Mish/ Mike Shedlock – Egan Jones Lowers Credit Rating Of Netherlands, Austria; Time To Break Up The Rating Agency Cartel Revisited – 11 July 2012

In a common sense move, Egan-Jones cuts Austrian, Dutch sovereign ratings.

Credit rating agency Egan-Jones lowered Austria’s rating to A from A-plus and cut the rating on the Netherlands to A from AA-minus. Both ratings have a negative watch.

Northern European countries will absorb the cost of shoring up ailing neighbors, Egan-Jones said in separate statements on each rating action.

And with Spain and potentially Italy looking for support, “two major economies will switch from providers to users of funds. Our view is that the longer the euro crisis continues, the lower the ultimate recoveries,” the statements read.

Big-3 Behind the Curve

The always behind the times “Big Three” (Moody’s, Fitch, and the S&P) maintain AAA status on the Netherlands, with Fitch alone having a negative watch.

Time to Breakup the Rating Agency Cartel
Egan-Jones gets business on the basis of accuracy. It has a vested interest in doing a good job. The Big Three get business by government mandate. They primarily get paid on the volume of business they do.

What follows are snips from my post Time To Break Up The Credit Rating Cartel, written September 28, 2007, long before the rating agency AAA scam on sliced, diced, and tranched mortgage-debt was fully exposed. ….

The rating agencies were originally research firms. They were paid by those looking to buy bonds or make loans to a company. If a rating company did poorly it lost business. If it did poorly too often it went out of business.

Low and behold the SEC came along in 1975 and ruined a perfectly viable business construct by mandating that debt be rated by a Nationally Recognized Statistical Rating Organization (NRSRO). It originally named seven such rating companies but the number fluctuated between 5 and 7 over the years.

Establishment of the NRSRO did three things (all bad):

1) It made it extremely difficult to become “nationally recognized” as a rating agency when all debt had to be rated by someone who was already nationally recognized.
2) In effect it created a nice monopoly for those in the designated group.
3) It turned upside down the model of who had to pay. Previously debt buyers would go to the ratings companies to know what they were buying. The new model was issuers of debt had to pay to get it rated or they couldn’t sell it. Of course this led to shopping around to see who would give the debt the highest rating.

Problems arose because the free market was disrupted by a misguided mandate by the SEC.

Those interested in more information on this topic can read Removing a Regulatory Barrier by Senate Republican Jon Kyl or Creating a Competitive Rating Agency Sector by the American Enterprise Institute.

The Solution is Amazingly Easy

Government sponsorship of organizations and intervention into free markets always creates these kinds of problems. The cure is not an executive shuffle, third party verification or half-measures and more regulation that mask over the issues by splitting functions within an organization.

The SEC created this problem by creating the NRSRO. The problem is easily fixable. It’s time to break up the cartel by eliminating the rules that created it. Moody’s, Fitch, and the S&P should have to sink or swim by the accuracy of their ratings just like everyone else.

Free market competition, not additional regulation is the cure.

Mike “Mish” Shedlock
http://www.globaleconomicanalysis.blogspot.com link to original article

Comments are closed.