There’s been a lot of excellent posts debunking Standard and Poor’s recent downgrade of U.S. debt on the merits–it is poor assessment of risk. Yes, there are substantive economic arguments against S&P’s evaluation. But S&P is also fundamentally corrupt. The Coalition of the Sane must point this out too–there is an ethical dimension here, not just an economic one.
The critical point is this: during the last year, every negative statement by S&P has followed action by the federal government to investigate possible fraud by S&P (and other ratings agencies) during the mortgage crisis (bringing new meaning to the phrase “motivated reasoning“). This is not an intellectual error, but a political move:
But perhaps the biggest thing that happened on April 13: A bipartisan study on the financial crisis from the Coburn-Levin Senate Permanent Subcommittee on Investigations released a report saying the credit ratings agencies were a “key cause” of the financial crisis. They issued a 650 page report, which included the following recommendation (p. 16):
The SEC should use its regulatory authority to facilitate the ability of investors to hold credit ratings agencies accountable in civil lawsuits for inflated credit ratings, when a credit rating agency knowingly or recklessly fails to conduct a reasonable investigation of the rated security.
Two days later, David Beers reached out to Undersecretary Goldstein to let Treasury know that the Standard and Poors committee has changed its outlook to “negative.” OnApril 18: Standard and Poors issued press release downgrading the outlook for US sovereign debt from stable to negative and giving a 30% chance of a ratings downgrade from AAA to AA.
“U.S.’s fiscal profile has deteriorated steadily during the past decade and two years after the financial crisis” they say — with no mention of their own role in that crisis. And whereas the October threat had been based on concerns over Social Security and Medicare, the latest press release contained no mention of either.
And it’s pretty clear, they’re trying to deliberately influence the Security and Exchange Commission (SEC):
In the midst of all of this, the SEC was moving to implement Dodd-Frank in ways that would negatively impact all the ratings agencies, and looking into S&P’s role in the 2008 mortgage crisis:
- May 18:theSEC commissioners “voted unanimously to propose new, tougher regulations for credit rating agencies,” which would “implement certain provisions of the Dodd-Frank Wall Street Reform and Consumer Protection Act and enhance the SEC’s existing rules governing credit ratings.”
- June 9: Bloomberg reports the SEC may recommend recommend that ratings agencies be prohibited from advising investment banks on how to earn top rankings for asset- backed securities
- June 14: Reports emerge that the SEC is considering civil fraud charges against S&P and Moody’s in the run up to the financial crisis.
But Standard and Poors was not cowed by the SEC’s sudden rash of action. On July 14 they raised the threat of a downgrade to 50% within the next 90 days.
And now they were very explicit about what they were looking for in exchange for a AAA rating. They wanted a number….which just happened to be the magic $4 trillion number:
If Congress and the Administration reach an agreement of about $4 trillion, and if we to conclude that such an agreement would be enacted and maintained throughout the decade, we could, other things unchanged, affirm the ‘AAA’ long-term rating and A-1+ short-term ratings on the U.S.
Incredibly, S&P’s Devan Sharma told Congress this week that that S&P had been “misquoted” regarding the $4 trillion figure and that it had been “inaccurately stated that the company was calling for that specific threshold.” I really don’t know any other way you could read it. He also accused the administration of “meddling in the ratings process,” a charge quickly trumpeted by Republicans on the committee.
Politico reported that administration officials were “shocked by the move,” suggesting that it did not seem to square with prior S&P reports (duh).
But S&P wasn’t done. On July 21: David Beers met with Congressional Republicans in a closed door meeting to brief them on a potential downgrade of US debt.
And on that same day, the House Financial Services Committee approved the bill to remove the Dodd-Frank provisions that subject credit ratings agencies to expert liability. It passed 31-19 “over the opposition of the senior Democrat on the panel,” devolving into a clear partisan effort.
Then on Tuesday of this week [July 26], the SEC unanimously approved a plan to erase references to credit ratings from certain rulebooks. They also adopted alternatives to the credit ratings — a blow to the CRA’s [credit rating agencies; e.g., S&P] entire business model.
That last body blow by the SEC happened on July 26. As Yves Smith would say, “Quelle Surprise!” This sort of sleaziness (not to mention outright fraud) is nothing new for the rating agencies. Currently, Connecticut is suing the agencies for rating its municipal bonds as less credit worthy than they actually are, increasing the cost to taxpayers–even though these bonds are a much lower risk than the highest rated corporate bonds (boldface mine):
“We are holding the credit rating agencies accountable for a secret Wall Street tax on Main Street — millions of dollars illegally exacted from Connecticut taxpayers,” Blumenthal said. “Connecticut’s cities and school districts have been forced to spend millions of dollars, unconscionably and unnecessarily, on bond insurance premiums and higher interest rates as a result of deceptive and deflated credit ratings. Their debt was rated much lower than corporate debt despite their much lower risk of default and higher credit worthiness.
“Studies done by all three agencies themselves since 1999 show that public bonds default far less often than corporate bonds with similar, higher credit ratings. In fact, public bonds with low ratings have lower default rates than the highest rated corporate bonds. They have maintained the dual standard to financially benefit bond insurers, investors and ultimately themselves.
“This rating charade created a Wall Street shell game constructed by the ratings agencies for the benefit of the bond insurers — which enabled the bond insurers to profit from unnecessary premiums and interest paid by taxpayers. All three rating agencies admit and acknowledge — in their own studies conducted as long as nine years ago — that states and cities have virtually zero risk of defaulting on loans. Despite their own conclusions, the credit rating agencies purposely concocted a dual rating system, enabling them to impose lower ratings on municipalities than corporations that are far more likely to default….
Expenses paid by taxpayers for bond insurance and higher interest rates would have been unnecessary if the rating agencies fairly and honesty rated public bonds — based on the likelihood public bond issuers would pay back their bonds on time.
One central reason for the continued underrating was the coordinated efforts of the bond insurers to convince Moody’s to maintain the dual rating system. In 2006, as Moody’s considered changing its practices and rate public debt on the same scale as corporate debt, an Ambac executive wrote “did we know this was coming — at first blush this looks pretty serious to me…This is cutting at the heart of our industry…While we in the industry might agree with the default/loss conclusion (this is in part the basis of our success and ability to leverage as high as we are), to lay it out there like this could be very detrimental.”
One of the costs that taxpayers had to buy was buying bond insurance. Suppose you’re trying to sell debt but you’re given a low rating. You can go to a private insurer and buy insurance, and your debt is now assigned the rating of the insurer, usually AAA. One problem though–not only was most debt rock solid, but the insurers themselves didn’t have AAA ratings according to S&P (pdf; p. 11, #38).
And the government is irresponsible?
Look, I won’t rule out that S&P is
stupid incompetent and ideologically blinkered . But they routinely commit fraud (and I’m certain if other states investigated, they would find the same thing). They are attempting to bully the American people to prevent an investigation into the role in the housing crisis, as well as preserve their business model by forestalling the new SEC regulations.
This is what frauds do. And by issuing these ratings, they can now claim, as they have already done before, that any investigations are ‘revenge.’ Conservatives, who receive lots of contributions from them and who perceive another political opportunity, will fire up the Mighty Wurlitzer, once again demonstrating that they are more enamored of their own power and prerogative than the rule of law and the welfare of the Republic. Fox News and other rightwing outlets will shriek about government interference, casting doubt, creating a ‘controversy’ where there should be none. It will be one more example why no nation can endure half-Fox news and half free.
This is why, despite the urgings of the Great Conciliator, you have to look back, not just forward. Because if you don’t, they just do yet another awful thing.
Standing up to the rating agencies is one of the few good things the Obama Administration has executed competently. But will he fight for it? And will we make him?
Related: Matt Stoller has several other examples of the rating agencies’ awful behavior.