To restructure government debt Puerto Rico will need to reach a negotiated settlement with creditors or modify its constitution, a long and complicated undertaking that may not succeed.
A report by former IMF staffers that was commissioned by the government is proposing a sweeping debt restructuring that includes government-backed general obligation bonds protected under the U.S. territory's constitution.
The island's governor appeared to back that idea, telling the New York Times in an interview published on Sunday that all bondholders could be asked for significant concessions, including suspension of debt payments for 5 years.
What appears to be a new willingness to impair government, or general obligation, debt opens up another front in the crisis. Up to now the government's strategy has been to try to ring fence government debt and restructure public corporations.
The snag is that Puerto Rico's constitution stipulates that general obligation bondholders must be paid. That means anything other than a consensual restructuring would fall short of Puerto Rico's own constitution.
"If they go to any holders of debt and say do you want to swap this for that, that doesn't necessarily imply any changes," said Charles Blitzer, who advises funds on their Puerto Rico exposure. "If they start to make threats that if you don't then we may not pay then I'd leave it to the lawyers."
Blitzer said bondholders would be unlikely to agree to a voluntary restructuring similar to what took place in Uruguay in 2003, as Puerto Rico has not demonstrated its debt is unsustainable.
Puerto Rico has about $72 billion in total debt. About $13 billion of that is general obligation debt, with an additional $5.5 billion guaranteed by the government.
Changing the constitution would need a two-thirds majority in both houses, which would need support of opposition parties. It would then face a vote in a referendum. The earliest that could happen would be the general election in 2016.
Even if Puerto Rico did change its constitution, the U.S. Congress has the ultimate authority to reject those changes. Congress approved Puerto Rico's constitution in 1952 and can effectively regulate it under the U.S. Constitution.