Sovereign Credit Ratings: EUC Report

Lord Monks Excerpts

Tuesday 15th November 2011 Lords Chamber

[Lord Monks]

My Lords, it is a puzzle to me, as it is to some of you, that the three major credit rating agencies, which have made such great errors of judgment in recent years, managed to survive and to prosper. Yet that is the story of the big three, and despite their level of failure investors certainly take notice of their assessments. I can sympathise with what my noble friend Lord Myners said about perhaps not taking them so seriously, but the reality is that many people do and they are a significant influence. I am afraid that we cannot belittle them and pretend that they are a marginal influence. At the very least they are an alibi for investors, with their boards, to say, “Well, it got AAA ratings”, or whatever it was on a particular investment that has gone wrong.

Let us look at their record briefly. Enron was rated AAA. In addition, there were the sub-prime mortgages mentioned by my noble friend Lord Foulkes. The display of a near-fatal lack of curiosity about the people to whom sub-prime mortgages were being sold—mainly people who were low paid and in precarious work—in the United States, was curious, to say the least. Somehow, it was forgotten that there was a risk to those people on the margins of home ownership if interest rates rose a bit and real estate prices fell. The credit rating agencies missed that point. A lot of people missed a lot of points in the economic crisis, as we know, but the credit rating agencies were somewhere at the heart of what went on. They were not on the margins in the C-stream, making comments that people took little note of.

Now the agencies are passing judgments on the troubled eurozone countries. I do not think that they are doing so with much sensitivity to the consequences of their judgments. Several noble Lords referred to the mistake about the downgrade of France last week. The mistake was corrected promptly, but that correction has proved insufficient to quell nervous markets, which had already been betting that France would soon lose its coveted AAA rating. The announcement of the downgrade, therefore, should have been very carefully checked before the judgment was given in the first place, given France’s linchpin position in the eurozone crisis. It clearly was not checked.

Before 2008, credit rating agencies gave dodgy products the benefit of nearly any doubt, provided they were being paid by the issuers of the debt. Now they seem to be compensating for their earlier misjudgments with strict assessments of the sovereign debt of individual countries. I do not believe that there is a conspiracy to do down Europe or the euro. But I do believe that incompetent businesses in a key area like this should pay a price and not fly free.

I congratulate the European Union Committee on the way that this was presented by my noble friend Lord Harrison, and on the analysis, which hits the right note about these agencies. I am more sceptical about the central recommendation, that a more competitive environment will be enough to raise standards. It is obvious that a more competitive environment—as the noble Lord, Lord Vallance, said—could lead to a bidding war between agencies to curry favour with their potential customers.

I do not share the scepticism that several noble Lords expressed about the European Commission proposals. I am not quite sure exactly what the status is of the proposals that were issued this afternoon, but I would not rule out the idea that agencies’ conflicts of interests could be better regulated. Nor would I rule out the idea that agencies might refrain from action during the rescue of a particular country with sovereign debt problems. It is fairly clear that a country in such a position is already in big trouble, without Standard & Poor’s coming along and possibly giving an inaccurate judgment on the situation that the country finds itself in.

I would like to see a register of past performance of credit rating agencies—where they have been right or wrong. That would aid transparency in what is a difficult and risky area.

The other proposal the European Commission was set on—whether it is in the final proposals remains to be seen—was the idea of a civil action in the event of bad advice or a bad rating. People in professions have to pay a price if they are negligent in some way. I do not think that there should be a rush to judgment, or a rush to say that this is another example of Europe trying to barge into the sacred fields of the City of London. The City of London’s future cannot be as a greater Monaco—slightly offshore—if it is to thrive and meet the top standards in the country. It should be welcoming good standards, not appearing, as it often does, to be pushing them away. I do not agree with my noble friend Lord Myners in his judgment of Commissioner Barnier.

I ask the committee, in its future work, to look carefully at the proposals of the Commission to add to its own. We can perhaps find some degree of unity. The Government’s position was reasonably positive: to place a tighter rein on the agencies and develop a more reliable system than the current dangerous oligopoly.