Financial Reform Targets Credit Rating Agencies

By Daniel Wagner, AP Business Writer

WASHINGTON (AP) — Before the financial crisis, surging home prices led investors to pour trillions into investments backed by mortgages. Investors felt confident because credit rating agencies had judged these investments to be safe.

They weren't. The safe ratings had gone to investments backed by some of the riskiest mortgages. When the agencies downgraded them by the billions, it helped trigger the financial crisis.

The financial overhaul bill before Congress aims to hold the agencies accountable for sloppy analysis that produces inaccurate ratings.
Yet it barely addresses the agencies' central conflict of interest: They're paid by institutions whose products they rate. Critics say the agencies yielded to pressure to give high ratings to risky investments.

Here are some questions and answers about how rating agencies would be affected by the bill, which Congress is expected to approve:

Q: How would the bill help make the agencies' ratings more accurate?

A: The agencies could be sued if they recklessly ignored an investment's risks in assigning a grade. It's impossible to sue them now. Ratings are considered constitutionally protected free speech.

The agencies would face tighter regulation. A new office within the Securities and Exchange Commission would examine them every year and could fine them for breaking its rules. An agency's right to issue some kinds of ratings could be revoked if the agency's ratings too often proved inaccurate.

The agencies also would have to disclose more information about their track records and rating methods.

Q: How would these rules affect financial institutions?

A: Banks will be discouraged from shopping around for an agency that will give the highest rating. The exact method will be decided after regulators study the issue. One option is to have rating agencies assigned randomly, in a process overseen by regulators.

Banks and investment companies might sue agencies that issue inaccurate ratings.

Big investors, like pension funds and asset-management firms, will know more about how agencies assign ratings. That might lead them to shift investment strategies.