Apparently if we say ‘I have a dream’ it ends up coming true. That’s exactly what we all need to be chanting in unison these days; but this time it’s not about civil-rights recognition but something that is perhaps just as equally important. The rest of the world has had enough of the monopoly of the credit-rating agencies that are largely biased towards the US economy and it’s about time that it all came to an end. Credit-rating agencies believe that they are the be-all and end-all of countries and with one finger can delete a simple letter, dropping the countries’ worth in the eyes of the rest of the economies.
Standard & Poor’s, Moody’s Investors Service and Fitch Ratings might be forced today after the financial crisis to submit their methodologies for assigning ratings, but they all fail to adequately follow their own guidelines. They are criticized for poor documentation and inaccuracies in their analyses.
Analysts vote in secret meetings still to decide if a country or a company gets upgraded or downgraded in the international stakes and the Securities and Exchange Commission in the US has already stated that sometimes those ratings are based upon no rationale that is obvious, with no link between the original rating and the new published rating.
One can only believe that the three rating agencies have taken the law into their own hands and have been given or have taken the right as a God-given entitlement to declare an entity as worthy of a good credit-rating or condemned to suffer under the new downgrade.
After the financial crisis and the role played by those rating agencies, it was questioned as to what degree they used rational objective criteria to rate entities and they came under scrutiny. But, what has happened since then? Nothing except that the SEC has simply recognized that there is no rationale behind the secretive private club in which companies and countries are black-balled out of the economies of the world with a new downgrade as the agencies deem that fit. The SEC has done nothing but recognize the problem. Why are the problems still there and why are they so widespread?
The rating agencies are either overly critical of the governments in the world in the belief (that has proven to be completely true) that those very same governments will be dissuaded from regulating them; or they are influenced by their conflict of interest in so far as entities pay for their own ratings. We all know that in the run up to the financial crisis many mortgage-backed securities received triple-A investment grades despite the fact that it was common knowledge that they were highly risky. The entities go shopping for ratings and on the ‘issuer-pays’ set-up there is a faulty systemic process that is revealed. The rating agencies end up selling off the ratings to the highest bidder and there is nothing that has changed since those pre-financial-crisis days when the economies went down the drains and dragged the world along at the same time.
But, today there is a growing demand that the rating agencies switch from the ‘issuer-pays’ system to one that is fuelled by the creditors. It would be the creditors’ stance and not the viewpoint of the debtors that would be taken into account. Or, at least, that’s the way it should be according to Guan Jianzhong, Chairman of Dagong Global Credit Rating (the Chinese credit rating agency that ended up downgrading the US from A to A-). He stated: “The gap between debt levels and fiscal revenue gets bigger and bigger. The world sees this. But credit agencies of the debtor country choose to ignore it or don't make assessments based on these facts”. It might just be possible to hear that criticism and give Dagong more credit if they weren’t pitching for the home team every time by giving triple-A ratings for Chinese entities.
There’s more to it than just getting the US credit-rating agencies out into an open field where play would be more transparent. It’s all about gaining the competitive edge for the Chinese just as much as for the others that want to knock the three US rating agencies off the podium.
Neither one nor the other solution would be able to provide a viable alternative to credit rating.
There are alternatives that exist, however. Either the investor can do his own homework instead of reading something from a third party that is not independent; or there could be third parties that are entirely independent (if that can actually exist). Otherwise, market-based analyses are much more accurate (than rating agencies) at predicting collapse or improvement of an entity and readily available through fairly simple calculations.
How many times have we heard that we mustn’t repeat the mistakes of the past? How many times have we heard that the financial crisis cost $3.4 trillion in retirement savings and unknown trillions in world economic activity since then? The rating agencies were considered to be “essential cogs in the wheel of financial destruction and key enablers of the financial meltdown” according to the Financial Crisis Inquiry Committee. But, that wasn’t enough. Recognition is never enough. There needs to be action, otherwise it’s just verbose language that has no reason and certainly nothing of any interest except in some local bar as if two guys were putting the world to rights.
Let’s do away with the rating agencies and we certainly don’t need them to be taken up by some other entity, wherever that may be, that will be just as bad. Revolutions get rid of the old order so that new orders can be rushed in with new leaders that just take the place of the old. That’s not revolution at all in the end.
Should we get rid of the rating agencies? Rate them yourself!
Originally posted: Let’s Downgrade S&P, Moody’s and Fitch For Once
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