While a number of indicators suggest that the US economy is on the road to recovery, albeit a long and rocky road, the probe into what caused the financial crisis in the fist place continues. Recently it was suggested that credit rating agencies such as Moody’s, Fitch and S&P, may be wielding too much power as Greece’s credit was cut to junk status, and both Spain and Portugal were downgraded, with a negative impact on international markets. Relating to the global financial crisis, it has been suggested that these same credit rating agencies gave troubled banks misleadingly high ratings, while at the same time failing to act promptly to warn of the risks posed by bonds and other securities that were tied to subprime mortgages.
Addressing a hearing of the Financial Crisis Inquiries Commission (FCIC) held in New York this week, well-respected investment mogul Warren Buffet – CEO of Berkshire Hathaway and one of Moody’s largest shareholders – defended the role of Moody’s in the financial crisis noting that “they made the wrong call” and pointing out that he himself had been wrong. Buffet suggested that Moody’s was among the investors and homebuyers misled by the frenetic pace of the housing market preceding the crash. Presumably this applies to competitor CRAs as well.
The hearing on Wednesday, for which Buffet had reportedly been subpoenaed after declining the invitation to participate, formed part of a series of hearings being carried out to examine the root causes of financial crisis. Consisting of a ten-member team, the Financial Crisis Inquiries Commission has questioned a number of probable offenders in the crisis, including government agencies such as the Securities and Exchange Commission and Federal Reserve, as well as Wall Street firms and sub-prime lenders.
Chairman of the FCIC Phil Angelides called attention to the fact that credit rating agencies are meant to act as “referees” and should have made the call when the “game got out of control”. A number of former Moody’s executives suggested that the firm had lost sight of its primary function, throwing caution to the winds during the housing boom, when competition was fierce in rating investment bank mortgage deals and the focus shifted to growing market share, often at the expense of due diligence. The hearings appear to be unearthing a number of questionable practices at Moody’s, including being selective with regard to which analysts worked on new deals to ensure favorable credit ratings, and understaffing the mortgage rating group to prevent too much time being spent scrutinizing any specific deal.
With new insights being gained into contributing factors of the financial crisis, lawmakers are considering a number of proposals to make far reaching changes in the financial industry and the role played by credit rating agencies. These changes will no doubt protect investors and the economy at large, helping to prevent a crisis of this proportion from occurring again.
