Can states go bankrupt? Here’s how Puerto Rico did, with a Penn Law prof’s guidance.

Penn Law's David S. Skeel tells how he made bondholders and patriots mad at him while heading the board that made the "largest public debt restructuring in American history."

When squabbling politicians fail to provide effective public services, and spend all the people’s money, it can be tempting to wish a giant hand would reach down and make everything right.

That’s what Congress has tried to do over the past six years in Puerto Rico, a state-sized U.S. colony with twice the population of Philadelphia. A Penn law school bankruptcy professor, David S. Skeel, headed the effort for most of its existence, climaxing in January with the plan’s approval by federal Judge Laura Taylor Swain.

Under U.S. law, individuals, businesses, and even cities can go bankrupt, but states and colonies cannot. So what’s happened in Puerto Rico is a blueprint for what could happen as aging U.S. states, such as New Jersey and Pennsylvania, continue to spend money they don’t have.

In 2015, Puerto Rico owed Wall Street investors $72 billion, which then-Gov. Alejandro García Padilla said the island could not pay. It also faced a pension deficit of over $50 billion — almost as large as Pennsylvania’s, for a population less than one-fourth its size.

So Congress in 2016 approved the oversight board, known locally as la Junta, comprising a small group of businessmen, financiers, and scholars. It was appointed by President Barack Obama and his successors to restructure Puerto Rico’s debt, taxes, and spending after elected leaders couldn’t agree on a working plan. Natalie Jaresko, the American-born former Ukraine finance minister, is its paid executive director.

The board demanded cuts and delays for Puerto Rico’s debts it said should never have been approved under the island’s laws. It pushed for asset sales to raise cash, spending cuts to avoid going broke, and sought to replace unfunded pensions with private-sector-style savings plans.

Its members were aggressively criticized by leftists and labor leaders who saw these “traitors” as selling out the fatherland and by Wall Street “vulture” investors who demanded full repayment even on high-risk bonds they had bought at deep discounts.

The plan’s approval followed long delays for ruinous hurricanes and the pandemic. The board said the plan “reduces the debt by 80% and saved Puerto Rico more than $50 billion” in long-term payments, adding that Puerto Rico can now move on “from financial instability and insolvency to a future of opportunity and growth.”