5 ways Puerto Rico's debt crisis echoes Detroit

The root causes of Puerto Rico's debt crisis bear a striking resemblance to the financial collapse of Detroit, which filed for bankruptcy in 2013 to escape a crushing debt load amid a severely diminished tax base.

But there's one big difference between Puerto Rico and Detroit, aside from the obvious fact that one is a commonwealth and one is a city: Puerto Rico can't legally file for bankruptcy.

At least not yet.

The drumbeat for bankruptcy in Puerto Rico gained momentum Tuesday as investors and politicians grappled with the U.S. territory's downward spiral into insolvency and witness Greece's descent into financial anarchy amid a sovereign debt crisis.

Puerto Rico has racked up some $72 billion in bond debt and more than $50 billion in retiree promises, including pensions and health care, as population has fallen and politicians issued debt to pay the bills. One of the island's municipal entities may default on certain bonds as soon as Wednesday, analysts said.

Puerto Rico Gov. Alejandro Garcia Padilla has said that the island's debts are "unpayable" in full and repeated his call for Congress to change U.S. laws to allow the commonwealth to weigh Chapter 9 bankruptcy.

Padilla hired the former U.S. bankruptcy judge who oversaw Detroit's case, Steven Rhodes, to advise him on the commonwealth's pursuit of Chapter 9 bankruptcy. Although representatives for Puerto Rico's creditors and the government are negotiating potential settlements, Rhodes said it appears to be too difficult to bring all sides to the table without bankruptcy.

"There are too many creditors," he said. "Like Detroit, Puerto Rico can't print money. So Puerto Rico's insolvency is as much the creditors' problem as it is the commonwealth's problem."

Through a cascading series of empty promises to pensioners, bondholders and banks, Detroit once accumulated a remarkable 170,000 creditors, give or take a few thousand. Even sophisticated global financial institutions such as UBS and Bank of America had made big bets on Detroit and lost.

In Puerto Rico, it's a similar tune. The commonwealth's creditors are far and wide, including mom-and-pop retail investors, large mutual funds and hedge funds. The largest bond fund creditor is Oppenheimer Rochester Fund Municipals, which holds $1.39 billion in Puerto Rican debt, according to Thomson Reuters' Lipper data.

The White House has ruled out a bailout but signaled that Congress should consider legislation allowing the commonwealth's debt-strapped public entities the chance to file for municipal bankruptcy.

The president's support comes more than six months after Detroit finally emerged from bankruptcy, shedding $7 billion of debt in a process that helped free up badly needed cash for services such as police protection and blight demolition.

Whatever the outcome, here are five ways Puerto Rico's debt crisis is similar to Detroit's:

Puerto Rico can't pay its bills in full.

​Absent a miraculous economic surge, the commonwealth doesn't have a prayer of paying all of its debts. With all of Puerto Rico's governmental units combined, the government is currently running a deficit of about 5%.

Moody's analyst Emily Raimes, who tracks Puerto Rico, said in an interview that she foresees "a very high probability of default."

Similarly, Detroit could not afford to pay its $18 billion in debts, following an implosion of its revenue base.

In municipal bankruptcy law, insolvency is considered a necessary precursor to filing for Chapter 9.

People are leaving.

Puerto Rico's population loss is approaching 1%, which is 10 times worse than any U.S. state, according to a report released Monday by the Puerto Rican government. The island's population fell by 212,000 residents to 3.6 million in 2013, according to the New York Fed.

That's bad, but not as bad as Detroit, whose population has fallen from nearly 2 million in the 1950s to fewer than 700,000 today.

Still, outmigration undercuts the island's tax base, making it increasingly difficult to pay back a ballooning debt load.

Creditors are innumerable.

About 53% of U.S. municipal mutual funds hold positions in Puerto Rican debt, according to Morningstar data.

Those funds have long been attracted by the triple-tax-free nature of Puerto Rican debt, which Congress blessed as free from federal, state and local income taxes.

"Because Puerto Rico's borrowing has been totally focused on debt financing and in the end completely reckless, investors have some kind of culpability here," said Matt Fabian, managing director of Municipal Market Advisors.

The pension shortfall is gaping.

By the time it filed for bankruptcy, Detroit was paying nearly 4 in 10 dollars out of its general budget for pensions, health care and debt service. The pension shortfall on its own represented about $3 billion in debt.

Nonprofit donors and the state of Michigan ultimately pledged a combined $816 million over 20 years to help offset at shortfall. That helped lower pension reductions, but retirees took pension cuts to help resolve the case.

Puerto Rico has racked up a staggering unfunded pension liability of about $35 billion. Those promises are taking a huge bite out of the commonwealth's budget, and the pension funds "are about to run out of assets," Rhodes said.

In Detroit's bankruptcy, Rhodes ruled that pensions could be cut. But without bankruptcy, there's no clear route for Puerto Rico to reduce its pension burden.

No one is getting a government bailout.

There's no appetite in Washington for a Puerto Rican bailout. In Detroit, the city landed a one-time $195 million payment from the state of Michigan to help exit bankruptcy. But it was hardly a bailout, representing less than 3% of the debt Detroit eventually shed.

Moody's analyst Raimes said a bailout is extremely unlikely. Bankruptcy would provide "a more orderly process" than the out-of-court bargaining table, she said, but it's unlikely considering the political paralysis in Washington and opposition among powerful investors to expanding municipal bankruptcy laws.