Tolstoy famously remarked that all happy families are alike but each unhappy family is unhappy in its own way. The same might be said of the unhappy state of the Greek and Puerto Rican economies. But while both those economies are struggling with very high debt burdens within a monetary union, there are very big differences between the two that makes it difficult to tar them with the same brush. Indeed, on closer inspection, it would seem that though the Puerto Rican economic crisis might be serious, it is of a very much lesser dimension than that in Greece.
Both Greece and Puerto Rico have very high public debt levels in relation to that of their peers. However, the scale of Greece’s indebtedness dwarfs that of Puerto Rico. Whereas Greece’s public debt has now reached around $350 billion, or 180 percent of its gross domestic product (GDP), that of Puerto Rico totals $72 billion, or around 70 percent of its GDP. Another basic difference between the two economies is that whereas Greece’s debt is now mainly in official hands, Puerto Rico’s debt is mainly held by private-sector asset managers. In principle, this makes Puerto Rico’s debt more susceptible to restructuring than that in the Greek case.
Both Greece and Puerto Rico constitute a very small part of the monetary union to which they belong. Indeed, the Greek economy constitutes less than 2 percent of the overall eurozone’s economy, while that of Puerto Rico constitutes a very much smaller part of the overall U.S. economy. However, while Greece might constitute a small part of the European economy, it has the potential to cause contagion to much larger economies in the European economic periphery, like Italy and Spain. By contrast, Puerto Rico would seem to have little potential to cause contagion to the United States.
{mosads}After all, if a Greek default were to cause Greece to exit the euro, markets would come to see that euro membership was no longer irrevocable. This might cause markets to focus their attention on other countries in the European periphery, like Italy, Portugal and Spain, which all still have very high public debt levels. As such, Greece would seem to be of very much larger systemic importance to the European economy than Puerto Rico might be to the U.S. economy. Whereas there is the distinct risk that a Greek default might trigger contagion to the rest of the European periphery, contagion from a default in Puerto Rico to the mainland would most likely be highly limited. And there is certainly no prospect that Puerto Rico would abandon the dollar if it were to default on its debt.
Despite their basic differences, Greece and Puerto Rico do share the same major challenge: They both need to restore order to their public finances and competitiveness to their economies within a monetary union. This is far from an easy task, since those monetary unions preclude Greece and Puerto Rico from an independent monetary policy and from use of exchange rate depreciation either to offset the contractionary effects of budget belt-tightening or to make the country more competitive.
There is no question that both Greece and Puerto Rico need to engage in belt-tightening to restore balance to their respective budgets. Considering that this needs to be done without the benefit of an independent monetary policy, both Greece and Puerto Rico need to vigorously embrace supply-side structural reforms. It is only with such supply-side economic reforms that those economies might have the hope of boosting their productivity levels and of placing themselves on a higher growth path that might enable them to grow out from under their substantial debt mountains.
Lachman is a resident fellow at the American Enterprise Institute. He was formerly a deputy director in the International Monetary Fund’s Policy Development and Review Department and the chief emerging market economic strategist at Salomon Smith Barney.