The word “bailout” can prompt an immediate, visceral reaction – especially after the events of 2008, when billions of taxpayer dollars were transferred from the government to private companies such as AIG.  The label is now so toxic that merely referring to legislation as a bailout is a substitute for reasoned examination and debate.  A prime example is the Puerto Rico Oversight, Management, and Economic Stability Act (PROMESA), currently before Congress. PROMESA puts no taxpayer money at risk.  Yet the proposal’s critics (a shadowy cast of powerful hedge funds) are cynically referring to it as a bailout so they can profit handsomely from an actual taxpayer bailout down the road, once the situation in Puerto Rico spins further out of control.

First, some background:  Puerto Rico, a U.S. territory, owes more to its creditors than it can ever possibly repay, and has already started defaulting on its debt.  This circumstance was decades in the making, and has now reached a crisis point as the territorial government has stopped paying creditors and started cannibalizing the assets of its already-underfunded pension system.  Puerto Rico is $70 billion in debt, has unfunded pension liability of more than $40 billion, and yet still lacks the resources necessary to provide even the most basic services (clean drinking water, sewage treatment, mosquito abatement, and the like) to the island’s residents.    As a result, unemployment is 12%, the Zika virus is rampant, residents are leaving the island in record numbers, and private capital is unavailable for critical infrastructure development.  The situation is so dire that experts are predicting a humanitarian crisis.

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There are two ways to respond to the situation in Puerto Rico.  The first is the approach taken by PROMESA, which would create an independent oversight board with the power to put Puerto Rico’s financial house in order.  The oversight board will audit all aspects of the Puerto Rican government’s operations and develop the sound budget and prudent financial planning necessary to reopen access to the capital markets and private investment.  Once the government’s books are in order, the oversight board will work with creditor constituencies to facilitate an orderly restructuring of Puerto Rico’s obligations. Voluntary arrangements are the goal, but the oversight board will have the power to propose a federal-court-supervised debt adjustment that will prevent a minority of holdouts from scuttling a fair deal that is acceptable to the majority of creditors.  Critically, PROMESA would not allow Puerto Rico to go bankrupt and would not permit American taxpayer funds to bail out Puerto Rico’s creditors.

The alternative to PROMESA is a genuine taxpayer bailout, which is the real goal of the hedge funds that oppose PROMESA.  Puerto Rico is part of the United States; its residents are U.S. citizens who are moving and will continue to move to the mainland if the island’s economy collapses.  If the situation deteriorates further (as it will in the absence of a solution such as PROMESA), the resulting crisis will create immense pressure on the U.S. Treasury to assume responsibility for Puerto Rico’s unpayable debts.  The hedge funds that oppose PROMESA would prefer an even larger, more unmanageable catastrophe in the expectation that they will ultimately be paid in full – and reap bonus-inducing profits on debt bought at a large discount – via a true taxpayer bailout.

Buzzwords like “bailout” are easy substitutes when reasoned arguments do not withstand scrutiny.  PROMESA’s opponents are banking on the power of this unjustified bailout label spread through hundreds of ads to defeat a sound, prudent legislative proposal that will restore fiscal discipline to Puerto Rico’s finances at no cost to taxpayers.  The hedge funds’ real agenda, however, is to profit handsomely from a genuine bailout once the crisis becomes truly unmanageable.  Congress should not be taken in by this ruse and should instead consider PROMESA on its merits.  If it does so, the legislation will pass and Puerto Rico – and the rest of the United States – will be better off as a result.

 

The views are of the author only and should not be attributed to his law firm, any of its clients, or the UCLA School of Law.


Kenneth N. Klee is a nationally recognized expert on bankruptcy law. He became a Professor of Law Emeritus at the UCLA School of Law where he taught since 1979 and is a founding partner of Klee, Tuchin, Bogdanoff & Stern LLP, specializing in corporate reorganization, insolvency, and bankruptcy law. Professor Klee serves clients as an expert witness, mediator, arbitrator, attorney, or consultant in his chapter 11 business reorganization practice.