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The Optimal Regulation of Credit Rating Agencies

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  • Forster, Josef
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    Abstract

    Credit rating agencies (CRAs) very often have been criticized for announcing inaccurate credit ratings and are suspected of being exposed to conflicts of interest. Despite these objections CRAs remained largely unregulated. Based on Pagano & Immordino (2007), we study the optimal regulation of CRAs in a model where rating quality is unobservable and enforcing regulation is costly. The model shows that minimum rating standards increase the social value of credit ratings. The model also analyzes implications for regulation in the presence of conflicts of interest between the CRA and the rated clients by direct bribes and by the joint provision of rating and consulting services.

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    File URL: http://epub.ub.uni-muenchen.de/5169/1/Forster_CRA_Regulation.pdf
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    Bibliographic Info

    Paper provided by University of Munich, Department of Economics in its series Discussion Papers in Economics with number 5169.

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    Date of creation: 25 Jul 2008
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    Handle: RePEc:lmu:muenec:5169

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    Keywords: credit rating agencies; regulation; conflicts of interest;

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    1. Anette Boom, . "A Monopolistic Credit Rating Agency," Papers 011, Departmental Working Papers.
    2. Marco Pagano & Giovanni Immordino, 2007. "Optimal Regulation of Auditing," CESifo Economic Studies, CESifo, vol. 53(3), pages 363-388, September.
    3. Millon, Marcia H & Thakor, Anjan V, 1985. " Moral Hazard and Information Sharing: A Model of Financial Information Gathering Agencies," Journal of Finance, American Finance Association, vol. 40(5), pages 1403-22, December.
    4. Lawrence J. White, 2001. "The Credit Rating Industry: An Industrial Organization Analysis," Working Papers 01-02, New York University, Leonard N. Stern School of Business, Department of Economics.
    5. Bappaditya Mukhopadhyay, 2004. "Moral Hazard with Rating Agency: An Incentive Contracting Approach," Annals of Economics and Finance, Society for AEF, vol. 5(2), pages 313-333, November.
    6. Arnoud W. A. Boot & Todd T. Milbourn, 2002. "Credit Ratings as Coordination Mechanisms," William Davidson Institute Working Papers Series 457, William Davidson Institute at the University of Michigan.
    7. Dye, Ronald A, 1993. "Auditing Standards, Legal Liability, and Auditor Wealth," Journal of Political Economy, University of Chicago Press, vol. 101(5), pages 887-914, October.
    8. Cantor, Richard, 2004. "An introduction to recent research on credit ratings," Journal of Banking & Finance, Elsevier, vol. 28(11), pages 2565-2573, November.
    9. Bank for International Settlements, 2005. "The role of ratings in structured finance: issues and implications," CGFS Papers, Bank for International Settlements, number 23, July.
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    Cited by:
    1. Ponce, Jorge, 2012. "The quality of credit ratings: A two-sided market perspective," Economic Systems, Elsevier, vol. 36(2), pages 294-306.
    2. Vassiliki L. Papaikonomou, 2010. "Credit rating agencies and global financial crisis: Need for a paradigm shift in financial market regulation," Studies in Economics and Finance, Emerald Group Publishing, vol. 27(2), pages 161-174, June.

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