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Bankruptcy can give Puerto Rico the help it needs

The US flag flew in front Puerto Rico’s Capitol. AP

Puerto Rico made history this week, and not in a good way. The US territory defaulted on a $58 million bond payment due on August 3. With a total debt of about $70 billion, Puerto Rico is facing a gloomy economic crisis devoid of clear remedies. Governor Alejandro García Padilla, who has said time and again that the island cannot pay its debts, has put together a team to work on a voluntary debt-restructuring plan by the end of the summer. But in order for the reorganization to work out, Congress must help Puerto Rico by allowing the island’s public agencies to declare bankruptcy, just as Detroit did in 2013. Access to bankruptcy courts will provide a much-needed fresh start for Puerto Rico and its 3.5 million residents, and amounts to the most sensible policy remedy for the island in the short term.

Unemployment in Puerto Rico is twice as high as the US rate, and the poverty rate is a staggering 45 percent. The crisis is spurring an exodus of Puerto Ricans and undermining the local economy with a declining tax base. Puerto Rico’s next major debt payment is due in January, and there’s a high risk that the territory will declare a freeze on all payments. That’s why Congress must act soon.

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A bill that amends the federal bankruptcy code to give Puerto Rico the same kind of access to bankruptcy courts as the 50 states currently sits in the House Judiciary Committee. Critics of the measure, mostly Wall Street bondholders, have lobbied Congress against it; those institutional investors don’t want the debt restructured, because they want it fully repaid. The bondholders argue that allowing Puerto Rico to declare bankruptcy is nothing short of a federal bailout, and that it not only changes the rules in the middle of the game but also rewards financial irresponsibility.

But the choice isn’t between bankruptcy and full repayment; it’s between a disorderly default, and an established judicial process in which both sides can make their cases to a court. And the moral hazard argument runs both ways: Investors involved in Puerto Rico’s ongoing attempts to borrow its way out of its problems had to know there was political risk in lending to the overleveraged government. The question here is not what’s best only for creditors, but what’s best to put the island on the path to economic recovery.

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US Representative Luis Gutierrez of Illinois said to his colleagues recently in a floor speech: “We own [Puerto Rico.] It is ours and we are responsible for it.” He is right. Congress has a moral obligation to Puerto Rico and its people, while being as fair as possible to institutional investors on the mainland. Access to bankruptcy laws represents the best tool the island has for achieving solvency and eventual prosperity.

Related:

John E. Sununu: Puerto Rico must remake its finances