Thursday, October 02, 2008

The international curse of the ratings agencies

I know of no solution to this, but the ratings agencies have become something of an international curse.

As originally envisaged, their role was to aid transparency through the provision of information. Who could argue with this? The difficulty is that they have really become players in their own right, exercising authority without responsibility. The problem here lies in part with the agencies, more with those responding to them.

At Government level, the Australian state of NSW provides a current example. Maintenance of the state's triple A credit rating has apparently become the key policy driver. But to what purpose?

NSW faces a difficult budget position because of the current downturn in the State's economy. The state also needs a range of new infrastructure because of previous under-spending, driven in part by the perceived need to limit debt to retain the triple A rating. Further, the desire to limit debt has also driven the state into various forms of private-public partnerships, some of which have been fairly spectacular failures.

Just at present the NSW economy is in a slump. In the old days, this would have provided the opportunity to expand capital spending to catch up on the infrastructure back-log without adding to resource pressures. Not now.

Would it matter if NSW was slightly down-graded in credit terms? Not really.

Debt as a proportion of state GDP is low in historical terms. By global standards, NSW is a highly secure borrower. Given a shortage of Government debt in Australia at the present time (the Commonwealth itself has no net debt), I suspect that any NSW public loan raisings would be rushed. NSW simply does not need the rating agencies at this point.

At private level, the most significant problem is the way in which changes to ratings have become market players in their own right. Assume a sound company. A change in ratings can lead to loss of support that then affects company funding. In worst case, sound businesses may actually be forced down because of reduced capacity to fund activity.

In all, a bit of a mess!


Winton Bates, an economist with long Government experience, had an interesting post on this one - Why did the rating agencies put their reputations at risk?

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