Moving beyond the question of income tax, two economists discussed the potential for a new economic system in Puerto Rico.
Arthur MacEwan wrote, jointly with Angel Ruiz, “Washington Dollars and the Puerto Rican Economy: Amounts, Impacts, Alternatives,.”
Michael Fellman is the author of “The Economic Case for Puerto Rico Statehood.”
We republish it here with his permission
On November 3rd, Puerto Ricans will face a choice of enormous consequence about the future of their island. In a plebiscite, statehood for Puerto Rico will receive an up or down vote. Puerto Ricans will be tasked with deciding between full economic integration into the US economy, or to remain in a limbo status which was first created and approved by voters in 1952. The stakes could not be higher. Puerto Rico has experienced a 15 year long economic depression, and has lost close to 22 percent of its population to mass emigration. Forty five percent of the island lives below the Federal poverty line. But there is a way out. The answer to this economic malaise is statehood.
Puerto Rico’s economy faces a chronic lack of aggregate demand. Its consumers simply don’t have the purchasing power to create the level of demand needed to employ everyone who wants to work. Normally, economies get out of the doldrums with economy stimulus. Governments run deficits to inject new money into the economy either by making direct purchases or by raising consumer spending power. This has been a key tool used by the federal government to fight the economic downturn caused by the global COVID 19 pandemic. Because Puerto Rico’s government is bankrupt, this option isn’t available to the island. However, under statehood Puerto Rico could guarantee itself 8-10 billion more in federal funding per year. This is better than a one off stimulus. It’s a permanent, annual stimulus package worth about 10 percent of GDP. Such fiscal rocket fuel will all but guarantee a robust economic boom.
Don’t believe it? The CARES act gave every American citizen with income below $75 thousand a $1200 stimulus check. However, in the mainland US, low income workers typically receive a large subsidy to their wages when they file their tax returns. Known as the Earned Income Tax Credit, it is vital lifeline to US families which is currently not available to Puerto Ricans. A family with an income of 20 thousand dollars and one child receives a benefit of roughly $3500. Combined with the child tax credit, this hypothetical family would receive close to five thousand dollars in direct economic assistance. The median household income in Puerto Rico is 20 thousand dollars. The vast majority of Puerto Rican households would be receiving payments at tax time, not writing a check to the US Treasury. It would be the equivalent of multiple CARES Act stimulus payments every year. This would create a virtuous cycle as Puerto Ricans with increased buying power and security would support local businesses, who in turn would hire more workers.
The rest of the money would go into Puerto Rico’s chronically under-funded Medicaid program, enhanced SNAP benefits, give Puerto Rican’s seniors access to Medicare Part D, extend SSI benefits to the island, and more. In the end, greater federal funding for Puerto Rico would be an awesome stabilizing force that would help attract more investment and give the island government the breathing room it desperately needs to tackle long term challenges like infrastructure.
Two reasonable counter arguments exist to this narrative. First, under the current status nothing prevents the US Congress from simply treating Puerto Rico as if it were a state when it writes appropriations bills. While true, this puts Puerto Rico at the mercy of the political winds in Washington since this funding could always be withdrawn, just like section 936 of the tax code. For constitutional reasons, states, unlike territories, must receive equal treatment. Statehood would make the increased funding permanent. (Unless Congress reduced funding for all other states by an equal amount.)
Secondly, those who advocate independence for Puerto Rico contend that the island could solve its internal demand problem by exporting its products abroad. In fact, if I was tasked with advising the government of a newly independent Puerto Rico on economic matters, this is exactly what I would propose. However, this path would require massive adjustments to the Puerto Rican economy that many voters would vehemently resist. Because Puerto Rico faces serious competitive challenges in terms of infrastructure and high energy costs, an independent Puerto Rico would need to introduce a new currency and allow it to depreciate in order to give its exporters a leg up. Much to his credit, Juan Dalmau has stressed the importance of exports in his economic plan. However, advocates of independence have been coy when it comes to the currency issue because they know that abandoning the US dollar would be deeply unpopular. A new, weaker currency would hurt Puerto Rican consumers accustomed to purchasing foreign made products. Ultimately, in order to succeed, an independent Puerto Rico would have to overcome political resistance and restructure its economy to better suit exports. Such a process would be long, arduous, and politically destabilizing. While theoretically possible, it’s a risky gamble precisely because economic policy does not exist in a vacuum and is not unconstrained from political realities. A perfectly feasible scenario would be for the politicians simply to take the easy path and maintain the US dollar, which would all but guarantee continued economic stagnation. Furthermore, the first act of the new independent Puerto Rico would be to essentially export control of its monetary policy to Washington. Ironically, those who would have fought so hard for full sovereignty would immediately cede an enormous amount of power back to the United States!
An alternative to a new currency would be to suppress wages relative to the rest of the world so that Puerto Rican firms can offer better prices. But this strategy is doomed to failure as well. It too would face considerable political opposition, but it would also be excruciatingly slow. In the real world, when this economic strategy has actually been pursued, it has taken a decade or more to actually see results. Usually, wages don’t actually fall. Instead, wages stagnate while they grow in the economies of major trading partners. However, a large wage differential of 25 percent or more needs to develop before exports become competitive again. Spain for example had to wait nearly a decade with frozen wages before it could finally have a chance to compete with the mighty Germany. To some extent, this strategy has been inadvertently tried in Puerto Rico. After ten plus years of zero wage growth, about five thousand manufacturing jobs have returned to the island since 2018 probably in part because wages got much lower in relatives terms on the island vis a vis the mainland US. However, going through a lost decade to get some manufacturing jobs is like cutting off your head to lose weight. And finally, no matter if a new currency or wage suppression is used to promote exports, new factories don’t appear overnight. They take years to plan and construct. And again, competition in the rest of the world is always fierce.
In sum, the benefits of statehood are immediate and guaranteed, while the benefits of independence are distant and uncertain, and the policies needed to achieve them are politically toxic. In economics terms, this one’s a no-brainer. Puerto Ricans should say yes to statehood.
Originally published at Fellman Economics.
These two articles, just a small part of the work of tonight’s panelists, will give you background on the economic situation and potential of Puerto Rico.