Rating Rodents (Part 3)

Rating Rodents (Part 3)

Last week we ended by explaining how citizens across Nations end up paying ratings agencies for ill-advised opinions, effectively being able to determine the fate of nations. A point reiterated by former German Economic Minister (Bruederle), saying “I am no fan of conspiracy theories, but sometimes it is hard to dismiss the impression that some American ratings agencies and fund managers are working against the Eurozone "1. Ratings agency, Moody's issued a report “Investor fears over Greek government liquidity misplaced”, but 6-months later the Country required a bailout. The ratings agency, S&P miscalculated US debt by as much as $2Tn when it downgraded the US1. Corporations like Lehman brothers & Enron, were rated as safe investments by all major ratings agencies, right up until these companies went bankrupt1. The conflict of interest whereby ratings agencies are paid and funded by the very companies they rate, plus known agency malpractice & negligence, therefore make it impossible to rate creditworthiness in the first place1. Ratings agencies are positioned to protect us (investors), thus a “Public service”, and to have it in the hands of a “minority of private hands” is the biggest challenge currently being highlighted & pursued. It appears then we all “assumed” ratings agencies to be ethical, fair, rigorous  & science-based. Now that this is known to be a false assumption, everyone cast blame upon these agencies, more so because they are the same firms blamed as instigators of the 2007-2008 crisis2. When agencies certified top ratings to worthless products (US mortgage bonds), it enabled the housing bubble1. Now these very agencies are sitting in judgment of the Countries that had to use & leverage their Public balance sheets to prevent financial collapse (i.e. the bail-puts) to save Banks who invested in the bad instruments the very agencies themselves had blessed. Another source of power ratings agencies have, is that they are embedded in the policy, legal & regulatory frameworks of the global financial system. This is arguably the more potent power, as it allows them to set the “rules of the game”. These powers allow them to dictate operations of Banks, Pension & Mutual funds, across the world financial system2. Much of these powers typically come from “National Recognised Statistical Rating Organisations (NRSRO’s). These are entities “qualified” to rate companies and their various financial obligations, enforced by Governments & Financial institutions around the world, dictating that any credit investment be officially rated by such an organisation2. This position was rooted deeper via the Basel II rules, allowing them to dictate how much capital a bank must set aside in reserves against potential losses. Common sense alone will reveal that such powers are far too great to have it concentrated in the hands of a few. Think simply that a handful of people can distort the financial system with only an opinion, like for example urging bondholders to substitute their own research and analysis, with that of the closed club. There is not a single individual able to resist such kind of “deck-stacking” whereby a handful of expert opinions are used to over-ride more intensive & robust research from hundreds of thousands of private investors, banks and funds2.

The ratings agencies have been given this power via regulatory frameworks, made worse and multiplied a hundred fold by global markets “assuming” their views to be reliable & above reproach. When we discovered that these agencies were intimately linked to providing “triple A ratings to toxic debt”, it was far too late. More staggeringly, when we see that just one agency, i.e. S&P's profit increased by 73% to $3.58 Billion in the 2007/2008 year, then the scale of the problem is self-evident. Saying this differently, we allow what is supposed to be a “public service or public good” (the measure of risk & safety of investments) to be “given to us” by an elite minority that we entrusted, only to discover that they are keeping the global economy at ransom, whilst making crazy profits at the same time. To allot blame solely upon them is thus unfair and an indictment upon the entire global financial system, hence the importance of systemic understanding3. Today, all countries are exposed and vulnerable, especially those countries that face the 3 core challenges of:  (1) Falling tax revenues; (2) Increasing social welfare costs; (3) Multi-billion bailout’s of economies & banks. These 3 areas are not unique to one country, indeed it is a world-wide problem, with one Nation pretending to be less affected than the other, another way to buy time to patch-up parts of a system, that actually require systemic attention.

References

• Kingsley, P., 2012, How credit ratings agencies rule the world, The Guardian, Wednesday 15 February 2012 20.00 GMT;

• Younglai, R. & Da Costa, A., 2011, When ratings agencies judge the world, Reuters Business, Washinton-London, Aug 2, 2011 2:01pm EDT?Insight;

• Udemans, F., 2012, The golden thread: escaping socio-economic subjugation, an experiment in applied complexity science; Author House; & Smith, K., 2014, Agencies & How They Work, Money crashers, posted in Bonds, Stocks;