credit rating

Credit rating agencies have been criticized for fueling the 2007-2009 financial crisis.

The Federal Reserve said on Monday that Banking regulators expect to release proposals for replacing the work of credit rating agencies in their regulations later this year when comprehensive tougher capital standards are unveiled.


Credit rating agencies, such as Moody’s Corp and McGraw-Hill Cos’ Standard & Poor’s, have been criticized for fueling the 2007-2009 financial crisis by assigning gold-plated ratings to securities that proved to be far more risky than advertised.

In response, the 2010 Dodd-Frank financial oversight law requires regulators to strip from their regulations the reliance on credit rating agencies’ work to determine such things as capital requirements for banks based on the riskiness of their assets.

Despite the criticisms leveled, credit rating agencies continue to play a major role in financial markets.

For instance, they are now at the center of the debate over raising the U.S. debt ceiling because of the possibility the agencies will downgrade the United States’ prized Triple-A rating if a significant deficit reduction deal is not reached.

In a report to Congress released on Monday, the Fed said that banking agencies are still working to find alternatives to the credit raters’ work, a task that has proven to be difficult.

The Fed said regulators expect to propose alternatives when they unveil rules for implementing tougher capital requirements for banks required by Dodd-Frank and the recent international agreement known as Basel III.

These rules are expected as early as this summer.

In August 2010, the Fed, the Federal Deposit Insurance Corp and the Office of the Comptroller of the Currency sought input on what could replace the work of credit raters, but the responses provided no easy answers.

Acting Comptroller of the Currency John Walsh has pushed for Congress to revisit the ban to at least allow the use of their work in some instances.

He and other regulators have warned it will be difficult to implement new, tougher capital standards for banks without some relief from the ban.

In its report, the Fed said it identified 46 references to credit rating agencies in its rules, most of which dealt with capital requirements.

Congress is unlikely to soften the ban because any legislation making a change to Dodd-Frank will likely become embroiled in larger fights over the law between Republicans and Democrats.

Photo credit: IB Times