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Revised Puerto Rico fiscal plan counts on injection of federal funds

By on January 25, 2018

(Screen capture of https://twitter.com/ricardorossello)

SAN JUAN – The Puerto Rico government’s revised five-year fiscal plan projects an 11.2% drop in the island’s gross national product (GNP) this year, but it would increase in subsequent years with the injection of $57 billion in federal disaster aid as well as payouts from private insurance claims.

By 2019, the GNP could increase by 7.6%, by 2.4% in 2020 and 1.5% by 2022.

“The GNP has an impact of 11.2%; afterward, that increase has to do with the arrival of federal funds [and] structural reforms,” Gov. Ricardo Rosselló said in a roundtable discussion Wednesday alongside the director of the Fiscal Agency & Financial Advisory Authority, Gerardo Portela, and Christian Sobrino, the governor’s representative to the fiscal board, when making a portion of the fiscal plan public to a group of media outlets.

The document, which has yet to be certified by the Financial Oversight & Management Board, does not contain cuts to government pension plans nor does it take into account payments to creditors because that is determined by the court. The plan keeps the planned cuts to subsidies for municipalities and University of Puerto Rico but will eliminate them in five years instead of two as originally proposed.  

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In a statement early Thursday, the fiscal board confirmed receipt of the plan and said it would work toward a final certification date of Feb. 23.

“On pensions, our position is one of no cuts, and that is why we did not include it in this process…. It’s one of the most vulnerable sectors,” Rosselló said.

As part of the effort to promote economic development, the plan proposes a local tax reform that, among other things, would eliminate the business-to-business (b-to-b) tax and reduce the sales tax paid on prepared food. The proposed local tax reform is aimed at counteracting the effects of the U.S. tax reform, which is slated to have a $1.8 billion impact over the next five years. The reforms include a proposed Incentives Code and the “deregulation” of certain laws to facilitate doing business on the island.

In addition to implementing government reforms and revenue management procedures that are expected to bring more than $3 billion in savings, the use of technology will be maximized. In an effort to increase the labor-force participation rate to more than the current 40%, the fiscal plan proposes welfare reform so people who are able to work can become part of the workforce without impacting the most vulnerable populations.

The revised document, made public at nearly midnight Wednesday, replaces the 10-year plan approved by the fiscal board in March. In the aftermath of hurricanes Irma and María, the board ordered the government to review the plan to account for the damages to the economy and revenue shortfall. The governor said the new plan relies on structural and fiscal reforms to revitalize the economy.

Population decline

The document estimates a 10% reduction in Puerto Rico’s population for the next two years, a trend that will continue at a moderate pace. Sobrino said the figure was partially calculated using data gathered from other jurisdictions after natural disasters, as well as Luis Muñoz Marín Airport departure numbers. The population reduction could bring about increased inflation of 2.1%.

Rosselló stressed that the vision for the “socioeconomic transformation” of the island, which is headed by a new model of government, was modified to add the need for more resilient infrastructure through the “Build Back Better” program, which is expected to bring in funds for the island’s reconstruction. The governor said he has plans to revise the construction code.

The plan calls for the creation of the Central Office of Reconstruction & Recovery (CRRO), to ensure accountability and coordination of the disaster recovery efforts and public-private partnerships.

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Although Puerto Rico requested some $94.4 billion in federal disaster aid, the new fiscal plan takes into account that only $35.3 billion will be received under the Federal Emergency Management Agency (FEMA) assistance program. In addition, the island will benefit from $21.9 billion in private insurance claim payouts. Sobrino said the FEMA program was already legislated and Congress gave it the green light.

“If you already have that projection [of funds], then that capital will come to Puerto Rico,” Rosselló assured.

The government will contribute a $1.4 billion share of reconstruction costs over the next five years, but those figures do not include amounts related to the Puerto Rico Electric Power Authority (Prepa) and the Aqueduct & Sewer Authority (Prasa). Through the Stafford Disaster Relief & Emergency Assistance Act (Stafford Act), the government has requested a 100% federal cost-share adjustment. If this is not achieved, the government has requested Community Development Block Grant Program as Disaster Recovery (CDBG-DR) grants to cover the cost-share requirements.

Structural reforms

Given the future fiscal outlook, Rosselló said the plan envisions a series of government and economic transformation initiatives that would generate some $3 billion in savings. The first is a new government model that stresses the reorganization of the departments of Education, Corrections and Health.

Government procurement will also be reformed to achieve a $12 million saving in 2019 and other savings in the coming years, to reach $43 million by 2022.

The plan calls for a reduction in subsidies to University of Puerto Rico and the municipalities but for a period of five years instead of two.

The healthcare reform contemplates a saving of $49 million this year, which will rise yearly until it reaches $800 million in 2022. The plan also calls for tax compliance measures that would bring a saving of $65 million in 2018 and rise yearly to reach $415 million by 2022.

The plan includes additional structural reforms other than the ones that have been put in place, including labor and permitting reforms.

“The other initiatives that go in that direction are those that will help ease doing business, such as the Incentives Code, which is to rationalize the incentives and separate [them] from the subsidies,” Rosselló said. “We will use incentives in industries that have a return on investment.”

The plan includes energy reform that would expedite private-sector investments. It also calls for the use of technology to offer services. Labor reform is also contemplated, focusing on incentives for high-priority sectors. The government will seek to implement the earned-income tax credit (EITC) to motivate people to join the workforce as part of welfare reform.

“Although the EITC is a tax measure, it is used here is to try to increase Puerto Rico’s labor force participation. If that number does not increase, Puerto Rico will continue in a [downward] spiral of growth because no economy can sustain itself for a prolonged period with such a low level of participation,” Sobrino said.

Tax reform

Regarding the proposed local tax reform, the governor said it calls for a cut to the b-to-b tax from 4% to 2%, and then repeals it altogether. It also requests a cut in the sales & use tax (IVU by its Spanish acronym) to 6% for prepared meals in fiscal year 2019, and maintains the tax’s current municipal revenue portion. The reform also would cut individual and corporate income taxes so the highest rate would be less than 30%, as well as decreasing the overall scale.

Other measures on individual and corporate income taxes are under evaluation, the governor said.

The proposed deregulation of certain economic areas, on the other hand, is made to facilitate doing business on the island. For example, the plan proposes to liberalize the current Condominium Law to facilitate decision-making and eliminate obstacles to certain licenses so individuals can enter the market, Sobrino explained.

The plan includes a “debt sustainability measure” consisting of an analysis to minimize defaults and promote the island’s return to the markets. The island’s debt is $69 billion.

“The Oversight Board views implementing structural reforms and investing in critical infrastructure as key to restoring economic growth and increasing confidence of residents and businesses. Our focus in certifying the revised plans will be to ensure they reflect Puerto Rico’s post-hurricane realities and provide a realistic basis for achieving fiscal balance, long-term debt sustainability and revitalization of the Island’s economy,” the fiscal board’s executive director, Natalie Jaresko, said in Thursday’s release.

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