By DANICA COTO Associated Press
SAN JUAN, Puerto Rico June 29, 2013 (AP)
Puerto Rico legislators on Friday rushed to try to approve a budget amid debate on how best to revive the U.S. territory's economy, which the New York Federal Reserve president warns has not yet bottomed out.
The proposed $9.8 billion operating budget proposes a flurry of new taxes while seeking to boost the island's education system and rescue a crumbling public pension system. The local House of Representatives recently approved the budget, but is meeting again to evaluate several amendments that the Senate sought to add.
"We are facing a gradual fiscal deterioration that is affecting the capacity to generate needed revenue," reads a measure that legislators are reviewing. "The magnitude of the reality we're facing cannot be avoided."
Puerto Rico is struggling to emerge from a seven-year recession while trying to reduce a $1.2 billion deficit and $69 billion in public debt. The island of 3.7 million people also has a nearly 14 percent unemployment rate, higher than any U.S. state.
William Dudley, New York Federal Reserve president, said Thursday that the island's job situation has weakened.
"Puerto Rico's economy is not faring well at all," he said.
A further threat to the island's economy are thousands of government workers angered over the public pension reform who have said they plan to retire before it's approved. They recently filed a lawsuit claiming the reform was unconstitutional, but Puerto Rico's Supreme Court dismissed the case on Wednesday. Moody's ratings agency praised the ruling, which workers said they would challenge.
On Friday, the president of the Police Union claimed that hundreds of officers already have quit and that more will follow.
"This country will face a deep social crisis," Jose Marin said.
Gov. Alejandro Garcia Padilla has said there's an urgent need for the reform, which calls for increased employee contributions, a higher retirement age and reduced benefits and monthly pensions for certain workers.
Garcia has said he will seek upgrades from Moody's and other ratings agencies after the budget is approved. That could lower borrowing costs. The U.S. territory's general obligation bond debt is currently hovering above junk status.
Legislators say the proposed new taxes would generate nearly $1.4 billion in revenue. One tax alone is forecast to bring in $439 million as it targets companies making more than $1 million in sales.
Lawmakers also plan to increase corporate tax rates to 39 percent to help generate some $270 million.
But Sen. Tomas Rivera Schatz of the opposition New Progressive Party told reporters Friday that legislators from the governor's Popular Democratic Party "have not yet been able to match up the numbers properly."
"They are overestimating the amount of money they can generate," he said.
Puerto Rico resident commissioner Pedro Pierluisi also has warned that some of the new taxes will lead to higher-priced goods and dampen a push to create new jobs.
The proposed budget has to be approved before July 1 and is $65 million smaller than the one proposed by the governor. Anibal Jose Torres, spokesman of the governor's party, said he expects several measures that are still being debated to be approved by Sunday.
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The proposal for the 2013-2014 Puerto Rico budget has seen its share of changes since it was originally submitted by Gov. García Padilla in April. The most obvious modification, and one of the governor's main proposals, was the elimination of the proposed 0.5% rate reduction of the sales & use tax (IVU by its Spanish acronym). After consideration by the House and Senate, the IVU rate will remain at 7%, at least for now.
The House of Representatives approved more than 15 bills to accomplish its proposed revenue plans for the 2014 fiscal-year budget. The Senate did the same during the early hours on June 24, but added its own set of amendments to the House-approved bills.
In an unexpected turn of events, and after long hours of debate, the Senate rolled back a large number of amendments and approved several House bills with no changes. The situation created great confusion among various sectors that had left the Capitol believing their interests were included in the bills. In a legal, but highly irregular move just moments before the vote, five bills were reverted to the approved House versions, leaving many amendments that had been discussed out of the bills.
At the end of the session, the Senate finally approved an amended House Bill (HB) 1073, known as the "Redistribution & Tax Responsibility Adjustment Law," with notable changes.
Changes from the governor's original proposals included the elimination of the intended IVU rate on all commercial leases. Other changes were included in the bill, particularly in the business-to- business area, while some remained the same as García Padilla had submitted.
Some of the business taxes that passed include paying an IVU on certain bank charges to corporate clients, as well as on collections, security, cleaning & laundry, repairs (including services rendered under warranty), telecommunications and garbage-disposal services. Instead of García Padilla's tax on individual services, the current exemption on professional services remains.
Another IVU exemption that remains intact is on prescription medicines. Purchases made by institutions of higher education, as well as administrative or maintenance purchases made by hospitals, will now be required to pay an IVU. Reseller certificates will be eliminated and all purchases made by businesses will now pay an IVU and receive credit for the payment when they present their monthly IVU statements.
All individuals who provide services will pay a 2% additional tax on all gross annual income for those earning $200,000 or more. Mortgage-interest deductions will be allowed up to $35,000.
The new state patente (business tax) represents additional contributions based on gross income. Companies earning $1 million to $3 million pay an additional 0.2%; $3 million to $300 million 0.5%; $300 million to $600 million 0.7%; $600 million to $1.5 billion 0.8%; and 0.85% is charged to businesses with more than $1.5 billion in gross income. Businesses with net income below $1 million are exempt from paying this special patente.
Other revenue bills also saw their way through the legislative process, and were approved by both the House and Senate. HB 1064 creates the 2013-2014 Budget Support Fund, which is to be nurtured by taking funds from other sources. This bill is expected to generate at least $96.5 million and will be distributed to various government agencies, mostly for special purchases and payment of lawsuits.
Money for the new Support Fund will be attained by transferring $3.2 million from the Medical Board on Licensing & Discipline; $6 million from the Arms (Weapons) Law; $15 million from the Fund for Investigation & Supervision of Financial Institutions & Casinos; $40 million from the Reserve Fund of the State Insurance Fund Corp.; $3 million from the Special Real-Estate Industry Fund; $1 million from Industrial Capital Fund of the Education Department's editorial program; $3.5 million from the elimination of the Vocational Instruction Fund; $4.8 million from the Fund for Compensation & Services to Victims & Witnesses of Crime; $20 million from the Justice Department; and other surplus funds.
HB 1065 allows for the declaration of an extraordinary dividend for members of the Joint Underwritten Compulsory Insurance Association with a 50% special contribution for the creation of Science & Technology and Municipal Improvements funds. This bill is intended to produce $100 million in revenue.
HB 1066 extends until June 30, 2015 the suspension of the prohibition of the use of debts, loans and other financing mechanisms to cover the government's operational costs, and to balance the budget. The effect of this legislation is that the government will be allowed to continue to balance its budget with loans through fiscal 2015.
HB 1067 authorizes the Government Development Bank of Puerto Rico to take out a loan or finance $245 million from the private banking industry to pay for certain public works.
HB 1277 taxes petroleum-based products. The new tax per gallon is 16¢ for gasoline; 3¢ for jet fuel; 4¢ for gas oil or diesel oil; and 8¢ for other combustion fuels. In addition, crude oil, partially elaborated products or final products derived from oil, and any other hydrocarbon mix (excluding natural gas) will pay $9.25 a barrel or any fraction of barrel. These taxes will be subject to an inflationary adjustment of 1.5% a year, which will be effective every four years beginning July 1.
HB 1279 authorizes a $100 million bond emission.
After learning about the last-minute amendments introduced in the Senate, Ingrid Vila Biaggi released this statement: "Regarding the changes included by the Senate, it is necessary that we have the economic analyses of the amendments to be able to prove their viability for the proposed budget…because some of them weren't discussed in the original agreements with the executive branch."
The House of Representatives and Senate are required to finish consideration of all bills before the end of the day June 30.
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Detroit's decision to default on bond payments as it pushes for a restructuring deal is raising investor concerns about Puerto Rico, but a flurry of new reports indicate a downgrade of the island's credit to junk status won't likely happen before year's end and may not spark the wide-scale sell-off of commonwealth government bonds that many have feared.
The troubled municipal government of Detroit, which has been taken over by a Michigan state regulator, took the "amazing step" of announcing it would default on some general obligation bond payments as it looks to restructure some $11 billion in debt, according to several reports. Talks with creditors will run through July 12, and the city has threatened to file bankruptcy if it can't come to terms.
The move by Detroit to restructure its bond debt, that could cost investors dearly, is raising Wall Street concerns about Puerto Rico, said Robert Donahue, managing director at Municipal Market Advisers. "Detroit is causing some concern. A lot of people think there is going to be some sort of receivership down the road," he said. "We are seeing weak support."
The expected passage of the commonwealth government's budget this week, coupled with new taxes to support the troubled Puerto Rico Highways & Transportation Authority (HTA), should put off a downgrade threat until year-end, according to several Wall Street analysts.
"We acknowledge that the risk of downgrades below [investment grade] is real, given the current level of ratings with negative outlooks," states a Barclay's Municipal Research report released this month. "However, in our view, there appears to be little near-term risk of a downgrade as long as the Legislature passes a balanced budget similar to the current set of proposals being discussed."
Barclay's believes the budget strengthens Puerto Rico's fiscal situation, noting that the mix of tax revenue contained in the final version appears "more reliable and less likely to engender rating action" than the original plan to increase sales & use tax (IVU by its Spanish acronym) revenue by $1.05 billion by expanding a group of previously exempt business-to-business transactions.
Donahue, however, sees the "magnitude and frequency of wholesale tinkering to a tax system as beyond the norm for municipal credits,increasing credit uncertainty.
"Whether this budget amounts to anything better than the [previous] budget, or if political leaders are again improvising and inflating as they go along, will unfold in coming months as investors watch revenue collections," he added.
SELL-OFF FEARS OVERBLOWN
If and when a downgrade to junk level happens, the sell-off of Puerto Rico bonds may not be as strong or sweeping as many have speculated, the Barclays report said.
Puerto Rico's bonds are unique because they are triple tax-exempt, so they have become a favored investment for mutual funds specializing in municipal bonds and similar instruments. Because many such funds have policies against owning noninvestment-grade bonds, many market watchers believe a downgrade to junk will spark a huge sell-off.
Barclays found that many of the prohibitions are "time of purchase" limitations, meaning the funds can't buy junk bonds but can hold on tobonds that are downgraded to junk. Moreover, many of the funds have "noninvestment grade baskets" to hold junk debt, and many appear sufficient enough to hold their Puerto Rico debt, the report added.
"We feel concerns about the systemic risk of forced selling are greatly overdone. Nearly 60% of all Puerto Rico debt is held by the top- 25 investors in the name, with much more debt held by another 100-plus institutional investors. Again, most of these investors aren't subject to requirements to sell the bonds upon a downgrade to noninvestment grade," Barclays said.
Moreover, any fund managers subject to such requirements would have been "lightening up their holdings" already, especially during two recent rallies in Puerto Rico bonds this year, Barclays added. That would also be the case for investors wanting to avoid any "forced sell-off" that a downgrade might spark.
In fact, there is some evidence that such predowngrade sell-off is happening. In the past year, Puerto Rico debt held by 400 mutual funds decreased by more than $1 billion, according to Lipper Research.
AN INCREASINGLY TOUGH SELL
Donahue said there has been weak support for Puerto Rico bonds, especially given the limited supply, with the government not bringing a deal to market in more than a year. Government plans to return to market will be tough, especially for credits relying on recently enacted revenue streams, he said.
"We don't know whether this market environment is going to improve. To bring a low-investment- grade credit to the market could be very ominous for Puerto Rico," he added.
The Detroit situation, in which unsecured general obligation bond debt is being treated on par with other unsecured debt, had investors analyzing more closely the Puerto Rico bonds they hold, Donahue pointed out. The big question being asked is, which bonds hold the most security under a potential restructuring.
Donahue believes fears of a downgrade are overblown, arguing that credit-rating agencies are "hesitant to pull the trigger," but he remains concerned about government cash fl ow and a potential future default on outstanding bonds.
Unlike Detroit, Puerto Rico can't declare Chapter 9 bankruptcy because it isn't a municipality, and has no state to bail it out. However, a receivership and subsequent restructuring of debt could be set in motion by Congress, which could establish a receivership for Puerto Rico, as it did for Washington, D.C. back in the 1990s.
"People talk to me about the possibility everyday. They see receivership in the future," Donahue said.
However, such a move would be a tough political call to make from the perspective of Washington, D.C. and Puerto Rico, and would only happen as a last resort, many observers said.
Because commonwealth general obligation bonds have a Constitutional guarantee, a restructuring would more likely take place on a case-by-case basis and would involve the debt of the island's troubled public corporations, said Sergio Marxuach, public policy director at the Center for the New Economy.
"The financial situation of [the public corporations] is particularly worrisome," Marxuach said, citing the Puerto Rico Aqueduct & Sewer Authority, the Puerto Rico Electric Power Authority, the Ports Authority and the HTA.
"Each of these entities needs to be restructured," Marxuach added, saying this would include "restructuring of the terms and conditions of the debt issued by each of them."
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Resident Commissioner Pedro Pierluisi is drafting legislation to get specific exemptions from Jones Act shipping laws for Puerto Rico.
Pierluisi, Puerto Rico’s lone representative in Congress, said he would file the measures in July.
Goals include expanding the range of vessels that can transport natural gas and other fuels between the U.S. and Puerto Rico to bring down electricity costs, curb pollution and “make Puerto Rico a better place to live and invest,” he said during a speech at the Puerto Rico Chamber of Commerce convention.
Pierluisi’s office is working on legislation to relax the Jones Act to provide economic relief for Puerto Rico’s farmers and ranchers, enhancing their ability to purchase agricultural inputs and commodities that are not available in Puerto Rico from the U.S. mainland rather than effectively limiting them to importing those products from foreign countries.
Pierluisi pitched the pending legislation during a speech at the Puerto Rico Chamber of Commerce convention.
“I will work hard to achieve these amendments and hope to have the support of the Chamber of Commerce and all private industry in Puerto Rico,” he said.
The resident commissioner acknowledged that the political climate in Washington, D.C. presents a challenge to changing aspects of the Jones Act.
“There is no single solution to our problems,” Pierluisi said.
He listed goals on a range of fronts to spur Puerto Rico’s lagging economy incluidng boosting manufacturing, expanding our tourism offer, creating a real medical tourism market, becoming the energy hub of the Caribbean, converting into the island into model of renewable energy and related industries, boosting exports of goods and services to the U.S. and Latin America, and promoting an attractive investment climate.
“That is what we need to create the Puerto Rico we all want,” Pierluisi said. “My commitment has always been to guarantee the best opportunities for Puerto Ricans to compete in the global economy.
Pierluisi’s planned legislation comes in the wake of a U.S. Government Accountability report that found exempting Puerto Rico from Jones Act shipping laws could spell limited relief from negative impacts on the island economy, but could sink the U.S. merchant marine fleet it was designed to protect.
The long-anticipated 41-page report requested by the resident commissioner, “Puerto Rico: Characteristics of the Island’s Maritime Trade and Possible Effects of Modifying the Jones Act,” found that the law “has helped to ensure reliable, regular service between the United States and Puerto Rico — service that is important to the Puerto Rican economy.”
It provides a mixed picture, pointing to pitfalls in the Jones Act’s application on the island, while essentially concluding that its continued imposition is essential to buoy U.S.-flagged ships in the trade and shipyards stateside. It says lifting the law would have a “highly uncertain” impact on competition and the U.S. shipping industry.
The Jones Act requires U.S.-flagged ships to transport goods between U.S. ports. Companies (shippers) that use Jones Act carriers for shipping in the Puerto Rico trade have expressed concerns that, as a result of the Jones Act, freight rates between the United States and Puerto Rico are higher than they otherwise would be, and given the reliance on waterborne transportation have an adverse economic impact on Puerto Rico.
For years, critics have argued the shipping laws cost Puerto Rico anywhere from $200 million to $1 billion annually in increased shipping costs. Proponents, however, counter the estimates are wildly exaggerated and any increased costs are recovered through consistent service, investment in Puerto Rico and the additional work performed by shipping companies serving the island.
Pierluisi has stressed that the report did find negative impacts on Puerto Rico, and is making good on a pledge to file legislation in Congress to address them.
The report identifies several areas where Jones Act-qualified bulk cargo vessels are not available to meet the legitimate economic needs of individuals and businesses in Puerto Rico, namely with respect to the maritime transportation of energy supplies, agricultural inputs and commodities, and other products from the U.S. mainland.
The Maritime Alliance has continued to lobby against Jones Act changes, arguing that the federal cabotage laws create a steady market for customers. The Maritime Alliance groups Jones Act shippers operating in the Puerto Rico trade — including Horizon Lines, Trailer Bridge, Crowley and Sea Star — along with leading shipping industry unions.
The report was requested by Pierluisi and Northern Mariana Islands Delegate Gregorio Kilili Camacho Sablan through the Subcommittee on Fisheries, Wildlife, Oceans & Insular Affairs of the U.S. House Committee on Natural Resources.
Pierluisi pushed to have the GAO undertake the study to get a clearer picture of the controversy.
The GAO studied all ports in Puerto Rico then compared them with others in the U.S. Virgin Islands (USVI), the Dominican Republic, Hawaii and elsewhere. It also looked at all aspects of the shipping market including fuel, bulk cargo and container shipments.
The GAO also assessed the possible effects of modifying the application of the Jones Act in Puerto Rico. The GAO extensively reviewed information relevant to the issue and spoke to a wide range of stakeholders, including during a visit to Puerto Rico in April 2012.
As the GAO report details, most of the cargo shipped between the U.S. mainland and Puerto Rico is carried on 17 container vessels operated by four Jones Act carriers. These carriers provide regularly scheduled, weekly service between the Port of San Juan and five ports in New Jersey, Florida and Texas. The GAO notes that this cargo is primarily consumer goods and raw materials related to the manufacturing of pharmaceuticals and medical devices.
According to the GAO, the remaining maritime trade between the U.S. mainland and Puerto Rico is shipped on bulk cargo vessels, which carry dry bulk goods (such as fertilizer, animal feed and grains) and liquid bulk goods (such as oil and other fuels). Unlike scheduled container services, bulk shipping services are generally based on unscheduled operations. At least three Jones Act carriers were identified by the GAO as offering bulk services between the U.S. mainland and Puerto Rico. However, the GAO reports that, according to multiple sources in Puerto Rico, only “a limited number of qualified Jones Act vessels may be available at any given time to meet shippers’ needs.”
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Fresh off her recent confirmation as the executive director of the Puerto Rico Tourism Co., Ingrid Rivera Rocafort has an itinerary booked solid, charting a course for Puerto Rico's tourism industry to grow. Her goal is to see the sector's output grow from 6% to 8% of Puerto Rico's gross domestic product (GDP) by the end of 2016, an ambitious milestone that would result in a $1.3 billion contribution to the island's economy.
Recent history isn't in her favor. In the quest to achieve that lofty goal, she will be running up against a track record of previous administrations, dating back to 1976, that have failed to realize the tourism industry's potential because of a lack of proper promotion of Puerto Rico's Godgiven attributes.
In the short term, Rivera has focused on improving air and sea access to Puerto Rico. To that end, she has been flying to points across the world to meet with representatives from airlines and cruiselines to establish new routes to several destinations. Her work has already resulted in new direct routes to and from Colombia and Mexico, while opening new flights to already established strongholds in the Eastern Seaboard of the mainland U.S.
Progress has also been made on the cruiseship front, where Rivera has to make quick work of rekindling relationships with established cruiselines that were contemplating leaving Puerto Rico because some incentives are due to expire this year. Rivera told CARIBBEAN BUSINESS that her recent meetings with representatives from Carnival and Royal Caribbean addressed those concerns effectively so that these cruiselines will remain in Puerto Rico for the foreseeable future. It is also significant that Disney Cruiseline's entry has been secured, as Puerto Rico will be developing world-class pier facilities to meet the company's high standards.
In the works are some 6,500 new hotel rooms at various stages of development that would bring Puerto Rico's inventory to 21,000 rooms by 2016. That would put the island in the ballpark of, say, Panama, which has 28,000 rooms. However, 21,000 rooms would still be a far cry from the levels of world-class island tourist destinations such as Hawaii(70,000) and the Dominican Republic (69,000), or even Cancún (30,000).
Rivera must know that it doesn't have to be this way. Puerto Rico has the God-given attributes to compete with these other tourism destinations. What Puerto Rico sorely needs is proper marketing and promotion, and that is where we have fallen short. During the first months of the Alejandro García Padilla administration, much has been said about developing the marca país initiative, which Rivera described as an umbrella idea, with the goal of "branding" Puerto Rico for effective marketing across various industries. The marca país concept contemplates a committee of people not exclusive to tourism, as is the case with traditional destination marketing organizations (DMOs) that have been so successful in promoting world-class cities worldwide.
We don't have to go on a safari hunt to find the answer. It is on display in so many top tourism destinations: New York City, Orlando, Chicago, Las Vegas. The list goes on and on. Plain and simple, a DMO made up of private industry experts involved in marketing and promotion has worked well in many top tourism destinations, but typical of the Puerto Rico government, officials want to fully control what they have.
It does no good to build new hotel rooms and add new flights if you can't effectively market and maintain Puerto Rico's otherworldly attractions for tourists, and nobody knows better how to do this than industry professionals. The leadership in the Puerto Rico Senate and the House of Representatives would contribute greatly to Puerto Rico's economy by enabling a DMO. That's the only way to see the tourism industry actualize its God-given potential to bring billions of dollars to Puerto Rico and the hundreds of thousands of jobs we so desperately need.
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San Juan – In light of the New York Federal Reserve president warning that Puerto Rico's economy has not tanked just yet, the island's legislators on Friday rushed to try to approve a budget.