Sergio M. Marxuach

• Full Report

In general, the fiscal situation of the Commonwealth of Puerto Rico remains unstable and while some indicators reflect progress, others remain stagnant, negative, or show significant uncertainty.

1. The overall trend with respect to the consolidated budget reveals that the Puerto Rican government has achieved significant success in restraining the growth rate of government spending since 2008.
2. Federal funds, however, continue to account for more than one-fifth of all government spending in Puerto Rico.
3. The trend with respect to the general fund budget is difficult to discern.  On one hand, the government appears to have successfully controlled the growth rate, perhaps even reduced it, for certain segments of general fund spending.  On the other hand, however, the use of ARRA funds, the Stabilization Fund, and debt refinancing casts some doubt on the true extent of any reduction in general fund spending.
4. The trend with respect to general fund payroll is uncertain, or mixed at this time.  The medium term trend reflects a decrease in general fund payroll expenditures but the short-term, year-over-year trend, reflects a slight increase in these expenditures.
5. It is very difficult to accurately forecast tax revenues at this time because taxpayers, both individual and corporate, are still adjusting to the new rules.  The government, however, is betting on significant revenue increases to be generated by increased enforcement of the Sales and Use Tax, through the IVU Lotto, and the special excise tax on foreign affiliates of certain multinational companies with operations in Puerto Rico.  In our view, the year-over-year estimate made by the government is on the aggressive side.
6. The trend with respect to the structural deficit continues to be negative because it has stayed essentially flat over the last five fiscal years, both in absolute and relative terms.
7. The use of non-recurring funds shows a mixed or uncertain trend at this time.  The medium term trend has shown an increase in the use of non-recurring funds in the Commonwealth’s consolidated budget, its use growing at a compound annual rate of 23.1%.  However, the shorter-term trend appears to be downward, especially in contrast with the peak in 2010.
8. In general terms, the debt service indicators show a negative trend because both the absolute and relative amounts dedicated to debt service have increased significantly since 2008.  Furthermore, during the past five fiscal years, the amount of the consolidated budget dedicated to debt service has increase at an unsustainable 9.1% per year.
9. The overall trend with respect to total public indebtedness is still negative, as it is growing at a much higher rate relative to the growth in Puerto Rico’s GNP and it is not clear that the slowdown experienced during 2011 will be permanent.  In addition, total indebtedness is at a fifty-year high.
10. Government employment has decreased significantly from 212,879 in 2008 to a projected 180,788 in 2012, a reduction of 32,091 workers, or 15.1%.  This decrease is equivalent to a CAGR of negative 4.00%.

In addition, several short-term risks could further blur the short-term fiscal picture.  A GO rating downgrade by Moody’s; the implementation of the new, massively amended, tax code; the phase-out of ARRA funds and the depletion of the Fiscal Stabilization Fund; the complexity of pension reform; budget cuts at the federal level; and the need to increase subsidies for public corporations, all have the potential to generate significant budgetary pressures in the short-term.

Puerto Rico’s public pension problem, in particular, raises extremely complicated financial, political, legal, and moral issues.  Puerto Rico currently owes approximately 40% of its GNP to 8% of its population.  Wealth transfers of this magnitude do not occur without political consequences.  In our view, solving this problem will require retirees, current employees, and taxpayers in general to make and honor significant concessions

In sum, despite some recent progress, Puerto Rico’s fiscal situation is still very unstable and the short-term fiscal scenario remains subject to a substantial amount of uncertainty.