Sovereign Credit Ratings: EUC Report

Lord Kerr of Kinlochard Excerpts

Tuesday 15th November 2011 Lords Chamber

[Lord Kerr of Kinlochard]

I will not follow the noble Lord, Lord Foulkes, into his trenchant criticism because most of it seems to apply to the role of the credit rating agencies in respect to private issuers; I will stick to the sovereign risk role which is discussed in the admirable report from the committee chaired by the noble Lord, Lord Harrison. I was a member of his committee and he has presented our report clearly. I have virtually nothing to add on the substance.

I do not believe that the credit rating agencies performed very well in the nine or 10 years leading up to the financial crisis. It is very odd that Ireland stayed on an AAA rating from 1999 to 2009—an extraordinary rating—and it is pretty odd that Greece was left by Moody’s unchanged from 2003 to 2009 and then shot down nine notches in under a year and a half.

One of the minor elements in the Commission package of proposals announced today may be quite useful: the idea that there should be more frequent reviews. It suggests six months, which might be worth considering. Most of the other bits in today’s package that seem to be good are the omissions from the rumours of what would be in the package. I do not at all agree with the noble Lord, Lord Foulkes, that it would have been a good idea that the Commission should, as it floated in the summer, put forward the idea of an EU-sponsored, public-sector-paid-for, CRA. That would be a very bad idea for the reasons that the noble Lord, Lord Harrison, has explained. As our report points out, it would be assumed in the markets that,

“EU governments … would have undue influence over its decisions”.

I am puzzled about the present situation of the other very bad idea—it was not floated before we wrote this report, and therefore is not in this report—of the ban on credit ratings, and the power of ESMA to impose temporary exceptional bans. That seems to me to be a rotten idea for a lot of reasons, particularly the one given by the noble Lady, Baroness Noakes, and the noble Lord, Lord Vallance. The moment a credit rating agency signalled that it was under a ban—and it would have to do so, so that the market was not misled into thinking that the previous rating was its considered judgment as of that day and in future—the market would at once react severely, with a panic sell-off of the relevant sovereign debt.

I am very glad to know how the Minister rates these strange events in Brussels today. It looks as if there was a debate in the Commission, and Commissioner Barnier did not win. The text that it has put out today, which explains the draft directive and the draft regulation, says that ESMA will be granted the power to ban sovereign ratings, although such bans would be temporary, exceptional, and subject to strict conditions. In the press release, Monsieur Barnier says,

“The possible suspension of sovereign ratings is a complex issue which … merits further consideration”.

I disagree. It is straightforward, it is black and white, and it is a rotten idea. I hope that the postponement is sine die, and that the Minister may be able to throw some light on that.

There is, in a way, a philosophical problem here. It has been inherent in a lot of things in the European Union since the beginning. Monsieur Barnier says today in his press release that, ratings,

“are not just simple opinions”.

Oh yes they are. That is exactly what they are. We say in our report that investors should not rely on them,

“as an authoritative indicator of creditworthiness, but view them as opinions … to be balanced and confirmed by other market indicators”.

We say caveat emptor should rule. That is because we believe in markets. You could caricature the Barnier philosophy as Colbertian. Ours you could perhaps overwrite as Adam Smith. On one side we have a dirigiste philosophy, and on the other we have the invisible hand. That debate has existed on a lot of much more important matters than this one, and on the whole it is going the right way. The arrival of the Scandinavians and the eastern Europeans has meant that the Colbertians are definitely a minority in the European Union now. I hope the postponement of the idea of suspension means that this issue is also going the right way. The press reports that in the debate in the Commission the British and Swedish commissioners were arguing against the proposal, and that seems plausible. Possibly the debate in the Commission is going the right way because of the admirable report produced by the noble Lord, Lord Harrison. Let us say it could certainly be a factor.

I have a little time left and I want to use the rest of it to raise a slightly wider issue. In the financial crisis and the subsequent lessons-learnt exercises such as the G20, there was general agreement on the need for changes in financial regulation. For EU members, that means changes in EU regulation. I say to the noble Baroness, Lady Noakes, that the Commission is doing its job when it produces drafts. The one produced today is minor, peripheral and not very important. Some of them are very important indeed. Some of them are very silly. In my view, the Tobin tax proposal is very silly and likely to fail for that reason. Some of them are a bit Colbertian and need to be exposed to a good Adam Smith critique, but they are not cooked up on a whim.

This country was part of the international consensus on the need for changes and the Government in whom the noble Lord, Lord Myners, played such a key role was part of that consensus. I say to the noble Lord, Lord Myners, that Michel Barnier is a serious politician who had a long career as an elected politician in France and has had previous successful terms as a commissioner. We should not regard Barnier as a figure of fun. He is not a figure of fun. Nor should we regard some of these regulations as daggers aimed at the heart of London. They are not an anti-British conspiracy. Of course, since they are about financial regulation and the London market is the biggest and most important European market, they are particularly relevant to London.

It is very important that this country plays a central part in the legislative process, making sure that the voice of Adam Smith is properly heard. That might not happen if we were to come to be seen as unconstructive and to describe ourselves as sceptics; if we were seen to be hectoring and unsympathetic in the current debate about the eurozone; if we were showing that we were unaware of what the German constitutional court says, or even what the treaties say; if we were seen to be criticising our partners for prevarication and pusillanimity and delay. They are dealing with a very serious problem. Remember the parable of the bacon and eggs. The 17 eurozone members are the pigs; the 10 non-eurozone members are the hens. Our contribution might be quite useful; theirs is a matter of life and death. This is their currency we are talking about. If, unlike some of the other 10 non-members, we are absolutely determined not to provide any eggs, perhaps we would do well not to cluck quite so much. Perhaps a period of silence, as a great Prime Minister once said, might be called for.

Diplomacy often consists of getting someone else to put forward our ideas as his. He cannot do that if we have already shouted about them aggressively in public, and he will not want to do it if we have previously lambasted him for not acting on them already. I do not expect the Minister to respond to these thoughts but I hope he will take them back with him as he wends his weary way back to Great George Street, where I used to work, and make my successors think about them.