Over the weekend, Governor Alejandro Garcia Padilla of Puerto Rico announced that the US territory would skip payment on almost $370 million in debt that was due today.
Anyone who's struggling with unaffordable debts should follow Puerto Rico's lead, and stop paying.
If a group of islands with a population of 3.5 million people can do it, why can't debt-ridden American families?
Think of Governor Garcia Padilla as the holder of one really gigantic credit card, where the bill has swelled to $70 billion. He's been the one struggling to get it paid, and most of the past year he's been saying that Puerto Rico doesn't have the means to pay it.
Like a lot of debt-laden consumers on the mainland, Puerto Rico ran up its debts fully believing it could eventually pay. But then its income dropped - sound familiar? - and ever since, it's been juggling debts, trying to stay above water.
In the past, US tax laws made Puerto Rico an attractive, lower-cost place for manufacturing pharmaceutical, textile and electronics equipment. Ever since the tax cuts that made it possible were eliminated, the territory has wobbled under the weight of programs that it could no longer afford. Puerto Rico lost 80,000 jobs in about 15 years as a result.
Debt grew like a wave as the territory tried to keep up the standards it had maintained. Now, although its population is about the size of the 24th-largest US state, Oklahoma, Puerto Rico's debt ranks third, behind far larger New York and California.
Like a household that relied on credit card debt or a home equity loan and now, after a job loss or a big medical emergency, can't pay the bill, Puerto Rico went into desperation mode, borrowing to pay off past borrowing. In February 2015, it offered to pay off its debts at between 39 and 72 percent of what was owed, but couldn't make that work.
Finally, over the past several months, the territory's Governor started to unveil the harsh reality that there was no way out but default.
Do you know what will happen next for Puerto Rico? Will it sink into the ocean? Be shunned by neighboring nations, not invited to parties?
Nope. Life will go on. In fact, it will be better. Puerto Rico had faced the prospect of cutting vital services in order to pay its debt, but it made the choice to keep those services and not pay the debt.
Americans with unaffordable debts can make the same choice. Don't cut the household's vital services in order to clean up the debt overhang. Instead, stop paying the debt.
Puerto Rico will soon begin the process of negotiating with the holders of its debt, and likely settle at substantial discounts to what it owed. The very same exit is available to everyone who's in debt. Once debtors stop paying unaffordable debts and instead put their families first and not their creditors, they gain leverage. Lenders will typically negotiate, because they'd rather get something than nothing.
Puerto Rico walked away from the table. Its leaders are in government, so they made all the politically necessary noises about the decision to quit paying being 'painful' and such, but they rightly put themselves and their citizens in a better spot. Services that people rely on will continue, a great relief to many. As the crisis in Puerto Rico grew over the past decade and a half, its poverty rate spiked; it's now twice the poverty rate in the US's poorest state, Mississippi. Cutting services would be inhuman.
The same relief Puerto Rico will feel from its decision, that feeling of having its priorities in line, is available to every debt-burdened person. It's what comes from giving up trying to pay on the steep terms that lenders lay down for the debt-burdened. Keep feeding the family. Stop feeding the bank.
A debt cleanse isn't for the faint of heart. Lenders will call and write incessantly, demanding their money. But the strategy of a debt-cleanser is to calmly ignore all that, knowing there's a better way. All the time that debtors are not paying debts, they're saving up cash that can be used to pay lump sum settlements that have been negotiated down. Ignoring creditors' threats helps debtors focus on the end game, which is won with patience and cash.
Is there a downside for Puerto Rico to stop paying? Yes: they may have difficulty obtaining credit in the future. Just like Americans would wreck their credit score if they stop paying bills they cannot afford. However, this may actually be a good thing. Taking on debt is not a requirement of happiness and a satisfying life, no matter what marketers tell us. Likewise, Puerto Rico can survive and thrive without taking on new debt.
Governor Garcia Padilla has set a bold example for Americans with unaffordable debts to follow.