Do Reputational Concerns Lead to Reliable Ratings?
Universidad Carlos III de Madrid; London School of Economics & Political Science (LSE)
May 21, 2008
This paper examines to what extent reputational concerns give rating agencies incentives to reveal information. It demonstrates that, in a simple model in which a rating agency has public and private information about a project, it may ignore private information and even contradict public information in an attempt to minimize reputational costs. A monopolistic agency can act conservatively by issuing too many bad ratings when a project is expected to be good based on private and public information. In a competitive setting, an agency becomes bolder and can issue too many good ratings when a pro ject is expected to be bad based on private and public information. The paper provides a reason for why competition in the ratings industry might lead to overly optimistic ratings even in the absence of conflicts of interest.
Number of Pages in PDF File: 47
Keywords: Reputation, rating agencies, conformism, conservatism, boldness
JEL Classification: D82, G1, G24working papers series
Date posted: March 17, 2008 ; Last revised: November 7, 2008
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