Should Free Markets Govern the Bond Rating Agencies?

There are some very suspicious non-free market aspects to the new de-regulation bill in the House.

Gretchen Morgenson at The New York Times explains:

There’s a lot not to like in the Financial Choice Act, the deregulatory construct put forward by House Republicans on April 28. Dubbed by its creators the “alternative to the failed Dodd-Frank Act,” it aims to repeal the 2010 law’s prohibition against banks engaging in risky trading for their own accounts. It also seeks to gut the Consumer Financial Protection Bureau, one of the more effective agencies in Washington.

What hasn’t received much attention is how the bill would change the rules governing credit ratings agencies — but it should. What the Choice Act would require is bad, both in how it would roll back the law and in what it would keep. But the bill also misses a big opportunity to change the ratings industry for the better...

What’s especially odd about the Choice Act, given that it was written by lawmakers with a deregulatory and free-market bent, is that it would keep the existing agencies entrenched and protected from competition. It achieves this by maintaining the government imprimatur for ratings agencies known as a nationally recognized statistical rating organization — an N.R.S.R.O., in industry parlance. Aspiring ratings agencies must apply to the S.E.C. to receive this imprimatur, which is very difficult to get.

Bill Harrington is a former senior credit officer and senior vice president at Moody’s and an expert in ratings on asset-backed securities and derivatives. In an open letter on LinkedIn, he called the bill a gift to the ratings agencies and said it would eliminate any accountability that exists among these companies.

In an interview, Mr. Harrington was especially critical of the way the bill lets chief executives at the agencies off the hook in attesting to the integrity of the ratings process. 

Morgenson contacted EPJ good friend and top credit analyst,  Marc Joffe, who nailed the problem:

[T]he number of credit ratings agencies — now 10 — has not grown. It has been almost five years since a new entrant has been allowed into the club.

“Why do we need to have credit ratings agencies receiving some federal license that indicates the S.E.C. approves of what they’re doing?” asked Marc Joffe, a former Moody’s executive who is one of the six former executives calling for an end to the licensing requirements. “Take that away, and anyone who is providing credit assessment can compete on a level playing field with the ratings agencies.”

  -RW