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Puerto Rico struggles in U.S. shadow

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The U.S. government didn’t force Puerto Rico to run big deficits for decades and to amass a debt burden of $70 billion — more than any state but California and New York. That debt is the main reason all three of the big ratings companies have recently downgraded the island’s credit rating to junk status.

Yet since making Puerto Rico a territory in 1898, Uncle Sam hasn’t always recognized that economic policies suited to a high-income country won’t necessarily work in a territory that has much in common with its less well-off Caribbean neighbors. Puerto Rico’s 3.6 million inhabitants still endure greater poverty and unemployment than people in any state. For their sake, and to help the island’s new government fix its finances, the United States needs to ease the burden of federal policies that have clearly backfired.

Take the Merchant Marine Act of 1920, also known as the Jones Act, which requires that cargo shipped between points in the U.S. be carried by ships that are built, owned and crewed by U.S. companies. It’s an outdated law that should be scrapped for many reasons. In Puerto Rico’s case especially, it has made imported goods more expensive and depressed trade with the continental U.S. Consider that shipping a 20-foot container from the mainland to Puerto Rico costs almost double what it costs to ship to Jamaica or the Dominican Republic because the U.S.-built ships are often old, burn lots of fuel, and have crewing costs that can be five times as high as those on foreign-flag carriers. If Congress isn’t willing to nullify the act, it should follow the recommendation of the Federal Reserve Board of New York to grant Puerto Rico a five-year exemption.

Puerto Rico also needs flexibility in the way it applies the federal minimum wage, which is high relative to an average Puerto Rican worker’s pay. The territory’s labour force participation rate is low, especially among younger people. Almost 39 per cent of 16- to 24-year-olds are unemployed. Setting a lower minimum for new workers, at least temporarily, would help these unskilled entrants gain valuable work experience.

Besides tailoring certain programs to fit Puerto Rico, the U.S. should stop pushing tax gimmicks ostensibly designed to stimulate economic development. The Tax Reform Act of 1976, for example, allowed American multinationals to pay lower taxes on earnings from their Puerto Rico operations. That brought a surge in investment, especially from pharmaceutical firms, and this created jobs. (The town of Barceloneta became known as "Ciudad Viagra.") But the act favoured technologies that are generally too advanced for the island’s state of development. When the tax benefits were phased out, many of the jobs disappeared.

More recently, Washington has enabled a "backdoor bailout" by not challenging an excise tax that Puerto Rico created in 2010 and that is expected to bring in 20 per cent of the island’s general fund revenue this year. The tax may yet be found unconstitutional, however, and that’s not exactly a recipe for fiscal stability.

Extended with the best of intentions, the U.S. welfare system has also encouraged an unhealthy dependency. From 1990 to 2009, according to one report, the residents of Puerto Rico took in more than three times as much in federal transfer payments as they sent back in taxes. In fact, such transfer payments now account for 40 per cent of Puerto Rico’s personal income. When you can take home as much from welfare as from a job, not working makes a certain amount of economic sense. Federal authorities could encourage greater use of programs such as the earned income tax credit, which rewards labour income; they would also be wise to turn a gimlet eye on Social Security Disability Insurance payments, which go to 11.4 per cent of Puerto Rico’s working-age population, compared with 7.4 per cent on the mainland.

The Obama administration has so far said no "deep federal assistance" is planned for Puerto Rico. The island’s new governor, Alejandro Garcia Padilla, has trimmed pensions, raised taxes and pledged to release a budget that doesn’t rely on deficit financing. Improving the island’s economic competitiveness shouldn’t necessarily require gobs of new money or a resolution of the territory’s future status — just the application of common sense and political will.

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