The federal government is suffocating Puerto Rico’s economy and society.
Late Wednesday, Congress voted to restructure Puerto Rico’s $70 billion debt and establish a fiscal-oversight board to help steer Puerto Rico out of its debt crisis. The bipartisan compromise is headed to the president’s desk and he is likely to sign it quickly. Regardless, Governor Alejandro García Padilla has announced that on Friday, Puerto Rico will default on its largest and most senior debt payment yet, $1 billion of a $2 billion payment due.
U.S. creditors are breathing a sigh of relief with the passage of PROMESA, and U.S. taxpayers should, too — because it could have been much worse. Puerto Rico’s debt already has junk-bond status and the island is cut off from the financial markets, so investors (which likely include your pension’s investment funds) have already taken huge losses. On top of that, Democrats had hoped to get retroactive Chapter 9 bankruptcy protection for Puerto Rico — in other words, an unconstitutional impairment of existing contracts — and a taxpayer bailout along with other subsidies, including an extension of the Earned Income Tax Credit to Puerto Rico. By the way, Puerto Ricans living on the island don’t pay any federal income taxes.
The fiscal-oversight board will be nominated by the president from lists proposed by congressional leaders. It will have oversight over Puerto Rico’s budget and fiscal plans, and will in effect be able to run the U.S. territory’s finances, though it will not have the power to do much else. Even that, however, was too much for Senator Bob Menendez (D., N.J.), who railed against the prospect that Puerto Rico will be deprived of self-government.
That’s quite an ironic position for somebody who believes that the full federal minimum wage and full federal welfare benefits should apply to Puerto Rico, regardless of local conditions. In fact, however, Congress substantially deprived Puerto Rico of the ability to regulate its own society in the 1970s.
Congress substantially deprived Puerto Rico of the ability to regulate its own society in the 1970s.
That was when Congress enacted three policies that had the combined effect of making Puerto Rico utterly dependent on federal largesse. In late 1970s, the U.S. imposed on Puerto Rico the full federal minimum wage, full welfare benefits, and a gargantuan tax shelter — Section 936 of the U.S. Internal Revenue Code. As I explain in greater detail in a new study for the LIBRE Institute, the first two policies had the effect of pushing a large fraction of Puerto Ricans out of the labor force and into dependency on the government, thereby artificially constricting the tax base for the Puerto Rican government.
That left Puerto Rico saddled with a labor-force-participation rate of barely 50 percent, one of the lowest in the world, and made a fiscal crisis inevitable. The only reason the fiscal crisis didn’t happen right away, by the early 1980s, was the third policy: namely, the tax shelter of Section 936, which artificially re-expanded the tax base and made the Puerto Rican government inordinately dependent on the corporate-income-tax payments of foreign corporations taking advantage of the tax shelter. Section 936 was repealed in 1996 and phased out completely in 2006, which is precisely when Puerto Rico’s economy went into a tailspin.
Ten years later, it still has not recovered. Its Gross National Product (GNP) is a staggering 30 percent lower than it would have been if Puerto Rico had just kept pace with the mainland U.S. economy’s great recession and tepid recovery. Even more staggering, Puerto Rico has lost 10 percent of its population in just the last five years, mostly from the most-productive part of the labor pool. Labor-force participation has plummeted to under 40 percent. With unemployment at double the national average, its true employment rate is under 30 percent. And perhaps a third of those workers are in the public sector, implying a terrifying private-sector-employment rate in the teens.
Obviously no society with a such a tiny proportion of its population employed in productive labor can possibly sustain itself. Puerto Rico faces a historic, existential crisis, imposed on it by progressive policies that were well-intentioned but woefully ill-conceived.
Puerto Rico faces a historic, existential crisis, imposed on it by progressive policies that were well-intentioned but woefully ill-conceived.
The lesson for other parts of the United States confronted by urban blight and localized economic depressions is clear. A minimum wage of $7.25 may have a mild impact on income and employment in the aggregate across the whole nation — but that same minimum wage can have a devastating impact in poor areas. Across the U.S. as a whole, the federal minimum wage is 41.7 percent of the median hourly wage. But in Puerto Rico, the same minimum wage is a staggering 75.4 percent of the median wage.
A minimum wage set that high in relation to average wages is not protection for the poor, it is at best charity for the middle class at the expense of poor people, and a worst a disaster for the whole society. The introduction of the minimum wage in Puerto Rico marks the point in time at which Puerto Rico’s Gross National Income per capita started to fall back, from 40 percent of the U.S. average to 30 percent, after decades of steady progress.
Keep in mind that, by eliminating the data points at the bottom of the income earners’ bell curve, any minimum wage, regardless of its effects, will artificially raise the median and average hourly wages. If you raised the minimum wage to some absurdly high level, say, $4,000 an hour, the U.S. median wage would be higher than that, but almost everyone would be out of work, and the U.S. would instantly become one of the poorest countries in the world.
#share#Something similar happened to Cuba, where Fidel Castro made all private transactions illegal in the early years of the revolution, bringing about one of the most vertiginous deteriorations in living standards ever to afflict an affluent society not at war.
Puerto Rico has not, thank heavens, had to suffer anything like the calamities and abuses of the Cuban Revolution. But it has gotten a small taste of another aspect of the Cuban Revolution: involuntary indolence and dependency on government for a large fraction of its working-age population. In the 1950s and 1960s, Puerto Rico experienced amazing growth in its economic productivity, living standards, and education levels — similar to that of “Asian Tigers” such as South Korea and Singapore in the 1990s.
Then, along with the full minimum wage, came welfare at almost full federal levels. In 1964, direct federal transfers accounted for 5 percent of Puerto Rico’s personal income; ten years later, the figure was 20 percent. Today, nearly half the Puerto Rican economy is subsidized entirely by U.S. taxpayers, and half of Puerto Ricans are on some kind of federal welfare. In 1973, before the introduction of federal food stamps, Puerto Rico had one of the highest levels of nutrition in Latin America. Yet food stamps were introduced at benefit levels so high that half of all Puerto Ricans qualified for them. By 1980, food stamps accounted for an astonishing 7.5 percent of Puerto Rico’s personal income, compared with just 0.5 percent on the mainland.
There is a small glimmer of hope in the PROMESA bill.
With the repeal of Section 936, the chickens finally came home to roost, and the Puerto Rican economy went off the cliff. Now, like their fellow caribeños in Cuba, Puerto Rico’s working-age population is heading for opportunity in the United States.
The real tragedy in this story is that, by the mid 1970s, the United States and Puerto Rico proved that the combination of property rights, rule of law, democratic government, and free markets could lift a poor Latin American society entirely out of poverty. Democrats point out that nearly half of Puerto Rico is still below the federal poverty line, but that’s an absurd definition of poverty to impose on a society that’s still developing. If the federal government had merely left well enough alone, and allowed Puerto Rico to continue on its road to progress, it could have attained U.S. levels of affluence by now.
#related#Instead, the federal government intervened with the deadening hand of progressive policies, with the same results as in Detroit, the Rust Belt, and other poor areas of the United States — namely to stop social and economic progress and replace it with indolence and dependency.
There is a small glimmer of hope in the PROMESA bill. With approval of the fiscal-oversight board, the governor of Puerto Rico will be allowed to exempt Puerto Ricans under 25 from the minimum wage for their first jobs, and the Department of Labor’s terrible new overtime rules will not apply to Puerto Rico.
That won’t be nearly enough to save Puerto Rico, but it does reflect a bipartisan recognition that for areas of the country suffering from poverty and lack of opportunity, federal intervention is not protection but poison. Hopefully, from that consensus we can build towards programs that will bring freedom and opportunity to other poor areas of the country, and perhaps one day to Puerto Rico as well.