University of Amsterdam
Faculty of Economics and Business
BSc. Economics and Business
Bachelor Thesis
Credit Rating Agencies: Comparative analyses of the proposals to eliminate the inconsistencies inherent to the modern-day oligopoly
Nataliya Gorina
Student Number: 10258558 Supervisor: Maartin P. Schinkel Date: July 2015
Statement of Originality
This document is written by Nataliya Gorina, who declares to take full responsibility for the contents of this document.
I declare that the text and the work presented in this document is original and that no sources other than those mentioned in the text and its references have been used in creating it.
The Faculty of Economics and Business is responsible solely for the supervision of completion of the work, not for the contents.
Abstract
The focus of this paper is twofold – that of the origin of the oligopolistic nature of the market, and secondly, analyses of solutions offered by various bodies. This paper specifically looks at the resolutions put forwards by the SEC and the EU
Commission, as well as those from various international organizations and academics specializing in the subject. It goes on to provide detailed and thorough analyses for each possibility of reform in multiple areas – legal and economical. Taking all of this into deliberation, it seeks to show that there cannot be one overarching solution, but due to the interdependency of the spheres, multiple approaches should, and will have to be considered. In conclusion, this paper suggests and rationalizes that one of the most effective ways to find a resolution, would be interdisciplinary evaluation of all further legislation.
Table of Contents
1 Introduction ……… 5
2 Brief history of CRA legislation in the US and EU ………... 6
2.2 IOSCO Code of Conduct ………... 9
3 Oligopolistic origins of the CRA market ………... 10
4 Problems faced by the credit rating agency market ………. 12
5 Solution Analyses ……… 16
5.1 New Solutions ………16
5.2 Modified Solutions ……… 24
5.3 Projections for the future ……….. 28
6 Conclusion ……….... 29
1 Introduction
Despite credit rating agencies (CRAs) being around since the beginning of the 20th century, and the instruments that they rate even longer still (White, 2007), it is only recently that attention has been given to a market which has sorely needed it for quite some time. Credit rating agencies are institutions offering ratings that measure the risk of an entity or transaction will fail to meet its financial commitments (IMF, 2010). Ever since the credit crisis of 2008, CRAs have remained under public scrutiny, criticized for their ratings and held responsible for the recession. They also drew large amounts of discontent for the oligopoly dominating in the market, drawing questions about competition, “ratings shopping”, transparency, credit-worthiness, to name a few.
Credit rating agencies have been researched from multiple angles. White (2009) discusses the historical evolution of credit rating agency legislation that led to the credit crisis of 2008, disputing the efficiency of legislation currently in place. Skreta & Veldkamp (2009) consider the important possibility of credit rating inflation due to “ratings shopping”, even in the case of perfect information. Petit (2011) takes a look at credit rating agencies and competition law, discussing the oligopoly and the potential for anti-trust intervention. Elkhoury (2008) studies the impact of credit rating agencies on developing countries, identifying a negative bias towards all non-American CRAs during a downgrade.
In this paper it is argued for the creation of the credit rating agency market oligopoly to be a mixture of regulatory pressure and natural causation. Thereafter, a series of problems caused by the oligopolistic market type are identified, followed by a collection of the most plausible solutions. Various governments and agencies, as well as academics, offer these solutions, and analyses and commentaries are given based on their practicability, plausibility, and current financial environment. A projection for the future is also offered.
Section 2.1 consists of a brief historical overview plotting the development of the legal side of the credit rating agency market, with Section 2.2 giving special mention to the IOSCO Code of Conduct. Thereafter, Section 3 an analysis, looking at the inception of the oligopolistic form of the market. Section 4 contains a collection of problems we identify, faced by the CRA market at this point in time, while Section 5.1 and 5.2 are analyses and commentary of the given solutions offered by the US
and the EU, as well as various academic and private party input. Section 5.3 is a glimpse at the prospects for the future. Finally, in Section 6, a conclusion is drawn based on the analyses.
2 Brief history of CRA legislation in the US and EU
Credit rating agencies, as entities with the specific purpose of rating railroad bonds, originated in 1909, when Moody saw the opportunity of meeting a long time demand of the American business man – more convenient, publicly available information on investments (Sylla, 2001). Soon to follow were Poor’s Publishing in 1916, the Standard Statistics Company in 1922, and the Fitch Publishing Company in 1924, releasing rating manuals – thick tomes listing classifications and ratings of various types of investment securities (Cantor & Packer, 1994). Poor’s and Stardard would then went on to merge in 1941, producing the well know S&P of today (White, 2010). Even though some academics believe that CRAs began interesting regulators in the 1930s, one might argue that the time period is much later - somewhere in the 1960s. Bare in mind, the matter comes down to definition and what one sees as direct referencing in regulation. Legislation issued between the 1930s-1960s only
mentioned credit rating agencies in passing; during that time, notably after the Great Depression, a few relevant Acts were implemented, affecting the agencies to some extent (White, 2007). The Securities Exchange Act of 1933 and the Securities
Exchange Act of 1934 were passed with the Act of 1934 founding the U.S. Securities and Exchange Commission, which to this day
“…oversees securities exchanges, securities brokers and dealers, investment advisors, and mutual funds in an effort to promote fair dealing, the disclosure of important market information, and to prevent fraud”(SEC, 2015).
However, the main purpose of these Acts was the regulation of securities issues on both the primary (SE Act of 1933) and secondary (SE Act of 1934) markets. In 1936, the Office of the Comptroller of the Currency issued a prohibition of investing in “speculative grade bonds” according to “recognized rating manuals” which in this case were those distributed by Moody’s, S&P and Fitch. “Speculative” were those bonds that were below investment grade (on the S&P scale), to this day the threshold for which is a BBB rating (White, 2009). Nonetheless, this wasn’t remotely
comparable to the leap in regulation that rating agencies would experience in the later half of the century. The main reason for this regulatory “disinterest” could be that the bond market was just simply “too” stable at the time. There is indication that the American economy post-World War 2 experienced only a few mild recessions, practically no bond defaults and stable financial conditions, hence, realistically, making ratings solely for show (White, 2007).
Two notable events happened in the 1970s: First, the “subscriber/investor-pays” model that had been utilized until that point was replaced by the now widely used “issuer-pays” model. There is a surprisingly simple explanation for such a drastic conversion: photocopying had become widespread, so it became hardly profitable to sell printed reports (Sylla, 2001). However, the change can also be accredited to bankruptcy of Penn Central Railroad Company, which prompted issuers to seek ratings from the CRAs to calm the market. Prior to that, investors relied on the name and reputation of the issuer, but after the bankruptcy, issuers turned towards a third party to sell their bonds through a credit rating (Pinto, 2006). Arguably, these two steps have brought on a major problem for the current rating agency market by introducing very prevalent conflict of interests. The second event of note was Rule 15c3-1 or the “Net Capital Requirements for Brokers or Dealers” (Net Capital Rule) being passed by the SEC in 1975. Essentially, the desire of the SEC was to make the capital requirements sensitive to the portfolios of the broker’-dealers, and so they used the ratings of the bonds in those portfolios as the indicator of risk (White, 2007). A loophole emerged, however: There was certain vagueness when it came to the “recognized rating manuals”, simply because there was no indication as to whom had the right to claim their manuals as recognized. The SEC feared the situation would arise of a “bogus” CRA coming into the market, and exploit the “issuer-pays” model agency problems, with no way to argue against the assertion of their recognition (White, 2009). As a solution, the SEC decided to introduce the concept of “Nationally Recognised Statistical Rating Organizations” (NRSROs). In essence, the SEC endorsed these ratings, and soon to follow were other financial regulators who “deemed the SEC-identified NRSROs as the relevant sources of the ratings required for evaluations of the bond portfolios of their regulated financial institutions” (White, 2009). This is seen as the first federal law that
regulated CRAs and began the process of their integration into US legislation. Jumping forward, in the 1990s, the SEC used NRSRO ratings again when it
established requirements for short-term debt which was held by money market mutual funds (White, 2010).
The current legislation for CRA can be found in the Credit Rating Agency Reform Act of 2006, which is based on the Securities Exchange Act of 1934. The Dodd-Frank Wall Street and Consumer Protection Act of 2010 was a major piece of legislation to do with financial reform, adding a number of new government agencies responsible for various provisions of the Act. The Acts themselves and any
amendments to them from 2006 onwards will be discussed in later sections where appropriate.
On the other side of the Atlantic, it is Europe that holds a special place on the CRA arena, primarily as the European Union only came into existence in the early 90s and isn’t at all historically lengthy with its legislation. Prior to the 1980s, the “Big Three” had little influence in Europe, partly because as the economist Ha-Joon Chang (2012) states, “Banks dealt only with what they knew.” Essentially, there was simply no need for credit rating agencies on a global scale, as everyone invested in local bonds and securities using local currency.This is why we choose to consider the legislation enacted after 1993, although the range is hardly necessary as in the EU, credit rating agencies gained regulatory attention only in the new millennium.
To mirror the SEC, it is the European Securities and Market Authority (ESMA), which is “exclusively responsible for the registration and supervision of Credit Rating Agencies (CRA) in the European Union” (ESMA, 2015). It replaced the Committee of European Securities in 2011 (Regulation (EU) 1095/2011) as the Union sought for a more stringent and transparent monitoring of the CRA following the financial crisis. Other responsibilities of the independent EU Authority include the preparation of future legislation (e.g. technical standards, guidelines), compiling it for “EU financial markets and ensuring consistent application and supervision across the EU” (ESMA, 2015).
With respect to the legislation concerning the CRA themselves, there was no direct regulation until 2009, when Regulation (EC) No 1060/2009 (the Regulation) was issued, setting behavioral standards for credit rating agencies, increasing transparency, introducing supervision and regulation, and enhancing corporate
government standards. Indeed, it may seem strange that it was only after 16 years that the EC saw it fit to regulate this area, but as we have mentioned, historically, there was simply no need for it before that time. However, prior to that, there were several
Directives that could be considered important tools in building the groundwork for the subsequent Regulation – especially as they showed just how absent any sort of regulatory framework actually was when the credit crisis of 2008 hit. They weren’t without their merit. In 2003, Directive 2003/125/EC of December 2003 implementing Directive 2003/6/EC of the European Parliament and of the Council as regards the fair presentation of investment recommendations and the disclosure of conflicts of interest was issued. To elaborate, Directive 2003/6/EC dealt with insider trading and market manipulation, indirectly touching on the work of CRAs since part of their job is the collection of insider information. Directive 2003/125/EC went on to mention credit rating agencies explicitly, highlighting that though their ratings should not be taken as “recommendations to invest”, agencies should “consider adopting policies and procedures designed to ensure that credit ratings are fairly presented” and uphold strict and timely disclosure of interests or conflict of interests to all those who’s credit ratings relate. This rings familiar to the recommendations issued by the SEC with respect to the NRSROs (Conte, 2008).
As we’ve mentioned, after the financial crisis, it became imperative to have some sort of legislation in place for credit rating agencies, and come 2009 the Regulation was passed. It was later amended twice, with several other Directives being issued, but they will be discussed in later sections where applicable.
2.2 IOSCO Code of Conduct
Although not directly part of any State history, due praise must be given to the IOSCO Code, written by over 100 of the world’s securities regulatory authority, issued in 2004, and consequently re-issued in 2008 under a new version (Alcubilla & Pozo, 2012). National regulators from several countries drafted the document, with input derived from rating agencies, investors and their intermediaries. The Code of Fundamentals was adopted in December 2004, stating that each CRA should adhere to its own Code of Conduct, and that these Fundamentals should be supported by strong enforcement mechanisms from the management of the respective rating agencies (Langohr & Langohr, 2008).
The IOSCO Code is a piece of self-regulation employed by choice by the rating agencies. It uses a “comply or explain” mechanism where agencies implement their own Codes and then publish the compliance with the Fundamentals. If there is
any difference, then agencies explain why they do not follow a specific provision. (Alcubilla & Pozo, 2012) The Code is composed with a degree of flexibility,
understanding that the business models, sizes, scopes and rating methods of all CRAs are different. It’s interesting to note that the original Code recommended no
additional regulatory instruments to be implemented (Langohr & Langohr, 2008). We believe this is partly due to the time period it was drafted, as the early 2000s were relatively calm with respect to CRA participation.
The importance of the Code lies in its function as the main source of regulation for the few years before any sort of State legislation was drafted. It was even used for reference when compiling the Regulation in 2009 (CESR, 2008). Today, the IOSCO Code is still implemented by individual CRA as guidelines, but much debate is had with regards to its effectiveness. However, we will not be discussing this, as it is not the aim of this paper.
3 Oligopolistic origins of the CRA market
The oligopoly of the CRA market has caused a dispute in the academic, legal and political worlds. Some are blaming the credit crisis of 2008 on the dominance of S&P, Moody’s, and Fitch, stating that there is no reason to doubt that the lack of competition and conflict of interest were the main cause for the recession (White, 2009). However, there should be some interest in figuring out whether the oligopoly itself formed naturally or was it through a constant moulding of the ever increasing legislation through which the oligopoly came into being. This is important to consider as we believe it could possibly yield the answer as to whether the nature of the market is the main problem that regulators should be worrying about, or is it something that can continue to exist on its own with little, if any, intervention.
In 1975, the SEC made an important decision, which we believe is the primary argument for the “artificial” inception of the current credit rating agency market. The Net Capital Rule was imposed, its main purpose to control and regulate the levels of net capital that companies had. Throughout the document, a constant requirement for two NRSROs to have rated the bonds of financial document forces the financial institutions to seek ratings from the NRSROs on a legal basis (Rule 15c3-1). The influence of the “Net Capital Rule” extended the legal entrance of the NRSROs into the US federal legislation. This automatically “grandfathered” the only
three players on the field, which remain to this day the predominant market shareholders (White, 2007). We believe creating such a high barrier of entry was definitely instrumental in securing the oligopolistic market type.
Another important thing to consider is the unwillingness with which the SEC went towards in identifying and publishing what steps firms needed to become NRSROs. It was only in 2005 that the SEC submitted a proposal to formally define NRSROs (Definition of Nationally Recognised Statistical Rating Organisation, 2005). We believe bureaucracy began playing a large role in creating barriers of entry to the market, especially when conflict of interests arose. It is almost possible to call the oligopoly an “elitist club” prior to the credit crisis, where the CRAs found themselves in a position of utmost demand, unshakable faith and really lenient regulation. Hence, it seems that the oligopoly is undoubtedly man-made, with
overwhelming proof of legislation encumbering any potential new entrants, as well as a historical timeliness of events.
The case for a natural oligopoly does exist, however. Firstly, as we have mentioned, credit rating agencies weren’t widely used outside of the US before the 1980s (Ha-Joon Chang, 2012). Demand was low, so there was no incentive for new entrants to enter the market, leaving the 3 agencies to quietly exist, earning credibility simply through time and the evolution of the financial market (Sylla, 2001). There is evidence to support this, as when the demand did rise in the late 80s and 90s, more firms did appear on the market but they quickly merged amongst themselves and then were absorbed by Fitch (White, 2009). Even though it does seem as if there should have been some sort of anti-trust intervention, it was the unique position of the market that allowed it. Since inception, it was Moody’s and S&P that held the vast majority of market share out of all the credit rating agencies (Zandi et al, 2012). Although exact numbers at the beginning of the multiple mergers are not available, we can assume that Fitch was the third largest firm on the market, simply because it was the oldest. As the newcomer agencies were tiny in comparison, mergers amongst them went by unchallenged, and when Fitch finally ended up absorbing all of them (White, 2009), it was still comparatively on a very small scale. However, we believe those mergers allowed Fitch to become “big enough” to establish it as the third member of the oligopoly.
Secondly, today’s oligopoly is missing an important component, possibly implying that the current market is already in its optimal form, working efficiently.
The missing element is collusion. Unlike in most oligopolies, there is no collusion amongst the agencies, implying that the perceived demand is very elastic (Ryan, 2012). We believe this suggests that prices are at the level they would be in more intensive competition, and that the market has reached some sort of equilibrium on its own, thus from an economic perspective, supporting the notion that the oligopoly had been reached through a natural progression of events. Thirdly, we see credibility as a naturally growing barrier of entry. It is impossible to blame the rating agencies for issuing their ratings when they did, nor for them partaking in a business where credibility is a vital factor for success.
Regardless of these arguments we’ve brought up in favour of a natural oligopoly, there is no denying that regulatory pressures did exist in the forms of legislation. The increase in barriers of entry, especially in 1975, the time period when there could be no way to immediately gauge the consequences, was probably the most influential on the formation of the market. Unfortunately, it is impossible to know how the credit rating agency market might have evolved, if there had not been an intervention from the SEC and the implementation of the Net Capital Rule.
Hence, we can conclude that the oligopoly of the credit rating agency market is a mixture of both. Natural progression played its part until 1975, after which legislation, with respect to CRAs, exerted pressure on the market to rapidly retain the form it was in, skewing natural progression, leaving only speculation as to how it might have evolved without intervention.
4 Problems faced by the credit rating agency market
We have identified the CRA market as one of oligopolistic nature through both natural progression and legal pressure. The further question that one needs to ask is whether this form of existence is a problem for the market, and how would it be a problem if it were one. The financial crisis of 2008 clearly showed how much power credit rating agencies are holding and what happens when ratings are given without proper understanding and misinformation. Subsequently, we look at other issues present in the CRA market. However, one must approach the topic with an
understanding of the interdependency of all of the problems present or the “ number of key intrinsic factors affecting competitive dynamics in this area” as Langohr (2010) states.
Overconcentration of the CRA market has long been held as the primary culprit for the majority of the problems experienced by the financial sector. The lack of any visible competition is cited as the reason for the lengthiness and severity of the credit crisis, as well as the difficulty in combating the consequences that have
followed since (Schneider & Slantchev, 2014). Firstly, there are the dangers that stem from a highly concentrated oligopoly to deal with even during a stable economic environment, namely: insurmountably difficult barriers of entry, price hiking, and collusion (Petit, 2011). Secondly, overconcentration leads to a slew of other
problems, some of the most prominent ones that we identify below. They make the market difficult to manage, and give disproportionate influence to a few companies on matters of global economic scale (Petit, 2011).
To start, a conflict of interests has existed in the market since the 1970s. It arises not only from the oligopolistic nature of the market but also from the market model which most of the players swapped over to during that decade. In 2013, 7 of the 10 NRSROs followed the “issuer-pays” model (Nationally Recognized Statistical Rating Organizations, 2013). It follows the structure of the issuing company paying to have their securities rated, which then leads to the possibility of “ratings on demand” – or as it is more commonly know “ratings shopping”(Skreta & Veldkamp, 2009). As The New York Times explains:
“The banks pay only if [the ratings agency] delivers the desired rating . . . If Moody's and a client bank don't see eye-to-eye, the bank can either tweak the numbers or try its luck with a competitor like S&P, a process known as ratings shopping” (Lowenstein, 2008, April 27).
It isn’t surprising that “ratings shopping” happens, and it could lead to ratings inflation regardless of whether the ratings were given with or without any sort of bias (Skreta & Veldkamp, 2009). However, in terms of legality, we believe “ratings shopping” hits a gray area. On the one hand, as a “customer” of a credit agency, a bank or other financial establishment has the right to seek out a different ratings provider if it is unsatisfied with the services of its current one. However, if they are seeking out another provider because they feel they’re not getting their “money’s worth” for something which definitely affects the scope of their business fiscal gains, then doesn’t it seem questionable that CRAs claim that they are not incentivised in the slightest to meet those demands and consequently inflate ratings?
This leads into the issue of CRAs’ absence of liability. It has always been questionable as to why credit rating agencies enjoyed absolutely no civil or criminal liability until recently, despite their entrenched role in much legislation, especially considering how global the impact of their decisions is (Ellis & Dow, 2014). As of now, there is very little effective legislation that designates any sort of liability to credit rating agencies should (and when) there is evident malpractice, leading to many a frustration from governments and invertors alike.
The oligopolistic nature of the credit rating agency market might pose another problem - political unawareness. However, the issue originates from a different aspect of the oligopoly one might not immediately consider. The problem isn’t the concentration, although it is a factor, but its origins. As we have mentioned,
companies originating in the United States primarily dominate the market. However, these US firms rate not only securities but also issue sovereign ratings to the majority of the globe, severely influencing domestic and regional economies with little to no responsibility or consequence for the US domestic market, or for the companies themselves (Jaballah, 2012). A clear example of this would be the further
downgrading of Greek bonds regardless of the guarantee of the European community of a forthcoming bailout package. Forcing the bond rating even lower caused yields to shoot up, and confidence to drop yet again, making Greece even less creditworthy, saddling it further with its debt and bringing default that much closer (Arezki, R., Candelon, B., & Sy, A. N. R., 2012). A repeat was seen with Portugal, Ireland, Italy, and Spain, downgrades occurring even when the IMF announced bailout measures, effectively worsening the situation for the union as a whole (Graham & Papadimas, 2010, April 27). It isn’t surprising that many feel the dominant CRAs are anti-Europe, following these untimely downgrades (Jaballah, 2012).
There is also the pressing question of developing countries and the effect of credit rating agencies on them. While ratings are given to developing states in hopes of encouraging transparency in investment climate of said countries, CRAs only have a preselected pool of indicators from which they derive their ratings, and the weights of these indicators are not at all set in stone (Elkhoury, 2008). It becomes even more difficult when one grasps the malleable qualitative nature of some of these variables, using which for issuing a rating is very skeptical and a “hit-and-miss” effort at best. Elkhoury (2008) rightly states that there is no uniformity of weighing and scoring of these analytical variables across sovereigns or over time, supporting the idea that
because of the Americanized oligopoly, CRAs do not have enough information to issue sovereign ratings without error. This inconsistency in methodology brings forth the problem of inconsistency in ratings themselves. To explain, take Peru and Malta as an example. In 2015, both have a BBB+ rating according to S&P. Yet while Peru holds only 20.7% of debt to GDP, Malta holds 68% (TradingEconomics, 2015a-b), effectively raising the question of what indicators are CRAs using if debt to GDP, which has always been weighty variable (Elkhoury, 2008), still allows for such a huge variation? Undoubtedly, CRA can issue their ratings, but how accurately do they manage to interpret the foreign investment climate without having specialists on every single state and with information which is often withheld, impossible to collect, or doubtful in quality?
We don’t have to look so far as the developing word for issues of rating quality. Rating quality in turn stems from the issues of inefficient regulation and lack of transparency. Several roadblocks contribute to the ongoing absence of
transparency: lack of secondary market trading information, vendor products shortcomings, private placements, and rating agency disclosure of securitization (FDIC, 2007). Yet, while lack of transparency is evident through the doubtfulness of securities’ ratings during the credit crisis and the complete opaqueness when it came to the rating process, it is much harder to identify what exactly is inefficiently regulated. It can be argued that inefficient regulation of CRAs per se is just pushing the blame off the credit rating agencies and onto regulators (M.C.K, 2013, January 25). In other words we believe it is worth thinking about how regulation is dependent on changes made in other areas of credit rating agencies, as otherwise, regulation will always appear lacking. However, reregulation might have a positive impact, which is supported by the amount of legislation currently being looked at and reworked in multiple areas.
All of the aforementioned lead to a loss of credibility for CRAs. When any financial institution fails its investors during a time of crisis, then the investor will rightly question the future decisions and forecasts of those institutions, causing “information fog” that “is very much associated with the loss of confidence in the credit rating agencies” (B. Bernanke, personal communication, August 7, 2007). Without credibility, the market experiences higher volatility and greater uncertainty (Sobel, 1985). Without credibility, rating agencies can’t do their jobs.
We have identified several of the problems faced by the credit rating agency market at this point in time. We now look at solutions proposed by various
institutions and academics and give our evaluation of them.
5 Solution Analyses
There is a multitude of solutions proposed by academics, politicians and economists from all over the US, Europe and the world. In this section we look at the current proposals, both theoretical and practical, and then give an evaluation of each one according to their nature: economic or legal. It is important to note how different solutions may have a negative effect on a problem that a another solution is trying to solve – a “conflict of solutions”, if you will. We then conclude which ones seem to be the most logical and promising, as well as giving a projection for the near future.
We classify solutions in two ways: new or modified. New solutions are those that have not yet been proposed for various reasons: lacking technological
advancement, level of radicalism, socio-economic environment. On the other hand, modified solutions are those that have existed for quite some time, but are constantly evolving with the changing needs of the market, and the people. We make this distinction on the basis of novelty, as it helps the reader grasp the significance of the proposals, seeing how the newer solutions are practically much larger in scale or offer a new perspective on a long-standing issue. When it comes to the credit rating agency market, the discussion is full of suggestions from both the new and modified sides, although consensus as to the most effective one – if one does indeed exist - has yet to be reached.
5.1 New Solutions
New solutions are those that are completely novel to the issue at hand. They can be from another discipline, of a much greater scale, or incorporating more than one government body. In this case, new solutions are those that drastically change the face of the credit rating agency market, whether in legislation or in form.
Let’s start with the seemingly obvious solution for overconcentration: assisting the entry of another player to the market through various means.
Realistically, this is something only a government or a intra-governmental union could attempt to do, as anything at a local scale would not be strong enough to
challenge the oligopoly for a piece of the market (Petit, 2011). Otherwise, if it were possible, and entry and market share acquire without assistance was viable, then the strength of the current market concentration would be much weaker and the
discussion of how to lessen the oligopoly would be moot.
In 2010, the European Commission expressed their concern about the
concentration of the CRA agency market, citing, as we’ve mentioned before, that the high levels of concentration forbade the market from functioning properly and gave too much weight to the largest 3 CRAs (Commission Consultation, 2010). A
Commission Consultation (2010) was issued, stating that adequate measures would be taken to look into the possibility of the formation of a European Credit Rating Agency/ Foundation. This would allow for the Community to have an entrant into the market with the interest of the Union at the forefront, with resources dedicated to the rating of all Members’ assets with the utmost precision. However, after much
research, in 2012, the Commission announced it would not follow through with such a venture at that point in time. The project itself would amount to roughly 300-500 million euros, spanning over 5 years, and the funding structure proposed would undermine the credibility of the newly - established agency. Basically, the Agency would start out partially public funded by the Member States, the European
Investment Bank, and the Commission before transitioning to become a fully
independent private entity. However, this would be unfair to other private entities and would elicit negative response from investors, damaging credibility of the agency before it could essentially build up any. There was also a reference at the proposal stage for the new agency to be not for profit and rely on revenues earned through its rating issuance (Commission Memo, 2013).
Other proposals from the Commission were circulated in a public
Consultation in 2010. It suggested stimulating new entry through Member initiative, where local governments would enhance competition, inter alia through the creation of new credit rating agencies – whether private or public. Another proposal was that the European Central Bank or the National Central Banks would be the ones to issue ratings through the development of in-house credit assessment systems. Yet another proposal brought up a potential European network of small- and medium-sized credit rating agencies, where these institutions would share information and resources, enhancing competition and allowing them to increase the range of their services and
products, thus providing “alternatives to the services provided by the three major credit rating agencies” (Commission Consultation, 2010).
Not much can be said about the US arena in this aspect. While there is
recognition that the oligopoly exists and it is potentially an issue, with coverage done by the American Banker (2013, September 4), The Economist (2010, May 13), The Wall Street Journal (2009, April 15), to name a few, there is little done by the government itself in addressing the oligopoly as a separate issue. We were unable to find any official documentation from the SEC explicitly stating that the high
concentration of the market constitutes an issue to be addressed which would suggest American regulators being conscious of the favourable position the US holds with an all-American oligopoly. Only one particular move by the SEC could be brought forward as an example of an attempt to increase competition - the SEC opted to change the definition of what it means to be an NSRSO. As a result, several other companies joined the already existing pool of CRAs bringing up the total to 10 (GAO Report, 2010). However, this is clearly an evasion of the issue as it is a superficial solution at best, not addressing the true causes of high market concentration such as we indicated above.
Introducing a new CRA agency to the market seems to be a clearly economically motivated solution: Dilution of the existing oligopoly, allowing for lower barriers of entry, and deflation of ratings. In addition, lessening the power of the dominant rating agencies would allow for regulatory instruments have an easier time dealing with the multitude of other problems (Petit, 2011) as “holding hostage” situations (explained further on) would be less likely to occur. However, we would like to highlight an interesting point made by Ryan (2012) regarding collusion in the CRA market. Economic theory states that companies in oligopolies tend to collude, but in the case of the credit rating agencies this is not the case. The reason, most likely, is that the perceived demand of these agencies is quite elastic – they fear that if a customer is unsatisfied with their rating, they will go to seek it elsewhere. This is very much supported by the existence of “ratings shopping” as we have discussed before (Skreta, 2009). Baring this in mind, we return to the impracticality of a
separate EU Agency at the moment. It is possible the dismissal of this idea was due to the costliness of the proposal and the amount of cooperation required from the
Members. The financial crisis has strained budgets of all the European States, while the on-going Greek debt crisis is causing much friction amidst the Members (Barkin
&Martin, 2015, July 19). However, once there is a more favourable economic environment, it would be worth revisiting this idea at a later date, perhaps with an alternate method of funding. A credit rating agency with EU interests at its core would be very beneficial player to have on the field. There is a contrary opinion, however, presented by Camanho, Deb & Lui (2012) that states that overall welfare will suffer with the addition of a new CRA to the market unless their reputation exceeded that of the incumbents, which is impossible short term, given the current structure of the market. However we believe it might be worth trying to project and estimate the long-term effect of a new entrant, and the possibility of them eventually gaining the reputation that would reverse the initial drop in welfare, and result in another credit agency on the market.
Next, we discuss the solution for the conflict of interests the market suffers from. As we have noted, current investors are unhappy with the “issuer-pays” model and have put it under scrutiny, although surprisingly, nowhere is it stated that the “issuer-pays” model as the binding one, meaning CRA have adopted it and are using it by choice (White, 2007). In Europe, the Commission circulated the prior mentioned Consultation (2010) to see whether the Community saw it fit to consider an alternate model, considering its history. They came up with several: the “subscriber/ investor pays” model, the “payment-upon-results” model, “trading-venues-pay” model, “government as hiring agent” model and “public utility” model. The “trading-venues-pay” model is quite simple: The venues, which list the credit rating agencies, would be the one to pay for their ratings. Those that are not listed would then follow the “subscriber-pays” model. The “government as hiring agent” model proposes that a newly formed Credit Rating Agencies Board would be the one to select a credit agency at random or based on a certain set of criteria. The issuer would still be free to either disregard the rating or hire other credit rating agencies in addition to the
assigned one. The “public utility” model implies the creation of a new government credit rating agency that would allow investors to “check” and compare the ratings of the newly formed institution to the ratings issued by the private CRAs (Commission Consultation, 2010). We would like to note that the “government as hiring agent” model and the “public utility” model are somewhat unique with their proposals as the concept of a governmental presence is considered in what has been a solely private arena.
However, the most interesting model, by far, is the “subscriber/investor” pays model. It’s aim is to transfer the power from the issuer to the investor, with three possible ways proposed on how the investor will be able to exercise it. The first option is that the investor would be required to attain an investment rating on his own in the addition of the one provided by the issuer. Thusly, two independent ratings would exist, and other credit rating agencies would be free to give unsolicited ratings should they so wish. The second option talks about mandating and encouraging investor-owned CRAs to form. Since there would be incentive to promote investors’ interests, the hope here is that they would issue ratings beneficial to the investor side of the market. The third possibility is that CRAs would be hired by a group of investors below their “wholesale” price, and the agency would then give an independent rating to everyone in that group (Commission Consultation, 2010).
Remarkably enough, researching for an alternative model has been one of the main interests of the SEC, but it can be explained it by Section 939F of the Dodd-Frank Act which requires them to conduct research on credit rating agencies and their market (IFLR, 2012). The Section states that the US Commission shall carry out a number of studies on credit rating agencies, report their findings as well as give their recommendations, after which it will exercise its rulemaking authority as it sees fit (Dodd-Frank, 2010). Unsurprisingly though, some of the proposed models mirror the ones offered by the European Commission such as the “investor-owned credit rating agency (IOCRA)” which is identical to one of the ways proposed for an investor to exercise his power in a “subscriber-pays” model as well as the “user-pays” model which is the “subscriber-pays” model itself. The new models as proposed by the US Commission (Report to Congress, 2012) are the “stand-alone” model, “designation” model, “investor-owned rating agency” model, “alternative user-pays” model, and the “issuer and investor-pays” model. The “stand-alone” model would have the NRSRO receiving payment though transaction fees and the agency would be compensated throughout its life based on these fees. The ratings would be free to the public. The gist of the “designated” model is the following: Investors would designate which NRSROs they send fees to, depending on the proportion of securities that the investor owned. The issuer would have to provide information to all interested NRSROs and then send the fees to a third party, which would redistribute them depending on the designation of the investors. Basically, investors would decide who got paid, but were not the ones to pay, with that responsibility still on the issuers. The “investor-owned
rating agency” model sounds similar to the “investor-owned credit rating agency”. However, it has a few distinctions, namely that the majority of their boards would be made up of the largest income investors who’s economic interest in the IORAs would be minimal, and their extent in the function of these agencies would depend on the type of shares that they own. The final two models are the ones we consider of most interest. The first is the “issuer and investor-pays” model where NRSROs would be placed in a continuous queue, and rate when their turn came, unless they weren’t able or opted not to. In the future, assignments would be given based on the performance of the NRSROs. The fees would be collected from issuers and investors and pooled in a fund, from which a third party would award payment the selected accredited
NRSROs. The second is the “alternative user-pays” model. Again, to summarise, NRSROs would essentially bid on the right to issue ratings with a board or agency determining the best way to allocate the right (Report to Congress, 2012). The way of financing this model is certainly novel, with the issuing of debt being considered.
The likelihood of the acceptance of a new – or old, depending on ones
perspective – model seems to be growing in recent years. The disastrous implications of the current agency problems existing due to the “issuer-pays” model have caused much doubt and uncertainty both in the investor community and the governments and heavy research has been done on the effectiveness of an alternate model. Academics seem to be in agreement that a change needs to happen: Deb & Murphy (2009) draw up an alternative model that would line up with the investors’ incentives, and have a positive impact on the commercial side of the industry, since they take into
consideration of why the “subscriber-pays” model was switched over from in the first place – low profitability. They take into account the potential problem of free-riding and the possibility of a drastic impact to agencies revenues, proposing that there would be a government subsidy supplement that would make sure enough resources are available to agencies. However, Bongaerts (2013) states that any change to the model would require heavy regulatory intervention, which we think, following the current increase of legislation at the moment, might be met with rebuttal from the public at this point in time. However, the potential of an alternative model is huge, and we believe this is the right direction to continue research in.
It comes to no surprise that another pressing matter in the market is the liability regime for CRAs, especially in the aftermath of the crippling Great
consequence, taking advantage of their unique standing in the legislation (Regulation (EU) 462/2013). However, holding credit rating agencies liable for their ratings is not something that is particularly novel. Of note is the landmark case of Bathurst
Regional Council v. Local Government Services Pty Ltd (No 5), where a group of 12 Australian Local Councils pressed charges against S&P for “misleading and
deceptive” AAA ratings it issued to a constant proportion debt obligation. Even though the case in a far corner the former colony of the British Empire, this was the first time a CRA was held legally responsible for the ratings that it issued, holding it liable for “negligently misrepresenting the creditworthiness of securities in common law jurisdictions” (McKenna, 2012).
The United States is where we come face to face with a few interesting legal phenomena. For one, credit rating agencies managed to avoid being held liable for a very long time through both definition and legislation. CRAs held firm that their ratings were definitively nothing more than opinions, albeit widely used ones, and that they were financial analysts collecting data and publishing it for the use of the public (White, 2009). Consequently, when investors brought lawsuits against CRAs under the tort of negligent representation, the court found the agencies protected by the First Amendment of free speech and freedom of the press, allowing the rating agencies to hold no liability (McKenna, 2012). Courts therefore only applied the “actual malice” standard when looking at credit rating agency liability (Jones, 2010). Following the decision of Fait v. Regions Financial Comp., investors must prove that credit rating agencies did not believe the ratings that they were issuing at the time of their issue. Secondly, as of 2010, legislation does officially exist to hold credit rating agencies accountable for their ratings under certain criteria. The Dodd- Frank Act requires the SEC to hold credit rating agencies to the same standard as auditors and lawyers face when filing financial opinions with an agency. Take into account that we say this legislation officially exists for a reason. Agencies began lobbying the
legislation as soon as it was issued by threatening to withhold any further ratings (Eggen, 2011, April 10). This would have led to a breakdown in the credit market, in particular the asset-backed securities market – of which mortgage-backed securities are a part –which accounted for 25% of the 56.7 trillion dollar debt at the end of 2013 (U. S. FED, 2015). Consequently, in fear of causing another stagnation in the world economy, the SEC immediately backed down and gave 6 months for the agencies to officially get adjusted to the new rules (McKenna, 2012). Thus, a “hostage” situation
appeared, with rating agencies effectively controlling the actions of regulators. CRAs are managing to keep the SEC right where they want them, while disregarding the potential repercussions their non-compliance could lead to in the world credit market.
In 2013, the European Parliament and the Council passed Regulation (EU) No 462/2013 amending Regulation (EC) No 1060/2009 on credit rating agencies. Title IIIA was inserted with Section 35(a) being added specifically dealing with civil liability. It states:
“Where a credit rating agency has committed, intentionally or with gross negligence, any of the infringements listed in Annex III [of the CRA Regulation] having an impact on a credit rating, an investor or issuer may claim damages from that credit rating agency for damage caused to it due to that infringement”(Regulation (EU) No 462/2013).
It also states that any gaps in the law not covered by the legislation can be covered by national law, which indicates the possibility of slight variations in legislation
regardless of the attempt at unification (Regulation (EU) No 462/2013). It is also worth noting that the legislation passed and the Proposal (2011) by the Commission made earlier vary significantly in several areas. For one, it did not reverse the proof of burden, even through the proposal clearly states that there is clear incentive to do so (Commission Proposal, 2008).
It is important to make the distinction between civil and criminal liability and to take into account that CRAs are only being brought to courts on account of civil liability. Civil law is mostly compensatory whilst criminal law is largely punitive, hence credit rating agencies must only compensate for what they have deprived their investors of rather than be forced to give up wealth – usually in the form of monies – as punishment. Criminal liability of corporations is also know to irreversibly damage their reputations, showing that it can lead to corporate shutdown as with the case of Arthur Andersen (Ellis & Dow, 2014). Hence, the few suggestions that have surfaced on the possibility of holding credit rating agencies criminally liable were met with significant criticism for multiple reasons. The biggest hurdle is the difficulty of applying criminal liability to corporations in general. While a private person is pretty straightforward to charge for a crime, a corporation is a legal entity and the mens rea – the intent – has always stood as a barrier to attaching criminal liability to a
staffed by many individuals, so who exactly is responsible for a crime when the corporation as an entity can’t possibly have the intent of wrongdoing?
Attaching civil liability to credit rating agencies is evidently and undeniably a step in the right direction at curbing the shirking of responsibility that CRAs have enjoyed until recently. Despite the fact that there is still much avoidance done by the agencies regardless of the implementation of new liability regimes in both the United States and the European Union, we believe placing more power into the investors’ hands by allowing them to hold CRA responsible for their ratings is a positive step. The real question stands with the possibility and reasonable basis for implementing criminal liability in the near future. We argue the concentration of the oligopoly is a factor that serves to protect it from acceptance of any such legal initiatives. There is no precedent to the effects of criminal liability on a rating agency and what
qualitative loses the agency may suffer. We could assume the rare case of corporate meltdown of all 3 credit rating agencies following a several criminal trials.
Potentially, the credibility loss could be so great that they are forced out of the market all at the same time as with Arthur Andersen (Ellis & Dow, 2014). This would leave it in a state of no dominant or prominent CRAs that might lead to another stagnation of the financial market in the short run. However, one might want to look at this example as a two sided coin: after the stagnation, there could be the opportunity for all credit rating agencies to have equal footing in gaining global market share. It is an interesting situation to consider; what would happen if all credit rating agencies were given an equal start in current economic conditions? Hence, it could be assumed that should it happen that criminal liability completely destroys any remaining credibility of a certain agency, it is entirely possible for it to have a long-term positive effect. However, all of this is speculation as we have mentioned, criminal liability has not been introduced to the CRA market.
5.2 Modified Solutions
Modified solutions are all linked by one factor: they all revolve around reregulation. In essence, that is why we classified them as modified. Legislation “made a stab” at regulating these areas in the last decade, and failed. Or the needs of the investors have changed. Or there is finally the advancement needed for such legislation to be efficient. Regardless, all modified solutions are tied to the law in
some way, as it is the primary instrument of governments and the easiest to manipulate for results.
The reregulation of CRAs is a very popular solution as it might have the chance to improve several problems at once and as mentioned before, forces the majority of the work onto regulators instead of CRA executives (The Economist, 2010, May 13). The main argument is that the problem with the CRA market is not economic (i.e. the oligopolistic form of the market doesn’t matter…) so much as legal (i.e. …as long as it functions properly). There is the choice of increased regulation and deregulation and understandably, the SEC and the Commission see more stringent regulation as the optimal solution. The main opposition to increased
regulation stands the argument that it will be nothing short of securing the incumbent firms of the market, raising the entry barriers to new heights and thus almost
guaranteeing a 3-man dominant oligopoly to continue uncontested (Petit, 2011). Before we continue to see the types of reregulation currently in motion, one particular extreme should be mentioned with respect to modified solutions. As throughout history, even now, there have been proposals to leave the market untouched as a whole (OECD Hearings, 2010). This is a minority view but nevertheless, the argument persists. We summarize it in the following way: The dispute hinges on the fact that the credit rating agencies on average preform with a decent amount of accuracy, as they give the most accurate ratings possible given in whatever the financial environment is at that moment and therefore there is no need for a “forceful” increase in players or otherwise any sort of regulation whatsoever (OECD Hearings, 2010). Unsurprisingly, the primary backers of such a solution are CRA executives. However, it’s easy to see where they’re coming from: if we are to believe their claims (and as courts have shown with their past rulings, we do), CRAs give the most accurate ratings given their current pool of information and the
economic situation (Ponce, 2009). There is nothing preventing them from giving their best-informed rating, and therefore credit rating agencies are performing exactly the task they were assigned to, so why do we feel the need to change them? Nevertheless, despite being voiced, we think the likelihood of this solution is slim to none. Many relevant variables are ignored when it comes to such a viewpoint and it shows a conditioned ignorance of rating agency dynamics in the world arena should one continue to pursue such a line of thought.
The difficulty that comes with finding a viable and efficient solution that stems from solution interdependency, as well as the aforementioned “conflict of solutions”. In addition, there is the intricacy and complexity to consider in the areas that they are trying to solve. This is why credibility, transparency, and quality issues aren’t straightforward in their solutions. It is partly because of their qualitative nature, and the difficulty of pinpointing exactly what steps need to be taken for their
improvement, but we think this could also be due to the avoidance of these areas by the credit rating agencies themselves, especially when they have enjoyed much ambiguity in all three. As we have noted before, no matter what legislation is passed, CRA need to be proactive in implementing it, otherwise it is simply an empty gesture with no real effect. Regardless, this doesn’t stop the Commission or the SEC from attempting to rectify the issues, despite the current stance of the CRAs, which is mostly lobbying and having their own way. In 2012, the Commission published their first set of technical standards:
“These technical standards set out: (i) the information to be provided by a credit rating agency in its application for registration to the European Securities and Markets Authority (ESMA); (ii) the presentation of the information to be disclosed by credit rating agencies in a central repository (CEREP) so investors can compare the performance of different CRAs in different rating segments; (iii) how ESMA will assess rating methodologies; and (iiii) the information CRAs have to submit to ESMA and at what time intervals in order to supervise compliance…The regulatory technical standards will ensure a level playing field, transparency and adequate protection of investors across the Union and contribute to the creation of a single rulebook for financial services” (European Commission, 2012).
There has been several EU Commission delegated regulation passed in 2015, primarily to do with improved technical standards when reporting (Regulation (EU) 2015/3), technical standards on disclosure requirements for structured financial instruments (Regulation (EU) 2015/2), as well as technical standards for the
periodical reporting of fees charged to CRAs for their supervision (Regulation (EU) 2015/1). Prior to that, the Commission has accepted Decisions in recognition of supervisory frameworks of a multitude of states, including the US, Australia, Singapore, Hong Kong (European Commission, 2015). This is another step towards transparency as it attempts to streamline supervisory standards. In the United States,
the SEC adopted Credit Rating Agency Reform Rules in 2014. They were new requirements to “enhance governance, protect against conflicts of interest and increase transparency to improve the quality of credit ratings and increase credit rating agency accountability” (SEC, Press Release, 2014). The rules implement certain requirements in rulemaking under the Dodd-Frank Act. Now CEOs must attest to the effectiveness of the internal control of their company and there must be certification provided with ratings proving that business activities did not have an impact on those ratings (SEC, 2014-178).
With respect to quality, the common consensus seems to be that CRAs in the desperate need of uniformity of variables upon which ratings are given (Elkhoury, 2008). In other words, rating methodologies must become more transparent and accessible to the public, as well as have some sort of uniformity between credit rating agencies. We also believe that variables should be picked on the basis of importance for the rating, not the perception of the client. In other words, agencies should be willing to fulfill their duty for what they were hired, regardless of the fear that clients could go “ratings shopping”. Alas, to make matters even more complicated, Skreta (2009) presents proof that under the current “issuer-pays” model adding another entrant to the market will cause for more, and not less “ratings shopping”: the problem of bias would only be increased as there would be more ratings to choose from! Essentially, unless we change the model and see if “ratings shopping” exists under it, we will be in danger of worsening “ratings shopping” should there be an increase in the number of incumbents. This would increase the fear of those
incumbents of “ratings shopping”, thus incentivizing CRAs to be even more vague in their methodologies. In cases like this is where solution interdependency is the most prominent. As we try to solve the problem of quality, we run into problems regarding overconcentration and conflict of interests. A solution that might work for one area might not consider, or potentially worsen, another problematic area.
However, indicator selection based on importance for the rating might also solve rating inconsistency across countries, as common indicators would be used, allowing for sovereign ratings to finally be properly comparable. We think, however, that this aspect needs to be approached with extreme caution. It is possible that with zealous “weeding” of the less important variables, there is a possibility for an omitted-variable bias to appear, as there might be a lack of information when the rating is compiled. This might lead to the reintroduction of the same number – or
possibly more - variables, causing the problem to resurface in an even strong incarnation.
Lastly, there comes the question of the strengthening of credibility of the credit rating agencies. We left it for last for a specific reason: credibility is the hardest to obtain while being the easiest to lose (Sobel, 1985), and credit agencies have a long road ahead of them in gaining it back from investors. We believe if CRA attempt to improve overall, then they shall retain credibility through showing the market that they are dedicated to providing the best possible rating for investors. Regardless, it is a long way for them, one that they have only begun.
5.3 Projections for the future
We have analysed the current solutions being offered by the SEC and the European Commission. In this section, we offer our own and summarise our opinion on the potential direction of CRA legislation in the future.
At the beginning of the year the European Commission launched a call for Tender MARKT/2014/257/F for a study on the feasibility of alternatives to credit ratings and the state of the credit rating market (European Commission, 2015). The SEC is looking to eliminate all references to CRAs in legislation (Dodd-Frank, 2010). The Office of the Comptroller of the Currency is seeking comment on two advanced notices regarding alternatives to credit rating agencies for the use in OCC regulations (OCC, 2011). Representatives of institutions such as the European Central Bank are weighing in on the need for alternative models (Bongaerts, 2014). The world is calling for a change from credit rating agencies, and it is only a matter of time before a breakthrough happens.
Credit rating agencies cannot choose one area to focus on due to the
interdependency of their actions. As it was shown, an improvement in one area might lead to a negative outcome in another one, and unless multiple variables change at the same time, credit rating agencies might perpetually be stuck in a legislative “limbo”: legislation will try to solve a certain issue while worsening another, causing for further legislation to be issued to remedy the new now-problematic sphere, which in turn clashes with yet another problem, causing a perpetual loop. With globalization playing an even greater role in today’s society, it is also vital for a rapid streamlining
of legislation so that CRA find it easier to establish themselves beyond national borders.
We believe that there is one prospective way that the situation can evolve from this point on, and none of them is with CRAs enjoying the freedom that they have until now. Based on the amount of research done by independent and
government bodies, a change in model seems as the most likely outcome in the near future. For one, this will remove the need to immediately consider criminal liability, as the new model should yield better performance and civil liability should suffice, if and when needed. A new model would potentially solve “ratings shopping”,
incentivise companies to increase transparency and quality of ratings, which would finally lead to an increase in credibility overall. If the model is specifically a
“subscriber-pays” one, then credit agencies might possibly be incentivised to help the investor as much as they can, potentially eradicating all conflict of interests.
However, it all comes down to the co-operation of credit rating agencies, regulators and intermediaries on both national and international levels. It is only with combined efforts that any of the proposed solutions will be successful, and there is a lot of effort yet to be put in.
6 Conclusion
Credit rating agencies provide the financial sector with a very valuable service – the assessment of risk of various investment instruments. However, during the past decade, especially after the credit crisis of 2008, attention has turned towards the oligopolistic market structure and issues highlighted by a very stressed economy. The goal of this paper was to identify the origins of the oligopoly as well as present analyses of the solutions currently being considered at to aid the market in its functionality.
First, a brief historical overview shows that credit rating agencies originated in the United States, and that regulation of CRAs did not begin until 1975, with Europe only beginning to implement legislation in 2009. Basing the discussion on historical progression as well as current legislation and its tendency to try and distance CRA from regulation led to the following conclusion: the market oligopoly was formed though a mixture of natural progression and regulatory pressures.
Second, problems were identified currently prominent in the CRA market, directly or indirectly tied to this high concentration and lack of completion. Subsequently, a classification of these solutions was implemented on the basis of their novelty in the current financial climate, their implementation scale, as well as their potential impact. Through extensive analyses of various articles, legislation, regulatory proposals and news sources, the options of adding new entrants to the market, the benefits of re-establishing a “subscriber”-pays model, the current progress of introducing civil liability to credit rating agencies and the possibility of criminal liability being implemented, were explored. Reregulation was also considered as a tool to gain more transparency, aid with credibility of the institutions and quality of ratings, as well as help with methodology and rating inconsistencies.
Lastly, as a result, future prospects for the market were identified, but with the understanding that without a commitment for cross-continental cooperation and a significant improvement of the investment environment they lack substance. These analyses show solutions to be interdependent and a focus on only one may bring negative consequences. An argument is made that a change in model is the most prospective outlook in the near future.
However, this paper has its limitations. First, commentary could only be given on the legislation that has been proposed and/or passed. Since the regulatory
environment is dynamic, changes might have occurred since the completion of this work. Second, it would be good to further extend the research into the economic aspect, working out an optimal model based on a set of quantified indicators. Lastly, it might be interesting to include proposals from Asian, American and South-Pacific countries as well, especially India and China, as they are the two most dynamic economies present.
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