UPDATE 1-Puerto Rico credit rating may be cut - Moody's

Tue May 3, 2011 12:01pm EDT

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NEW YORK May 3 (Reuters) - Puerto Rico's credit rating might be cut due to its "deeply underfunded" pension system, Moody's Investors Service said on Tuesday, in a reminder of the one of the biggest threats to state and local finances.

Puerto Rico now is rated A3 by Moody's; about $28 billion of debt issued by the Commonwealth was affected by the warning from the credit agency. The current A3 rating is four notches above a non-investment grade or junk rating. The conclusion of the review could result in a rating change of one or more notches.

Credit agencies increasingly are focusing on the difficulty states will have paying their public workers the benefits they have promised. While many states have billions of dollars of shortfalls in their pension systems, Puerto Rico is the worst.

Puerto Rico's financial problems are not only deep but long-standing. Moody's cited years of over-estimating revenues, underestimating expenses and relying on deficit borrowing.

Much of Puerto Rico's debt is widely held throughout the United States because investors do not have to be residents of the Commonwealth to capture its tax-free returns.

The credit agency estimated Puerto Rico's unfunded pension liability at $24 billion. The Commonwealth also must repay $42 billion of debt backed by taxes. Adding those two liabilities together produces an amount that is seven times the annual budget, Moody's said, calling this "a combined burden that will exert significant budgetary pressure for many years to come." (Reporting by Joan Gralla; Editing by James Dalgleish)

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