During the financial crisis of 2008, the financial markets would have been better served if the credit rating agency industry had been more competitive. We present evidence that suggests the Securities and Exchange Commission’s designation of Nationally Recognized Statistical Rating Organizations (NRSROs) inadvertently created a de facto oligopoly, which primarily propped up three firms: Moody’s, S&P, and Fitch. We also explain the rationale behind the NRSRO designation given to credit rating agencies (CRAs) and demonstrate that it was not intended to be an oligopolistic mechanism or to reduce investor due diligence, but rather was intended to protect consumers. Although CRAs were indirectly constrained by their reputation among investors, the lack of competition allowed for greater market complacency. Government regulatory use of credit ratings inflated the market demand for NRSRO ratings, despite the decreasing informational value of credit ratings. It is unlikely that this sort of regulatory framework could result in anything except misaligned incentives among economic actors and distorted market information that provides inaccurate signals to investors and other financial actors. Given the importance of our capital infrastructure and the power of credit rating agencies in our financial markets, and despite the good intentions of the uses of the NRSRO designation, it is not worth the cost and should be abolished. Regulators should work to eliminate regulatory reliance on credit ratings for financial safety and soundness. These regulatory reforms will, in turn, reduce CRA oligopolistic power and the artificial demand for their ratings.
Featuring John Allison, President and CEO, Cato Institute; Rep. Kevin Brady (TX-8), Chairman, Joint Economic Committee; and Norbert Michel, Research Fellow in Financial Regulations, Heritage Foundation; moderated by James A. Dorn, Vice President for Monetary Studies and Senior Fellow, Cato Institute.
- Legal Briefs
- Cato Handbook for Policymakers
- Cato Journal
- Cato's Letter
- Cato's Letters
- Cato Papers on Public Policy
- Cato Policy Report
- Cato State Legislative Guide
- Cracking the Books
- Economic Freedom of the States of India
- Economic Freedom of the World
- Public Comments
- Supreme Court Review
In this issue of the Cato Journal, economists Geoffrey Black, D. Allen Dalton, Samia Islam, and Aaron Batteen offer one prominent example of allowing the market to work. Also in this issue, economists Jason E. Taylor and Jerry L. Taylor reexamine the relationship between marginal tax rates and U.S. growth, and Robert Krol looks at bias in CBO and OMB economic forecasts.
Latest CommentaryOnly a robust and open marketplace of ideas can effectively combat lies consistent with the First Amendment.
The 2008-2009 financial crisis and Great Recession have vastly increased the power and scope of the Federal Reserve, and radically changed the financial landscape. This new ebook examines those changes and considers how the links between money, markets, and government may evolve in the future.