Credit ratings suspension ditched under proposed rules

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Controversial proposals to suspend credit ratings agencies from assessing bond markets in EU member states were ditched yesterday (15 November) as the Commission watered down a package of measures to rein in the industry.

“The possible suspension of sovereign ratings is a complex issue which we believe merits further consideration, " said Internal Market Commissioner, Michel Barnier.

The EU executive, meeting in Strasbourg, also scrapped plans to prevent larger ratings agencies from buying smaller rivals – deemed incompatible with EU competition rules – at a meeting where Commissioners struggled to reach agreement. The package of measures agreed included proposals:

 

  • Requiring agencies to disclose underlying information justifying their ratings to enable private investors to make their own judgments;
  • Ensuring that ratings agencies are rotated every three years between the issued entities;
  • Forcing agencies to consult issuers and investors if they intend to change the methodology by which they rate, and communicating these to the European Securities and Markets Authority (ESMA) which would check that they comply with the rules; and
  • Increasing the frequency with which member states are rated to every six months from 12 months, and ensuring sovereign debt ratings will only be published after the close of business and at least one hour before the opening of trading venues in the EU.

Credit ratings suspension to be re-opened in Council

EU officials said that it was possible that at some stage during the co-decision procedure that the suspension measure would be re-introduced. An EU diplomat told EURACTIV: “The Council always remains an opportunity to re-open issues.”

However, the exact nature of the debate remained unclear afterwards. Germany and France favoured the suspension proposal, but the UK was opposed.

Catherine Ashton – the Foreign Affairs chief – was absent from the meeting  since she was in Baku, Azerbaijan. According to protocol, representatives of absent commissioners are not allowed to speak in front of the college of commissioners, but sources said that Ashton, who is British, made her position forcefully clear on paper beforehand.

The commissioners also approved measures permitting ESMA to investigate and punish ratings agencies' that make market-moving errors.

On 10 November, Standard & Poor’s, one of the three leading global credit rating agencies, issued an email that mistakenly announced the downgrade of France’s AAA rating. The mistake was promptly corrected and the company quickly issued a press release confirming France's rating with a stable outlook.

But the correction proved insufficient to quell markets which had already been betting that France would soon lose its coveted rating, lifting the country’s borrowing costs.

"By far the most urgent step needed to improve ratings is to stimulate competition in the industry.” “This can best be done by mandating a minimum of two ratings one of which is randomly allocated amongst all new entrants,” according to Sony Kapoor the managing director of economics think tank Re-Define.

"It's good that common sense has prevailed and the potentially counter productive suggestion for suspending credit ratings is no longer a part of the proposal,” Kapoor said, adding: “A rotation period for agencies is in principle a good idea but in order for this to be useful the EU needs to make sure that there are enough credible competitors.”

 “Unchecked power and money is the big problem with credit rating agencies,” said European Socialist Party (PES) President Poul Nyrup Rasmussen. “Unfortunately, unchecked power and money is also a big part of EU lobbying, and it would seem that ratings agencies have been lobbying very hard to pre-emptively reduce the impact of the Commission’s proposals,” added Rasmussen.

“Concerning eurozone states in financial difficulties because of their indebtedness, we must think about putting in place a genuine legal regime which would define at the same time the temporary protections which they could benefit from (suspension of the rating, freezing rates for loans) and the rights of creditors of these states," said French MEP Jean-Paul Gauzès, spokesperson for the EPP group.

 "The Commission proposals are inconsistent with the objectives of stabilising credit markets and strengthening investor confidence and instead would disrupt access to credit and increase market volatility in Europe,” said Daniel Piels, head of media relations at Moody’s Investors Service.

“Through a pre-approval process of ESMA, CRAs’ views on EU credit will inevitably be perceived as European regulatory views on EU credit. Forced rotation is an experiment that will lead to a standardisation and reduced offering of opinions.  It will remove incentives to improve ratings quality and long term performance,” Piels said.

"The proposals seem to be devoid of certain significant elements in comparison to what was anticipated and is lower than expectations. The procedure today in the run up to the proposal's presentation was unusual and laboured and does not augur well for legislation of such great importance,” was the verdict from Parliament's rapporteur on credit rating agencies, Leonardo Domenici MEP (Socialists & Democrats; Italy).

Domenici said the decision was: “A clear symptom of the difficulty the Commission is encountering to come forward with proposals on a delicate issue and could be an explanation for the delay for approving the proposal. The proposal, as Commissioner Barnier also admitted, lacks certain relevant elements and is less far reaching than expected.”

“The European Parliament is still waiting to be informed on both procedure and timing of the proposal and on the official and definitive content of the text. The fact that we find ourselves in such a situation on a long awaited proposal is worrying both institutionally and politically," Domenici said.

"Do not shoot the messenger, CRAs cannot be blamed for everything,” said MEP Wolf Klinz (Liberals & Democrats, Germany), who authored the European Parliament's report on the future regulation of CRAs which was adopted in June 2011.

“We need more transparency, accountability and less reliance on external credit ratings as well as increasing competition in the sector. The current case of France shows how dependent markets are on external credit ratings” Klinz continued. “Unfortunately the Commission did not follow the Parliament's request to conduct a detailed impact assessment on the establishment of an independent and autonomous European Credit Rating Foundation to foster competition,” Klinz said.

Greeting the watered down proposal, MEP Ashley Fox (European Conservatives and Reformists; UK), said: "It is a relief that the Commission has not gone ahead with its threat effectively to ban CRAs from operating at certain times.”

"We will need to see the detail of proposed transparency measures before knowing how useful or otherwise they will be, but at least the Commission has stepped back from a position that could have created yet more mistrust in the markets. You don't improve the weather by switching off the forecast," Fox said.

Simon Lewis, chief executive of the Association for Financial Markets in Europe (AFME), cautiously received new measures saying: "While the slight relaxation of the draft rotation requirements is a step in the right direction, significant questions remain."

"Potential aspects of the new regulation are still to be discussed and we remain concerned that any ability for ESMA to suspend sovereign ratings may damage the independence of the credit rating agencies in the eyes of the financial markets," he said.

The European Trade Union Confederation (ETUC) said in a press release, "This regulation is necessary, all the more so since rating agencies have recently shown that they abuse their power, particularly in the error they made about France. We think that this proposal for a regulation must go even further."

Credit rating agencies were among the first to be regulated at European level in the aftermath of the 2008 financial crisis, reflecting the European Commission's view that they had failed to predict the the crisis and even helped make it worse.

These regulations, called ‘CRA I’, were adopted in 2009 and were later strengthened in May 2011 to become ‘CRA II’. The agencies are required to avoid conflicts of interest, to ensure the quality of their ratings and rating … methodologies and to maintain a high level of transparency. Credit rating agencies also have to apply for registration in Europe.

In the midst of the sovereign debt crisis in November 2010, the Commission launched a public consultation which focused on over-reliance on external credit ratings, improving the speed and transparency of sovereign debt rating, making the markets for rating agencies more competitive and making agencies legally accountable in order to prevent conflicts of interest.

The European Parliament adopted a resolution on 8 June 2011 in which it requests the Commission to analyse the creation of a European Credit Rating Foundation.

  • First quarter 2012: A first draft of the rapporteur's amendments to the Commission proposal could be ready for debate.
  • 2012: Parliament and Council to hammer out a deal on the legislation.

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