The Reform of the Credit Rating Agencies: A Comparative Perspective

Credit ratings are a quasi-public good, and investors and financial markets regulators need an independent assessment of the credit-worthiness of an issuing entity because of information asymmetries and principal agent problems. In light of the high volatility of market-based measures and the failure of internal risk management, private CRAs are best fit for purpose. However, natural barriers of entry in the rating business and conflicts of interest have led to an inflation of ratings and a deterioration in their quality. It would thus appear that CRAs need closer supervision. While certainly burdensome and likely to raise barriers of entry, the European Commission's proposal seems to be the most sensible solution given the circumstances. Market discipline based on competition and transparency as envisioned in the US will lead to a weak surveillance regime, while leaving the regulatory license intact.