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07/29/2015 01:37 pm ET Updated Dec 29, 2016

Hedge Funds Want Puerto Rico To Fire Teachers To Pay Them Back

Report says the debt-burdened island doesn't have to go into default if it slices spending.

As Puerto Rico teeters on the edge of default, a new report commissioned by a group of hedge funds insists the U.S. territory can avoid bankruptcy if it lays off teachers, sells off many of its public assets and collects more taxes.

If the government tries to restructure or avoid paying its debts, it will be sued and the crisis in confidence that follows will make things much worse for the island, an author of the report argues. 

Puerto Rico Gov. Alejandro García Padilla announced June 29 that the commonwealth would not be able to pay back its $72 billion debt as it is currently structured. He also said Puerto Rico's municipal governments and public corporations should be allowed to declare bankruptcy. Federal law currently excludes Puerto Rico from taking that course of action, though it is open to all 50 U.S. states.

A report commissioned by Puerto Rico's government released that same day recommended debt restructuring as well as cuts in the minimum wage, welfare spending and fewer labor protections. It also argued for further cuts to education, including reducing the number of teachers. García Padilla has rejected many of the recommended cuts.

The new report, which was commissioned by 34 hedge funds that own $5.2 billion of Puerto Rico's debt, argues against declaring bankruptcy. Instead, former International Monetary Fund economists Jose Fajgenbaum, Jorge Guzman and Claudio Loser of the Centennial Group recall the previous report and recommend selling off $4 billion worth of public assets and implementing austerity.

Over the last decade, spending on education on the island increased by 39 percent, or $1.4 billion, the report found, while enrollment declined by 25 percent as thousands of Puerto Ricans fled for the mainland looking for a brighter economic future.

But even at current spending levels, Puerto Rico spends just $8,400 per student, about 21 percent less than the $10,667 per student average in the U.S., The Guardian pointed out

Puerto Rico needs debt forgiveness, not more austerity, said Eric LeCompte, executive director of the religious development organization Jubilee USA Network

Just relying on budget cuts means the "economy will continue to retract and they will be headed into a downward spiral," LeCompte told The Huffington Post.

Instead, the territory, where 45 percent of the population lives below the poverty line, needs to have half its debt written off, he argued. The other half needs to be restructured so that payments can be pushed into the future. 

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But the Centennial Group's Loser said that's a dangerous path for the island to follow. There are certain bonds that Puerto Rico is legally obligated to pay back, he said; if it doesn't there will be costly litigation filed against it.

Worse, Loser said, not paying what Puerto Rico owes will make investors lose confidence in the island.

"Puerto Rico would be filled with lawsuits and a long period of uncertainty," Loser said. "If they say 'we’re not going to pay or respect the contracts we have,' [investors] will say, 'I’m not going to invest here because I’m not sure what’s going to happen next.'"

One area where both LeCompte and the Centennial Group agree is tax collection. Both say the territory needs to crack down on tax cheats. 

Puerto Rico only collects about 56 percent of the sales tax its owed, compared to an average of 83 percent across the 50 states, according to the report.

LeCompte said Congress can aid the island by making it legal for its municipalities and public corporations to declare bankruptcy, which could ease Puerto Rico's debt burden and pave the way for growth. In bankruptcy, a court would determine how much of its debt the territory is able to pay; its creditors would take a loss.

"One of the best solutions is to be able to declare municipal bankruptcy," LeCompte said. "It’s imperative not only for the territory to raise money through tax revenue but also through debt relief as well."

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