Damned if you do, damned if you don't.
Rating agencies are in an inextricable situation when it comes to sovereign ratings. On the heels of their near-collapse of structured products, they must confront the issue of the credibility of sovereign ratings in a holistic way.
The question of the legitimacy of sovereign ratings cannot be answered by a yes or a no. There is something structurally questionable in the simple fact that rating agencies -- being private companies and sometimes part of listed groups -- appoint themselves as the ultimate judges of policies of sovereign governments.
This is a serious question. Sovereign ratings are increasingly perceived as a challenge to democracy: it confirms, in the eyes of the public, the view that Wall Street wants to exercise its supremacy on democratically elected governments in the name of "capitalism." Perception, in this case is reality.
Three aspects of sovereign ratings need to be reformed to provide the right legitimacy.
Reforms along those three lines would do a lot to restore an impression of objectivity, market independence, good governance, and transparency. These elements together make up the missing ingredient: trust.
Rating agencies have been the first victims of their own subjectivity, resembling actors rather than referees. Sovereign ratings do not need to be in line with market perception. On the contrary, the role of rating agencies, is to be a calm, objective voice acting as an anchor of reference on country risks.
I am not naïve. Governments are not transparent and blame the agencies to act on information or analysis that they tried to hide, or even lied upon. In some circumstances, the ultimate sanction might be for a rating agency to declare that it interrupts its rating of a specific country because governments are not transparent or providing adequate and credible information. This would be better than expressing sometimes fuzzy opinions. Like any issuer, public sector borrowers are accountable for the information they provide or hide. They, too, have a duty of transparency.
Their reactions to negative ratings are as hypocritical as their applause when they get a good note. They have the responsibility for the future of their countries and their economies. It was stunning to see Michel Barnier, the European Commissioner for the Internal Market, suggest this week that sovereign ratings should be prohibited for countries subject to a bail out. In other words, the thermometer is legal is you are in decent health: when you need serious health assistance, ignore the thermometer.
Rating agencies are not the sovereign risk department of major financial institutions. They are a provider of objective and serious analysis of those risks. It is up to the risk departments of financial institutions to translate a rating into an investment decision. As in underwriting, they must provide their independent credit analysis.
This is a time for clarity and objectivity. It is a substantial reform but would provide capital markets and investors with the right balanced input.
Follow Georges Ugeux on Twitter: www.twitter.com/Ugeux
1) Bubbles are hard to read. Many can spot the sign of a bubble, but few can tell with certainty how such bubbles are going to end, or when, or even at all. It is unfair to call them out for exercising prevailing valuation methodologies at the time to rate what they considered to be ‘safe’ investments. We know now that there was more systemic risk in the industry as a whole that far exceeded individual product risk. I think this article sums it up nicely.
http://www.wired.com/techbiz/it/magazine/17-03/wp_quant
2) In the fallout of the housing and financial bubbles, there are always people looking to pull blame away from the real culprits in this disaster, namely loose monetary policy (which causes bubbles…always) and government policies that pervert proper market functions; namely housing and financial legislation.
3) people are looking for reasons to discount what are valid potential default calls on Europe and America. There is no doubt that there has been a sovereign debt bubble, and follow-on risk associated with such debt.
Kai
I saw nothing in the suggested reforms about firing the meritocracy defiers.
Nor was there any mention of the probable corruption that created the systemic failures.
Setting aside the rigged mortgage ratings, the company ratings that missed the implosion, and the fixed CDOs and whatnot, a big investigation of the ratings agencies collusion with sovereign debt shortsellers who bought downgrades to enrich themselves has not occured.
Those profiting claim wisdom, but we keep seeing bankers and hedge funders getting rich after targeting and pressuring and creating the circumstances for downgrades their insider information let them know were coming.
The banks demanding bailouts and then pointing to the debt incurred as justification for ripping off the people that funded the bailouts is hardly a seperate issue.
After they blessed toxic mortgage bonds with top ratings so pension funds and charitable institutions would buy disaster, they had the nerve to talk about downgrading the US. They helped create conditions for the possible downgrade. What's wrong with this picture?
Article 51: Nothing in the present Charter shall impair the inherent right of individual or collective self-defense if an armed attack occurs against a Member of the United Nations, until the Security Council has taken measures necessary to maintain international peace and security. Measures taken by Members in the exercise of this right of self-defense shall be immediately reported to the Security Council and shall not in any way affect the authority and responsibility of the Security Council under the present Charter to take at any time such action as it deems necessary in order to maintain or restore international peace and security.