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Monday, February 11, 2013

A Rating Agency Fix

I fail to see how "open[ing] up the duopolistic world of rating agencies to greater competion" would result in "better performance" unless the business model is also changed (On the Waiting List at the Debt Rating Club. Sunday Business, February 10, 2013: B1, B7).

If the issuers still employ and pay the rating agencies, more competition will result in a drive to the bottom, with raters giving high ratings to worse and worse debt issues. The problem is that an investor cannot detect a low quality AAA rating until after the issuer has defaulted.

In my view, there are only two solutions. Either, have the raters paid by the purchasers of the debt, perhaps through a tiny Tobin-type tax, or nationalize the rating agencies and have a government agency carry out the ratings. I would favor the prior approach as competition would encourage accuracy in the ratings.

Sent to New York Times

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