Monetary Dialogue Briefing Papers: December 2011

The latest collection of briefing papers for the European Parliament’s Monetary Dialogue with the ECB are available here (click on 19.12.2011). Five papers (including one by me) discusses issues related to ratings agencies, prompted by the recent package of regulations proposed by the European Commission.  Three other papers discuss the ongoing Euro crisis.

9 replies on “Monetary Dialogue Briefing Papers: December 2011”

Scanned 19.12.2011

Latest Moody’s homepage “The recent summit did not offer decisive initiatives and does not address the acute and immediate challenges facing euro area sovereigns and banking systems. As we said in November, unless credit market conditions stabilise in the near future, our ratings of all EU sovereigns will need to be revisited, a process scheduled for the first quarter of 2012..”

I’d be more concerned re the scientific validity of any models used in such analytics. There must be ways by which the ratings supplied by rating agencies can be rated re accuracy and performance over the last 10 years.

I’m thinking of all those ratings from external auditors that gave a green flag to Irish banking during the bubble.

Re scientific testing and peer review of models used, they should be made transparent and open for public review and accountability.

But I’m no expert in any of this. I do cringe at the notion the EMU regulate from within its own rating agencies and block external rating agencies in any way from going about their own business as long as it is fair and above board.

[Applied pedantry alert]

the recent package of regulations proposed by the European Parliament

Did you mean the European Commission? (The Parliament doesn’t have the power to initiate legal proposals, though that doesn’t stop it from makeing suggestions on a whole range of policy ideas.)

I have a cunning plan to set up a crowdsourced credit rating system. I’ll fund it by charging issuers a small fee for access to a little detail on what has gone into their rating, if they want the extra information. Everyone gets a rating, whether they want it or not. No subsidies. No leverage for issuers. No allocating who does which rating.

A good paper from Karl on the whole. And yes, the agencies have generally been slow to react to worsening market conditions, and they rate sovereigns highly relative to implied market pricing. Indeed the rating agencies have measures of the letter on their websites. The differences – large and persistent – are instructive.
Karl suggests that the actual proposals from the Commission in relation to sovereign debt ratings are pretty sensible. Well consider how a UK newspaper got hold early on of the text (not just the gist) of last week’s S&P decision to put euro area sovereigns on credit watch negative. Clearly not in the interests of investors, governments or the rating agency for this to occur. Over the past few months, a large number of official texts (the whole text) have found their way out early on, usually on UK websites.
S&P spoke briefly about this particular came about in its conference call the next day. Worth listening both what rating agencies and investors have to say about such issues, as they are closest to the furnace. Indeed they are the ones that have the greatest interest in avoiding such difficulties. And yet Karl is suggesting to go a different way (also consider what the SEC is investigating in relation to the USA notification of a downgrade last August). I think the answers lie rather in the direction of greater transparency and immediacy.
As for “A world in which firms undertook their own credit assessments”, well most fund managers, even large ones, don’t have the resources / profits to engage in such research. If implemented, it is a recipe for caution and aversion to risk, with real economic costs.
Of course there will always be value investors that have an edge in knowledge in some area. And this is the essence of price discovery. Policy makers, if they want to be helpful, need to concentrate on improving that process.
@ colm brazel It is easy to make a stab at numeric models. And indeed many exist. But decisions cannot just be model driven. Example – the recent downgrade of the USA by S&P, where a judgement on political process was needed, and most likely sparked the move. As for using historic measures of price volatility (which Karl mentions as a possibility), no, really, the abuse of that approach has done so much damage, … I don’t think it is well realised just how much.
Several of the other papers are interesting, e.g. the contributions from Messrs WYPLOSZ and Collignon. I see the latter indicates that Ireland had the highest debt per head in the OECD area in 2011, after Japan (although with issues of double counting etc. in Japan, and differing prospects for the growth of debt in each of these countries etc. of course). He doesn’t give the deficit per head (ex bank support). But comparisons here should be instructive for those in favour of yet more pump priming.


It is easy to make a stab at numeric models….But decisions cannot just be model driven. Example – the recent downgrade of the USA by S&P, where a judgement on political process was needed

Sorry if I wasn’t being clear enough with “Re scientific testing and peer review of models used, they should be made transparent and open for public review and accountability.”

I meant that both numeric data and the evaluations including political evaluations should be made part of the body of evidence for peer review, transparency and accountability.

I think its crazy the way these ratings are published and all you get is a partisan bias encapsulated by a code eg AAA based on some claim that numeric data, methodology, models obscured to the scientific community, have been used efficiently, are the correct models.

There needs to be far more transparency especially in regard to non numeric data. If, for example in the case of Italy, unable to elect a majority parliament, gets a ‘technical’ government, a paper expressing the political evaluation of this, giving it a weighting in the final decision, should be published as part of a body of evidence including numeric data in support of a rating. Decisions need to be made with more transparency.

There is of course the whole issue of who is paying for these ratings. They can be banks, investment funds, third parties raising the spectre of what is debated re the issue of political donations.

Its precisely the non numeric data/political and other bias that one would have most concern about and therefore require most ‘accountable’ documentation about.

Actually the rating agencies explain in quite some detail their reasoning and methods. You might have to pay for it though (and subscriptions are dear). They also complement their ratings by numerical analysis, and compare to market pricing as per above. The agencies also attempt to ensure consistency against similar names etc.
That doesn’t prevent agencies often coming to different judgements. A host of smaller agencies, that tend to specialise, provide some competition (more so in the US).
I’m not saying all this is perfect by any means. But like Karl indicates, you probably want to speak from good knowledge as to what the practices and needs are. Not easy for laypeople. Imagine trying to regulate surgery or architecture. Finance looks more accessible as the concepts and practices can appear less technical, and more widely known. And there has to be a role too for politicians given the public interest. But not easy.


Thanks for that. No claim to any specialist knowledge merely dropping a tupenny layperson’s view on a generalist opinion. I have a technical background but not in the areas you mention. But my last 3 paragraphs above are informed by similar arguments in the media and they are worthwhile. Did have a brief look at some modelling data eg Moody’s have on their site; they are about to introduce new methodology; but what the practices and needs are, I’ll leave that to others like Karl and yourself to work out… 🙂

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