EU guilty of credit rating hypocrisy

 
Allister Heath
SOME people simply can’t win. The largest credit rating agencies – Moody’s, Standard & Poor’s and Fitch – were rightly pilloried for providing ridiculously optimistic advice in the run-up to the financial crisis, deeming bundles of sub-prime mortgages to be as safe as the debt of very cautious and successful companies or governments. It was nonsense, based on wrong-headed models and assumptions, and it helped make the bust much worse. Many of the claims made about financial players’ role in the crisis have been exaggerated or are downright wrong, but rating agencies got much of what they deserved.

Since then, however, they have upped their game. The repeated downgrades of sovereign debt in the Eurozone have been spot on. So it beggars belief to see the governments in question – all of which were quick to condemn the agencies’ past over-exuberance – reacting with mock outrage whenever anybody is downgraded. If anything, the US agencies are still being too soft. Dagong, the Chinese agency, cut the UK’s rating from AA+ to A- earlier this year; it previously downgraded the US. Such blunt, fresh thinking is to be welcomed (though Dagong’s rating of China looks a tad optimistic, so nobody is perfect). The Big Three US agencies ought to downgrade even more of the Eurozone’s sovereign debt, as well as that of several other nations. That this doesn’t suit the various political agendas at play should be of no relevance.

Governments hate the fact that they have to pay more in interest each time their debt is downgraded; but there is an even bigger issue in Europe. The European Central Bank can’t accept the worst kind of debt as collateral when engaging in liquidity operations – but the economies of several Eurozone countries depend on it. Hence why it too has been dismissing the judgment of the rating agencies, bending the rules and diluting its standards to keep the show on the road. The whole thing is a mess, based on self-deception about the real, disastrous state of countries such as Greece, Portugal and others. A major, terminal solvency crisis – with countries that will never be able to repay their debts – is being dressed up as a liquidity crisis – a temporary cash flow problem that can be resolved via handouts or liquidity aid.

In typical delusional fashion, the Europeans are mulling setting up their own credit rating agency to provide “another opinion” on the worthiness of their debt. Bizarrely, many French socialists still see the large agencies as tools of American imperialism. A new EU-controlled body, of course, would have zero credibility as it would merely end up being a propaganda machine. There is, however, a case for drastically shaking-up the rules. Rather than relying on a small oligopoly of officially approved credit rating agencies, governments around the world should deregulate the market and move the onus back on investors to make their own decisions as to the riskiness of an asset. This would reduce the influence of credit rating agencies, which have become embedded within the regulatory system since legal changes in the US in the 1970s, while allowing companies that are able to provide value-adding analysis to prosper. It would also send a strong signal to investors that the ultimate responsibility to take the right decision lies with them and confirm that ratings are merely one opinion among many.

allister.heath@cityam.com
Follow me on Twitter: @allisterheath