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CREDIT RATING AGENCIES HELPED BRING DOWN THE ECONOMY
Dean Baker, American Prospect - One important aspect of the financial crisis was the willingness of the credit rating agencies to rate complex derivative instruments as investment grade, even though they were filled with junk assets. The rating agencies had a motive to do this because they are paid by the companies whose issues they rate. Since they do not want to lose the business of a Citigroup or Goldman Sachs, they have a strong incentive to give overly positive ratings.
The NYT notes that Congress seems unlikely to do anything about this basic conflict of interest in its regulatory reform bill. It would have been useful to note that this fundamental conflict could be easily eliminated, if Congress cared about it.
It is only necessary to take away the hiring decision from the company whose issuers are being rated. If a third party, such as the stock exchange on which the company is listed, selected the rating agency, then the agency would have no incentive to bend its analysis. Its ability to get future business would not in any way be helped by bending its analysis.
It is striking that it appears that Congress never seriously considered this simple measure.
The NYT notes that Congress seems unlikely to do anything about this basic conflict of interest in its regulatory reform bill. It would have been useful to note that this fundamental conflict could be easily eliminated, if Congress cared about it.
It is only necessary to take away the hiring decision from the company whose issuers are being rated. If a third party, such as the stock exchange on which the company is listed, selected the rating agency, then the agency would have no incentive to bend its analysis. Its ability to get future business would not in any way be helped by bending its analysis.
It is striking that it appears that Congress never seriously considered this simple measure.
Labels: ECONOMY
1 Comments:
For decades we had laws and accounting rules on the books that were enforced, not only by executive action, but by the simple adherence to ethics and morals by the those in leadership positions. This kept a lid on wild, corrupt schemes and excessive speculation. What growth we had was real, but it was limited by the natural capacity of a sustainable and reasonably equitable system.
This was unacceptably dull and boring. A Wall Street mentality requires quarter after quarter of growth, real or otherwise. Putting ones' savings aside and see them grow by a real 1% or 2% a year was not good enough.
So a new way was found.
All those restraining laws and rulings and ethics and morals were put aside. They were "finessed". The result was wild expansion of perceived wealth. The formerly impossible was now possible! We were liberated from the strictures of price to earnings ratios, from commonly accepted accounting practice. We changed what was commonly accepted! Smart! Securities and other "financial products" were declared worth what they needed to be worth for the system to "work". It was like having free and unrestrained sex without the worry of STDs and unwanted progeny. The analogy is apt.
But of course, the glory days were unsustainable. So now we have the morning after the night before. The consort picked up in the bar the night before looks exactly like he/she did the night before, except without the benefit of alcohol.
Was it conspiratorial? Absolutely! But more in the sense of mass hallucination of an impossible future than an evil meeting of evil minds. We now have discovered the limits to growth and why we need strictures and rules to keep on a sustainable path. I'm sure this has happened before. Most of us just don't learn. Unfortunately for us, that includes our leaders, who really ought to know better.
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