Credit quality and independent rating agencies 269
ratings must be subject to internal stress tests. Moreover, internal and external audi-
tors should audit the quality of ratings, and adequacy of their use.
While banks rate their loans clients, correspondent banks, and trading partners,
they are themselves rated by the independent rating agencies in terms of their corpor-
ate governance and finances. Globalization means this is becoming increasingly
important. As far as credit risk is concerned, the best advice to companies is to get a
grip on its fundamentals and to get moving in doing something constructive about it.
Credit risk is everyone’s concern. Poor credit rating will not cease to exist because it
12.2 Independent credit rating agencies
Independent credit rating agencies first saw the light of day as statistical organiza-
tions in the late 19th century. In the United States they are regulated by the
Securities & Exchange Commission (SEC). Their size varies significantly, and it
takes years to develop a credit-rating franchise. It is not that easy to get a SEC des-
ignation to operate a nationally recognized statistical rating organization
(NRSRO, a term coined in 1975) in the United States; it is also fairly difficult to
develop the necessary skills, particularly so if the rating agency wants to develop
Since the beginning, the objective of rating by independent agencies has been to
provide an unbiased opinion on creditworthiness. This is not an advice, or a recom-
mendation. Fundamentally, rating agencies aim to inform; it is not part of their mis-
sion to protect anybody.
Up to a point, the protection of investors is the job of bank supervisors, by means
of assuring credit institutions under their authority are financially sound.
By contrast, the parties responsible for malfeasance are the attorney-general,
police, and judiciary – and there has been plenty of criminal action in the early
years of the 21st century.
The growing role of rating agencies is easily explained by the fact that in a glob-
alized market economy there is always the possibility of financial and industrial
companies going bankrupt – but at the same time investors should know of their
credit status. Creditworthiness is a crucial variable in nearly all business decisions.
If the supervisory authorities have a policy of too much tight reign to avoid bank-
ruptcies, this will kill entrepreneurial activity. In this case, prevailing laws and regu-
lations will be counterproductive. In the banking industry, in particular, regulators
can only set a minimum capital standard.
They cannot and they should not target
100% security. Legislators and regulators must define what kind of security they
want. The regulators mission is to:
Provide conditions for orderly market behavior
Create market transparency, and
Avoid systemic risk, which will tear apart the financial fabric.