21st January 2013

 

The European Parliament today voted to approve new legislation aimed at restricting the influence of Credit Ratings Agencies (CRAs). The new laws will impose a rotation regime on certain categories of work and set a strict timetable for when and how often agencies may issue judgments of sovereign debt.

 

The original proposals by the European Commission have been significantly changed during their passage through Parliament. Initial suggestions included banning CRAs altogether from commenting on sovereign debt and even creating the EU's own credit-rating agency to replace them in this role.

 

The package now approved by parliament is an improvement, but the measures are still a mixture of the unnecessary and the inadequate.

 

Credit rating agencies have been guilty of bad behaviour in recent years, but governments should not use them as a scapegoat for their own economic problems. The decision to place restrictions on when rating agencies can publish sovereign ratings is clearly politically motivated by those countries that aren’t best pleased about their recent downgrades. It is foolish and unnecessary. The fixed calendar will only serve to build up anticipation before each of the three permitted dates, creating greater volatility in the market. We need more information in the market, not a blackout on bad news.

 

The legislation approved by the Parliament seeks to open up competition in a market where 95 per cent of ratings are made by three companies - Moody's, Standard and Poor and Fitch.

 

While I would have preferred to see the entire deletion of the rather bizarre mandatory-rotation proposal, I am pleased that its scope has been significantly reduced. We need to take steps to make entry into the Rating Market easier.

 

The measures also introduce civil liability for CRAs, meaning they could be sued over the financial consequences of a faulty rating. Under the original proposals it would have been up to the CRAs to prove that they didnt provide faulty information for an investment (known as a reverse burden of proof), thankfully this idea has been dropped. CRAs still have to worry about civil liability but at least the legislation has been watered down.

 

This report takes a few small steps to improve that situation but I doubt we will see the dominance of the big-three challenged for a long time. This sector really needs is more competition, not more legislation making it more complicated for a new challenger to enter the market.

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