In mid April, Cox said new rules likely would focus on better disclosure and limits on conflicts of interest. The commission also is looking at ways to create a greater separation of the rating and business sides of the firms. Even before the current market problems, critics had complained the rating agencies have a built-in bias to give favorable assessments because they’re paid by the companies whose credit they rate.
Cox may not be moving fast or far enough to satisfy these critics. Part of Cox’s problem is that the SEC only gained oversight of the ratings industry in September of 2006. The Credit Rating Agency Reform Act granted the commission the power to set up a formal registration system for agencies seeking status as a Nationally Recognized Statistical Rating Organization. The law that emerged was limited in scope and explicitly denies the SEC the power to regulate the methodologies the agencies use to determine ratings.
Some of the tension between Congress and the SEC comes from the fact that Cox apparently feels more bound by the law than the politicians who passed it. At the Banking Committee hearing, he discussed possible new rules the SEC is mulling, but expressed a reluctance to move more aggressively. Both Republican Richard Shelby of Alabama and committee chairman Christopher Dodd, a Democrat from Connecticut, repeatedly pushed him about revoking a rating firm’s charter if it consistently resulted in poor ratings. “You don’t believe that is an appropriate role of the SEC?” asked Dodd. Cox responded that Congress didn’t give the SEC authority to revoke a license for getting ratings wrong. If ratings were consistently wrong because firms weren’t following internal procedures, “then [the registration] could be revoked,” he said.
Perhaps the most intriguing question is whether the SEC will encourage existing or new rating agencies to try buyer-paid business models, as some experts have suggested. It’s not clear if investors would pay for ratings they now get for free, or how to deal with problems such as free riders. Either way, the ratings game seems poised for an overhaul.