UPDATE 2-Puerto Rico expects U.S. economic incentives -Bhatia

Mon Oct 7, 2013 5:52pm EDT

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By Edward Krudy

NEW YORK Oct 7 (Reuters) - Federal officials are expected to announce incentives to boost Puerto Rico's economy in the next few months, a top legislator from the commonwealth said on Monday, responding to investor concerns about the island's rising debt costs and bleak growth.

The help is unlikely to include direct financial aid, Puerto Rico Senate President Eduardo Bhatia said at an investor gathering in New York. He did not provide specifics.

The assistance would come in response to the last four years of recession in the Caribbean territory, Bhatia said. It has been given added urgency due to a spike in Puerto Rico's debt yields in the recent months, he said.

The selloff in Puerto Rico's bonds has been driven by worries about the territory's shrinking economy, its high jobless rate and per capita debt, which are far higher than that of any U.S. state. The U.S. commonwealth's unemployment rate is nearly 14 percent, higher than any U.S. state.

"We are waiting to hear an announcement from the Treasury and the White House. We know for a fact they have been very aggressively thinking of how to be sure that they can help Puerto Rico send a very strong signal of stability right now," Bhatia told the meeting.

Puerto Rico has about $70 billion of outstanding debt, or nearly 2 percent of the overall $3.7 trillion municipal bond market. That dwarfs the $18 billion held by Detroit, which roiled the muni market when it filed for municipal bankruptcy earlier this year.

Puerto Rico's debt is held widely by mutual funds, increasing the systemic risk. The island will not be entitled to Chapter 9 municipal bankruptcy.

Puerto Rico's debt costs have soared this year. In May, 30-year general obligation bonds carried a yield of about 5.3 percent and hit a peak of 8.6 percent in mid-September. The debt is now trading with a yield of 8.1 percent, which is far higher than any U.S. state's. Puerto Rico's debt is rated BBB, one notch above junk.

ECONOMIC REFORMS

Officials in San Juan have embarked on economic reforms intended to show that the Caribbean territory will pay its debts, Bhatia said, citing pension reform, changes to tax laws and a reduced government work force.

Bhatia expressed frustration that investors appeared not to have recognized the reforms, and instead are punishing Puerto Rico with higher borrowing costs.

"The kind of reform you are making us do is very tough," Bhatia said. "But we are doing it because we want to send a signal that we are honoring our debt."

Bhatia said even if Puerto Rico were in danger of defaulting, the commonwealth's constitution stipulates that bond holders are paid before pensioners and government workers. He cited the 2006 crisis in which Puerto Rico's bond holders were paid while government workers were not.

Economic development officials and Puerto Rico Governor Garcia Padilla have been in talks with the U.S. Treasury and White House, he said.

A Treasury spokesperson told Reuters on Monday that the Treasury was monitoring the situation but would not discuss where the monitoring would lead.

"Given the potential for Puerto Rico's financial challenges to impact United States markets, including the municipal market, Treasury continues to closely monitor developments," said the spokesperson, who did not want to be named.

A senior White House administration official said President Barack Obama's task force on Puerto Rico has been "working for a number of years to maximize the impact of federal resources on the island.

"As part of its ongoing work, the task force is coordinating with federal agencies to strengthen Puerto Rico's fiscal situation and economic outlook," the official said.

Although details about any federal action were thin, analysts at Bank of America Merrill Lynch pointed to a $320 million aid package the Obama administration agreed to for Detroit to help with infrastructure development. In the case of Detroit, a large portion of the aid, which comes from federal, state and private sources, was previously earmarked for the city but delivery was slowed by red tape and other issues.

As one economic development tool, Bhatia noted tax breaks that some U.S. companies once enjoyed in Puerto Rico.

Federal authorities phased out tax breaks for parent companies of Puerto Rico-based U.S. manufacturers at the end of 2006. Puerto Rico entered a recession that year and has yet to recover.

There have been some positive signs from Puerto Rico's economy. Tax revenues for the three months through September rose by $70 million, or 4.4 percent, to a provisional $1.68 billion, the island's treasury secretary said on Monday. Bhatia attributed the gain to recent tax reform.

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