Investigation into S&P shows need for reform

When the S&P downgraded the US debt rating to AA, they may have expected some kind of backlash. Well, the backlash has begun with the US government announcing an investigation into the S&P's decision to downgrade US debt as well as an ongoing investigation into other practices by the ratings agency. Several counties and municipalities have also retaliated by dropping the S&P from groups they use to rate their debt.

LOS ANGELES (Catholic Online) - There appears to be little question that the investigations are political reaction to the recent downgrade, but the integrity and need for such investigations is questionable. Investors clearly have no lack of confidence in US debt payments, and as recently as today they have poured money into government bonds in an effort to shelter themselves from recent market volatility--so as far as investors are concerned, US debt is still prime.
 
Previous Mistakes

The S&P has made previous mistakes in grading debt, most notably when it rated risky investments higher than they should have been rated, particularly during the housing bubble, a prime factor in the 2008 market collapse. S&P analysts are experts, but not clairvoyant, and the question is how much of their decision making was based on solid criteria and how much of it was motivated by financial gain or politics.

To be fair, other ratings agencies warned the US over this month's earlier debate regarding the national debt ceiling and possible default. Moody's and Fitch also issued warnings they might downgrade the US credit rating, but ultimately they did not do so.
 
Going Forward

Experts have called for reform of the system. It is important to have independent ratings of debt to permit investors to make better decisions. Of course, those analysts must be paid, and that's why municipalities and the country hire them to provide debt ratings.

However, holding them as hostage, threatening investigations and dropping agencies in apparent retaliation for politically unpopular decisions threatens to compromise the integrity of the entire system and adds uncertainty to the process, something investors abhor. While the precise nature of reform is still subject to debate, a method needs to be developed to keep the ratings agencies independent and safe from retaliation while encouraging them to issue accurate ratings based on financial without having to fear political and financial consequences.

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