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No love for rating agencies

Rating agencies were the focus of the Treasury Select Committee’s inspection – or wrath some might say – this week as chairman John McFall told Standard & Poor’s, Moody’s and Fitch Ratings that they had “failed hopelessly” in their role in the sub-prime crunch.

At the TSC meeting on Tuesday, McFall criticised them for not downgrading Northern Rock until September and said that a lot of people have found themselves on their “back side” because of those decisions.

Conservative committee member Michael Fallon did not hold back in hammering the message home to the rating agencies that they had indeed failed in respect to Northern Rock.

He said: “I don’t think you’re quite seeing it how we see it. This is the first bank run for 140 years and you’re the people supposed to be flashing the warnings of whether banks might be getting into trouble.”

He questioned why none of them had flagged up the real problems facing Northern Rock with the looming closure of the financial markets before it had announced its problems on September 14.

S&P managing director and head of european structured finance Ian Bell was forced to admit that it had taken them by surprise like the rest of the market.

But he said: “We made an assessment that we felt that this risk was manageable. When you assign a rating you assign a rating to the scenario which you think is the most likely situation, you don’t assign a rating to an extreme case.”

Bell also admitted, after intense questioning by McFall, that some investors may have viewed ratings as a green light to invest. His colleague, managing director and head of European corporate and Government services Barry Hancock added: “I think we are certainly aware of these concerns and issues and we go to great lengths to try and educate investors and others on how to use the ratings.”

Committee members also spent a large time of the grilling session trying to determine whether rating agencies suffer from a conflict of interest due to them being paid by the issuer rather than the buyer.

Fallon questioned whether they had received a fee from Northern Rock which each rating agency said yes to but after stating they would not say how much the fee was due to confidentiality reasons McFall said it would be sending them each a letter to find out their exact dealings with Northern Rock. “If you say it’s confidential then that will be a matter for public record”, McFall said.

Despite a tough grilling of the rating agencies, it was clear that the TSC did not see them as the true culprits in the on-going saga. It is set to hear again from both the FSA and the Bank of England before publishing its report in the new year.

Its view of who the finger of blame should be pointed at was perhaps helped by expert witness Professor Willem H Buiter, a former MPC member and currently working at the London School of Economics and Political Science.

He told the TSC that the flawed tripartite arrangement between the Treasury, the Bank of England and the FSA, the supervisory failure by the FSA, flaws in the BoE’s liquidity-orientated open market policies and its discount window operations were the true reasons for the financial turmoil seen since August 9.

He hit out at the FSA for focusing more on capital adequacy and solvency issues rather than liquidity issues. He said: “The FSA throughout all this seems to have been asleep on the job.”

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