Brussels agreed on stricter rules for credit rating agencies which will ultimately try to reduce the over-reliance on external ratings, requiring financial institutions to strengthen their own credit risk assessment.
"Rating agencies will have to follow stricter rules, which will make them more accountable for mistakes in case of negligence or intent,” Michel Barnier, the EU’s financial services chief, said after a deal agreed by the European Parliament, the Council and the European Commission yesterday (27 November).
“We have reached a good result,” Barnier added. “With this agreement, we are taking another important step towards financial stability and substantially reducing the risk of a future financial crisis, with all its consequences for the real economy, growth, jobs and public budgets."
The new rules will ban agencies from publishing unsolicited sovereign debt ratings and oblige them to set up a calendar indicating when they will rate EU member states. This calendar aims at avoiding sudden market disruption.
These ratings will only be published after the close of business and at least one hour before the opening of trading venues in the EU.
Furthermore, investors and EU countries will be informed of the underlying facts and assumptions on each rating which will facilitate a better understanding of countries’ sovereign debt.
Investors will be prohibited from simultaneously owning important stakes in more than one rating agency to ensure sufficient independence of the agencies. Agency mergers will be restricted to boost competition, according to the agreed rules.
That is supposed to reduce the dominance of Moody’s and Standard & Poor’s, which together control more than 80% of the worldwide credit-rating market.
"It was a very difficult process, but we have taken the existing legislation a step forward on a path which will have to be explored further", said lead MEP Leonardo Domenici (Socialists and Democrats, Italy).
Some MEPs argued that more must be done to curb the behaviour of agencies whose ratings may be ill-timed or ill-founded and thus aggravate the economic crisis. They believe that the rating market needs more competition, and that rated entities should develop their own rating capacities to counterbalance those of the agencies.
Officials and lawmakers agreed to largely scrap Barnier’s proposals to force businesses to rotate the credit ratings company that they use to assess their debt.
Europe's largest companies and banks lobbied hard on the issue, warning that forcing them to switch between so few global agencies could push them to use agencies carrying less credibility particularly with investors from the United States or Asia.
As part of the agreed draft deal, the rotation rule will be limited to re-securitisations, such as collateralised debt obligations, that are repackaged and used to back another round of securitised debt.
The deal needs now to be adopted by the European Parliament plenary session.
The Commission said it would maintain pressure on the sector and consider whether or not to further regulate the credit rating market and set up a European credit rating agency. A new report will be drafted and sent to Council and European Parliament by 2016.
A Moody’s Corp. spokesman said in a statement that the firm “has not yet seen the final text” of the agreement. “While we fully support the G-20 agenda on credit ratings, we had expressed significant concerns about the potential market ramifications of some of the proposed policy measures."
Commissioner Michel Barnier said: "In line with our G20 commitments, the new rules aim to reduce reliance on external ratings, requiring financial institutions to strengthen their own credit risk assessment and not to rely solely on external credit ratings. Also European Supervisory Authorities shall avoid references to external credit ratings and will be required to review their rules and guidelines and where appropriate, remove credit ratings."
The Green's finance spokesperson Sven Giegold said:
“The new legislation on credit ratings agencies, agreed last night, is an important step forward for regulating this small but influential sector for our economies, which is playing a prominent role in the current sovereign debt crisis. However, we regret the new rules are not more ambitious in terms of addressing the dominance of the 'big three' agencies and potential conflicts of interest."