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Freely Associated States Or Dependent Republics?

A unique relationship with the U.S.


September 9, 2004
Copyright © 2004 CARIBBEAN BUSINESS. All Rights Reserved.

Free association has been proposed as one of the political alternatives to end Puerto Rico’s colonial status. Under free association, Puerto Rico could enter into a treaty-based relationship with the U.S. outside the Territorial Clause of the Constitution that permits the U.S. Congress to exercise its plenary powers over the island.

In a plebiscite held in Puerto Rico in 1998, the option of free association was chosen by only 4,536 voters, or 0.3% of those participating in the process. The lack of widespread support for this alternative may be because not much is known in Puerto Rico regarding the concept of free association or the nations that have entered into this type of a relationship with the United States.

The U.S. accepts free association by way of a treaty-based relationship established in accordance with the Constitution as a noncolonial, nonterritorial status alternative. These nations, while considered independent, have a U.S. military presence and are overseen by the U.S. government. The people of freely associated states (FAS) aren’t citizens of the U.S. and don’t have congressional representation or a say in the economic assistance or financial arrangement provided by the U.S. Congress.

Are they really free?

The U.S. currently recognizes the sovereign independence of three nations with whom it maintains treaties of free association: the Federated States of Micronesia (FSM), the Republic of the Marshall Islands (RMI), and the Republic of Palau. For all practical purposes, the Compacts of Free Association signed with these nations provide for continued control of these almost-sovereign countries for as long as the U.S. desires.

Although the economic future of the FAS is based on the military policies of the U.S. and the decisions of Congress, what should be relevant to Puerto Rico is whether an arrangement that might be suitable to both the FAS citizens in the Western Pacific and Congress could meet the needs, expectations, and desires of the four million U.S. citizens residing in Puerto Rico.

Puerto Rico and the FAS are geographically, historically, socially, economically, and politically different. Puerto Rico lies at the crossroads of the Americas, about 1,000 miles southeast of Miami, while the FAS are closer to the Philippines than to Hawaii, which is over 2,100 miles from San Francisco. The total landmass of the three FAS is approximately 517 square miles, less than 15% of Puerto Rico’s 3,515 square miles. The total population of the three FAS is approximately 200,000 (who aren’t U.S. citizens), about 5% of Puerto Rico’s population. Residents of the FAS are scattered over hundreds of small islands and atolls, where a lack of adequate transportation and communication facilities limits their opportunities and the possibility of economic progress.

Manufacturing is almost nonexistent in the three FAS, except for a couple of basic apparel manufacturers. The economic activity is primarily subsistence agriculture and fishing. Tourism is virtually absent, with the exception of Palau, which received a minimal 55,000 visitors in 1999. In 2000, the FSM received 33,000 visitors and the RMI only 5,000.

Since the Compact of Free Association was implemented in 1986 with the FSM and the RMI, some 10% to 15% of their populations have migrated to the unincorporated U.S. Territory of Guam, the U.S. Commonwealth of the Northern Mariana Islands, Hawaii, and the U.S. mainland. Their economies depend essentially on U.S. economic assistance and rent payments. Per capita personal income is roughly $2,000, less than 20% of Puerto Rico’s $11,279.

Road to free association

At the end of World War II, the fate of the islands of Micronesia, of which there are hundreds scattered across the Pacific Ocean between Hawaii and the Philippines, was the subject of much debate in the U.S. government. The U.S. wanted to ensure the islands would never again be used by unfriendly powers to threaten U.S. security, as Japan had done. A U.S. General Accounting Office (GAO) report titled "Issues Affecting U.S. Territory & Insular Policy," released in February 1985 and presented to Congress, indicated that absorbing the islands into the U.S. wasn’t an acceptable option because it conflicted with U.S. and Allied policy, which opposed territorial expansion.

Instead, the U.S. proposed administering Micronesia under the United Nations’ international trusteeship system. To protect its security interests, the U.S. considered a special arrangement calling for a United Nations Strategic Trusteeship. The U.S. was given authority to establish bases on the islands and to foreclose Micronesia to third countries for military purposes.

In 1947, the U.S. started to administer the Trust Territory of the Pacific Islands, an area of over three million square miles. Unlike Puerto Rico, the Trust Territory wasn’t a U.S. possession or subject to the U.S. Constitution. The citizens of the trusteeship weren’t U.S. citizens; for all practical purposes, however, the U.S. government could exercise almost unrestricted power over it, as it did.

In 1965, the Congress of Micronesia was created as the legislative authority for the Trust Territory, but executive responsibilities remained with the U.S. High Commissioner, appointed by the U.S. president. In 1969, the Congress of Micronesia formed the Future Political Status Commission, which eventually recommended a self-governing Micronesia in free association with the U.S.

The FSM, the RMI, and Palau–all in Micronesia and part of the Trust Territory of the Pacific Islands–adopted their own constitutions in 1978, 1979, and 1980, respectively. Status negotiations culminated in 1982, when representatives from the U.S. and the governments of the FSM and the RMI signed a Compact of Free Association defining the precise terms of the new status.

After a series of public campaigns and plebiscites in each district of the islands, the compact received the approval of the FSM and the RMI. After some 15 years of negotiations, it was formally submitted to the U.S. for approval in March 1984. Two years later, Congress approved a Compact of Free Association for the FSM and the RMI, but Palau continued under the trusteeship until 1994.

According to CountryWatch, which provides geopolitical intelligence data, Palau’s constitution banned nuclear weapons from entering the country’s territory, creating a standoff with the U.S., which insisted it needed the nuclear weapons to ensure Palau’s defense. Because of the nuclear issues, the compact failed in seven referendums to obtain the 75% of votes needed per the country’s constitution. Subsequently, the Palau administration changed the rules of the game, and in a 1992 referendum, Palau lowered the majority required for approval of the Compact of Free Association with the U.S. to a simple majority rule. Voters approved the compact in November 1993, and it took effect on Oct. 1, 1994.

Unlike commonwealth in Puerto Rico, which was established under congressional powers provided by the Territorial Clause of the U.S. Constitution, free association is a status created through the treaty-making process provided by the Constitution. The Compacts of Free Association may be terminated unilaterally by any of the parties or by mutual consent. The association will last as long as it is in the interest of the U.S. or the other party to continue it.

In the case of the FAS compacts, the interest of the U.S. is primarily of a military nature, while for the FAS it is financial. The U.S. retains the right to deny third parties access to the FAS for security and defense reasons. This right doesn’t expire. In addition, the U.S. can veto local actions it deems incompatible with its defense responsibilities, commonly known as the defense veto.

The compact and its subsidiary agreements comprise a highly detailed set of broadly based legal documents. The FAS are sovereign states governed largely by laws of their own making and, in general, act on a bilateral basis with other nations, except in defense and security-related matters. They are able to enter into commercial agreements, can seek membership in regional and international organizations, and can have representation in the United Nations and embassies in Washington and other countries.

Under the Compact of Free Association, the U.S. is responsible for the defense and strategic integrity of the FAS; in return, it has unlimited and exclusive access to their waterways for military purposes. A major provision of the compact with the RMI is that it allows the U.S. continued use of Kwajalein Atoll, where the U.S. Army has a missile test range. Most of the funds the U.S. has provided the RMI is either rent for unlimited and exclusive access to their waterways or payments for injuries connected to U.S. nuclear tests in RMI waters during the 1940s and 1950s.

The U.S. maintains an interest in the FAS for strategic reasons. The federal government and the RMI have agreed to a long-term extension of the Military Use & Operating Rights Agreement (Muora) for the Ronald Reagan Ballistic Missile Defense Test Site on Kwajalein Atoll. The site serves a key role in research, development, testing, and evaluation for the high-priority space and missile-defense programs of the U.S. Although the federal government had already secured access to Kwajalein until 2016 through the 1986 Muora, the newly revised Muora will grant the U.S. access until 2066, with an option to extend it for an additional 20 years.

Economic assistance

While the political relationship of free association may be terminated at any time, other related provisions are subject to specific time frames. For example, the economic assistance approved by Congress in 1986 for the FSM and the RMI was limited to 15 years. Title II of the Compact of Free Association provided for direct U.S. payments by the Department of the Interior to the bank accounts of the FSM and the RMI governments; these funds became known as compact funds. Title II also provided for other federal agencies to give economic assistance.

For the 15-year period, from 1987 through 2001, federal funding was provided at levels that decreased every five years. Although the compact allowed for new negotiations to commence in 1999, two years before the termination of the economic clauses, it wasn’t until late 2003 that Congress approved amendments to the compact, creating economic uncertainty and instability throughout the three countries. From 1987 through 2003, U.S. assistance for the economic development of the FSM and the RMI totaled an estimated $2.1 billion, according to the GAO report "Compact of Free Association: An Assessment of the Amended Compacts & Related Agreements," issued on July 15, 2003.

In addition to direct funding provided by the Department of the Interior, the compact identified several services that U.S. agencies would furnish to the FSM and the RMI. It further indicated these agencies could also provide direct program assistance, as authorized by Congress. This program assistance, which included grants, loans, and technical aid, totaled about $700 million for fiscal years 1987 through 2001.

Although the funds were intended mainly to advance economic development, the GAO has highlighted in various reports to Congress that they did little to achieve this in either country and that accountability for their use was limited. Congress has admitted the goal of advancing the economic development and self-sufficiency of the FSM and the RMI hadn’t been accomplished.

Economic dependency

U.S. strategic and security interests in the Pacific have shaped the economies of the FAS. Rent payments and economic assistance from the U.S. have been their primary sources of income, and their governments have so far been the largest beneficiaries.

According to an April 2001 report by the Bank of Hawaii, the RMI is more dependent on overseas income, especially U.S. funds, than ever before. Given today’s geographic, economic, and technological realities, this is unlikely to change any time soon. The FSM and Palau are in much the same situation of economic dependency. The FAS haven’t succeeded in attracting new investments from the U.S. or from their closest neighbors, Asia or Australia.

According to the Bank of Hawaii’s report, the RMI government recently provided in a public statement the following accounting of the $1 billion received from the U.S.: about $400 million over the 15-year period (1986-2001) for compensatory payments, of which $180 million went toward land rent on Kwajalein Atoll and the remaining $200 million for payments on injuries resulting from nuclear testing.

Of the basic annual grant (aid) for government operation and economic development, which added up to $300 million over 15 years, 60% was spent on government operations and 40% on public capital formation (infrastructure). The RMI government perceives this sum as rent from the U.S. for exclusive access to Marshall Islands waterways and denial of such access to others. The remaining $300 million over the 15 years came from program-specific sources such as postal service, deposit insurance, and federal aviation matters, according to the report.

It is critical to make this distinction between aid and rent because the Compact of Free Association, primarily a strategic and political treaty and only secondly an economic-assistance program, is much more of a business transaction than the typical aid package, requiring no reciprocity between nations, according to the Bank of Hawaii report.

Contrary to the Caribbean region, where it recently closed its largest military installation, Naval Station Roosevelt Roads in the territory of Puerto Rico, the U.S. is unlikely to end its strategic military interest in the Asia-Pacific region any time soon. No changes in global and regional geopolitical and strategic configurations should be expected to change that reality.

Although it is a fact the FAS can’t maintain their present standard of living without the rent and aid received from the U.S., it is also true the current standard of living couldn’t have been achieved and sustained without U.S. funds. Despite having the financial security afforded by using the dollar as their national currency, the protection of the U.S. military, and access to the U.S. market, the FAS have been unable to attract foreign investment or advance their economic development.

Economic performance

The compact payments made their biggest economic and financial impact on the FSM and the RMI economies between 1986 and 1995. Since then, both economies have struggled with the effects of reduced compact funds, imposed public-sector reforms, and a declining domestic production economy.

The FAS economies are relatively simple. Funds received from the U.S. are the only primary income source. These funds are used mainly to pay government wages, salaries, and benefits, with another portion going toward developing the public infrastructure. The economic engine is moved by the public sector, which in turn supports a private sector that consists largely of services and distribution activities.

The gross domestic product (GDP) per capita in the RMI was $1,194 in 2000, the same as it was in 1984, two years before the compact took effect. The situation hasn’t been much different in the FSM. In 2000, its real GDP per capita was $1,978.

Although Palau’s real GDP per capita of $7,350 that year was substantially higher than its freely associated neighbors’, its economic prospects are still disappointing. According to CountryWatch, Palau has one of the lowest growth rates among Pacific Island nations, despite sizeable compact grants of nearly $600 million, a trust fund now standing at approximately $110 million, and additional grants from the U.S., Japan, and Taiwan.

The economic dependency of the FAS has converted the private sector into a support (secondary) structure, dependent on the public sector. The government plays a critical role in the three FAS economies and has been the main employer in the countries for decades. Not only is it the provider of basic public services, but it is also expected to be the provider of income and work security of last resort. Not much different from the situation in the Commonwealth of Puerto Rico.

Seeking better opportunities

As the Compacts of Free Association allowed the free movement of FAS countries’ citizens to the U.S. and its territories, thousands availed themselves of that right and migrated to the U.S. Commonwealth of the Mariana Islands, the U.S. Territory of Guam, Hawaii, and states on the U.S. mainland.

According to the Bank of Hawaii’s reports, the number of migrants from the FAS countries to the U.S. is between 20,000 and 30,000, most of whom left their countries after the compacts were signed. Although this number doesn’t appear to be large, it represents a significant proportion (up to 15%) of the population. The most likely reason for this exodus is the lack of economic and financial opportunities in the FAS.

As in Puerto Rico, out-migration has become a safety valve to ease the problems associated with limited economic opportunities. Migration from the FAS is projected to continue, especially if economic and financial opportunities don’t improve. Migration to the States, as in the case of Puerto Rico, puts the FAS in a difficult competitive situation since the loss of potentially high-skill labor creates the infamous brain drain, curtailing future economic growth as it represents losses in future tax revenues and, more important, in people who wouldn’t contribute to the economic development of their nations.

The new compact: diminishing economic assistance

The FSM, the RMI, and the U.S. recently renegotiated the expired economic-assistance provisions of the compact to provide another 20 years of assistance (2004-2023). The negotiations also addressed defense and immigration issues. The amended compacts became known as Compact II.

A major element of the new compact provisions is the termination of mandatory annual payments to the FSM and the RMI at the end of fiscal year 2023 and the establishment of a trust fund to provide an ongoing source of revenue starting in fiscal year 2024. Congress had authorized and funded similar trust funds, including one established under the compact with Palau and several established for the Marshall Islands as compensation for the U.S. nuclear weapons testing program.

The amount of annual grant assistance to the FSM and the RMI will decrease each year, starting in 2004 and ending in 2023. For the FSM, the annual assistance will decrease from $76.2 million in 2004 to $62.6 million in 2023. The reduction for the RMI will be from $35.2 in 2004 to $27.7 million in 2023.

Compact II was designed to build trust funds that, beginning in fiscal year 2004, will receive increased annual U.S. contributions proportional to the reductions in grant assistance. The expectation is that they will yield annual earnings to replace the reduced grant assistance. This is highly speculative, however, given that the trust funds’ rate of return will depend on market conditions.

Both the FSM and the RMI are required to provide an initial contribution to their respective trust funds of $30 million. In designing the trust funds, the U.S. Department of State assumed they would earn a 6% rate of return. Compact II doesn’t address whether trust-fund earnings should be sufficient to cover expiring federal services. It does, however, create a structure to set aside earnings above 6% (should they occur), which could act as a buffer against years with low or negative trust-fund returns. Compact II grants the U.S. government control over the trust funds’ management and requires that they be incorporated in Washington.

According to GAO estimates, if the trust funds earn a 6% rate of return, then the FSM trust fund would yield a return of $57 million in fiscal year 2023, an estimated $27 million less than required to fully compensate for expiring grants. The RMI trust fund would yield a return of $33 million in fiscal year 2023, an estimated $5 million above the amount required to replace grants in fiscal year 2024. Nevertheless, the RMI trust fund would become insufficient for replacing grant funding by fiscal year 2040. The GAO analysis doesn’t take into account market volatility or negative returns.

The U.S. could withhold payments if either country fails to comply with grant terms and conditions. In addition, funds could be withheld if the FSM or RMI governments don’t cooperate with U.S. investigations regarding whether compact funds have been used for purposes other than those set forth in the amended compacts.

The amended compacts also strengthen reporting and monitoring measures to improve accountability over the assistance, according to the GAO. The measures to be implemented under Compact II include the targeting of the assistance grants to priority areas such as health and education, the expansion of the annual reporting and consultation requirements, and the unilateral withholding of funds for noncompliance with grant terms and conditions.

In summary, the trust funds were designed to ensure economic and social stability and a smooth transition to fiscal year 2024, when annual payments from the U.S. will have terminated.

Immigration restrictions on the FAS

The original immigration provisions in the compact with the FSM and the RMI were nonexpiring, and citizens of both nations were allowed to live and work in the U.S. as nonimmigrants–that is, individuals who are in the U.S. temporarily as visitors, students, or workers and can stay for long periods with few restrictions. A congressional report defined this status as resident alien. It also exempted FSM and RMI citizens from meeting U.S. passport, visa, and labor-certification requirements when entering the U.S.

Under Compact II, these provisions have changed. For example, FSM and RMI citizens entering the U.S. now need to carry a passport, and the U.S. Attorney General has the authority to issue regulations specifying the conditions of admission into the U.S. for these nonimmigrants, according to the GAO. Further, naturalized citizens of the FSM and the RMI are now, with certain limited exceptions, ineligible for visa-free admission into the U.S.

Congress made explicit the inherent authority of the U.S. government to regulate the terms and conditions of FSM or RMI citizens’ admission and stay in the U.S., including its territories and possessions, and that the Immigration & Nationality Act of 1952 (P.L. 82-414), as amended, applies in full to people seeking admission to, or the right to remain in, the U.S. pursuant to the compact. New restrictions were also added expressly applying the provisions of the Immigration & Nationality Act, as amended, to compact nonimmigrants.

The bottom line is that free association has been a failed economic strategy in the Western Pacific. It is filled with uncertainties, immigration restrictions, and progressive reductions and eventual elimination of financial assistance from the federal government. In addition, oversight by federal-government bureaucrats remains under free association, and the economic future of the FAS is dependent on the volatility of the stock market and on the abilities of a fund manager under U.S. government control. It is also a relationship with the U.S. that can be terminated unilaterally at any time.

Like the FAS, an independent Puerto Rico could enter into a Compact of Free Association with the federal government. Among the many issues that must be addressed, however, is how will the people of Puerto Rico, citizens of the U.S., enter into a treaty with the nation of which they are a part. Unlike Puerto Ricans, the citizens of the FAS were never U.S. citizens.

Economist Manuel Maldonado assisted with this series. Elisabeth Roman edited the articles.

Next week, CARIBBEAN BUSINESS will take a look at Puerto Ricans residing on the U.S. mainland.

This Caribbean Business article appears courtesy of Casiano Communications.
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