Ratings Agencies Back to Their Old Tricks

Ratings agencies are the street meet of the financial system.


Photo by STAN HONDA/AFP/Getty Images

The classic business model of the ratings agencies is one any man on the street would immediately flag as corrupt and problematic. A bank devises a security, a bank hires an agency to rate the security, and then the security is ushered into the world with the magic blessing of the ratings agency. Obviously you’re going to get a situation like the one Nathaniel Popper reports on in today’s New York Times where S&P gives higher ratings than the other agencies and S&P gets a larger market share as its reward.

This dynamic did much mischief during the crisis years and it’s alive and well.

Something interesting about this is that there’s a fair amount of sophisticated (or “sophisticated”) argumentation out there to the effect of how in an idealized marketplace this kind of certification-not-regulation should work just great. But if you look at a situation like kosher certification where you’re not going to have the state step into a religious matter so you have to rely on market solutions, what you see are constant scandals over hot dogs and Passover and everything in between.