The Power and Problems of the U.S. Credit Ratings Industry

Per Lykke Hansen

Student thesis: Master thesis

Abstract

During the past decade the credit ratings industry has been the target of mounting levels of interest and critique, especially in the U.S. While this criticism initially related to the lack of accuracy in ratings, it has grown into widespread disapproval of how the industry conducts itself. In this paper I identify numerous conflicts of interest inherent in the industry which influence its informational contribution negatively. Interestingly, these are all to some extent a result of the regulatory reliance on credit ratings which has existed for decades. I therefore argue that blame for the current situation essentially lies with regulators, since they are the empowering entity. The credit rating agencies merely react to the hand they have been dealt in a manner which should have been foreseeable. It seems that this has also been recognized by regulators in the wake of the subprime crisis, as they are currently trying to implement some major changes. While the new regulatory design seems able to remove the conflicts of interest I identify, successful implementation is questionable. A new universal credit risk measure has yet to be established, and until this is done, it seems likely that the most important regulatory change – removal of references to credit ratings in regulation – will have a limited effect. The lack of a new alternative will force financial market participants to rely on the old one, and will therefore mean that credit rating agencies maintain a certain level of the power they have had until now.

EducationsMSc in Finance and Strategic Management, (Graduate Programme) Final Thesis
LanguageEnglish
Publication date2012
Number of pages75