Could Federal Inability to Function Risk Municipal Credit Ratings?

January 23, 2019

Good Morning! In this morning’s eBlog, we report on the potential adverse fiscal impacts on recovering municipalities from the ongoing federal shutdown, before journeying west to assess the potential municipal impact in California of a major public utility’s insolvency, before considering the views of Presidential candidate Sen. Elizabeth Warren (D-Mass.) in her visit to the U.S. territory of Puerto Rico.  

Could Washington, D.C. Political Dysfunction Set Detroit Back? The gifted editorial writer of the Detroit News, Daniel Howes, writing about the auto executives who gathered in Detroit last week for the annual auto show, noted: “You could detect a common, if muted, complaint: Washington is weighing on the industry and its outlook. That could become a real problem this year, nearly a decade after two of this town’s automakers emerged from bankruptcy to jumpstart their long road back to respectability. Uncertainty looms.” He wrote that auto executives from the Motor City to Guangzhou used the Detroit auto show to “politely lament serial dysfunction in President Donald Trump’s Washington, confirming the honeymoon between Detroit and the White House is long since over. The confusion, exacerbated by the longest government shutdown in American history, is complicating decision-making, delaying investment and undermining the stability business craves, a pre-condition to making billion-dollar bets on plants, products, and people,” warning it could adversely affect the city’s recovering economy. He noted that the University of Michigan’s closely watched consumer sentiment index late last week reported its largest drop since Trump became President: the author, economist Richard Curtin, had written: “The decline was primarily focused on prospects for the domestic economy, with the year-ahead outlook for the national economy judged the worst since mid-2014…The loss was due to a host of issues including the partial government shutdown, the impact of tariffs, instabilities in financial markets, the global slowdown, and the lack of clarity about monetary policies.” He appeared to be reflecting the nearly 50% decline in CEO confidence in the global and U.S. economy—both issues of great import to the Motor City.

With tariff and trade tensions slowing the world’s largest economies, Mr. Howes noted that President Trump’s threat to levy 25% tariffs on foreign-made vehicles bound for the U.S. (and to leave in place tariffs on foreign steel and aluminum) are unnerving both domestic and foreign automakers—writing that China’s GAC Motor said last week it is delaying plans to enter the rich U.S. market by roughly a year, citing the proposed Trump tariffs. But he also noted that the federal shutdown means that Chrysler has been unable to receive its EPA-mandated emissions certification for its redesigned Ram 3500 heavy-duty pickup—an ominous omen for jobs in one of the world’s most auto-related economies. In a city which is relatively unique in its relatively significant reliance on income taxes, the federal shutdown could be slamming the brakes on the city’s remarkable recovery from the nation’s largest ever chapter 9 municipal bankruptcy.

He noted, further, that Ford’s executive Chairman, Bill Ford, in an interview during the auto show, warned: “There’s very little getting accomplished…That makes it hard for businesses to operate. Not just Ford, but any business, because we make decisions and they are billion-dollar decisions-plus… and we’re doing it now kind of flying blind.”

Robbing from Pedro to Pay Paul? On the left Coast, there are questions with regard to whether the pending chapter 11 bankruptcy of investor-owned Pacific Gas & Electric Corp. will have fiscal implications for the golden state or its cities and counties. Such a bankruptcy, coming in the wake of the firm’s estimated $30 billion in legal liability stemming from the state’s deadly wild fires, could also have severe fiscal implications for the state’s local governments—as it would adversely affect the company’s capacity to pay property taxes to the counties in which it operates, in addition to assessing whether it would make payments on its bond debt. Indeed, Fitch Ratings has already downgraded PG&E’s long-term issuer default rating to C from BBB-minus after the company this week announced it planned to restructure its debts through bankruptcy. Moody’s has moodily downgraded PG&E to Caa3 from Ba3, while Standard and Poor’s Global Ratings had downgraded PG&E five notches to B a week before the bankruptcy announcement—a downgrading which it dropped further after PGE missed a $21.6 million interest payment on its $800 million 5.4% senior notes maturing in January of 2040:  There is a 30-day grace period, before default is triggered: PG&E has issued close to a billion dollars in bank-backed municipal bond debt through state conduit issuers, the California Pollution Control Authority, and the California Infrastructure & Economic Development Bank.

Fitch Ratings wrote that the State of California, local governments, and the public-owned credits may withstand the stress from PG&E’s bankruptcy, because the utility will probably continue to operate as it did when it went through a Chapter 11 bankruptcy restructuring in the early 2000s after it was caught up in a power supply crisis, with Senior Director Kathy Masterson noting: “Our assumption is that they will continue to provide service, just as they did when they were in bankruptcy from 2001 to 2004.” (PG&E provides power to about 16 million gas and electric customers in northern and central California and is among the largest taxpayers in several cities and counties that Fitch rates.) PG&E made property tax payments totaling $462 million to 50 California counties in FY2018, according to S&P.

Let the Presidential Debate Commence! Sen. Elizabeth Warren (D.-Mass.), an announced Presidential candidate, in San Juan as part of a visit to the U.S. territory of Puerto Rico, where she denounced the “cruelty” of the federal government’s treatment of Puerto Rico, said: “I’m here again to talk about the dignity and respect that this island deserves of our government, and the cruelty with which it has been treated: When the government no longer works for the people; when the government only works for the rich and powerful; we have to call it what it is: corruption, simple and simple. We need to make a change.” She told her audience she is pushing an anti-corruption law in Congress, and described it as “the most comprehensive” since the Watergate scandal: her proposed legislation would end lobbying as it has been known up until now and would prohibit lobbyists from donating money to elected officials. It would also prevent Members of Congress or the Cabinet from becoming lobbyists, or, as she had told students at the University of Puerto Rico: “The goal is to overcome the influence of money in the government,” reminding the attendees that she had come to Puerto Rico in 2015 and then, almost a year ago, to witness the recovery efforts in the wake of Hurricanes Irma and María—and deploring that Puerto Ricans still suffer the consequences of both hurricanes, noting: “Puerto Rico has not been treated with respect…“We’re not going to let anyone sabotage the recovery of Puerto Rico.” Referring to the territory’s accrued $70 billion of public debt; instead, she said, the PROMESA Act had been signed into law to benefit the “vulture funds” of Wall Street and not Puerto Ricans—and that Congress had denied Puerto Rico the possibility of filing for something like chapter 9 municipal bankruptcy—instead enacting the PROMESA statute—which she had opposed. Thus, she stated: “We must counterattack. It is time to show the people of Puerto Rico some respect,” adding that such r-e-s—e-c-t should begin by addressing the status of the island. She said she would support any decision the people make, including statehood, adding she favors the adoption of a quasi-Marshall Plan. She criticized FEMA’s responses to Hurricanes Irma and Maria, and said that FEMA Administrator Brock Long must resign or be fired, describing his relief efforts as “negligent,” closing by noting: “The experience of Puerto Rico in recent years reflects the worst of what has happened in Washington: a government that works for the big and powerful, for no one else.”


Uncertain Quasi Plan of Debt Adjustment Authority to Address Puerto Rico’s Quasi Municipal Bankruptcy

January 18, 2019

Good Morning! In this very early morning’s eBlog, we report on efforts by PROMESA Oversight Board to attempt to invalidate more than $6 billion worth of debt or municipal bonds of the U.S. territory of Puerto Rico.  

Robbing from Pedro to Pay Paul? U.S. Judge Laura Taylor Swain yesterday reserved the ruling on the plan that would cut the debt of Cofina (the Corporation of the Fund of Interest Apremiante) in the wake of questioning whether she has the authority to give a law approved in Puerto Rico the force of a federal statute. The PROMESA Oversight Board is asking a court to invalidate more than $6 billion worth of debt issued by the U.S. territory, a move that would hit bondholders. Major stakeholders engulfed in Puerto Rico’s bankruptcy-like proceedings urged a federal judge on Wednesday to approve a watershed settlement designed to restructure nearly $18 billion in debt carried by the Puerto: the Board, late Monday, noted the debt includes all general obligation bonds which were issued in 2012 and 2014 in “clear violation” of debt limits established by Puerto Rico’s Constitution. Instead of adhering to a balanced budget requirement, they were used to finance deficit spending.

During the second day of the confirmation hearing of the Cofina adjustment plan, Judge Swain repeatedly asked the attorneys for the PROMESA Oversight Board, the Cofina Principal Bonds Coalition, and the Financial Advisory Authority and Tax Agency (Aafaf) what provisions of law or jurisprudence would allow the federal court that deals with Title III cases of Puerto Rico to validate and classify as unquestionable the law that the Puerto Rico Legislative Assembly approved last year to renegotiate Cofina’s debt. This law established that the portion of the Sales and Use Tax committed to the payment of the debt is divided between Cofina and the central government, and it is the basis for the renegotiation of the public corporation’s debt and, therefore, of the plan of adjustment. On a day in which the citizens Rafaela Esteves, José Torres Asencio, and Nicole Rodríguez opposed the pact, Judge Swain asked the Board if it really was asking the court to “rewrite” Puerto Rico’s constitution—even joking when trying to establish a parallel between validating a law of Puerto Rico through a federal court order and the magic of the Harry Potter literary saga—asking if, in the absence of data to validate the plan, the Oversight Board was asking him to put on “the Hogwartz hat” (which decided which team the apprentices go in the saga), in response to which the Board’s attorney, Paul Rosen, responded: “He is not part of Slitherin (the villain team in the literary work),” referring to Susheel Kirpalani, an attorney of the Coalición Cofina Senior and is identified as one of the main figures in the agreement that was agreed to between the Oversight Board and the creditors and that would cut approximately 32% of the current principal of Cofina.

In his effort to try to sway the Judge, Mr. Kirpalani offered three arguments: he recalled that last year, when agents appointed by the Board to resolve a dispute over the membership of the IVU were unable to reach a consensus, the parties had sought to certify the controversy so that the Supreme Court of Puerto Rico could determine whether the law that created the Puerto Rico sales and use tax (SUT) and Cofina was constitutional—in response to which Judge Swain deferred her decision, noting that the federal forum could resolve the matter in the light of the PROMESA statute and the plenary power that Congress has over the U.S. territories. Mr. Kirpalani explained that the U.S. territory’s high judicial forum establishes that every law approved in Puerto Rico is considered constitutional, unless proven not to be; in addition, he said that §305 of PROMESA authorizes him to modify the property of the Puerto Rican government, in this case, the distribution of the proceeds of the SUT, if the Oversight Board so approves—a line of argument which did not appear to be persuasive with Judge Swain—even though the proposal would appear to be something upon which the Judge must opine—part of the enigma of the federal statute and the teetering balance of the PROMESA Oversight Board versus the federal court, versus the Commonwealth of Puerto Rico.

It appears that this is a puzzle for Judge Swain to attempt to piece together—a complex jigsaw puzzle, where the first piece is to approve a kind of contract or stipulation between Cofina and the government of Puerto Rico—with the challenge to piece together which collections of revenues are to go to which commitments to municipal bond repayments, and to establish certain limitations and obligations between the parties, but do so in a manner that reduces Cofina’s debt. Apart from the reduction in the principal, the plan must attempt to establish what will touch the principal and subordinate bondholders of the entity; thus, Judge Swain must evaluate and certify whether the Cofina plan is reasonable, fair, and works in the best interest of the debtor, criteria established in PROMESA. Finally, Judge Swain must decide how the cash will be distributed and the fees of the custodian bank of Cofina’s debt, Bank of New York Mellon, will be paid once the plan comes into force. To certify the plan, the Oversight Board has presented Judge Swain with a draft of the court order that would make it feasible—but a plan which, unsurprisingly, has raised questions.

For instance, the proposed court order would take for granted certain findings and conclusions of a legal nature that were not justified in the documents filed, according to the judge. The order would also establish that the documents associated with the adjustment plan would have the force of law. It appears, based upon Judge Swain’s line of questions, the ruling would place the weight of a federal court order on the law of the new Cofina municipal bonds, whose provisions regarding the membership of the territory’s sales and use tax have never been settled by a court—much less determined to comply with the U.S. Constitution.

In the meantime, Judge Swain made it clear that the court would not give way to an order which exempts officials and other participants who were part of structuring Cofina’s debt from responsibility. The apportioning of debt, however, has raised questions about the underlying provisions and basis of this quasi plan of debt adjustment—including questions raised in the court whether any redistribution by the oversight Board of any part of revenues to the central government, the Board would be altering the concept of secured debt in the United States—potentially, as one party argued, opening the door for states like Illinois, New Jersey, or Connecticut to do the same, as well as tread on the U.S. Constitution via the appearance of confiscation via transfer of any portion of revenues.

Meanwhile, other parties, insurers such as Assured Guaranty and National Public Finance, defended the agreement; independent Legislative Assembly representative Manuel Natal Albelo asked Judge Swain not to approve the Cofina plan, telling the court he had filed a lawsuit against the government, as the Legislative Assembly had approved the law providing for the new Cofina bonds without complying with the required processes—a suit removed by the Oversight Board from state oversight authority under the provisions in PROMESA suspending certain litigation. Unsurprisingly, Judge Swain has asked the PROMESA Oversight Board and the Aafaf, not later than Monday, to present a motion explaining the accusations in her courtroom, where the PROMESA Title III cases will resume on January 30th—with Puerto Rico economist José Caraballo describing this as “really is a milestone: It is perhaps the Board’s best move in its two years of existence,” noting that while it is unclear when a judge would rule on the Board’s motion, he believes it gives the government bargaining power, noting that Detroit made a similar move during its bankruptcy. He added that those who bought general obligation municipal bonds during that time might accept a big cut instead of risking a total loss: “It was a very speculative omission,” he said: “They ran the risk of lending to a government they knew was in trouble and ignored the margin established in the Constitution,” with the PROMESA Board’s findings coming in the wake of the Board’s request, a year ago last September, for an independent investigation of all municipal debt issued by Puerto Rico and its connection to the U.S. territory’s current fiscal crisis. (According to the report released in Aug. 2018 by the firm who helped the Board conducts its investigation, as of May 3, 2017, Puerto Rico had about $74 billion of municipal bond debt and $49 billion in unfunded pension liabilities, with the report adding: “For an economy of Puerto Rico’s size, the burden of this debt has been catastrophic—it has been a financial, and ultimately a humanitarian, catastrophe. The toll it has taken on the people of Puerto Rico begs a pressing question: How did it happen?”

Recent discussions of Puerto Rico’s debt levels by both Puerto Rico officials and the Financial Oversight & Management Board for Puerto Rico represent that the U.S. territory’s per capita debt levels are far higher than the average per capita levels of the 50 states—a comparison which is not exactly apples-to-apples, as it compares only state-level debt and ignores both the local government debt and federal debt which is also supported by mainland taxpayers. Indeed, some analyses note that when one includes the state and federal debt that is borne by mainland U.S. residents, Puerto Rico’s per capita debt load is 75% lower than the average for even the 10 states with the lowest per capita debt burdens in the country.

Undercutting Puerto Rico’s Recovery? What are the Governor’s Priorities for the new Session?

January 11, 2019

Good Morning! In this morning’s eBlog, we report on efforts by the Trump Administration to reallocate funds for hurricane recovery in Puerto Rico to use for his proposed border wall with Mexico, and we consider the new session of its Legislature’s priorities. 

Robbing from Pedro to Pay Paul? Puerto Rico Gov. Ricardo Rosselló on Friday, responding to reports that the President is considering reallocating natural disaster funding from recovery efforts in the U.S. territory to finance construction of his proposed $5.7 billion border wall tweeted: “No wall should be funded on the pain and suffering of U.S. citizens who have endured tragedy and loss through a natural disaster…This includes those citizens who live in CA, TX, PR, VI, and other jurisdictions. Today it’s us, tomorrow it could be you.” Although the President has claimed his team did a “fantastic job,” mayhap referring to the paper towels the President brought to the island, no independent analysis supports that claim, and critics note the Trump Administration failed to respond quickly and robustly to the storm, which battered infrastructure across Puerto Rico: hospitals were unable to function, clean water and food were scarce—and today, a year later, power is still spotty. According to a George Washington University report, an estimated 3,000 Puerto Ricans died during the disaster and its aftermath. Nonetheless, the Administration is considering redirecting disaster-relief funds for Puerto Rico to fund the Trump-proposed border wall, with the AP having reported that the White House has directed the Army Corps of Engineers to examine how much of the $13.9 billion in emergency funds set aside for Puerto Rico and other storm-damaged areas could be used to build a border wall, noting that nearly $14 billion in emergency disaster relief funds have been allocated but not yet obligated through contracts for a variety of projects in states including California, Florida, Texas and in the U.S. territory of Puerto Rico which have been hard hit by recent hurricanes, wildfires, and other natural disasters, according to the aide familiar with the matter—with those funds directed to a variety of projects, mostly flood control to prevent future disasters.

Unsurprisingly, the proposal to syphon disaster assistance to finance the proposed border wall drew a sharp response from Rep. Nydia M. Velázquez (D-N.Y.), who was born in Puerto Rico, who noted: “It would be beyond appalling for the President to take money from places like Puerto Rico that have suffered enormous catastrophes, costing thousands of American citizens lives, in order to pay for Donald Trump’s foolish, offensive, and hateful wall. Siphoning funding from real disasters to pay for a crisis manufactured by the President is wholly unacceptable and the American people won’t fall for it. My Democratic colleagues in Congress and I will fight such a move with every ounce of energy we have.”

For his part, Gov. Ricardo Rosselló tweeted: “No wall should be funded on the pain and suffering of U.S. citizens who have endured tragedy and loss through a natural disaster. This include those citizens who live in CA, TX, PR, VI and other jurisdictions. Today it’s us, tomorrow it could be you. No justification should be considered to reclassify the money that U.S. citizens will use to rebuild their communities. If anything, the conversation should be how we get more resources to rebuild those impacted areas faster: “Mr. President, do not tear down US citizens in order to build a wall. Help the USA rebuild.”

The Capitol Hill publication, The Hill, has reached out to the White House for comment regarding Gov. Rosselló’s remarks, in response to which an administration official, who requested anonymity replied: “I can tell you that’s definitely an option that has been presented to the President. This issue has risen to the forefront as the President is reported to be considering a national disaster bill as a partial government shutdown entered its third week, and the White House mulls declaration of a national emergency as a means to circumvent negotiations with Democrats in Congress if they cannot reach a real on funding for the Trump Wall.

New Session. Puerto Rico’s regular or ordinary session of the Legislature begins this week with measures, according to House President Carlos “Johnny” Mendez, of payments for public defenders and the transparency of the auction process, as well as issues relating to the adoption of minors, the abandonment of the elderly, crime and health. In addition, according to the cameral leader of the New Progressive Party, he will also resume measures today such as those that would create the Incentive and Civil codes.

The Third Age. The Legislature will name a special commission to address old age, with the recognition, in the wake of the havoc wrought by Hurricane Maria, of how precarious the state of the island’s elderly was: too many had been left exposed, some homeless, without medication, going hungry and “abandoned by their relatives or by the same agencies, or, as he put it: “You have to be more assertive in caring for the elderly. We are going to hold some summits, but at the same time I want to see what kind of legislation is necessary to address this issue.”  President Mendez has also proposed to address gender violence, suggesting this issue, as with criminality, is in the home “because values ​​are not learned in school or in the street, it is in the home,” adding that, in the face of the reality that “we continue to lose police officers, many of them researchers with experience,” we must encourage new and recruiting agents to receive “the necessary training for the investigative processes.”

Salud. Leader Mendez, on the issue of health care, reported his commitment is “to continue lobbying” in Washington, D.C. to achieve equality in Medicaid funds, noting: “In the next two years, the emergency funds run out and we will return to the level of funds we had before Obamacare.”

Economic Recovery. There will be a continued focus on economic development: the Legislature has received the commitment of Governor Ricardo Rosselló that “a new draft of the Incentive Code or amendments to the one in the Chamber will be submitted,” with, this week, a legislative conference to define what will be presented and “as soon as we define that we will approve the new Code, which is what stimulates economic development, attracts investments and at the same time allows new companies to be located here for the creation of new jobs.”

Civil Code. Leader Mendez vowed that before the end of next month, the “new Civil Code will be approved that is tempered to our times,” because the current one “was approved in the third decade of the last century.”

Statehood: Si o No?  With regard to the perennial issue of statehood, Leader Mendez reported that, notwithstanding the tight legislative agenda, he believes there is room to “continue to promote the solution of the status problem and the measure proposed at the end of last year, that there be a consultation in Puerto Rico that is tied to Congress” and that accept the results and then “be able to move the Admission Act.”

Conflicting Governance & Oversight: How Much Does It Cost to Recover from Quasi Municipal Bankruptcy?

January 8, 2019

Good Morning! In this morning’s eBlog, we report on fiscal and governing challenges for the U.S. territory of Puerto Rico confronts as it seeks to exit from the oversight of both a federal judge and a Congressionally-imposed oversight board.

UnGoverning. Puerto Rico Gov. Ricardo Rosselló signed into law several bills which seek to make the U.S. territory’s central government and municipalities or municipios more efficient, as well as generate revenue, with the signing coming as the new Congress starts the year, and as Democrats are picking up an unresolved fight: investigating the Trump administration’s response to Hurricanes Irma and Maria in Puerto Rico. Yesterday, Sen. Senator Kirsten Gillibrand  (D-N.Y.) announced she was re-introducing legislation to establish a “9/11-style” independent commission “to investigate exactly how and why the federal government abandoned its responsibilities and turned its back on Puerto Rico,” noting: “We need to get to the bottom of exactly what went so terribly wrong…I am proud to fight for Puerto Rico in the Senate, and I urge my colleagues to support this legislation just as they would if a natural disaster hit their own states.” Her proposal, co-sponsored by Sens. Elizabeth Warren (D-Mass.), Edward Markey (D-Mass.), Sen. Minority Leader Chuck Schumer (D-N.Y.), Kamala Harris (D-Ca.), and Richard Blumenthal (D-Conn.), would analyze how a questionable methodology to account for hurricane fatalities, a lack of disaster preparedness, and an inadequate telecommunications systems adversely affected Puerto Rico’s emergency response: the goal is to make sure there is no repeat of such a discriminatory response, or, as Sen. Warren put it: “It’s been well over a year since Hurricanes Irma and Maria devastated Puerto Rico, and we still don’t know why the federal government’s preparedness and response were so flawed…the Commission established by our bill would give us a full accounting of what happened and help provide the U.S. citizens in Puerto Rico, in Massachusetts, and across the country with the answers they deserve.” Rep. Nydia Velázquez (D-N.Y.) noted: “As we move into the 116th Congress, I will continue calling for accountability for how Donald Trump and his administration failed 3.4 million American citizens after Maria struck…It is clear now, from multiple analyses, that thousands needlessly lost their lives because of the federal government’s feeble response to these hurricanes and their aftermath, as she vowed she wants Congress to “be certain this never happens again.”

Meanwhile, in Puerto Rico, Gov. Ricardo Rosselló signed into law House Bill 1256, which was authored by Rep. José González Mercado to reduce bureaucracy by eliminating extra documentation required of bidders: the legislation allows bidders who have received a bidding eligibility certificate by the General Services Administration to participate in municipal offers without the need for additional documentation. In his release, Gov. Rosselló said that the GSA’s inspection and accreditation process is sufficiently thorough, allowing for a “Single Bidder Registry,” noting: “It is unnecessary for a person or company to have to be certified in each municipio that might need its permits. This is a measure for efficiency and agility in government efforts, which shows that Puerto Rico is open for business.” The Governor’s efforts might be complimented by House Bill 839, authored by the Rep. Joel Franqui Atiles, which is aimed at making it possible for the GSA to reach agreements with private companies for the sale of advertising space on certain government vehicles: half of the funds raised by the initiative would be used to maintain the Department of Public Security’s fleet, which includes Police, Fire, Forensic Sciences and Medical Emergency department vehicles—as the Governor put it: “At a time of great fiscal challenges, this initiative allows us to raise additional funds by allowing businesses to advertise on certain government vehicles.” The Governor also announced that he signed Senate Bill 940, which was authored by Sen. Miguel Romero: it is a bill intended to facilitate and clarify the process for the reconstruction of the Santurce and Río Piedras urban areas by allowing citizens to acquire abandoned real estate “directly,” with the objective of fostering their restoration and development.

Quien Es Encargado? (Who is in charge?) Unlike a chapter 9 municipal bankruptcy (in the states where chapter 9 is permitted by state statute), the PROMESA law passed by Congress created a more complicated process, which includes a U.S. court and the PROMESA oversight Board, both complicating and vastly increasing costs as Puerto Rico’s subjugation enters its third full year of this hybrid chapter 9 municipal bankruptcy. The greatest challenge appears to be investors/bondholders’ efforts to cash in on more than $70 billion of debt, or, as Puerto Rico attorney John Mudd noted last summer, he expects “another titanic struggle will arise between the Board and the government on pensions” when the PROMESA Board will insist on a 10% cut to funding for government pensions—a cut which would come amid apprehensions that Puerto Rico’s economy will contract in the first quarter of 2019, adding further stress as the Governor has made clear repeatedly that he will not cut workers’ pensions. That is, municipal bondholders, many of whom purchased Puerto Rico’s municipal bonds to benefit from the tax-exemption and high interest rates, have greater interest in preserving the high, tax-free bond payments than Puerto Rico’s fiscal and physical recovery. But the pace of that recovery appears to have been slowed down  by what Advantage Business Consulting President Vicente Feliciano described as: “The most important subjects going into 2019 are the slowdown in the Puerto Rico economy at the tail end of 2018 and the slow pace of the federal disaster recovery transfers,” transfers which appear to be occurring more slowly than the PROMESA Oversight Board had projected, he noted, adding: “Therefore, expect the economy to contract over the first quarter of 2019…As to the rest of 2019, the economy should stabilize as federal transfers for permanent work begin to flow….any growth in the Puerto Rico economy beyond 2019 would have to rely on structural reforms such as the privatization of PREPA. This is critical in terms of Puerto Rico’s debt capacity.”

Evercore Director of Municipal Bond Research Howard Cure has also raised apprehension with regard to shifts in Congressional opinion. Among the new House of Representatives Democratic leadership, he notes: “Questions have arisen about whether austerity measures exacerbate Puerto Rico’s economic malaise,” suggesting the new leadership of the U.S. House Natural Resources Committee could have hearing on the issue, albeit at a time when the federal government itself is shut down, and where, to the administration, providing more than $5 billion to build a wall is a much greater priority than the Commonwealth of Puerto Rico. Nevertheless, in the wake of nearly two years after the PROMESA Board filed for Title III bankruptcy for the central Puerto Rican government, the legal process for many of the Puerto Rican debts is either nearing conclusion, nearing a beginning, or approaching decisive turning points; indeed, rulings are expected in the next few months for two cases that could upend the bankruptcy process. Investment firm Aurelius is arguing that the steps by which the U.S. Congress and President selected the Oversight Board members violate the U.S. Constitution. While Title III Judge Laura Taylor Swain ruled against the firm, Aurelius has appealed the decision to the U.S. Court of Appeals, which heard arguments in December, and could release a decision as early as this month—and, should Aurelius prevail, that could simply lead to a delay in the bankruptcies, or it could mean the undoing of all the Board’s actions, including the apparently settled Government Development Bank restructuring and nearly settled Puerto Rico Sales Tax Financing Corp. (COFINA) restructuring.

In addition, Hedge fund Altair has filed a claim in the U.S. Court of Federal Claims that the federal government is responsible for reimbursing investors for any cuts to the municipal bond values resulting from the Puerto Rico Oversight, Management, and Economic Stability (PROMESA) Act, adding further delays, costs, and uncertainties—with the issues coming as Judge Swain is scheduled to hold a hearing on the COFINA plan of adjustment a week from tomorrow. The federal government had filed a statement of its intention to file an objection but requested more time. The PROMESA Board has said it may file bankruptcies for the Puerto Rico Aqueduct and Sewer Authority and University of Puerto Rico this summer.

Shutting Down Government: What State & Local Leaders Cannot Do

January 4, 2019

Good Morning! In this morning’s eBlog, we report on some of the fiscal and governing challenges for state and local leaders under the federal government shutdown.

UnGoverning. At the expiration of a Continuing Resolution last December 21st, a partial shutdown of the federal government was triggered—a shutdown which, at least so far, as it enters its 15th day—has shown little sign of resolution. A shutdown is, of course, not an option for a city, county, or state—even in cases of municipal bankruptcy, where the city or county must continue to provide essential, lifesaving services, keep street lights and traffic lights operating, streets plowed, 9-1-1 services operating 24/7. Fortunately, approximately 75% of FY2019 discretionary funding has been approved, and entitlement programs, such as Social Security, Medicaid, and Medicare are expected to continue. However, programs ministered by the Departments of Agriculture, Commerce, Justice, EPA, Commerce, HUD, Transportation, and the Department of the Interior deemed nonessential are shuttered. Thus, the ability of state and local governments to provide a significant number of services are compromised; the Congressional Research Service, based on its study of previous federal shutdowns, has found that these federal actions reduce overall growth in the economy, thereby adversely impacting state and local revenues for the levels of government in the U.S. which do balance their budgets, unlike the current Congress and Administration, where interest on the national debt is the fastest growing part of federal spending—and not subject to the shutdown, lest the federal government default.

The newly Democratic House has voted to reopen shut-down government agencies through the rest of the fiscal year, except for Homeland Security which would stay open for the next month while Congress continues to debate funding for a border wall/border security; however Senate Majority Leader Mitch McConnell (R-Ky.) called the measures a “total non-starter” and said the Senate would not consider any funding bills unless President Trump agrees to sign them. Newly elected House Speaker Nancy Pelosi (D-Ca.) heads to the White House today to meet with the President, who continues to insist he will not sign any appropriations bill to reopen the federal government unless it includes billions of additional dollars for a border wall, with his insistence coming after, late Wednesday night, the House passed two bills to fully fund the government, but did not include any additional funds for the wall. Moreover, even were the House to act to reopen the federal government, Senate Majority Leader McConnell has been adamant about keeping the government shuttered, notwithstanding the warning from Senate Appropriations Committee Chair Richard Shelby (R-Ala.), who warned his colleagues the federal government shutdown could drag on for “months and months,” even as some government workers, including at the Department of Homeland Security and at branches of the Armed Forces, such as the Coast Guard, will begin missing paychecks in the middle of January.

Irresponsible. The President is seeking $5 billion to finance the construction of the wall now that his claim that Mexico would pay for said wall has been demonstrated to be false. The President, however, has never explained how he would propose to pay for the wall. Would he propose a federal tax increase? Would he ask Congress to agree to some sort of special fee—say a temporary add-on tax on airline tickets? After all, for any state or local leader who wished to construct a wall around her or his city or county—or along the border of a state, the very first issue would be how to finance the construction and maintenance of such a wall. The White House has been curiously silent, however, as has Senate Majority Leader McConnell.

Clearly, the President, himself experienced in bankruptcy, simply is not concerned about how to finance the proposed wall; so he has proposed no offsets, much less any fees or new taxes to pay. With interest on the national debt already the largest and fastest growing part of the discretionary part of the federal budget; his proposal to the House and Senate appears to be an effort to build a wall of federal deficits and debt.

The Complex Governing Challenges of Shaping Local Governments

January 1, 2019

Good Morning! In this New Year’s morning’s eBlog, we report on some of the fiscal and governing challenges which shape local governments and states in the U.S. territory of Puerto Rico, as well as the ongoing storm recovery there.

Municipal Policy. As Puerto Rico appears nearly back on its fiscal feet, so that, increasingly, the honor and challenge of governance will begin to revert from a U.S. federal court and a Congressionally-named PROMESA panel, meaning that Puerto Rico Governor Ricardo Gov. Ricardo Rosselló Nevares has been facing increasing pressure from popular mayors and members of the New Progressive Party to define what his municipal policy will be—and, especially, whether he will offer a bill to consolidate municipalities via the creation of counties, an issue which recently resurfaced after the Governor, in a recent radio interview in Ponce, described Puerto Rico’s current municipal structure as “unsustainable,” adding that the model of the counties “would bring significant savings and improve the quality of life of citizens through regionalization.”

Unsurprisingly, the Governor’s proposal has garnered little support—as has traditionally been the case. The issue, indeed, has long been one of political tension—especially in the wake of, more than a century ago, the legislature, under pressure from the U.S. Congress, enacted legislation to consolidate the then 76 municipios into 46—an effort that garnered such opposition that the law, three years later, was repealed. Nevertheless, in the wake of the near bankruptcy of the territory, a new plan had circulated through the Legislature in 2017 to consolidate municipalities as part of the effort to alleviate the government debt crisis—an effort which was also rejected.

Mayor Juan Carlos García Padilla of Coamo, a very small—and very old U.S. municipality (founded in 1579) in the south-central region of Puerto Rico unsurprisingly noted: “I do not favor the counties; it would be to eliminate the municipalities, although, preliminarily, the Governor says no. First of all, you have to define the project to know if it is good or bad. If the project is not presented and the terms are not defined, how the budgets and administrative structures are divided, because we are blind, and every day that goes by it gets worse because the collections go down and the income. Now we lose 20% of the budget in July.” There appears to be especial apprehension by Mayor Coameño and his colleagues by the projected loss in municipal aid of some $350 million under the quasi-plan of debt adjustment fashioned by the PROMESA Oversight Board—a plan which does not include specifics, however, so a federalism struggle on governance has opened—but one which imposes a mandatory deadline for action, but which omits any discussion with regard to the possibility of creating counties, an idea which the Governor has mentioned, indicating that the 78 municipalities could be consolidated in seven counties.

On their side, a number of Mayors have banded together to create a League of Cities on the island, with the hope of achieving fiscal consolidations in some areas: the Alcalde or Mayor of Morovis, Carmen Maldonado, said that the municipalities, both the New Progressive Party and the Popular Democratic Party, have made alliances with each other for years through “consortia, agreements, and the recent creation of the League of Cities,” noting, for example, that the municipios of Comerío, Aibonito, and Barranquitas have a common permitting office. Meanwhile, Caguas, Cayey, Villalba and Salinas have also joined together to grant municipal permits.

Mayor Lorna Soto of Canóvanas reported she is coordinating an alliance between her administration, Loíza, one of the U.S. oldest municipalities, founded under a Spanish edict in the 1600’s after Spain decreed that slaves be sent to the region—which in 1692, was officially declared to be an urban are (due to its population of 100 houses and 1,146 residents), In 1719, Spain officially declared it to be a town. However, it subsequently fell below that threshold before, on August 16, 1970, it was re-established as a municipality and Río Grande to create an office to grant permits. Mayor Soto cautions: “You have to see what the Governor is going to present. We would have to reach a happy medium. We municipalities could give suggestions.”

Her colleague, Mayor Javier Jiménez, of San Sebastion described the creation of counties to be an “error: It is a mistake to be talking now about the implementation of an additional structure between the municipalities and the central government that has a significant cost, which puts at risk the work of thousands of Puerto Ricans who work in the municipalities, since, according to the original approach that spoke of counties, [it would be] financed with $ 100 million of contributions on the property of the municipalities.”

His colleague, Naguabo Mayor Noé Marcano, said that the little information has yet to be provided with regard to how counties would operate, especially as he understands the plan aims to eliminate the posts of mayor, to give way to an executive director who, according to him, “will not attend to the needs of a resident of a municipality as the mayor does.” His colleagues, from Coamo and San Sebastián, pointed out that the counties would exacerbate economic problems, since municipalities are employment centers for thousands of people. Federation of Mayors President Marcano said there is no opening to present legislation that gives way to the counties.

For his part, Senate President Thomas Rivera Schatz has said he does not endorse any legislation to eliminate municipalities. Chamber President Carlos “Johnny” Méndez has previously argued that counties on the mainland are more expensive organizations than city halls, noting: “The municipalities are the ones that solve the day-to-day problems in all our communities. The Governor, in what he is focusing mostly, is in the consolidation of services, but with a tool that is not the correct one. It does not make sense that, in a bankrupt country, you want to make a millionaire structure like the counties.”

Double Standard? Danny Vinik, a writer for Politico, the day after Christmas wrote about the Federal Emergency Management Agency’s (FEMA) failure to, in the wake of the devastating 2017 hurricane season to provide sufficient numbers of personnel or the level of training to handle three destructive storms—an assessment distinct from the President’s, noting that FEMA “nearly exhausted staff for two units of specialized response teams.” Yet, 15 months after Hurricane Maria crashed into Puerto Rico, killing 2,975 Americans, and almost six months after FEMA Politico released its after-action assessment, the agency, Mr. Vinik writes, is lagging significantly behind its targets in training and recruiting; moreover, he adds, “the proportion of the agency’s staff deemed ‘qualified’ for their jobs—based on FEMA’s review of their employment experience, training and performance—is just 62 percent, up from 56 percent before the 2017 hurricane season, but far below its fiscal 2018 target of 88 percent.” He adds that the goals themselves may be outdated: They are based off a 2015 internal force structure review that preceded the major disaster year of 2017.

Politico’s own investigation determined that FEMA had been slow to move personnel and resources to the island after Hurricane Maria, especially compared with the speed with which it responded to Hurricane Harvey in Texas and Hurricane Irma in Florida, noting that FEMA’s force strength peaked in Texas at 3,145 in the immediate wake of Hurricane (just 12 days) Harvey, compared to 71 days after Hurricane Maria blasted into Puerto Rico—where, even at its height–FEMA’s force strength reached only as high 1,200. Mr. Vinik adds that, as a series of General Accounting Office reports indicate, staffing has been a long-term challenge for FEMA. The agency implemented reforms during the Obama administration to attempt to address some of these workforce issues. In 2012, for instance, the agency partnered with AmeriCorps to create a new program — FEMA Corps — to train and equip people ages 18 to 24 to respond to disasters, but notes: “Still, despite these improvements, the agency has had trouble meeting its goals. And with a low unemployment rate and declining interest among Americans in public-sector jobs, FEMA needs to think of new ways to ensure that when a disaster hits, they have the right personnel to respond.”

Who’s on First? Unlike in a chapter 9 municipal bankruptcy where the municipality must present a plan of debt resolution to a federal bankruptcy court, Congress, in creating the quasi-chapter 9 plan for Puerto Rico, a plan which provided for an oversight PROMESA Board and jurisdiction to a federal court, created conflicting governance challenges: a federal court, not a bankruptcy court, became the quasi judge and jury, and a Board wherein appointments were not, under the statute, carefully drawn to bar potential conflicts of interest; Members of Congress have begun to intensify the pressure to explore the risk of a conflict of interest by the PROMESA Board’s main strategic advisory company: on the one hand, with bipartisan support, Rep. Nydia Velasquez (D.-N.Y.) has proposed legislation intended to address a gap left by the PROMESA statute and avoid conflicts of interest of companies related to the restructuring of Puerto Rico’s debt. Rep. Velázquez and Sen. Elizabeth Warren (D.-Mass.) have written to the management of McKinsey, advisor to the PROMESA Board, requesting that, no later than next Tuesday, the company specify whether to notify the Board with regard to any potential conflict: “How do you know that McKinsey employees who do tasks for the Board do not make any decisions on the grounds that their personal retirement savings and those of their colleagues could be directly affected by their work?” The duo released their letter hours after Rep. Velázquez presented the legislation with bipartisan support of the outgoing Chair Rob. Bishop (R-Utah) of the House Committee on Natural Resources and incoming Chair Raúl Grijalva (D.-Ax.).

Thus there has been concern about serious conflicts of interest, especially after, last September, the New York Times had reported that subsidiaries of the main Oversight Board advisory company, McKinsey, owned approximately $20 million in Puerto Rico tax-exempt bonds. Under the Congresswoman’s proposed bill, attorneys, accountants, consultants, agents, and other professionals hired for the process of restructuring the public debt would be mandated to disclose, before the Bankruptcy Trustee Office of the United States Department of Justice, any ties to debtors, creditors, the Oversight Board and employees of the entity, before being able to be compensated. Should a trustee decide that the company did not comply with the disclosure of information or that there may be a conflict of interest, the proposal permits a request to U.S. Judge Laura Taylor Swain, who is overseeing the quasi-chapter 9 municipal bankruptcy trial, not to be paid. As the Congresswoman noted: “The people of Puerto Rico cannot have faith that this Board is putting their (referring to the U.S. citizens of Puerto Rico) interests first if the consultants who help implement the restructuring could benefit from the amount of debt service available under the same tax plans they design.”