CRA Senate hearing August 5, 2009

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Overview of hearing

Examining proposals to enhance the regulation of credit rating agencies Senate Banking Committee hearing link

View archived webcast

Wednesday, August 5, 2009, 09:30 AM, 538 Dirksen Senate Office Building


The witnesses were (written testimony available at Committee hearing link above):

  • The Honorable Michael Barr, Assistant Secretary for Financial Institutions, U.S. Department of the Treasury
  • Professor John C. Coffee, Adolf Berle Professor of Law, Columbia University School of Law
  • Professor Lawrence White, Leonard E. Imperatore Professor of Economics, Stern School of Business, New York University
  • Mr. Stephen Joynt, President and CEO, Fitch Ratings
  • Mr. James Gellert, President and CEO, Rapid Ratings
  • Mr. Mark Froeba, Principal, PF2 Securities Evaluations, Inc.

Hearing summary

Chairman Dodd began by saying he believed two primary causes of the global collapse were:

  1. Lack of supervision of mortgage brokers
  2. Rating agencies not providing independent research

Ranking Member Shelby said that the changes embodied in the 2006 "Credit Rating Agency Reform Act" were just working their way through the system. The focus should be on removing "reliance on ratings" and improving disclosure.

Senator Reed focussed on enhancing transparency, reducing conflicts of interest, and changing the "pleading standard". This would allow pleading to reach the discovery stage. No change in the 10b5 standard.

Witness Barr testified that the Administration proposal focussed on transparency, reducing rating shopping and conflicts of interest and using different symbology for structured products. The Adminisration proposal would require the mandatory registration of all credit rating agencies.

Rating shopping would be addressed by:

  • Rating histories being disclosed
  • Issuers disclose all preliminary ratings (including those firms not compensated)
  • "Equivalent disclosure"
  • Disclosure of fees paid to rating agencies by issuers

Chairman Dodd raised the recommendation put forward by the Council of Institutional Investors to create a new body like the PCOAB to oversee credit rating agencies. Or should this oversight be given to a "systemic regulator"?

Witness Barr suggested that the SEC had developed expertise over time to oversee the credit rating agencies and that a new body was not necessary.

Chairman Dodd raised the issue of credit raters not verifying the information provided to them. This was one of the main themes of the hearing.

Witness Barr responded that the government shouldn't design methodologies and that transparency would create more due diligence.

Ranking Member Shelby suggested that the Administration's proposal further enshrined the business model of the dominant raters. Barr countered that the proposed changes would level the playing field and didn't favor investor pay over issuer pay models. Shelby asked "why leave ratings in regulation?" Barr said that the adminstration would require a methodical review through regs and recommend that some be removed, some kept and some refined.

Shelby asked if straightening out rating agencies was a priority at the SEC. Barr said that creating resolution authority, protecting consumers and straightening out raters were the administrations priorities.

Shelby said that prior to 2006 decisions about raters were made at the staff level would the full Commission continue to oversee and what expertise exists at the PCOAB that would suggest giving them oversight authority? Barr responded that their accounting expertise might be useful.

Senator Reed asked about due diligence. Professor Coffee suggests that rule 2a7be amended to say that money managers cannot rely on ratings unless a rater has done due diligence and Stephen Joynt of Fitch says that raters should do it. Barr said that the Administration hasn't considered whether it should be a requirement on the purchaser yet.

Reed asked about adusting the pleading standard and create private right of action. Barr said that it's a complicated question. It might increase due diligence also might increase reliance on ratings by investors and create incentives for issuers to sue over downgrades.

Reed asked if mandatory registration of raters didn't infringe on 1st amendment rights and be unnecessary? Barr said it would level the playing field.

S. Corker said he didn't understand how regulators "outsourced" oversight for credit markets to the 3 major raters but wanted to be in the business of "designing products". One was "hands off" and relied on transparency and the other imposed government control. Barr responded "standard products" was for "unsophisticated investors" and credit ratings are for sophisticated investors.

Corker asked about Eric Dinallo's plan for a pool to pay for ratings. Barr said raters should have many business models.

Senator Warner asked if the investor pay model might reduce conflicts? Barr said "equivalent disclosure" would allow all business models to exist.

Warner asked if rating symbols should be linked to default rates? Barr said that the proposed report report required with the structured product rating would describe loss given default, probability of default and the variability of the underlying data.

Senator Merkley asked about the "central fund" idea. Barr said that they had looked at the "utility model", roulutte model, and investor pay model. All had conflicts.

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