In a recent editorial, the Wall Street Journal reacted to Moody’s downgrade of 15 banks, including some of the largest in the world (e.g., Bank of America, Citigroup, Goldman Sachs, J.P. Morgan Chase, Morgan Stanley, and others), as evidence of the folly of Dodd-Frank.
“Two years ago, President Obama and Congressional Democrats told Americans they had strengthened the banking system and revoked too-big-to-fail privileges from the financial giants.” The editors continue, “The law’s signature achievements are higher costs, reduced opportunities and weaker banks.”
They point out that Moody’s downgrades were rooted in banks’ inability to “generate earnings to offset the inevitable losses” because, ironically, they have “higher capital buffers and have more liquidity than they used to have.” This enhanced capital position helps taxpayers avoid the risk of a bailout, but limits banks’ ability to make money.
The Wall Street Journal argues that banks should be free to take on more risk—risk that the editors believe will generate greater earnings and overall economic growth. “The goal of financial reform should not be weak banks, but strong banks that are independent of the taxpayer.”
One of the European Union’s (EU) proposals to increase competition among rating agencies by requiring corporations to rotate rating agencies at least once every three years appears to have been largely abandoned.
Instead, agencies will only need to be switched once every five years and then only for very specific types of credit.
Reuters reports that the change was made because of intense pressure by corporations and banks who feared they would be forced to use rating agencies who lacked credibility among American and Asian investors.
There appears to be broad parliamentary support for this diluted rotation; however, the industry is still objecting. Reuters writes, “The Association for Financial Markets in Europe, a lobby group for the big banks, says mandatory rotation is excessive and could harm a revival of the securitization market, which is needed to help banks fund themselves.”
Other EU regulations on rating agencies that appear to be going forward include: reversing the burden of proof for those suing rating agencies – the agency would be required to disprove any claim; limiting the issuing of sovereign debt ratings for 27 EU countries to two or three fixed dates every year; and a ban on rating agencies from using non-public information to compile ratings.
In an interview with the Sunday Telegraph, the head of Fitch’s global sovereign ratings David Riley said, “The impression might be that if we downgrade Spain, or whoever, we’re cutting them off and making their situation more difficult. Yet, at the same time, we hear a lot of people saying ‘you’re late to the party, the market’s already there, it’s irrelevant what you’ve done.’ We can’t be both. We can’t be all-powerful and irrelevant.”
He continued to explain the idea that rating agencies, “create the crisis that you’re predicting” was impossible and he denied that any decision could create “a self-fulfilling crisis.” He said, “If you owe 1 trillion and your cost of funding increases permanently by 10 basis points, it adds up. But there’s no evidence that the impact is so great as to push what was a solvent liquid entity into insolvency.”
Frederic Drevon, Moody’s head of Europe, Middle East and Africa, echoed Mr. Riley’s thoughts. He said, “If there is a negative environment and we downgrade, we will be told you are contributing to the events as they are happening. But the reality is we have to make the calls as we see it.” He added, “You will have many people who agree and disagree…That’s the way we operate. We are open to criticism.”
Dissatisfaction with rating agency decision-making has led major European Union (EU) banks to intensify talks about reducing cooperation with Standard & Poor’s, Moody’s and Fitch.
Sky News reports that widespread frustration has caused executives “from about a dozen of the Continent’s biggest lenders” to discuss the issue informally during the Institute of International Finance in Copenhagen.
Nothing was agreed to, says Sky News. But they quote an unnamed source as claiming that, “things are certainly moving in that direction.”
They also quote a senior bank executive as saying, “The ratings agencies got it horribly wrong on the way up; there are lots of reasons to suppose they are getting it wrong on the way down.”
The rating agencies have been aggressive in downgrading both EU banks and their countries’ sovereign debt. And it is expected that Moody’s has planned yet another downgrade for Barclays, Lloyds Banking Group, and Royal Bank of Scotland.
The Los Angeles Times reports an unusual move by Standard & Poor’s (S&P) into highly partisan politics by asserting that California’s fiscal problems stem from the tax code. This, says S&P, is the “core problem.”
The agency sidestepped the key Republican argument that California’s dire financial straits are the result of uncontrolled spending. Instead the LA Times quotes S&P as saying, “We don’t see the state’s existing spending level as the key source of its budget distress,” S&P’s report said. “In fact, the state is currently spending less as a share of its economy than it has at any point in the past 39 years.”
The report also went on to explain that they believe tax revenues have grown too slowly and have become increasingly unreliable due to the state’s over-reliance on taxing the very wealthy. Whereas the richest 1% provided 2.7% of the state’s general revenue funds in 1972, in 2010 it was up to 11%.
The long list of countries lashing out at rating agencies for lowering sovereign debt ratings has gotten longer. Now India has joined most of the EU and many others in criticizing Standard & Poor’s (S&P). India’s complaint centers around an S&P report saying that their country could be the first BRIC (Brazil, Russia India and China) country to loose its investment grade rating.
The Business Standard quotes Union Home Minister P. Chidambaram as dismissing the report by saying, “I think we tend to overreact to rating, as you see in reports. In fact, some of these rating agencies have very poor records in the past. I think we need not see reports of rating agencies as the final word on the country’s economy.”
Mr. Chidambaram supported his position by pointing out how India survived the challenge they faced in 1991 and again during the Asian domestic crises in 1997. Today’s challenges, he believes, pale in comparison.
He agreed that inflation was too high, but blamed the problem on high fuel prices. The Business Standard has him explaining, “High crude oil prices are fuelling the price rise compounded by the fiscal deficit and the current account deficit. We have controlled inflation. We believe crude oil prices will moderate in coming months and gradually, inflation will come down.”
Egan-Jones, under investigation by the Securities and Exchange Commission (SEC) for alleged errors in its 2008 registration application, said in Federal court that the SEC “condoned, excused, remained silent” or “very gently and gingerly reprimanded the large firms for conduct which corrupted the ratings process” and helped bring down the economy.
The Courthouse News Service reports that Egan-Jones claims the decision to go after their 20-person agency was made in a closed-door meeting, “‘details of which the SEC leaked to the press in advance,’ but that the SEC let off the hook the giant ratings agencies, which often are paid by the companies they rate, though it’s the big firms that ‘were instrumental in creating inflated and erroneous AAA ratings’ that contributed to the national financial crisis.”
Egan-Jones’ outspoken founder Sean Egan is attempting to have SEC’s administrative proceeding moved to Federal Court to “to prevent violations of due process, equal protection and the First Amendment.”
Egan-Jones also said in court that the SEC targeted them for administrative errors in the application process because SEC agents are trying to position themselves for jobs with big agencies. Being a small operation with fewer job opportunities makes them “an easier target for the congressionally mandated crackdown and less detrimental to the SEC employees’ career prospects.”
Fitch Chief Executive Paul Taylor told Dow Jones Newswires in an interview at the Institute of International Finance conference in Copenhagen that the currency union is still “muddling through” its debt problems.
Bloomberg also reports that at the same conference Mr. Taylor struck out at governments trying to rein in ratings agencies. “There are too many politicians talking about ratings from my point of view at the moment…There must be some advisers around that should be talking to some politicians about being less vocal about ratings.”
Placing a burden of proof on agencies, Mr. Taylor said in a question and answer period, would “completely blow up the system”. Mr. Taylor also repeated the long-held position that rating agencies do not offer expert advice. “We’re not really a financial institution,” he said. “We’re more like a publishing house.”
Remarks made at the same conference by Standard & Poor’s President, Douglas Peterson, were more accommodating to governments seeking greater control over rating agencies. Bloomberg reports him saying, “The rating agencies can play a role in ensuring that there continues to be transparent information provided by those securities in a way that is done under strict standards of governance and control.” Relying on rating companies will help provide “consistency,” Peterson said.
After a series of missteps culminating in major errors last July that pulled a $1.5 billion Goldman Sachs/Citigroup deal off the market and cost Standard & Poor’s most of its market share in the Commercial Mortgage Backed Securities (CMBS) business, the agency announced that it was changing how it rates CMBS.
In the wake of the debacle, S&P fired the head of the unit and overhauled the team doing the analysis.
Essentially, S&P will be changing how it views the loan diversity underlying the CMBS. Under the new criteria, deals with less diversity would have a 20% credit enhancement to protect the highest-rated tranches.
Industry insiders were initially unimpressed with the changes. Reuters reports that Harris Trifon, head of CMBS research at Deutsche Bank, wrote in an email, “At first glance, it seems the magnitude of the changes will disappoint most investors.”
Since the disaster, except for a small piece of a deal in November, S&P has been passed over for every CMBS that has come to market.
Turkey has joined a chorus of countries accusing rating agencies of unfair and unsubstantiated rating decisions.
Standard & Poor’s (S&P) revised its outlook on Turkey from positive to stable. The Famagusta Gazette reports Turkish Prime Minister Recep Tayyip Erdogan as saying that the move is “… totally an ideological decision. No one would buy that. And we shall declare that we do not recognize you [S&P] any more as a credit rating agency.”
The Prime Minister continued, “It increased the rating of bankrupt Greece and cut our rating. Isn’t this nonsense? This is totally an ideological approach. No one can believe this. You cannot fool Tayyip Erdogan.”
Turkey’s Deputy Prime Minister Bulent Arýnc also described the decision as “unjust and baseless.” Arýnc said the rating agency holds incorrect data about the Turkish economy.
The rationale S&P provided for its revised outlook included, “less buoyant external demand and worsening terms of trade [which] could inhibit Turkey’s economic rebalancing.”
Don’t blame the weatherman for the weather…