Have rating agencies regained credibility with US downgrade?

  • Business
  • Wednesday, 10 Aug 2011

WITH the downgrade in the US credit rating, the crucial role of credit rating agencies has resurfaced this time in a favourable light.

While some quarters downplay its impact, others point out that it serves as a reminder and form of pressure for the US to seriously and speedily address its massive debt problem.

Recently, the US raised its debt ceiling of US$14.3 trillion, with a pledge to cut spending by US$2.4 trillion or more over ten years.

Credit rating agencies like Standard & Poor's regard that reduction to be insufficent, citing a more appropriate spending cut of US$4 trillion.

However, Moody's and Fitch had affirmed their triple A ratings but said more debt reduction measures were needed for the US to retain its top ratings.

News of the downgrade was given prominence all over the world. Reports had subsequently listed out the reasons for the downgrade that had occurred for the first time since 1917, from AAA to AA+; there was analysis of the impact on Europe, which also included some debt-stricken countries, and large holders of US Treasuries such as China.

Two or three years ago, many were pointing fingers at credit rating agencies for the failure to detect weaknesses behind the derivatives and sub-prime bubble.

Those who lost money had bitterly questioned the credibility of these agencies when some of them had purportedly given glowing ratings to the potential of these products.

Following that was a wave of apologies, remorse and promises of revamp from those concerned.

Today, one wonders if they have fully regained their credibility by just a few downgrades. According to reports, more downgrades such as for municipal bonds and debt issued by US-backed lenders had been imposed by S&P.

The rating agencies would have to show a sustained pattern of care, alertness and consistency of ratings for investors to be convinced that they are indeed on solid credit watch.

Credit downgrades are a double-edged sword. They serve as a timely reminder for a company or country to buck up and find a solution to outstanding problems.

On the other hand, the timing of the exercise could be an issue as a swift downgrade can also hurt the fragile process of recovery like a double whammy.

The negative impact from the lower credit rating may have a spiralling effect and knock on a lot more problems on the way.

Bloomberg reported, quoting Mohamed A. El-Erian of Pacific Investment Management Co, that Americans would face “higher credit costs” over time while JP Morgan Chase & Co estimated a downgrade would raise the nation's borrowing costs by US$100bil a year.

A US credit-rating cut would likely increase Treasury yields by 60 to 70 basis points over the “medium term,” Bloomberg said, quoting JP Morgan's Terry Belton who spoke on a July 26 conference call hosted by the Securities Industry and Financial Markets Association.

Knowing full well that a credit downgrade was imminent, the politicians and decision-makers concerned should have made a concerted effort to come to an agreement that would have helped them avert a downgrade and the damage that followed.

The next few years will certainly be challenging and calls for strong leadership and determination to ensure that things do not become worse than just a credit downgrade which can be lowered again.

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