Forum for Science, Industry and Business

Sponsored by:     3M 
Search our Site:

 

Study Calls for Elimination of Credit Rating-Contingent Regulation by Governments

01.09.2010
In order to prevent inflated credit ratings and an economic crisis similar to that in 2008, the government should eliminate rating-contingent regulation, according to Marcus Opp, finance assistant professor at the University of California, Berkeley’s Haas School of Business.

“If the government didn’t have these rating-contingent regulations, I believe the ratings would automatically become more informative,” says Opp, describing the findings in “Rating Agencies in the Face of Regulation: Rating Inflation and Regulatory Arbitrage,” co-written by Christian Opp, assistant professor, The Wharton School, University of Pennsylvania, and Milton Harris, professor at the University of Chicago’s Booth School of Business.

Many observers blame the 2008 financial crisis on credit rating agencies for inflating ratings and knowingly underestimating the risk of various securities, such as those backed by subprime mortgages. On the heels of the passage of the Dodd-Frank financial regulatory reform bill that makes rating agencies liable for ratings’ quality, this research offers data that supports a new approach to regulation.

The ratings issued by credit rating agencies are supposed to measure the likelihood of default for debt products. In reality, ratings may not provide an accurate picture to investors because the agencies profit from handing out high ratings. Investors are willing to pay more for an asset with a favorable rating. The goal of the research was to determine why ratings are still valued by investors even when the ratings do not depict actual risk. The study found the government’s reliance on ratings to determine the required capital held by institutional investors, such as banks, plays a key role in exposing the system’s faults.

Since the mid-1970’s, national governments have increasingly used these same ratings for regulating institutional investors. “If the importance of the regulation is too high, then a rating agency will not provide any real information to investors. It will simply inflate ratings,” Opp explains “The solution is actually quite simple. Get rid of rating-contingent regulation. Let rating agencies do their jobs without serving two purposes at the same time.”

Opp and his co-authors studied a non-competitive business model to replicate the actual market in which (effectively) only three ratings agencies (Moody’s, S&P and Fitch) exist and are virtually non-competitors.

The model indicated that rating inflation is more likely in the case of complex securities that are costly to evaluate. Opp says prior to the recent economic crisis, only one percent of bonds in the corporate bond market received a “triple A” rating while in the subprime market, 70% of assets were given this highest rating. “Our theory tells us that business grew in the subprime market because regulation did not distinguish between different asset classes,” says Opp.

Based on the paper’s conclusions, Opp believes any proposed reforms being debated in Congress will fall short if rating-contingent regulation persists and does not at least take into account the perverse feedback effects of the current regulation in place.

Marcus Opp Bio: http://www2.haas.berkeley.edu/Faculty/opp_marcus.aspx

Watch Marcus Opp talk about his research on video: http://bit.ly/a2q9vZ

See the full paper: http://bit.ly/bWT2Zn

Pamela Tom | Newswise Science News
Further information:
http://www.berkeley.edu

More articles from Business and Finance:

nachricht Frugal Innovations: when less is more
19.04.2017 | Fraunhofer-Institut für Arbeitswirtschaft und Organisation IAO

nachricht Europe's microtechnology industry is attuned to growth
10.03.2017 | IVAM Fachverband für Mikrotechnik

All articles from Business and Finance >>>

The most recent press releases about innovation >>>

Die letzten 5 Focus-News des innovations-reports im Überblick:

Im Focus: A quantum walk of photons

Physicists from the University of Würzburg are capable of generating identical looking single light particles at the push of a button. Two new studies now demonstrate the potential this method holds.

The quantum computer has fuelled the imagination of scientists for decades: It is based on fundamentally different phenomena than a conventional computer....

Im Focus: Turmoil in sluggish electrons’ existence

An international team of physicists has monitored the scattering behaviour of electrons in a non-conducting material in real-time. Their insights could be beneficial for radiotherapy.

We can refer to electrons in non-conducting materials as ‘sluggish’. Typically, they remain fixed in a location, deep inside an atomic composite. It is hence...

Im Focus: Wafer-thin Magnetic Materials Developed for Future Quantum Technologies

Two-dimensional magnetic structures are regarded as a promising material for new types of data storage, since the magnetic properties of individual molecular building blocks can be investigated and modified. For the first time, researchers have now produced a wafer-thin ferrimagnet, in which molecules with different magnetic centers arrange themselves on a gold surface to form a checkerboard pattern. Scientists at the Swiss Nanoscience Institute at the University of Basel and the Paul Scherrer Institute published their findings in the journal Nature Communications.

Ferrimagnets are composed of two centers which are magnetized at different strengths and point in opposing directions. Two-dimensional, quasi-flat ferrimagnets...

Im Focus: World's thinnest hologram paves path to new 3-D world

Nano-hologram paves way for integration of 3-D holography into everyday electronics

An Australian-Chinese research team has created the world's thinnest hologram, paving the way towards the integration of 3D holography into everyday...

Im Focus: Using graphene to create quantum bits

In the race to produce a quantum computer, a number of projects are seeking a way to create quantum bits -- or qubits -- that are stable, meaning they are not much affected by changes in their environment. This normally needs highly nonlinear non-dissipative elements capable of functioning at very low temperatures.

In pursuit of this goal, researchers at EPFL's Laboratory of Photonics and Quantum Measurements LPQM (STI/SB), have investigated a nonlinear graphene-based...

All Focus news of the innovation-report >>>

Anzeige

Anzeige

Event News

Marine Conservation: IASS Contributes to UN Ocean Conference in New York on 5-9 June

24.05.2017 | Event News

AWK Aachen Machine Tool Colloquium 2017: Internet of Production for Agile Enterprises

23.05.2017 | Event News

Dortmund MST Conference presents Individualized Healthcare Solutions with micro and nanotechnology

22.05.2017 | Event News

 
Latest News

Physicists discover mechanism behind granular capillary effect

24.05.2017 | Physics and Astronomy

Measured for the first time: Direction of light waves changed by quantum effect

24.05.2017 | Physics and Astronomy

Marine Conservation: IASS Contributes to UN Ocean Conference in New York on 5-9 June

24.05.2017 | Event News

VideoLinks
B2B-VideoLinks
More VideoLinks >>>