Regulators are empowered to oversee the safety and soundness of regulated entities and are charged with intervening if there is a problem. Rating agencies observe this process as a third party.

Let’s have hearings and ask all three parties what they know and when they knew it.

Rating agencies publish ratings opinions.

Regulators monitor safety and soundness.

There is responsibility and blame to be assigned in this collapse. Let’s make sure it’s assigned to ALL responsible.

Congress Presses Rating Firms – The Wall Street Journal, January 5, 2012

Let’s give the EU the ability to temporarily “ban” ratings on sovereign debt if they don’t like the ratings.

Let’s open rating agencies to liability, where THEY have to defend against a standard of proof that there wasn’t “gross misconduct.”

Let’s have the EU add more rules to “increase competition.”

The logic appears impossible.

The EU farce continues.

EU Proposes Rating Agencies Can Be Sued – The Wall Street Journal, November 15, 2011

First, he discussed how much had been done to address the root causes of the 2008 financial crisis that sparked the recession including a “substantial program of financial reforms” that had led to a significant improvement in the U.S. banking system and financial markets.

However he believes that “financial stress” continues to negatively impact the recovery, both in the U.S. and abroad. “Bouts of sharp volatility and risk aversion in markets have recently re-emerged in reaction to concerns about both European sovereign debts and developments related to the U.S. fiscal situation, including the recent downgrade of the U.S. long-term credit rating by one of the major rating agencies and the controversy concerning the raising of the U.S. federal debt ceiling.”

He admitted that the impact of these events can’t be judged exactly, however, “there seems little doubt that they have hurt household and business confidence and that they pose ongoing risks to growth.”

Mr. Harrington, who resigned in 2010 after 11 years with Moody’s, said in a statement filed with the Security and Exchange Commission (SEC) that Moody’s had a culture of “intimidation and harassment” to ensure analysts awarded ratings that were wanted by clients. He said that the compliance department would “actively harasses analysts viewed as ‘troublesome.’”

He continued to explain that, “This salient conflict of interest permeates all levels of employment, from entry-level analyst to the chairman and chief executive officer of Moody’s corporation.”

In his 78-page filing, he also said, “The goal of management is to mold analysts into pliable corporate citizens who cast their committee votes in line with the unchanging corporate credo of maximizing earnings of the largely captive franchise.”

Mr. Harrington’s opinion must be taken in the context of a former employee.

Bloomberg writes, “S&P is poised to provide AAA grades to 59 percent of Springleaf Mortgage Loan Trust 2011-1, a set of bonds tied to $497 million lent to homeowners with below-average credit scores and almost no equity in their properties.”

Subprime mortgage-backed securities that were rated AAA and then later failed spectacularly are considered by many to be a key contributing factor to the financial crisis in ’08 and the subsequent recession.

What is old is new again. However, what S&P rates and what investors buy is a private matter. Let’s go back to caveat emptor.

Mr. Elkin agrees that the SEC’s mortgage-backed securities investigation predates the downgrade; nonetheless he questions whether these actions by the SEC had, “…nothing to do with the actual decision by S&P to cut Treasury’s rating. Administration officials and its SEC appointees would never dream of retaliating against a rating company for honestly expressing its constitutionally protected opinions. We know this because, though they will not say anything for attribution, they say so in all the stories reporting on their inquiries.”

Mr. Elkin says the SEC’s refusal to say anything for attribution is “baloney” and urges all the rating agencies to, “…withdraw its rating of U.S. government and agency debt. They should explain that government investigations render them unable to express an independent opinion. As a result, the government will end its tenure as a AAA-rated credit risk, not by having its ratings reduced (except for S&P), but by having them eliminated.”

Courtney Comstock of Business Insider quotes a key passage from the lawsuit: “Because the information that Goldman provided or caused to be provided [to ratings agencies] was false, the rating were inflated…[and] also that Goldman Sachs knew, or was reckless in not knowing, that it was falsely representing the underlying process and riskiness of the mortgage loans…because Goldman’s longstanding relationships with the problematic originators, and its numerous roles in the securitization chain, made it uniquely positioned to know the originators had abandoned their underwriting guidelines…[and because] as a result, the GSEs paid Defendants inflated prices for purported AAA (or its equivalent) Certificates, unaware that those Certificates actually carried a severe risk of loss and inadequate credit enhancement.”

Because Goldman Sachs was not the originator of the mortgage loans, where the actual fraud took place, Ms. Comstock believes that Goldman Sachs has a strong defense. However the suit claims that Goldman Sachs was updated daily on the number of defaults but chose to securitize these failed loans anyway. Ms. Comstock also believes that Fannie and Freddie Mac were “sophisticated investors” who should have done their due diligence. To this the FHFA claims that the substandard loans were hidden; there is no way they could have known.

Good plan. Use the laws and rules that exist. If there is fraud, prosecute!

Speaking in London to the International Council of Securities Associations iMarketNews.com reports him saying, “Pervasive mechanistic reliance on ratings is by no means mainly the fault of the rating agencies themselves or of financial firms, although many of the latter have acted — and probably continue to act — foolishly. The extent to which ratings have been bolted into regulatory regimes — by securities regulators and prudential supervisors — has plainly been a great mistake.”

He continued to say, “Yes, we do have asset managers (and banks) who might not be able to evaluate some securities on their own if they were not permitted, by official regimes, to rely on CRA ratings. But what on earth are we doing not only tolerating but effectively encouraging a financial system in which asset managers and banks can’t always understand their portfolios?”

Hoory. Leave it to the Brits to say it straight. If you can’t figure out what a security is worth (with or without a rating), you shouldn’t be in the investment business.

Included in the proposal, which is open to public comment for 60 days, are rules requiring periodic analyst performance exams, provisions that force the separation between analysts and rating agency marketers, and restrictions on ratings agency analysts taking jobs at firms seeking ratings.

Some believe the proposed rules changes do not go far enough. Specifically, the “issuer-pays” model that has allegedly led to conflicts of interest has not been eliminated. On the other hand, the rating agencies are opposed to the proposed rules. They challenge the SEC saying that the new “transparency” that is being forced upon them will lead, in practice, to assessments that are “opaque” or “formulistic.”

The Wall Street Journal reported recently that both Moody’s Investors Services and Standard & Poor’s presented unsolicited appraisals of a mortgage-backed security that challenges Fitch’s Triple-A rating.

Daniel Indiviglio, writing for The Atlantic, believes this is good for two reasons. First it demonstrates that agencies are serious about creating a diversity of assumptions, and second it places greater burden of analysis on investors where he believes it belongs.

Mr. Indiviglio concludes, “This debate is very health [sic] for the market. It might make the process of selling certain securities a little harder, but the process should have been harder.”