In the pit of debt
"Fitch Ratings: Binge borrowing and weak fiscal management offset Guam’s economic growth"
Multimillion-dollar developments are sprouting all over Guam. Tourism numbers are rising at exponential rate. As the military buildup begins to ramp up, more defense funds — including construction and Section 30 money — are guaranteed to roll in. Guam has no legal limitations on its ability to raise revenues through rate adjustments and imposition of new taxes, thus the island’s growth prospects for revenues have been historically solid.
But financial experts cautioned the government of Guam against its spending habit and binge borrowing, which if not tempered, may lead it toward the road to perdition in the company of Puerto Rico.
In its Dec. 22 report, Fitch Ratings noted that Guam’s strong economic growth is offset but it has the inability to reach and sustain a structurally balanced budget due to a “very long trend of weak financial operations and high debt levels.” Such flaws have contributed to the agency’s decision to demote the government of Guam’s $763.3-million business privilege bonds to BB from A-minus.
Fitch characterized Guam’s long-term liabilities as “exceptionally high” with tax-supported debt and pension liabilities estimated at over 100 percent of personal income net tax-supported debt.
“Guam has limited gap closing capacity and would likely experience fiscal distress in a moderate downturn. It has had difficulty reaching budgetary balance even during this extended period of economic expansion,” the rating agency said.
Based on Guam Economic Development Authority’s September 2016 debt abstract, Guam’s total debt was pegged at $2.7 billion in all categories. Revenue bonds total $1.58 billion and a total of $1.119 billion in limited and general obligations bonds are subject to debt ceiling, which is equivalent to 10 percent of aggregate tax valuation of property in Guam. The Guam Supreme Court has interpreted aggregate tax valuation to mean assessed value and statute sets assessed value to 100 percent of appraised value, but the 2017 appropriations act has adjusted the rate to 90 percent. Prior to the debt cap adjustment, the Department of Revenue and Taxation placed the aggregate tax valuation of Guam’s real property at $14.89 billion in October 2015.
“There is no way that we can continue to borrow at the rate that we have over the past decade,” Vice Speaker Benjamin Cruz said when he first introduced the debt ceiling adjustment in November 2015. “In the past, language that increased our debt ceiling has been hidden in pages of complex bond borrowing legalese.”
Besides the limited and general bonds obligation, GovGuam has $148.5 million in debt not subject to the debt ceiling, $87.1 million in principal toward the Tiyan lease agreement, and $171.1 million in previously approved financing that has yet to be borrowed — pushing the public debt to over $1.525 billion. The amount translates to approximately more than $9,500 per person on Guam.
In its April 2014 performance audit, the Office of Public Accountability noted that public indebtedness increased by 54 percent from $1.02 billion in fiscal year 2008 to $1.57 billion in FY 2013. The amount included borrowings— including those subject to the debt ceiling, debt not subject to the debt ceiling, and other primary government liabilities— which resulted in service requirements doubling from $41.3 million in fiscal 2008 to $80.8 million in 2013.
Due to a lack of formal debt management strategy, OPA observed that GovGuam has accommodated the increased debt by raising the debt ceiling three times, from 2007 to 2012, going from 35 percent to 100 percent of Guam’s total real property’s appraised value. “Higher debt ceiling resulting from the real property revaluation doesn’t mean an improved ability or position to repay new debt,” Cruz said.
Another component of GovGuam’s informal debt management is the restructuring of some of its liabilities to long-term borrowing as well as deferral of principal payments and capitalized interest. Fitch said Guam’s ability to control spending reflects in slow debt amortization. In fiscal 2017, GovGuam is scheduled to pay $79.3 million in debt service out of its $681.2 million annual appropriation. Based on GEDA’s debt abstract, GovGuam will continue paying until 2042 — with the taxpayers shouldering the burden.
Fitch said the amount of tax-supported debt is equivalent to 65 percent of estimated personal income.
GovGuam anticipates $716.5 million in revenue for 2017, with $681.2 million of that amount available to be spent on government operations. But despite spending controls put into place by the administration, Fitch warned that the natural pace of expenditure growth is expected to be somewhat above revenue growth.
“The government’s fiscal stabilization plan, which included controls over hiring and wages, also included legislation to limit expenditures to 98 percent of estimated revenue until the then existing deficit was eliminated,” Fitch said. “These efforts tempered the growth in expenditures relative to revenues but have not completely closed the gap.”
The rating agency observed Guam’s adequate ability to adjust spending in response to economic downturn or revenue shortfall. The strategy includes delayed payment of tax refunds. The issuance of the downgraded $763.3-million business privileged bonds could again prompt GovGuam to utilize payment deferrals for short-term budget balancing.
“The government of Guam has been attempting in recent years to reverse a 20 year history of operating at a deficit. The current administration put into place a plan to gradually shrink the operating deficit by controlling expenditures, improving revenue estimation and collection, while using debt issuance to pay overdue tax refunds and other general fund expenses that in total had accumulated to $340 million,” Fitch said.
The Calvo administration demonstrated progress between fiscal 2011 and fiscal 2014, gradually shrinking the operating deficit and bringing the budget slowly toward structural balance. But it eventually went back to the historical trend, with the negative fund balance growing again to $120 million by the end of fiscal 2015 when unbudgeted expenses, accounting adjustments, and a revenue shortfall resulted in an operating deficit, Fitch said.
Maintaining that “fiscal discipline has been a hallmark” of his administration, Calvo said the rating downgrade on the business privilege tax bond will not impact the cost of Guam’s outstanding debt “since all of that debt was prudently issued at very low fixed rates.”
Fitch said the downgrade is based on its assessment that “the bond security can no longer be rated distinct from the general operations of the Government of Guam following the passage of the Puerto Rico Oversight, Management, and Economic Stability Act or PROMESA.” The newly signed law attempts to salvage Puerto Rico from its abysmal $72-billion debt.
While PROMESA does not apply to the government of Guam, Fitch said the legislation has “created an avenue for the federal government to adopt future legislation allowing for a restructuring of Guam-backed debt even though Guam is not eligible to file for bankruptcy under current federal law.