Krugman’s blog, 7/1/15

There was one post yesterday, “Geographical Notes on Puerto Rico:”

Greece isn’t the only debt crisis boiling over right now; there’s also Puerto Rico, which I was aware was brewing but wasn’t tracking carefully. I’ll probably have a fair bit to say about the PR crisis once I get back from my current trip, but meanwhile a few notes.

Clearly, Puerto Rico’s troubles run much deeper than government debt, and there has been a lot of discussion about its underlying economic weakness. However, not much of the discussion seems to ask what seems to me to be an obvious question: what, exactly, should an economy in Puerto Rico’s position be doing?

Puerto Rico does, of course, have warm winters and beaches. But so do a number of places, and it’s a much bigger and more populous place than its neighbors – with a much smaller ratio of coastline to area or population – and is hence not as well-placed to have a tourism-centered economy. Indeed, it has historically grown largely as a center for manufacturing, especially in pharma, encouraged by special tax breaks.

But why manufacture there? There are various ways to develop a competitive advantage in manufacturing. You can have a unique skill base, like much of Germany; you can have very low wages, like a number of emerging Asian economies; or you can have a logistical advantage due to being close to major markets, like a fair bit of what remains of US manufacturing or, these days, the export belt in northern Mexico.

Puerto Rico, however, has none of these. It doesn’t have a special skill complex. Its wages are low by mainland standards, but not that low (and as I’ll argue in a moment, can’t go that low). And while it’s close to the mainland as the crow flies, it’s fairly slow and expensive to ship things in and out. In a fundamental sense, it’s not that easy to see why there should be a sizable economy on that island in that location.

Now, you might argue that this is just an argument for big wage cuts. But Puerto Rico is part of the United States, and its residents are US citizens. This tends to put a floor under wages, in several ways. The New York Fed [http://www.newyorkfed.org/outreach-and-education/puerto-rico/2014/report-main.html] emphasizes the effects of the federal minimum wage and relatively generous federal safety-net programs (given low productivity) that may cause people to choose exit from the work force in the face of low wages. But even without that, the relative ease of emigration would tend to support wages.

Put it this way: if a region of the United States turns out to be a relatively bad location for production, we don’t expect the population to maintain itself by competing via ultra-low wages; we expect working-age residents to leave for more favorable places. That’s what you see in poor mainland states like West Virginia, which actually looks a fair bit like Puerto Rico in terms of low labor force participation, albeit not quite so much so. (Mississippi and Alabama also have low participation.)

And outmigration need not be such a terrible thing. There is much discussion of what’s wrong with Puerto Rico, but maybe we should, at least some of the time, just think of Puerto Rico as an ordinary region of the U.S.; at any given time, we expect some regions to be in relative and maybe even absolute decline, as the winds of technology and global trade shift. I wonder, in particular, whether Puerto Rico is suffering from the forces that seem to be leading to a general shortening of logistical chains and the “reshoring” of manufacturing to advanced economies.

Now, this can lead to problems of governance. Puerto Rico benefits a lot from federal programs, but it does have to pay for a lot of stuff itself, and emigration of workers undermines revenue while leaving many of the costs of serving the remaining population, notably the elderly, unchanged.

But I’d argue for paying a lot of attention to the non-specific forces affecting the island, and in particular the economic geography side. Puerto Rico may to an important extent just suffer from being a slightly hard to reach island in a time when corporations place a high premium on easy, just-in-time shipments.

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