The president of Portugal recently said that credit ratings agencies have too much power. The agencies’ comments have thrown Europe’s financial health into question, particularly the ability of Greece, Portugal and Ireland to honor their sovereign obligations.
The credit rating business needs an ombudsman, or perhaps a panel of such outsiders. It would be difficult to create such a role, and the politics of how the group is chosen would be more difficult still. At issue is whether ratings agencies can have a reasonable and unbiased opinions of what they rate. Certainly, their track record — especially their rating of mortgaged-based securities before the credit crisis — badly damaged the impressions of objectivity at Fitch, S&P and Moody’s.
Among the current criticisms of the firms is that they offer different opinions about the same debt at different times. That raises the issue of which is correct. The pools of debt that have been affected the most by low ratings are the sovereign debts of Europe and of municipalities in the U.S. Analysts at the three companies may be absolutely correct in their reviews of these institutions, but they can only probe so deeply into each nation, city and state. That leaves the question of whether they have a strong grasp of the likely financial futures of these entities at all. They are, essentially, by the standards of some, too quick to publish their judgments.
The other major criticism is that they are too slow when they make many of their ratings. Opinions on Greece, Ireland and Portugal were only given long after global capital markets investors saw financial trouble and began to sell sovereign debt or short it. Weeks or months later, Fitch, S&P and Moody’s said they were concerned about the debt coverage or default risks of these countries.
Credit rating agencies are too independent and unregulated, some experts in corporate, municipal and sovereign debt say. Their ratings are not reviewed before they are given. Also, Moody’s and S&P are U.S. companies. Fitch is owned by French interests, but its headquarters are in New York and London. That means that the opinions of experts in at least a dozen other developed and developing nations mean very little, even if they have excellent insight into creditworthiness and potentially dangerous credit risks. There are already suspicions that the U.S. holds the critical votes in the election of leaders of the IMF and World Bank. U.S. regulations of credit agencies would only add to the perception that the U.S. controls international financial markets.
Congress has already discussed whether the federal government should further regulate credit ratings. If it did, foreign nations could fairly ask how American regulators could be impartial when the sovereign rating of the U.S. is at risk. That could create a conflict or interest that would make the effectiveness of regulation moot.
The ombudsman system, which the Federal Reserve has, works well enough. So does a similar system at many large media. The appointment of ombudsmen in these cases is relatively straightforward. The appointment of an ombudsman group to oversee credit agencies would be much more difficult. Who would name the panel? The boards of directors of the three companies? A group of corporations and governments rated by the firms? Banks who have to use the ratings to make investment decisions? The politics of appointment might overwhelm the process.
Despite the difficulties of the creation of an ombudsman panel for the credit rating system, it has to be done. The ratings are too critical to the future of the global financial markets, and opinions are rendered by a very few people whose judgments and analyses may be well short of perfect.
Douglas A. McIntyre