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Thomas King, President and Founding Director
Borincana Foundation Inc.
July 27, 2018
Sens. Elizabeth Warren and Bernie Sanders introduced a bill Wednesday that would give Puerto Rico a way out of its crushing debt crisis. The US Territorial Relief Act of 2018 includes as cosponsors two other Democratic senators mentioned as prospective 2020 candidates: Kamala Harris, from California, and Kirsten Gillibrand of New York.
So far so good. But the devil is in the details.
From a CNN posting:
“The relief act aims to allow US territories to "terminate their public, unsecured debt" if they meet two of the following criteria: population decrease of 5% over 10 years, received major federal disaster assistance and per capita debt going beyond $15,000. Puerto Rico qualifies under these criteria.
"Puerto Rico was already being squeezed before Hurricane Maria hit, and will now have to rebuild under the weight of crushing debt," Warren said in a news release on the bill Wednesday. "Our bill will give territories that have suffered an extraordinary crisis a route to comprehensive debt relief and a chance to get back on their feet."
The senators propose that Puerto Rico's governor and Legislature approve the debt relief, since Puerto Rico is a self-governing territory. The bill would then designate a "special master" to allocate $15 billion to creditors Puerto Rico owed. The bill would not extend to bond insurers, large financial firms and hedge fund investors.
"Disaster funding and the other resources in struggling territories' budgets must not go to Wall Street vulture funds who snapped up their debt," Warren said.”
This proposal is awful on nearly every level. Let’s start with the general principle though - which is not.
It is not only a good idea but an inevitable one that the federal government comes up with some cash in order to buy down Puerto Rico’s debt to facilitate a total package restructuring. Here is how it should be done. Whatever amount Congress appropriates for the purpose (and $15 billion is a reasonable number but it could be less) should be used to buy debt in an auction process to retire the highest possible amount by face value. Take those willing to accept $.30 on the dollar (for example) then $.31 and so on until the cash is gone and then sell the lot back to Puerto Rico for a $1 so it can be retired. This is straight forward and much, much cleaner and transparent. This process coupled with a binding deal on the rest of the debt will clear the uncertainty and get Puerto Rico back to the markets and in a stable condition faster than other alternatives.
The Warren Sanders bill would create a new bureaucracy and a monumental moral hazard for borrowers and investors alike while encouraging exactly the kind of irresponsible behaviors that got everyone into this mess in the first place.
Moreover, the idea that they would double down on the punishment of creditors by deliberately excluding certain groups of creditors not based on the class of debt but by who they are is mind-boggling. It is discriminatory, un-American, and wide open to abuse. It is also a fundamental denial of how financial systems function and the important roles played by those they would choose to exclude. This proclivity is every bit as absurd as the streak of climate denial that runs through the Republican Party.
Let’s say this plan actually becomes law the way it is proposed (relax, its DOA, this is political grandstanding), what would actually happen? How do you sell all the backroom deals needed to determine who would be the chosen and who the dispossessed without sapping market confidence? Would you buy the debt as a large institution if the borrower could just magic it away especially knowing that other creditors would get bailed out? If you were a hedge fund would you provide liquidity to the market with your risk capital during the critical post collapse period if the same could happen to you? The result is that capital flees the market, the cost of debt rises, and you end up inflicting greater damage on the borrowers you thought you were helping. The guys feeding these ideas to the Senators must be the same ones advising Trump on Trade Policy.
Warren, Sanders, and their co-sponsors are otherwise sensible people, many of whose positions on social justice issues I rather admire. These two, however, hate financial markets and institutions with a white hot intensity that leaves rationality for dead on the side of the road. Were they abused by bankers as children? Their positions that inform their solutions defy logic. I believe strongly that financial markets must be regulated and transparent (not stifled!) and that abuses should be dealt with swiftly and firmly. The case of Puerto Rico is no different and I think some of the institutions involved will be paying some hefty fines/settlements in the future. Unfortunately, these two start with the assumption that BIG=BAD and POWERFUL=ABUSIVE.
This effort is just bad policy made worse by taking cheap shots at personal bogeymen.
