Puerto Rico is Drowning in Debt

Creditors to Puerto Rico's electricity provider were given a slight respite on Tuesday when the bonds’ trustee made a scheduled payment, but the U.S. municipal bond market remained worried the Puerto Rico Electric Power Authority (PREPA) will soon use a new bankruptcy-like process to restructure its debts. A law passed last week allowing the Puerto Rico’s public corporations – primarily its electric power authority known as PREPA – to restructure their debt. Under its constitution, Puerto Rico, one of the largest issuers of municipal bonds, does not have the power to enact a bankruptcy law to adjust its debt, but island authorities say the entities in question are not subject to that rule. The law sparked a sharp selloff in these agencies’ bonds that extended on Monday. Puerto Rico bonds are widely held due to their tax exemption in every state and their high yields, making them a tempting asset despite the U.S. commonwealth's struggles to cope with a shrinking economy, chronic budget deficits and a $73 billion debt load. PREPA could be the first corporation to test the law, as it faces increasing demands for its limited funds, including payments on expiring lines of credit and fuel purchases. Prices of its junk-rated bonds plummeted to the record low of 36.815 cents on the dollar, or a yield 14.887 percent. The flight to Puerto Rico’s $3.5 billion junk general obligation bonds ended as well – with prices falling to a record low of 84.5 cents or a 9.748 percent yield. On Tuesday evening, the Chairman of the Government Development Bank (GDB) for Puerto Rico David Chafey confirmed all bond payments maturing on Tuesday had been made, including $721.97 million paid to service general obligation bonds and $417.56 million for the PREPA bonds. For most of the day, rumors whipped through the municipal market that bondholders may not receive any money. The fear is that PREPA is the first domino toward the restructuring of Puerto Rico’s debts, a move akin to filing for bankruptcy, which the territory cannot do. The law passed last week excludes Puerto Rico and the Government Development Bank. Puerto Rico has been fighting hard this year to pull its finances together, after years of population and economic declines led its revenues to shrink. Late on Monday, it passed a scaled-down budget for the fiscal year starting on Tuesday, but recent measures may not be enough to fix its economy. Meanwhile, Moody’s Investors Service cut the island's general obligation bonds to B2 from Ba2. The law “signals a depleted capacity for revenue increases and austerity measures, and a new preference for shifting fiscal pressures to creditors, which, in our view, has implications for all of Puerto Rico’s debt, including that of the central government,” Moody’s said. In the past the GDB has stepped in to prop up the perennially struggling PREPA but now, dealing with its own liquidity worries, it is staying away. Meanwhile, Governor Alejandro Garcia Padilla has repeatedly said public corporations must become self-reliant. “They’re a cash-poor entity and have been for a long time,” said Shawn O'Leary, senior vice president at Nuveen Asset Management, which holds $80.6 million of bonds that could be subject to the legislation. “The difference now is that the central government and the GDB said, ‘We’re no longer floating you loans’.” Source: Reuters
Comments: Puerto Rico is an unincorporated territory of the United States. That is why 3.7 million of the island’s citizens have no voting rights for the USA president and Congress election. However, U.S. jurisdiction fully extends on Puerto-Rico. At the same time the island’s residents have a number of benefits: they do not pay US federal income tax. Besides that, Puerto Rico’s bonds are exempt from federal, state, and local taxes, and thus widely held by municipal bond funds in the continental U.S. This led to the fact that today’s Puerto - Rico bond market functions like a Pyramid scheme: they need the new lenders to pay for the old debts. But there is a great difference between the USA debts and the debts of Puerto Rico. The Federal Reserve System will always help the USA government to pay the debts through the quantitative easing policy or in any other way. But the FED will not help Puerto Rico. That is why Puerto Rico’s bond market bubble sooner or later collapse and the island’s government will announce default.