Last week the Treasury Department provided its recommendation for a federal response to Puerto Rico's debt problem. It says that Congress should pass the chapter 9 extension bill for the benefit of Puerto Rico's municipal debtors who are responsible for about a third of the total debt. Congress should also authorize a "broader legal framework" that goes beyond relief for municipalities and that would cover all of Puerto Rico's debt. This process should be reserved exclusively for U.S. territories (states could not use it). The framework would provide the basic protections of a bankruptcy proceeding: a stay on creditor collection action, priority for new, private short-term finance, and voting by creditor class on any proposed restructuring. Treasury does not mention cram down, but that would surely be included among the "basic protections" of bankruptcy.
Regarding a judicially supervised bankruptcy proceeding, Treasury notes that more than 20 creditor groups have already formed, making it "very difficult" for the Puerto Rican government to negotiate a voluntary restructuring in time to prevent a complete collapse. Without an orderly process, the alternative is default followed by "numerous creditor lawsuits and years of litigation" which would "depress the local economy, increase costs, and make long-term recovery harder to achieve."
The proposal has been dubbed a "super chapter 9." One observer who is an economics professor and a Puerto Rican bondholder said that super chapter 9 legislation would be a de facto amendment of the Puerto Rican Constitution by Congressional fiat and an affront to the sovereignty of the Puerto Rican people.
At a Senate Committe on Energy and Natural Resources hearing last Thursday, the reaction of senators was a mixed bag. Senator Warren used the occasion to urge Treasury to "step up and show more leadership," It's not clear what she had in mind for Treasury to do, but she did challenge the department to be "just as creative" in finding solutions as it was when several investment banks failed or were near failure during the 2008 financial crisis. Senator Sanders said that Treasury should call a meeting with the unions and "all the players" in Puerto Rico including creditors (who he called "vulture funds") and just work something out. Sanders and Warren both emphasized that any solution should not protect investors at the expense of Puerto Rican workers. Senator John Barasso (R.Wyo) asked about the impact of a haircut for bondholders on the people of his state-- whose pensions are invested in mutual funds that hold Puerto Rican bonds. Short answer is if the bond investors take a hit, the pain will be felt by voters in Wyoming. The webcast of the hearing is available here.