Faith-Based Financial Regulation: A Primer on Oversight of Credit Rating Organizations

41 Pages Posted: 9 Apr 2009  

Thomas James Fitzpatrick IV

Federal Reserve Bank of Cleveland

Chris Sagers

Cleveland-Marshall College of Law, Cleveland State University

Date Written: April 8, 2009

Abstract

During the past forty years, the simultaneous, symbiotic growth of financial innovation, disintermediation and deregulation has created an environment with extremely complex, opaque investment instruments. That system has now collapsed. At the very center of the crisis are a small group of shadowy but very powerful private corporations, the so-called "credit rating organizations" (CROs) such as Moody's and Standard & Poor's. Their very purpose was predict risks like those that have now caused systemic collapse. There is currently no significant regulatory oversight of CROs, notwithstanding the literally de jure regulatory power they possess and the systemic repercussions of credit ratings. There also happens to be surprisingly little theoretical justification for their very existence or for the hope that they would produce valuable and otherwise unavailable information. Even if there were such a basis, it so happens that an extensive empirical literature studies the CROs, and it has failed to find evidence of such value sufficient to justify the CROs' significant costs.

But the problem inherent in the nature of informational intermediation is basically one of industrial organization, and, as we will explain at length, it seems very thorny. No policy tool currently in force and none of those with any serious political feasibility would come close to dealing with it, and those more abstract proposals that might are both fairly politically implausible and raise serious problems of cost and uncertainty. In short, our purpose is to argue that capital markets currently contain a much more serious institutional flaw than has been recognized.

Keywords: credit crisis, credit rating agencies, financial regulation, economic regulation, financial intermediaries, financial markets

JEL Classification: D40, D53, D80, D82, G01, G12, G14, G18, G24, G28, G32, L10, L13

Suggested Citation

Fitzpatrick, Thomas James and Sagers, Chris, Faith-Based Financial Regulation: A Primer on Oversight of Credit Rating Organizations (April 8, 2009). Cleveland-Marshall Legal Studies Paper No. 09-171. Available at SSRN: https://ssrn.com/abstract=1375034 or http://dx.doi.org/10.2139/ssrn.1375034

Thomas James Fitzpatrick IV (Contact Author)

Federal Reserve Bank of Cleveland ( email )

PO Box 6387
Cleveland, OH 44101-1387
United States

Chris Sagers

Cleveland-Marshall College of Law, Cleveland State University ( email )

2121 Euclid Avenue, LB 138
Cleveland, OH 44115-2214
United States

Paper statistics

Downloads
358
Rank
66,955
Abstract Views
1,318