SAN JUAN (Reuters) - Puerto Rico’s main creditors, meeting before a U.S. bankruptcy judge in the largest public finance restructuring case in history, are interested in continuing mediation settlement talks to resolve the island’s unpayable $70 billion debt bill.

People walk outside the federal court building where Puerto Rico's main creditors met before a U.S. bankruptcy judge in San Juan, Puerto Rico, May 17, 2017. REUTERS/Alvin Baez

In the first hearing since the U.S. commonwealth filed for bankruptcy on May 3, a lawyer for Puerto Rico’s federal financial oversight board told U.S. District Court Judge Laura Taylor Swain that the two main creditor groups expressed interest in maintaining the discussions while the case proceeds.

Swain, the soft-spoken Manhattan jurist tapped by the U.S. Supreme Court to handle the bankruptcy, said the “scope and scale” of the case is “humbling” and that it “will certainly involve pain” but that “failure is not an option.”

She added, before a packed courtroom with an estimated 100 people and two additional overflow rooms, that “devoting all our time to litigation cannot” be a way forward.

Wednesday’s hearing marked the start of a process that could take months or years. It is also a culmination of more than two years of bitter debate between Puerto Rico’s government, its creditors and federal lawmakers over how the island should rework its debt load that has crippled its economy.

Earlier this month, the U.S. territory’s central government entered a modified version of bankruptcy protection created under a federal rescue law known as PROMESA as a way to legally pave the way to cut its general obligation (GO) debt.

The island’s sales tax authority, known as COFINA, followed suit days later with its own filing under Title III of the PROMESA law, which provides for the bankruptcy mechanism.

Attorney Martin Bienenstock said the board plans to press holders of GO and COFINA to mediate. The amount of debt held, nearly equally between the two, amounts to roughly $36 billion, or half of the total debt stock of Puerto Rico.

Swain ruled to combined the GO and COFINA Title III filings for administrative purposes.

Defaulted benchmark GO debt due 2035 have not traded on Wednesday and were last quoted with a bid price of 60.

Marcia Goldstein, a lawyer representing MBIA’s National Public Finance Guarantee unit, which insures nearly $2 billion in combined GO and COFINA debt, criticized both the government and oversight board for a lack of financial information.

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“There needs to be a serious openness about financial data. We are very, very far from that,” she told Swain.

Before adjourning, Swain addressed that concern, asking for a status report by mid-June on progress to give creditors better access to financial information and any progress on restructuring negotiations.

The dispute between the GO and COFINA camps is central to working out a restructuring that allows Puerto Rico, and its 3.5 million U.S. citizens, to rebuild an economy wracked by a 45 percent poverty rate, 11 percent unemployment rate and increasing emigration to the mainland United States.

The U.S. commonwealth also suffers from a near-insolvent public health system, having spent the last 10 years in recession with debt piling up to pay for basic services.

(To view a graphic on the Puerto Rico debt timeline, click tmsnrt.rs/2rbivo6)

TONE SHIFT?

Wednesday’s hearing represented a shift in tone, as creditor tough-talk during months of out-of-court bargaining gave way to the more conciliatory decorum reserved for proceedings before a judge.

Still, as a parade of lawyers approached the podium to make their cases, it was clear creditors are fighting tooth and nail for their interests.

Issues that would be minor in most bankruptcies fetched many objections on Wednesday, including the island’s motion to combine the COFINA and government bankruptcies, which judge Swain granted.

“I admit it’s the first time I’ve” objected to such a motion “in my career,” said Dennis Dunne, an attorney for Ambac Assurance Corp, which insures COFINA debt.

COFINA creditors’ hopes for repayment hinge on their ability to establish COFINA as separate from the government, as GO creditors argue COFINA revenues are government property reserved for them.

The judge said she would not yet rule on an ongoing dispute over Puerto Rico’s motion to allow banks to continue effecting transfers and deposits at the government’s direction.

This issue, also normally ministerial, has COFINA creditors worried the government would use such an order to direct banks to claw back COFINA revenues to the general fund when they come due on July 1, which is authorized under a recent Puerto Rico law.

The bankruptcy process will cover about half of Puerto Rico’s debt, though other local public agencies are restructuring out of court, and some could enter bankruptcy later.

Bienenstock added that other agencies, including the highway authority PRHTA, will file for bankruptcy “soon.”

Retirees, who belong to a system with roughly $50 billion in underfunded pension liabilities, sent a lawyer to the hearing to seek a seat at the negotiating table because of potential changes to their benefits.

Robert Gordon, an attorney for a group comprising 91,000 retirees, argued “they have earned the right to participate in this process.”