Puerto Rico’s public debt is massive — around $70 billion and counting, but no one really knows for sure as the government of Puerto Rico does not follow uniform or transparent accounting rules. Since Puerto Rico is not authorized to declare bankruptcy under federal law, the Puerto Rico legislature enacted a local “recovery act” in 2014 authorizing the island government to restructure part of its public debts through the local courts. To make a very long story short, bondholders (the various creditors who are owed money by the Puerto Rico government) immediately challenged the local recovery act in federal court, and their case has gone all the way up to the United States Supreme Court in Washington, D.C. With the death of Justice Scalia and the recusal of Justice Alito, the remaining seven justices heard arguments in March, and they are expected to render a decision by June of this year.
(By the way, when this case was argued in the U.S. Supreme Court, the government of Puerto Rico was represented by Christopher Landau, a lawyer at Kirkland & Ellis, while the bondholders were represented by Matthew D. McGill, a lawyer at Gibson Dunn. In other words, the parties were represented by some of the best private attorneys and most prestigious private law firms in our nation, and we can only begin to imagine the staggering legal fees this case has generated thus far.)
In the meantime, three law students at Duke University — Felix Aden, Ryan Berger, and Sigurdur Tryggvason — figured out an ingenious solution to Puerto Rico’s looming debt crisis, a simple and straightforward two-step solution that does not require the Puerto Rico legislature or the Congress to enact any new legislation! (The students posted their simple and elegant two-step solution on SSRN here.)
Step one is based on Articles 1812 and 1818 of the venerable Puerto Rico Civil Code of 1930 (31 L.P.R.A., secs. 5172 & 5178). (Puerto Rico, like Spain, France, and many other countries, has adopted a comprehensive civil code that spells out the legal rights and duties of private persons, including business entities.) Article 1812 of the P.R. Civil Code allows any debtor (including, presumably, the government of Puerto Rico) to go to a Puerto Rico court of general jurisdiction and request the court to order the parties to re-negotiate “a reduction in the amount and an extension of time in the payment of his debts.” Under Article 1812, the court cannot compel any creditor to accept a new deal; the court can only require the creditors to at least negotiate with the debtor. Nevertheless, under Article 1818 of the Civil Code, a negotiated agreement with a simple majority of creditors within the same class is binding on all the creditors within that class.
So, why would a majority of creditors ever agree to renegotiate the terms of their debts? (Remember, under Articles 1812 and 1818 of the Civil Code, a local court is only authorized to order the creditors to negotiate in good faith with the debtor. A court cannot compel the parties to actually reach an agreement.) Here is where step two of the Duke Univeristy students’ solution comes into play: the civil code concept of the “joint obligation.” In our next post, we will go over step two of their solution, so read pp. 6-9 of their paper!
Hat tip: Kim Krawiec, via The Faculty Lounge.