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Puerto Rico Approves Public Pension System Overhaul

  • Reuters

Puerto Rico's Governor Alejandro Garcia Padilla, Jan. 2, 2013.

Puerto Rico's Governor Alejandro Garcia Padilla, Jan. 2, 2013.

Puerto Rico's governor has signed an overhaul of the U.S. territory's cash-short public pension system that lawmakers passed late on Thursday in a bid to soothe investors and shore up the country's sputtering economy.

The new pension law will raise the retirement age for some state workers, increase worker contributions to the plan and lower monthly pensions and benefits for some public workers. It will also reduce state workers' Christmas bonuses and eliminate summer bonus payments.

Officials said the overhaul of the notoriously weak and underfunded system, bitterly opposed by labor unions, was a crucial step to avoid a potentially devastating credit downgrade that would drive up borrowing costs and further weaken pubic finances.

"his has not been a simple process," Governor Alejandro Garcia Padilla said as he enacted the legislation on Thursday night. "It has been a topic that has been avoided for the past 60 years. No administration has taken the responsibility of reforming the retirement system," the governor said.

The government's main retirement fund faces an unfunded liability of more than $37 billion. The fund, which serves more than 200,000 current and retired government workers, is only about 7 percent funded and officials have warned it could run out of money by 2018.

"No retirement system in the world is as broken as ours," Senate President Eduardo Bhatia said on Thursday before the overhaul legislation was approved by both houses of the Caribbean island's legislature.

All three major credit ratings firms have recently downgraded Puerto Rico's bond ratings to just above junk-bond status, pointing to widening budget deficits as the island struggles to emerge from a five-year recession that has pushed unemployment to nearly 15 percent.

The Caribbean island is a leading borrower in the $3.7 trillion U.S. municipal bond market. Any further downgrade by rating agencies would sharply increase the cost of borrowing for Puerto Rico, which needs to be able to issue bonds at attractive rates to meet pressing short-term financing needs.

Standard & Poor's Ratings Services, the credit ratings agency, welcomed the move in a statement on Friday but said more needed to be done to address the island's public finances.

"We believe that the impact of these measures on the commonwealth rating will largely be determined by the degree of progress Puerto Rico makes in eliminating its $2.1 billion structural general fund deficit," the agency said.

To help narrow the deficit, top Puerto Rico government officials say they are evaluating tax increases and other measures to increase annual revenue by more than $1 billion.

Tax noncompliance is one of the problems that have prompted comparisons between Puerto Rico and Greece.

Although the municipal bond market could show some positive reaction to the pension reform news, Puerto Rico's yields were already the highest of any borrower in the U.S. municipal bond market.

On Thursday, Puerto Rico's 10-year yield spread over triple A bonds ended at a four-year high of 310 basis points, unchanged from Wednesday, Municipal Market Data showed.

The 10-year Puerto Rico yield spread hit a record high at 340 basis points in February 2009 during the financial crisis.
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