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Ratings Cartel Comes Back to Haunt US Government

Ratings Cartel Comes Back to Haunt US Government
Profile photo of George Bragues

Late Friday, Standard and Poors (S&P) ruined the weekend of the Obama Administration, and a good number of economic policymakers around the world, by downgrading US debt from AAA to AA+.

The first question to ask about this is: why should anyone care what S&P happens to think? Opinions abound regarding the safety of US treasury bonds in the financial markets.  What makes a particular firm’s view so special that the media devoted such extensive coverage to the downgrade over the weekend? Do their analysts have oracular powers denied the rest of us mere mortals?

Obviously, this is not the case. The atrocious performance of the rating agencies in grossly misvaluing sub-prime mortgage securities is proof of that.

For all the attention the rating agencies get, the US government actually has itself to blame.  It officially recognizes S&P, along with Moody’s and Fitch, as Nationally Recognized Statistical Rating Organizations (NRSRO’s) and, moreover, requires financial institutions to constrain the riskiness  of their portfolios in line with the assessments of those agencies. In doing so, the government has created an oligopoly in the rating agency industry. This lends the voices of S&P, Moody’s, and Fitch undue influence in the financial universe.

Indeed, that influence is magnified to the extent that they question a government’s finances. After all, the state wields the coercive authority to harm the rating agency’s economic interests. This is especially so when the government happens to be that of the United States, the very one enforcing their competitive advantage in the marketplace. Market observers will naturally deduce that the evidence of the American government’s financial straits must be very strong for a rating agency to bite the hand that feeds it.

The industry was already supposed to have been opened up to competition by the 2010 Dodd-Frank Act overhauling financial regulation. If anything positive comes out of this downgrade, besides opening people’s eyes to the leviathan that government has become, one hopes at least that it will hasten the abolition of the rating agency cartel.

The markets do a better job of assessing bond risk.  And strangely enough, the markets have contested S&P’s judgement. Yields on US bonds are down today.

  • http://www.facebook.com/profile.php?id=618720959 Theresa Rideout

    The US (government) has been acting like a spoiled brat and the rating agencies like a poor parent who supports a child's actions no matter how bad he is. When the rating agency praises the US by maintaining its triple A rating, the US' self esteem is intact and glowing irregardless of the brutal negative facts. When the rating agency grows a backbone and calls a spade a spade and downgrades, the US' (government's) false self-esteem is shattered, can't handle it. and looks to scapegoat the once admired credit agency. Grow up.

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Profile photo of George Bragues

George Bragues teaches Business at the University of Guelph-Humber in Toronto, Canada.

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