Credit Agency practices deserve reform

On May 18, the Securities and Exchange Commission voted unanimously to propose rules that (i) implement certain Dodd-Frank provisions and (ii) enhance the SEC’s existing rules governing credit ratings and Nationally Recognized Statistical Rating Organizations (NRSROs).  The NRSROs are dominated by Moodys, Standard & Poors, and Fitch.

In proposing the new rules. SEC Chairperson Mary Shapiro articulated what everyone knows – that the credit rating agencies were irresponsible in their analysis of securities, and significantly contributed to the 2008 financial melt-down. Chairperson Shapiro said:

In passing the Dodd-Frank Act, Congress noted the systemic importance of credit ratings. It also noted that ratings that were applied to structured financial products proved inaccurate – and contributed significantly to the mismanagement of risks by financial institutions and investors.”

The SEC summarized their proposals as follows:

Under the SEC’s proposal, NRSROs would be required to:

  • Report on internal controls.
  • Protect against conflicts of interest.
  • Establish professional standards for credit analysts.
  • Provide public disclosure about the credit rating and methodology used to determine the credit rating along with the publication of the credit rating.
  • Enhance their public disclosures about the performance of their credit ratings.

Dodd-Frank’s changes and the related SEC proposals for the NRSROs are solely needed. This article summarizes important background on the credit agencies. Somewhat remarkably, recent court decisions have consistently held that the credit agencies are not legally responsible for their actions.

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