This well-written article encapsulates many of the problems of the Puerto Rican welfare state.
Trouble on Welfare Island | The Economist
Overbearing government and the welfare state are hurting the United States’ poorest citizens
May 25th 2006
Aguadilla and San Juan
AS THE mayor of Aguadilla, on Puerto Rico’s north-west coast, Carlos Méndez is proud of his town. He likes to take visitors onto the balcony of the town hall and challenge them to spot a scrap of paper in the plaza. There are none; but here, and all around the centre of town, there are no busy people either. The shops and offices are shabby, with little going on in them. The buildings along the beautiful beachfront look run-down. A few men sit in the shade, and have apparently been planted there as long as the tree has.
Puerto Rico has been a United States territory for more than a century, and its people have been citizens since 1917. They do not vote in national elections or pay federal income taxes, but those are not the biggest differences between Puerto Rican residents and their fellow American citizens. The island is distinguished by its poverty and joblessness, which are far worse than in any of the 50 states. The territory’s economy, moreover, has fallen further behind the national one over the past three decades. Bad government—not just locally, but also federally—is largely to blame. Yet most Americans are oblivious to the Caribbean island’s problems.
The place did earn a rare and brief mention in some mainland newspapers earlier this month. Its government had hit a borrowing limit and partly shut down for a couple of weeks, putting 95,000 civil servants out of work. Then leaders in San Juan—the commonwealth’s capital—agreed on a budget deal that let the government borrow more and resume paying people. The drama ended, and life there reverted to its depressing former state.
Some Puerto Ricans are doing well. Most of Aguadilla’s 70,000 people, for example, live in the richer suburbs that surround the city. The area has many of the same fast-food and retail chains that pervade the United States, and companies from the mainland, such as Hewlett-Packard and Micron Technology, have built factories nearby. Much of the island, however, is like Aguadilla’s town centre, full of low incomes and idle hands.
Puerto Rico’s annual income per person was around $12,000 in 2004, less than half that of Mississippi, the poorest state. More than 48% of the island’s people live below the federally defined poverty line. That poverty rate is nearly four times the national average, and more than twice as high as in poor states such as Kentucky, Louisiana, Mississippi and West Virginia.
Half the working-age men in Puerto Rico do not work. Officially, only 46% of those who are not pursuing a degree have formal jobs, compared with a United States average of 76%. The territory does have a big informal economy. But María Enchautegui at the University of Puerto Rico and Richard Freeman at Harvard University have looked into this, and reckon that counting unofficial workers boosts the employment rate only to 55%, at best. Their research is included in a new book on the island’s problems, put together by two think-tanks: the Brookings Institution in Washington, DC, and the Centre for the New Economy in San Juan.*
Puerto Rico ought to be doing much better, because being part of the United States gives it many advantages over other low-income economies. Most important may be America’s legal system, which offers excellent protection, by developing-economy standards, for private property, contracts, patents, free speech and so forth. These guarantees tend to attract outside capital, spur local investment and let commerce and innovation flourish. The island can also trade freely with the giant mainland economy. And its workers can migrate to and from the 50 states at will, gaining skills, creating business connections and making money.
In some ways, generous United States taxpayers have also been useful. To help the territory catch up, they have paid for infrastructure and a huge leap in education levels. The average length of schooling in Puerto Rico rose from 3.7 years in 1950 to 11 years in 2000.
With these advantages, Puerto Rico grew impressively in the decades after the second world war, even outperforming Asian “tigers” such as South Korea, Taiwan and Singapore (which has roughly Puerto Rico’s population). Since the 1970s, however, Puerto Rico has been outpaced badly by the Asian tigers and Ireland, another place to which it is often compared. It has also diverged from the United States, losing ground even to lowly Mississippi.
Many things have gone wrong. Most important, however, is that the United States government assumed too big a role in the Puerto Rican economy, and its largesse enabled the commonwealth’s government to do the same. Through hubris, clumsiness and sheer size, these governments knocked Puerto Rico off the promising path that it was following, and the island’s economy is now lost in a thicket of bad incentives. Two federal intrusions stand out: an oversized welfare state, and misguided rules on business investment.
Federal transfer payments to Puerto Rico rose sharply in the 1970s. Some programmes have been modified since then, but transfers still make up more than 20% of the island’s personal income. These federal handouts reflect the sensibilities of a wealthy country. So by Puerto Rican economic standards, they are huge. And the more a man or woman earns through paid work, the more they decrease.
Puerto Ricans are eligible for federal disability payments, for example, through Social Security. Ms Enchautegui and Mr Freeman point out that, in the territory, federal disability allowances are much higher than the United States average as a share of wages and pension income. Unsurprisingly, therefore, one in six working-age men in Puerto Rico are claiming disability benefits.
Many families do not view the federal handouts as temporary. Neither does Raúl Vega, who owns a consumer-finance outfit in Aguadilla. His firm treats the benefits as income when deciding whether to lend people money for new televisions.
Some Puerto Rican households, of course, would barely struggle along without federal assistance. For many people, however, the money that can be earned through federal transfers and a little informal work is more than the market wage—and requires much less effort. Meanwhile, in a strange echo of America’s immigration debate, people from the Dominican Republic do many of the jobs in Puerto Rico that pay too little to attract the locals.
Relaxation without representation
What do Puerto Rico’s men do all day? Some get into trouble. But many others hang out in pleasant places that require little money, such as beaches, shopping malls and the armchairs in Borders bookstores. They also watch plenty of television. Downtown Aguadilla may be shabby, but satellite dishes sprout from many rooftops. People always have money for that bill, says Mayor Méndez.
Through tax laws, the federal government has also favoured some business investments in Puerto Rico over others. Most notorious is “Section 936”, a rule that skewed investment towards technologies that were too advanced for Puerto Rico’s stage of development. Drug firms and chemical producers built factories that used lots of capital and few workers, because doing so lowered their global tax bills. In a recent book on the territory’s economy, James Dietz described this distorted evolution well.†
High technology sounds wonderful. But what Puerto Rico has needed over the past few decades is more medium-tech plants. These would employ more people, teach them skills better suited to the island’s level of development, and tighten links to local suppliers and business services. More service jobs for the unskilled would be good, too. Steven Davis at the University of Chicago’s business school, another contributor to the Brookings/CNE studies, points out that jobs in tourism and recreation engage a lower share of the workforce in Puerto Rico—despite its beautiful beaches—than in any of the 50 states.
In short, by lowering demand for less educated workers, lopsided investment has exacerbated the welfare-driven distortions in the island’s labour supply. The result is lots of idle poor. The Section 936 rules were phased out between the mid-1990s and 2005, but the damage will persist. Many Puerto Ricans have acquired few useful habits and skills over the past three decades; and the welfare state, though smaller than before, is still pervasive enough to lock many of the labour distortions in place.
Puerto Rico’s bloated government also bears much of the blame. Around 30% of the territory’s jobs are in the public sector. Among other things, a big and coddled bureaucracy undermines Puerto Rico’s educational achievements in two ways. First, nearly half those on the education department’s payroll are not teachers; quality has fallen because of low accountability and mismanagement. Second, because of the small private sector, too few well-educated Puerto Ricans are gaining useful skills and experience in the marketplace.
As he walked through Aguadilla’s town hall recently, Mr Méndez boasted about each employee’s university or graduate-school credentials as he introduced them. The trouble, he says, is that “All they want to do is find security only. They have no ambition…Everybody wants to work for the government.” Manuel Reyes, of the Puerto Rico Manufacturers Association, also sees little hope that the government’s role will shrink. “There is no light at the end of the tunnel,” he says, “because we are still in denial.” And the rest of America is still indifferent.
* “The Economy of Puerto Rico: Restoring Growth”, edited by Susan Collins, Barry Bosworth and Miguel Soto-Class. Centre for the New Economy, San Juan, Puerto Rico, and Brookings Institution Press, Washington, DC.
† “Puerto Rico: Negotiating Development and Change”, by James Dietz; Lynn Rienner Publishers, Boulder, Colorado