal, a number of differences exist that make it impossible to transfer the latter’s experience to the former without significant adjustments. One major difference is the industrial structure that is quite different.”

In an email he explained the difference saying that Portugal’s exports are very diverse and include automobiles, electrical machinery, mineral fuels and computers. There has been a growing European demand for all of these exports.

By contrast, Puerto Rico’s exports are highly concentrated in pharmaceuticals and medical instruments. “For recovery, diversification is much better than concentration.”

While external direct investment will continue to play a role in Puerto Rico’s economy, “it should not be the only source of growth and perhaps not even the most important,” Villamil said.

“Puerto Rico’s development must rest on mobilizing its internal resources to the maximum and reorienting its export base,” Villamil wrote in an essay with Diego Iribarren.

“Puerto Rico’s future economic prospects will depend … not on federal reconstruction funds or on the [Oversight Board’s] actions, but on reaching a consensus among key stakeholders on a clearly delineated vision for a prosperous and just post-reconstruction economy,” Villamil said. “A commitment to the strategies needed to achieve that vision is also needed.”

Villamil continued, “It will have to be the non-governmental sectors in society that will have to assume a leading role in creating that vision of a future Puerto Rico, in formulating the needed strategies, and in creating the institutional framework that will provide the necessary stability for mid and long-term success.”

More concretely, Villamil said that there should be changes to the island’s tax system, permitting practices, and regulations.The tax system should be changed to be simpler and to support investment and economic activity. Regulations should be more business friendly and permitting should be simplified.

The board and former Gov. Ricardo Rosselló have worked to reform these areas, albeit not to Villamil’s satisfaction.

Other observers of Puerto Rico’s situation had more succinct recommendations for policy.

Heidie Calero, president of a Puerto Rico-based economic and business consulting firm, said board Executive Director Natalie Jaresko "is not interested in any economic plan. She is only interested in fiscal stewardship and says that the economic plan is the responsibility of the governor, so she is not going to help. In my opinion, this is a very narrow view of what is required to get the resources needed to service public debt, which must be restructured.”

Calero, president of H. Calero Consulting Group, continued, “government’s role must be like a steward steering obstacles away from investment by the private local and non-local sector.”

Other analysts say Puerto Rico’s future economic growth needs to be assured by more dramatic cuts in its debt.

In November 2018 the MarketWatch website quoted economist Joseph Stiglitz as saying Puerto Rico’s total central government and authority debt should be cut by 73% and all unpaid interest should be canceled.

“Given the state of Puerto Rico’s economy after Maria, a much deeper restructuring is inevitable,” Stiglitz wrote in November 2018 on a Columbia University website. “By pursuing its new fiscal plan and the [Puerto Rico Sales Tax Financing Corp.] COFINA deal, the oversight board has squandered valuable time, ensuring that Puerto Rico’s decade-long struggle will both continue and grow worse.”

In a U.S. House of Representatives hearing in May, Rep. Nydia Velȧzquez, D-N.Y., said, addressing the Oversight Board, "when we passed PROMESA it was never intended for the board to implement harsh austerity measures on the island residents.

“We provided you tools to deal with the debt which I feel you have not used to its full potential to cram the debt,” the representative continued. “And simply put — austerity doesn’t work. It didn’t work in Greece, it didn’t work in the United Kingdom, and it won’t work here. So you must look elsewhere to address the fiscal crisis. It cannot be on the back of the people of Puerto Rico.”

Rep. Raul Grijalva, D-Ariz., said he hoped a May 2 House of Representatives Natural Resources Committee hearing would persuade the board to “strike a more agreeable deal with the people of Puerto Rico so that most of the severe budget cuts can be rolled back and significant debt relief can occur.”

In an August 2015 New York Times opinion piece, economist Paul Krugman said that even with federal aid for social programs in Puerto Rico, too much local government austerity can be “self-defeating.” He said the island’s educational system should be prioritized over paying back the debt.

On Oct. 31 Moody’s Investors Service released a report that was pessimistic about the island’s future. “The commonwealth’s population will continue to decline and age as residents face weak job prospects, while large budget deficits loom as federal aid shrinks.” The analysts said the social trends will lead to resumed economic contraction.

“The commonwealth has two pathways to more sustainable operations: stronger Medicaid funding from the federal government and/or reforms laid out in the federal oversight board’s fiscal plan,” the analysts said. They said achieving them would be difficult.

Next (on 12/30): How the Puerto Rico board may need to adjust its approach

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PROMESA Commonwealth of Puerto Rico Puerto Rico Sales Tax Financing Corp (COFINA) Puerto Rico Infrastructure Financial Authority Puerto Rico Electric Power Authority Puerto Rico Highway & Transportation Authority Puerto Rico Austerity on the Island