MEPs Fail To Agree New Credit Rating Agency Rules
Friday, March 18, 2011

Additional rules for credit rating agencies (CRAs) to clarify their working methods, boost competition and reduce the financial markets’ reliance on their ratings, were proposed in the Economic and Monetary Affairs Committee of the European Parliament (EP), but they did not find unanimous support.

The European Commission (EC) is due, in the next two months, to table legislative proposals on further rules to govern credit rating agencies, particularly in the light of developments during the euro debt crisis. It has been particularly concerned at the possible over-reliance on external ratings by financial institutions and institutional investors that do not carry out sufficient internal credit risk assessments.

The EC has also consulted on whether further measures should be applied to sovereign debt ratings, which play a crucial role for the rated countries. Such measures could be introduced to improve transparency, monitoring, methodology and the process of sovereign debt ratings in European Union.

It is also considering the provision of increased competition within the CRA sector, which is made up of only a handful of big firms and where there are high barriers to entry. Concerns have been expressed by the EC that the rating of large multinationals and structured finance products is concentrated in the hands of only a few CRAs, and that this lack of competition could negatively impact the quality of credit ratings.

The MEPs in the Committee advocated creating a European credit rating foundation (ECRaF), and called for special attention to sovereign debt rating methods, but it was also on those two points where its members found the most discord. The Socialists chose to abstain on the Committee’s resolution, with a view to amending the resolution before the EP as a whole votes on it.

The resolution refrains from significantly reducing the scope for private CRAs to rate sovereign debt, as had initially been advocated, for example, by the Socialists. It nonetheless calls for more light to be shed on how CRAs arrive at their sovereign ratings, and says they should explain their methodologies and why their ratings deviate from the forecasts of the main international financial institutions.

The other bone of contention was about what structure to propose to provide a European counterweight to the three largest CRAs, which are felt to be too dominant. The resolution calls on the EC to carry out a detailed impact and viability assessment for a fully-independent ECRaF, with funding from the financial services industry made available for the first five years.

The resolution advocates a series of measures to reduce current dependence on a very few sources for credit ratings. These include increasing the use of internal credit ratings, particularly by large financial institutions with the capacity to carry out their own risk assessments, and boosting competition. Market participants who are unable to carry out risk analyses in house should not be able to invest in structured products, or else should be able to do so only at the highest risk weighting.

The MEPs also looked at ways to hold CRAs to account for the advice that they give. The Committee is calling on the EC to identify ways in which CRAs can be held liable under member states' civil law.

It is also suggested that all registered CRAs should assess the accuracy of their past credit ratings and make these assessments available to supervisors, and that the European Markets and Securities Authority should be empowered to conduct unannounced checks on these assessments.