On Monday, Puerto Rico’s governor warned that the island can’t pay its $US72 billion public debt burden.
The island isn’t currently eligible to declare bankruptcy as it’s a commonwealth rather than a municipality. As such, it’s become a messy situation for its creditors, which include major US mutual funds.
Given all the hoopla surrounding Greece’s economic problems, investors and Americans in general are no doubt also worried about the aftermath of Puerto Rico’s potential default — and what it means for them.
Indeed, some commentators have even drawn comparisons to Greece, which has brought turmoil to Europe and the global financial markets. Greece recently missed a scheduled debt payment, and experts increasingly warn that the country may leave the euro in what’s been dubbed a “Grexit.”
But “these fears should be downplayed,” according to Bank of America’s economist Ethan S. Harris. As he writes in a research note to clients:
“As far as contagion effects go, Puerto Rico is missing virtually all of the broader geo-political and humanitarian implications of a ‘Grexit.’ It is, therefore, difficult to see a Puerto Rico default as a significant source of contagion that would materially impact the Fed’s policy decisions. The risk of global contagion from Grexit, while apparently low, arguably looms larger on the Fed’s radar — it has been cited as a risk to the outlook several times in this year’s FOMC minutes; Puerto Rico has not once been cited.”
Harris also adds that Puerto Rico’s problems have been bubbling up for some time now so they shouldn’t come as a huge surprise for the markets.
“While certain individual investors may find themselves exposed to potential losses as Puerto Rico restructures, we do not see this as a systemic risk event, nor as a bellwether of potential crises elsewhere in the US municipal debt market.”