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Feedback effects of credit ratings

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  • Manso, Gustavo
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    Abstract

    Rating agencies are often criticized for being biased in favor of borrowers, for being too slow to downgrade following credit quality deterioration, and for being oligopolists. Based on a model that takes into account the feedback effects of credit ratings, I show that: (i) rating agencies should focus not only on the accuracy of their ratings but also on the effects of their ratings on the probability of survival of the borrower; (ii) even when rating agencies pursue an accurate rating policy, multi-notch downgrades or immediate default may occur in response to small shocks to fundamentals; (iii) increased competition between rating agencies can lead to rating downgrades, increasing default frequency and reducing welfare.

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    Bibliographic Info

    Article provided by Elsevier in its journal Journal of Financial Economics.

    Volume (Year): 109 (2013)
    Issue (Month): 2 ()
    Pages: 535-548

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    Handle: RePEc:eee:jfinec:v:109:y:2013:i:2:p:535-548

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    Web page: http://www.elsevier.com/locate/inca/505576

    Related research

    Keywords: Credit rating agencies; Performance-sensitive debt; Financial regulation; Credit-cliff dynamic;

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