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The Greek financial crisis is a slow-burning tragedy that threatens to explode into full-blown catastrophe, but in North America, Puerto Rico is going through an even worse crisis. Puerto Rico is unable to pay its $73 billion debt, and 45 percent of the population lives in poverty. U.S. Treasury Secretary Jacob Lew has urged his European counterparts to take action on the crisis in Athens. “What I worry about most is an accident,” he explained in London in late May. “Everyone needs to double down and treat the next move as the last.” But Lew has been far less generous in his own backyard.
After all, the Commonwealth is mired in a decade-long recession marked by double-digit unemployment, a GNP-sized debt, and debt service payments that consume more than 20 percent of every dollar earned in the country—debt that is set to skyrocket still higher the years ahead. Predicted consequences include not only an increase of poverty and job losses on the island, but accelerated capital flight and migration to mainland United States as well. Unless substantial action is taken to mitigate Puerto Rico’s debt crisis, the territory will confront the very real prospect of a vicious circle of disinvestment, departure, and decline.
Puerto Rico’s ability to confront the crisis is constrained by its unique political status. When sovereign governments have trouble meeting their obligations to their creditors, they can devalue their currencies in an effort to impede imports, encourage exports, and attract tourists to visit and spend money. Even Greece could theoretically abandon the euro for a devalued drachma in an effort to restore fiscal balance. But Puerto Rico is bound to the U.S. dollar, and is thus unable to follow the standard sovereign default recipe.
The local government in San Juan is constrained by not being a U.S. state, either. When mainland U.S. municipalities have trouble meeting fiscal obligations, they tend to seek protection under Chapter 9 of the U.S. bankruptcy code, which is designed to allow for an orderly debt restructuring. Puerto Rico is ineligible for Chapter 9 protection as an unincorporated U.S. territory, and thus has little choice but to go it alone. Of course, the irony is profound. While Lew calls for flexibility from his European counterparts and condemns their proclivity toward brinksmanship, he takes a page from their playbook in Puerto Rico by demanding a “credible” budget from the Commonwealth, offering little support in return.
Puerto Rico deserves better. The United States assumed control of the island in 1898 following the conclusion of the Spanish–American War, granted Puerto Ricans citizenship in 1917 when President Woodrow Wilson signed the Jones Act, and continues to loom large in the island’s politics. As a result, Puerto Ricans serve in the U.S. armed forces, play host to four U.S. military facilities, and pay federal Social Security, Medicare, and self-employment taxes, among others. They are also eligible to vote in federal elections and obliged to pay the rest of their federal taxes when they are on the mainland. If the island’s economy collapses, therefore, all U.S. citizens will share the blame and the costs.
What, then, would a more forward-thinking approach look like? As has been suggested by the San Juan-based Center for a New Economy, Puerto Rico needs the fiscal space to invest public resources in critical areas like health, education, and welfare without further jeopardizing living standards or the economy in the near term. Until now, orthodox austerity policies—including budget cuts and tax increases that left baleful legacies in other debtor nations—have been adopted in an effort to cover outstanding debts. These measures have done little to curtail Puerto Rico’s crisis, and have arguably made it worse. They are part of a predictable script dictated by bondholders, hedge fund managers, credit rating agencies, and federal officers—all dutifully executed by a haggard, faint-hearted island government.
The Commonwealth is mired in a decade-long recession marked by double-digit unemployment, a GNP-sized debt, and debt service payments that consume more than 20 percent of every dollar earned in the country.Given the dismal situation in San Juan, opening Puerto Rico’s fiscal space will require both support from the U.S. government, as well as commitment from Puerto Rico. Many feel that debt restructuring, buttressed by Chapter 9 protection, would curtail the bargaining power of unscrupulous hedge funds and safeguard future generations of Puerto Ricans from inheriting the previous generation’s crisis. Puerto Rico’s non-voting member of the U.S. Congress has therefore introduced legislation supported by island politicians from the two main parties, making the Commonwealth eligible for Chapter 9 protection. Senators Richard Blumenthal and Charles Schumer have promised to add their support to the measure in the Senate. If Congress fails to act, however, the U.S. Treasury could refinance the island’s debt at more tolerable rates without congressional action.
At the same time, however, policymakers in San Juan must develop a growth strategy that will facilitate sound fiscal management in the future. After all, the crisis has not only revealed long-standing lack of fiscal discipline in Puerto Rico, it has also disclosed an open secret: Puerto Rico relied on an outdated financial model for too long—one that relies on tax breaks to attract and retain needed investments. Although the so-called incentive strategy proved useful in the postwar era and served as a model for developing countries in the years to follow, it has long since run its course as lower-cost competitors have undercut Puerto Rico’s chief competitive advantages.
A new approach is long overdue and could best be developed in conjunction with the U.S. federal government. Instead of asking for lean budgets or other measures that put off the inevitable day of reckoning, Washington could link short-term financial support to a long-term effort to develop a new growth strategy for the island, one that is controlled and directed within Puerto Rico, and draws key stakeholders to the table in an atmosphere of commitment, collaboration, and consensus on the need for change. Civic sector stakeholders such as the Center for a New Economy are already taking enterprising steps in this direction by encouraging the identification of activities with high growth potential and the adoption of educational, training, and investment policies to foster their success. By deploying the carrot of debt relief rather than the stick of austerity, Washington could do much to accelerate and consolidate the process.
Earlier this year, U.S. President Barack Obama warned Greece’s creditors to pull up on the reins in an effort to restore growth and employment. “You cannot keep on squeezing countries that are in the midst of depression,” he said. “At some point, there has to be a growth strategy in order for them to pay off their debts to eliminate some of their deficits.” When it comes to Puerto Rico, however, Obama should put his money where his mouth is. This would allow him to not only bring hope to his fellow citizens in Puerto Rico, but would also show the world the sincerity and wisdom behind his advice.