Do credit rating agencies opinions have too much influence?

[sixmile]

Business and government:

S&P
Moody's
Dun & Bradstreet
Fitch
A.M. Best

Consumer:

(FICO components)
Providian
Equifax
Transunion

[David Gill]

1. Yes.

For those who don't fully understand how ratings agencies matter: some investors (corporations, mutual funds, pension funds, etc) have very specific rules about what they can invest in. So for a pension fund maybe the manager can only invest in AAA bonds. That means with the US Treasury bonds being downgraded to AA+, some investors will be legally obligated to sell their holdings (this is minimized because it's only one ratings agency).

In the buildup to the subprime crisis investment banks did all they could to bend and cheat to get AAA ratings for all of their junk so they could unload it on foreign pension funds with these holding requirements. The banks made the securities so complicated and obscure that even the investors didn't really understand them; most people saw the "AAA" and trusted the agencies. This of course turned out to be a bad idea.

Moody's and S&P (the two biggest agencies) are filled with all of the finance graduates who weren't smart or impressive enough to get a lucrative job at one of the investment banks. Their advice follows the market- not the other way around. Nobody on Wall Street respects them, they just need their rubber stamp for their securities.

Ratings agencies were crucial to the financial crisis. President Obama signed the Wall Street Reform act, which (heaven forbid!) allows investors to sue the agencies for bad advice. I think they want retribution now. It's absolutely ridiculous that during the debt ceiling debate all three of the big agencies were coming out and saying what WOULD or WOULDN'T lead to a downgrade. If all three agencies were to downgrade US debt that would be bad news, and so they have an opportunity to more or less extort the US government. Some reforms need to be made.

[karnac]

3. Can an investor sue a rating agency for being TOO careful in their ratings?

Essentially that is what s&p is doing now. Extra CYA.

If the investor doesn't buy US securities, he has nothing to sue about.

So what would reform do? make them MORE reckless in their opinions?

[David Gill]

5. You mean an investor that wanted to buy, for example, Treasury bonds but now can't?

I don't think so... I don't think there's an injury there. It's more for, "You said this was safe and it was junk, and you were paid by the bank to look the other way." I could be wrong, I'm not a lawyer.

[Waiting For Everyman]

2. Ratings purport to substitute a number for human decision-making, which is

a stupid thing on its face to even consider doing.

It's idiocy. I can't even believe that scam has gone on this long, this far.

[saras]

4. You forgot to include the poll

The finance sector as a whole has too much influence - and size. I think we need to cut it down to about 10% or less of the economy as a whole. Tightening up financial law to 1970 levels or so would help - no inventing and running with new financial instruments without extensive testing, research, and public input.