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Europe’s Puerto Rico?

the Capitol of Puerto Rico, viewed from Castillo San Cristobal
The Capitol of Puerto Rico. Photo by Flickr user Roger W.

No matter which news outlet you favor, the odds are good that you saw a headline last week that asked “Is Puerto Rico America’s Greece?”

Variants on this question appeared in venues from The Hill to The Globe and Mail. Other media simply jumped from question to statement: “Puerto Rico is America’s Greece” (Reuters), “Puerto Rico, America’s Greece” (The Washington Post), “America’s Greece” (The Wall Street Journal) and many others.

The event that triggered this flurry of comparison was a pronouncement by Puerto Rico’s governor, Alejandro Garcia Padilla, that the island’s $72 billion public debt is “unpayable.”

Maybe timing made the parallel inevitable; Puerto Rico’s call for help from Washington arrived on the eve of Greece’s missed payment to the International Monetary Fund. And the analogy does have some merit. But I think it is overblown and, more importantly, I think it is backwards.

If Greece is very lucky, it might get to be Europe’s Puerto Rico.

Both governments are essentially offering their creditors the same deal: We can pay you none of what we owe today, or some of what we owe a long time from now - but in order to get something from us later, we insist that you give us still more money right away.

Puerto Rico has a good chance of getting the kind of deal it wants. Its creditors have already agreed to renegotiate $9 billion of its debt, a portion owed by the island’s electric utility, the Puerto Rico Electric Power Authority, abbreviated Prepa. After the agreement was reached, Prepa made a payment on its bonds last week, but only after its bond insurers - who would have been on the hook in the event of default - lent Prepa an additional $128 million by buying some short-term debt. The arrangement gave Prepa until September to negotiate a plan to overhaul its debts completely.

Garcia Padilla told The New York Times, “My administration is doing everything not to default.” He and his staff said they would be looking for possible concessions on all forms of government debt. They also authorized a candid report on the state of the island’s finances by former IMF official Anne Krueger and colleagues. The document concluded that often-painful measures will be necessary to put Puerto Rico back on its feet economically. “I would love to have an easier option,” Garcia Padilla said. “This is not politics, this is math.”

Puerto Rico has taken steps to bring its bloated public costs under control, and its government apparently accepts that more such measures are inevitable - though we won’t really know how far the island’s leaders are prepared to go until an overall restructuring plan is at least on the table. With good faith and hard bargaining, the island may be able to reach a deal with its creditors by the end of this year (though these timetables tend to slip).

Greece, on the other hand, walked away from the table rather than agree to more belt-tightening. Its public strongly backed that position in Sunday’s referendum.

Granted, it feels good to tell your creditors to take a flying leap. But how does that persuade them to give you more money?

Puerto Rico and Greece are both engaged in an age-old form of negotiation between debtor and creditor. Some debtors invest borrowed money in productive ways, and therefore have the funds available when it comes time to repay. But most just spend the borrowed money, and then rely on some other source of funds - future earnings from other sources, or just more borrowing - to satisfy their debts later. In these cases, creditors want to claim as much of the future incoming cash as possible, but debtors still need to have an incentive to earn the money. Would you show up for work tomorrow if every cent you earned was going to be used to repay your prior debts? Probably not and, as I recently observed in this space, neither will the Greeks.

The Greeks want to keep as much of their future earnings for themselves as possible. Under the previous government, which accepted European-imposed austerity, the country generated enough revenue to pay its current bills and service some, but not all, of its debt. Since Syriza took over as Greece’s governing political party, this is no longer the case. Greece’s banks are loaded with Greek government bonds that the government can’t repay, leaving them dependent on a lifeline of European cash - a line that was crimped when negotiations broke down before the vote, and which now may be severed completely thanks to the result.

For Puerto Rico, two avenues could lead to an acceptable outcome. One is through Congress, which could amend the bankruptcy code to permit court-supervised restructuring of its public agency debt, or even the commonwealth’s direct borrowing. (At the moment, Puerto Rico is technically ineligible for bankruptcy as a commonwealth.) As with the still-theoretical eventuality of a U.S. state in a similar situation, bankruptcy would be preferable to a default without any legal procedures in place to cope with the fallout.

The other avenue open to Puerto Rico is through a settlement with its creditors, which are predominantly mutual funds, hedge funds, insurance companies and other private parties. These creditors won’t like the inevitable haircut, of course. But they are in business to make money, and part of that business is to address losses when they happen and move on. As Puerto Rico’s leaders have observed, creditors would shoot themselves in the foot if they refused to make any concessions and thus rendered the commonwealth incapable of paying anything back at all.

Greece’s creditors, on the other hand, are for the most part not private businesses. They are mostly governments, accountable to their own non-Greek voters. Those voters, particularly voters in Germany, see little reason to keep sending more money to Greek counterparts who simply use it to support pensioners, idled workers and bureaucrats. If the Greek government defaults, other European leaders can simply blame the Greek politicians, and European voters will accept that explanation. The lifeline of new money will be cut off, and the Greeks will be on their own.

The problems are similar, but the situations are different. Puerto Rico’s creditors will ultimately take their losses and move on. Across the ocean, it may very well be the Greeks who must move on - without the rest of Europe.

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