Puerto Rico has suffered an enormous economic crisis in the past five years. There’s been high unemployment, massive emigration, and a near-catastrophic national debt crisis and credit rating downgrades
The crisis has brought many changes, and many new initiatives. It is too early to tell whether these will work - but something is moving.
Puerto Rico’s housing market is at the heart of the crisis. After huge annual house price increases in the early 2000s, the housing market came crashing down in 2008. Prices have dropped 17% (27% in real terms) since Q2 2007.
Prices continue to fall. They fell 8.5% during the year ending in first quarter of 2014, according to the Federal Housing Finance Agency (FHFA). On a quarterly basis, prices fell 4.4% (5% in real terms) in Q1 2014.
Puerto Rico is now a buyer’s market.
Many Puerto Ricans have been forced to sell at a loss following the crisis, given the high unemployment rate – nearly 14%. The government is burdened by more than USD70 billion in debt, and its credit rating has been cut to junk. The economic crisis has reduced both consumers’ savings and confidence, with many postponing their home-buying decisions.
The loss of net worth among Puerto Ricans from the drop in real estate prices is close to USD30 billion, said economic consulting firm Estudios Tecnicos’s director, Jose Villamil.
A rough economic cycle
Historically, Puerto Rico's economy has closely mirrored trends in the United States. However the latest economic downturn has been more intense and has lingered longer in Puerto Rico than in the US.
Puerto Rico’s recession began in the fourth quarter of 2006. Over the past eight years, real GDP has grown very little or declined. The economy contracted every fiscal year from 2007 to 2011. It expanded by a meagre 0.9 percent in 2012, and again a meager growth of 0.3 percent in 2013, according to the Puerto Rico Planning Board.
In 2011 and 2012, about 55,000 residents left Puerto Rico for the United States, according to the Census Bureau's Community Survey. During the decade 2000-2010 about 300,000 locals left, the largest migration wave since the 1950s, when close to 500,000 Puerto Ricans migrated to the mainland. There are already a million more Puerto Ricans in the mainland United States (4.9 million as of 2011), than in Puerto Rico (3.7 million).
Aside from migration, the island suffers from an ageing population and a declining birth rate.
Puerto Rico's banking sector is also in crisis, with banks facing nonperforming loans at elevated levels. Most of the problem is in the housing market, which accounts for about 2/3 of total loans, according to Scotia Bank. At the start of 2006, before the crisis, the prime interest rate was at 7.26%. It fell to only 3.25% in 2009 and it is projected that this rate will hold till 2015. Despite this, around 80,000 families have been unable to refinance their loans, despite the lower interest rates, and many risk losing their homes.
Construction has tanked
Construction permits fell by 20.8% y-o-y from July to April of 2014 to only 3,005 permits (-11.8% by value). Permits have declined 63.6% from the 2004 peak, according to Puerto Rico Planning Board.
New dwelling units were 27% down in July-April of fiscal year 2014.
- The top five losing municipalities were Maricao (-100%), Maunabo (-91.9%), Luquillo (-89.7%), Vega Baja (-86.8%), Salinas (-82.6%) and Fajardo (-80%). The capital San Juan (-54.1%) and the city of Bayamón (-63.3%) also saw declines.
- The municipalities of Loíza, Florida, Arroyo, Carolina, Caguas, Mayaguez and Ceiba exhibited growth in housing units construction, ranging from 650% in Loíza, to 100% in Ceiba.
Cement sales, the construction industry’s key indicator, fell by 14.6% to 12.72 million bags in July-April 2014, and are now 65.02% down from a decade ago.
Hope on the horizon -Acts 20 and 22 are attracting foreign businesses to Puerto Rico
Yet all this crisis has brought change. Not least, new measures to attract foreign businesses to Puerto Rico - which seem to be succeeding.
The government signed two laws in early 2012 providing new tax benefits to individuals and businesses.
- The Export Services Act 20 seeks to attract businesses by offering tax incentives on export services.
- The Individual Investors Act 22 hopes to attract new residents to Puerto Rico by providing total exemption from Puerto Rico income taxes on all passive income realized or accrued after becoming bona fide residents of Puerto Rico.
The government forecasts that 250 individual investors will apply under the Act 22 program in 2014.
"I have seen more people come to Puerto Rico in the last two years than I have seen in a long time," says Ignacio Alvarez, chief legal officer of Banco Popular. "One of the big advantages of Act 20 and 22 is not even so much how many wealthy people come down, it is putting Puerto Rico back on the map. "
"I think that San Juan represents one of the great investment opportunities of my generation," says Nick Prouty, CEO of Putnam Bridge Funding, who has moved his office and family from Greenwich, Connecticut, to Puerto Rico.
"I'm seeing a shift in airspace, I'm seeing it in other areas," says Angel Perez, Vice-President of Solid Rock Technologies.
Billionaire John Paulson is among those who have committed hundreds of millions of dollars to buy and remodel the historic Condado Vanderbilt resort. "He has a vision, and he is willing to put his money where his vision is," says Alberto Baco, Puerto Rico's secretary of economic development.
"It is working, it is really working," says Baco. "We are seeing a lot of entrepreneurs coming in and partnering with our people."
The Housing Stimulus Act
To rescue the island’s plunging housing market, former Governor Luis Fortuño implemented the stimulus program “Impulso a la Vivienda” (Act 152) in 2010. The idea was to cut home inventories, and stimulate new housing construction, according to former Economic Development & Commerce Secretary José Pérez-Riera. Even before the ratification of Act 152, a "combo program" allowed people to buy second homes at a reduced rate, through a USD25,000 incentive, plus a USD10,000 voucher covering closing costs.
“With Act 152, we basically have expanded our support of that program with an enhanced mortgage-insurance program and a rental-market stimulus program, as well as a housing-stimulus program,” Pérez-Riera said.
Act 152 provides:
- Loan to value mortgage ratios of 105%, allowing loans to be made without a down payment
- A 100% exemption from net rental income tax, for a 10-year period.
- A 100% tax exemption during a 10-month window, plus a 100% exemption from capital gains tax at the time of resale of new property, and a 100% exemption from fees, stamps and vouchers. There also is a 100% exemption on temporary property tax, and a five-year exemption from property taxes.
Buyers and, especially, developers are very happy with the Act.
“These programs are extremely important because, all of a sudden, we have a system that recognizes the diversity of our housing market, from new and existing homes to rental housing,” Hans Moll, president of the Puerto Rico Home Builders Association, told news and information website Caribbean Business.
“These new programs are key for the return of the move-up market and for reversing the decline in home values.”
General Election 2012 and the referendum on statehood
The Puerto Rican election, which takes place every four years, was won in 2012 by Senator Alejandro García-Padilla representing the Popular Democratic Party with 47.7% of the votes, defeating the incumbent Governor Luis Fortuño of the New Progressive Party, who garnered 47.1%. Padilla’s Popular Democratic Party is in favor of preserving Puerto Rico’s present commonwealth status, while Fortuño’s New Progressive Party is in favour of Puerto Rico becoming a US state.
In a referendum held the same day as the general election in November 6, 2012, Puerto Rican voters were asked whether they were satisfied with Puerto Rico's current commonwealth status, and second, whether (as alternative) they preferred statehood, independence or to be a sovereign nation in free association with the US.
970,910 (54%) voters rejected the current political status. Of those who answered the second question, 61% chose statehood, 33% for sovereign free association and 6% for complete independence.
One year later US Senator Matrin Heinrich submitted legislation calling for a federally sanctioned up-or-down vote on Puerto Rican statehood – mirroring the bill already filed by Resident Commissioner Pedro Pierluisi last May 2013.
However, the Government Accountability Office (GAO), commissioned to conduct an economic analysis of Puerto Rican statehood, reported that statehood may be too costly for both Puerto Rico and the United States.
Statehood could raise Puerto Rico’s visibility, but it could also result in US and foreign corporations relocating away from Puerto Rico, as statehood would require the imposition of federal corporate income taxes. Puerto Rico residents would also have to pay federal tax on all income. Currently they are subject to federal tax only on income from sources outside of Puerto Rico.
Moreover Puerto Rico’s government-issued debt would no longer enjoy so called triple-exemption (where the government, its political subdivisions, and its public corporations generally are not subject to income tax at the federal, state, or local levels). The loss of triple-exempt bond status could result in reduced demand for Puerto Rico’s debt, making it much harder for the Island to reduce its fiscal burden.
The government has successfully tapped the capital markets
As the financial situation worsened, the government became increasingly indebted. This led to an accumulated public debt of more than USD70 billion, representing approximately 68% of the GDP and 100% of the GNP. Over the past thirty-five years, government debt has risen from USD6 billion to USD70 billion, an annual compound growth rate of 7%.
All major rating agencies have downgraded the island’s credit, and the island’s long-term credit ratings stand at: Fitch “BB”, Standard & Poor’s (S&P) “BB+” and Moody’s “Ba2”.
In March 2014, in a desperate move to avert financial ruin, the Puerto Rican government issued bonds worth USD3.5 billion at a rate slightly below 9%, to attract interest from the financial markets. This will be used to repay old debt, among other things.
Despite their negative view of the island economy’s financial markets, the credit rating agencies welcomed the bond sales and the government’s austerity measures.
In April 2013, the government also enacted comprehensive reform of its largest public employee retirement system to address the system’s deteriorating solvency.
Mortgage-refinancing program is rescuing many indebted Puerto Rican families
To address the issue of declining house prices, from this July the government launched the “Ahorro Hipotecario” program, which offers mortgage-refinancing through the Housing Finance Authority to some 10,000 low- to moderate-income Puerto Rican families. The loan refinancing program is backed by a USD63 million fund.
Under the scheme, qualifying homeowners can get new loans worth 100% of the appraised value of their property. This permits a considerable reduction in their interest rate, resulting in lower monthly payments. The program is offered to owners of primary residences paying interest rates higher than 6%, whose loans are smaller than USD250,000. The refinance loans will be granted by private banks and will have terms not exceeding 30 years.
To qualify, the applicant must not have more than two late mortgage payments of more than 30 days with 12 months of applying, and must have a credit score of 600 or more. Loans exceeding the property-related debt cannot be granted, and loans cannot be used to pay down credit card debts - but may serve as payment for motor vehicle loans and personal loans.
“This is a government with its ear to the ground. This is a government that knows that thousands of Puerto Rican families are meeting their obligations with enormous sacrifices. A government that knows that any savings right now on these obligations is a huge break,” said Governor Alejandro García-Padilla
“Contrary to regular loan refinancings offered by commercial banks and even contrary to what the FHA is guaranteeing, our program allows refinancing up to 100 percent of the property’s appraisal value with a substantial decline in interest rates."
Rents and yields are up
Despite the dire economic situation, rental yields have risen in Puerto Rico from a year earlier, according to the Global Property Guide research of February 2013. The average rental yield in San Juan is currently around 7.4% ,up from last year’s 5.52% for 2-bedroom apartments. For 3-bedroom apartments, the average rental yield stood at 9.03%.
San Juan metro area’s average monthly rent for 2-bedroom apartments amounts to USD1,011, up from last year’s USD839. The average rent of 3-bedroom apartments is USD1,329, up from last year’s USD1,095 per month.
Unemployment is a big problem
Since 2004, the total number of jobs has fallen by 15.4%, with only just over 1 million jobs available in 2013, according to the Department of Labor and Human Resources. Puerto Rico's labour force participation has also dropped, with only 41% of Puerto Ricans taking part in productive economic activities, comparing unfavorably to the United States and Latin America, where the average rate is about 60%.
The administration has begun implementing a plan, known as the Jobs Now Act, to create jobs to reactivate the economy. The law grants an energy credit to participating businesses, speeds the permits process, and establishes a salary subsidy for businesses hiring previously laid off employees. The Jobs Now Act has produced 44,704 new positions over the last fifteen months.
Tourism helping boost Puerto Rican economy
Over the next three years, the Puerto Rican government plans to boost tourism’s share of GDP from 6% to 8%, an increase of USD1.2 billion. The plan includes adding more than 5,000 new hotel rooms by 2017, new flights, and two new ports for cruise lines.
During fiscal year 2013, spending by non-resident visitors increased 4.4% over the previous fiscal year to a total of USD3.334 billion. This increase was driven by tourists staying in hotels and guest houses: a total of 3,199,672, some 130,582 more than in fiscal year 2012. It is projected that visitor spending for fiscal year 2014 will increase 3.5% y-o-y to reach approximately USD3.45 billion. It is expected to reach USD3.633 billion by fiscal year 2015, an increase of 5.3%.
In 2013, hotel rooms under construction increased by 2,200 to a total inventory of 16,700. The number of cruise passengers also rose by 35% y-o-y to 121,000.
“If you want quick impact to the economy, tourism is where it’s at,” said Ingrid Rivera, executive director of Puerto Rico Tourism. “We are small but we are potent.”
Currently, Puerto Rico has air connections with 17 countries and 24 destinations. But the island needs more airline service to accommodate more visitors, Rivera said. The agency is aiming for 10 million annual passengers, up from 8.4 million today. The island has a weekly flight from Frankfurt, Germany as well as several weekly flights from Panama and Colombia, and flights from Madrid, Spain two times a week. But there are no direct service flights from the United Kingdom or Mexico, two countries that, according to Rivera, could send travelers to Puerto Rico by the hundreds.
The government is also working to regain annual cruise ship visitors, which fell by nearly one-third after the 2008 financial crisis, back to 1.5 million. Ponce, on the southern shore, and Mayaguez, on the west coast, both plan to develop infrastructure to support large cruise ship calls. “The attractions are there,” Rivera told Bloomberg.
This article was republished with permission from Global Property Guide.