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As a territory of the United States, Puerto Rico enjoys the benefits of key U.S. legal, monetary, security, and tariff systems, and its residents are U.S. citizens. In the decades following World War II, Puerto Rico emerged as one of the world's fastest-growing economies. From 1950 to 1970 per capita income nearly doubled as a percentage of the U.S. average, making the island the richest economy in Latin America. Since the mid-1970s, however, labor force attachment has declined, economic growth has slowed, and ...
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As a territory of the United States, Puerto Rico enjoys the benefits of key U.S. legal, monetary, security, and tariff systems, and its residents are U.S. citizens. In the decades following World War II, Puerto Rico emerged as one of the world's fastest-growing economies. From 1950 to 1970 per capita income nearly doubled as a percentage of the U.S. average, making the island the richest economy in Latin America. Since the mid-1970s, however, labor force attachment has declined, economic growth has slowed, and the island's living standards have fallen further behind those on the mainland. Today more than half of all Puerto Rican children live below the U.S. poverty level.
Why did Puerto Rico's economic progress stall? And more important, what can be done to restore growth? A number of overlapping concerns& #151;labor supply and demand, entrepreneurship, the fiscal situation, financial markets, and trade& #151; —are at the heart of its economic difficulties. This is a companion volume to Restoring Growth: The Economy of Puerto Rico (Brookings, 2006), in which economists from Puerto Rico and the United States examine the island's economy and propose strategies for sustainable growth. This monograph summarizes the analyses published in that volume and presents a set of policy recommendations to increase employment, improve education, upgrade infrastructure, and fix government finances.
Contributors include James Alm (Georgia State University), Barry P. Bosworth and Gary Burtless (Brookings Institution), Susan M. Collins (Brookings Institution and Georgetown University), Steven J. Davis (University of Chicago), María E. Enchautegui, Juan Lara, Luis A. Rivera- Batiz, and Orlando Sotomayor (University of Puerto Rico), Richard B. Freeman and Robert Z. Lawrence (Harvard University), Helen F. Ladd (Duke University), Rita Maldonado-Bear and Ingo Walter (New York University), Francisco L. Rivera-Batiz (Columbia University), and Miguel A. Soto-Class (Center for the New Economy).
SUSAN M. COLLINS, BARRY P. BOSWORTH, and MIGUEL A. SOTO-CLASS
At the close of the millennium, Puerto Rico was a tale of two economies. On the one hand, it had achieved some impressive economic milestones. Per capita income was substantially higher than in the rest of Latin America. On quality-of-life measures such as literacy rates, years of schooling, and life expectancy it ranked close to the most highly developed countries. But in other key dimensions, Puerto Rico appeared stuck under an economic glass ceiling. Although they have been American citizens since 1917, nearly half of Puerto Rico's residents still lived below the U.S. poverty line, and the income gap relative to the mainland was widening.
As a territory of the United States, Puerto Rico shares key U.S. institutions. In particular, the region operates under U.S. judicial, monetary, and tariff systems. It is one of the world's most open economies, with free mobility of goods, services, capital, and labor to the large and prosperous U.S. market. One might expect these conditions to pave the way for rapid economic development in Puerto Rico, with living standards converging steadily with those enjoyed in the rest ofthe nation.
Indeed, in the decades following World War II, Puerto Rico was hailed as a success story, sustaining impressive rates of economic growth and significantly raising domestic living standards. Its gross domestic product (GDP) per worker rose from 30 percent of the U.S. average in 1950 to 75 percent in 1980, a remarkable achievement.
Since the early 1980s the economic situation on the island has deteriorated. GDP growth has slowed substantially, and no further progress has been made in narrowing the gap with the U.S. mainland. Gross national income (GNI) per capita, a more appropriate measure of living standards, yields an even less favorable picture. While income per capita doubled from just over 20 percent of the U.S. average in 1950 to roughly 40 percent in the early 1970s, it has drifted back down to only about 30 percent more recently. Living standards in Puerto Rico are further from the U.S. average today than in 1970, and per capita income is only about half that of the poorest state.
Why did Puerto Rico's economic progress stall? And more important, what can be done to restore growth? These are the questions that motivated the Center for the New Economy and the Brookings Institution to undertake this collaborative research project. The objective was to examine Puerto Rico's economy and propose strategies for sustainable growth. Although it necessarily touches on political issues at times, no assessment of the alternative political options for the region was intended. Indeed, our economic analyses and proposed growth strategy are status neutral and will be relevant regardless of political regime.
The issues raised by Puerto Rico's puzzling economic performance are both important and interesting. Many Americans are unaware that the incomes of a large group of fellow citizens have remained far below the national average. More broadly, it is critical to understand why an economy with so many of the characteristics economists deem key to growth does not perform better. And as economic integration expands and deepens in Europe and elsewhere, it is more and more essential to understand which policy levers remain available for a small but very open peripheral economy to ensure that it does not fall behind.
A preliminary analysis of Puerto Rico's economic situation highlighted a set of overlapping concerns that appeared to be at the heart of Puerto Rico's economic difficulties. These included dimensions of labor supply and demand, entrepreneurship, the fiscal situation, financial markets, and trade. Puerto Rican and mainland experts were paired to study each of these topics, so as to ensure that the analysis was grounded in the relevant historical context. The authors met for an initial conference in San Juan in May 2004. Drafts of all their papers, as well as commentary by invited discussants, were presented at a second, academic-style conference in March 2005, also in San Juan. Complete versions of the revised analyses, as well as the discussants' remarks, are published in The Economy of Puerto Rico: Restoring Growth, the companion volume to this monograph. This monograph summarizes each of the eight substantive papers in that volume. The final chapter, reproduced in its entirety, pulls together the lessons from these analyses and sets out a growth strategy for Puerto Rico.
In the next chapter, Barry P. Bosworth and Susan M. Collins examine the level and growth of production and income in Puerto Rico, setting the stage for the remaining chapters. Pulling together data from a variety of sources, they analyze why economic performance faltered, identify the main characteristics of the current economy, and highlight the key challenges for restoring sustained growth.
Per capita income in Puerto Rico is less than one-third that on the U.S. mainland. A substantial portion of this gap can be traced to Puerto Rico's strikingly low employment rate-and ultimately to its persistently low rates of labor force participation. Two chapters in the volume are devoted to examining the causes of this shortfall. Gary Burtless and Orlando Sotomayor carefully document implications of the generosity and structure of government transfer benefits available to Puerto Rico residents. María E. Enchautegui and Richard B. Freeman explore dimensions of what they term the "rich uncle (Sam) hypothesis"-that Puerto Rico's unique relationship with the United States has produced an economic environment that discourages work on both the supply and demand sides of the market. These studies reach similar policy conclusions: for example, that transfer programs should be redesigned in order to encourage work.
Puerto Rico has a remarkable record of educational development over the past forty years. However, as Helen F. Ladd and Francisco L. Rivera-Batiz document in chapter 5, concerns have emerged about deteriorating educational quality and growing inequities. They address the significant improvements in schooling that are now necessary if the commonwealth is to continue to use education as an engine of economic development.
Chapter 6 turns to the demand side of Puerto Rico's employment shortfall. Steven J. Davis and Luis A. Rivera-Batiz document the relatively underdeveloped state of the Commonwealth's private sector, examine some of its key implications, and propose actions that might be undertaken to invigorate it. Of particular note, they show that the employment shortfall is concentrated in the private sector and that Puerto Rico's industry structure is grossly misaligned with the human capital mix of its population.
Puerto Rico's growing public debt and large recent budget deficits are particularly worrisome. James Alm critically assesses Puerto Rico's fiscal situation in chapter 7. While he addresses some features of public expenditure, his focus is the tax side, emphasizing a weak tax administration and the overuse of tax incentives, which he argues undermine the government's efforts to promote development.
While Puerto Rico cannot conduct an independent monetary policy, a long literature emphasizes the importance of finance for economic development. In the eighth chapter, Rita Maldonado-Bear and Ingo Walter present detailed summaries of each component of the commonwealth's financial sector, including the Government Development Bank, and suggest approaches for enhancement.
Furthermore, Puerto Rico has a small but extremely open economy. Thus, although trade is a central determinant of its economic performance, it cannot conduct an independent trade policy. In chapter 9, Robert Z. Lawrence and Juan Lara examine Puerto Rico's trade experience and implications for external adjustment, employment, and growth. Their recommendations concentrate on industrial policy and the strengths and weaknesses of alternative approaches.
In the final chapter, Bosworth and Collins present a set of policy recommendations for restoring growth in Puerto Rico. Drawing on the analysis and conclusions of the preceding chapters, they focus on increasing employment, improving the quality of education, upgrading infrastructure, and fixing government finances.
Excerpted from Restoring Growth in Puerto Rico Copyright © 2006 by Brookings Institution Press and the Center for the New Economy . Excerpted by permission.
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