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Witnesses to speak on debt adjustment deal’s sustainability, impact on economy


Economist Simon Johnson is the Ronald A. Kurtz Professor of Entrepreneurship at MIT’s Sloan School of Management and head of the Global Economics and Management Group.

By The Star Staff


The proposed pension cuts of up to 8.5% with a $1,500-a-month threshold contained in the debt deal to restructure $38 billion in debt will have a depressive effect on the island’s economic performance, and will result in a 0.2% contraction in the gross national product (GNP) and a decline in employment of around 1,600 jobs.


In addition, not all of the new general obligation bonds slated to be issued under the proposed deal will be exempted from federal taxes. Currently, those bonds are triple-tax exempt.


Those are some of the remarks that expert witnesses are slated to reveal in testimonies in November during hearings on the adequacy of the debt deal for the central government. Pension cuts are one of the main points of contention, along with the sustainability of the debt.


Simon Johnson, a professor of entrepreneurship at MIT’s Sloan School of Management and head of the Global Economics and Management Group, is slated to testify on the impact of the pension cuts proposed in the debt deal as he advocates on its behalf for the Committee of Retirees, which supports the debt deal.


Johnson will advocate in favor of treating pensioners differently from other creditors by avoiding steep cuts to their pensions. He is slated to say that lower pensions than those the debt deal proposes will accelerate departures from Puerto Rico. More than 125,000 people left the island in 2018 alone, after two major hurricanes, and net out-migration continued at around 50,000 in 2019.


“Lower pensions will accelerate departures, further undermining the local tax base and making it harder for Puerto Rico to pay for essential services such as law and order, health, and education,” Johnson said. “Undermining social infrastructure in this way will reduce Puerto Rico’s ability to service its restructured debts. This is particularly concerning considering potential future shocks, such as severe weather events, earthquakes, or other natural disasters.”


The proposed pension cuts, he added, will have a depressive effect on islandwide economic performance, with obvious negative consequences for public finances, including the government’s ability to make debt payments. However, Johnson said that it is less damaging.


“I estimate that the proposed pension cuts of up to 8.5% with a $1,500 threshold will result in a 0.2% contraction in GNP and a decline in employment of around 1,600 jobs,” he said. “This is an estimate of the direct effect, which excludes the effect of out-migration.”


Any additional pension cuts, beyond the 8.5% proposed cut, could have much larger – and hard to reverse – negative macroeconomic consequences because of potential nonlinear effects, Johnson is slated to say.


In advocating for treating pensioners differently, he notes that spending by pensioners is a significant component of local demand in Puerto Rico. The annual income of government retirees constitutes about 7% of household consumption on the island. Cutting pensions will lead to more outmigration, both directly and as people seek higher incomes elsewhere.


Cutting pensions further could destabilize economic prospects and jeopardize Puerto Rico’s future access to credit markets, Johnson said.


“The Plan of Adjustment’s proposed treatment of pensioners relative to bondholders is justified based on current and likely future economic circumstances,” he said.


The Financial Oversight and Management Board is slated to present several witnesses at the November hearings.


Sheva Levy, principal at Ernst & Young, is expected to testify that the reform of the pension systems is estimated to save the commonwealth in excess of $4 billion through the 30-year period of the applicable Commonwealth Fiscal Plan certified by the oversight board, and that the provisions in the plan are consistent with the provisions modeled for the fiscal plan.


Gaurav Malhotra, principal and head of U.S. restructuring at Ernst & Young LLP, is expected to testify that the debt plan is sustainable. He is slated to say that the confirmation of the plan is not likely to be followed by the need for further financial reorganization and that the financial obligations provided for in the plan are consistent with the debt sustainability analysis in the 2021 certified fiscal plan for the commonwealth.

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