Bloomberg News

EU Proposes Tougher Regulation for Credit-Ratings Companies

November 16, 2011

(Updates with comment from Moody’s in ninth paragraph.)

Nov. 15 (Bloomberg) -- The European Union proposed tougher regulations to rein in credit-ratings companies while opting to postpone plans to ban them from giving assessments of countries negotiating international bailouts.

EU Financial Services Commissioner Michel Barnier said today’s proposals would force companies to rotate credit-ratings firms they use to bolster competition. He said more work was needed on plans to ban some sovereign ratings as well as temporarily prohibit mergers and acquisitions by the largest providers.

“Credit-rating agencies should follow stricter rules, be more transparent about their ratings and be held accountable for their mistakes,”, Barnier said in a statement from the European Commission in Brussels. “I also want to see increased competition in this sector.”

Global equity, bond, currency and commodity markets were roiled last week when Standard & Poor’s sent, and then corrected, an erroneous message to subscribers suggesting France’s top credit rating had been downgraded. French 10-year bond yields rose as much as 28 basis points after the mistaken announcement. S&P later affirmed France’s AAA rating.

Barnier said he would consider the need for extra rules to prevent a rating company’s subscribers having advance notice of a sovereign rating decision before the government being assessed.

The commissioner said he will ask legal experts to “recommend whether or not we should have proposals to try and regulate this practice.”

Regulatory Requirements

“We support increasing competition and reducing any over- reliance on ratings by removing regulatory requirements to use them,” as the commission proposes, Martin Winn, a spokesman for Standard & Poor’s, said in an e-mailed statement. “But adding new rules that are out of step with other regulatory regimes will damage ratings as a globally consistent benchmark of creditworthiness.”

Under the EU plans, companies would be expected to change the firm that they pay to rate their credit every three years, Barnier said. The time limit could be extended to six years if a business hires more than one ratings company.

“Forced rotation is an experiment that will lead to a standardization and reduced offering of opinions,” Daniel Piels, a spokesman for Moody’s Investors Service, said in an e- mailed statement. “It will remove incentives to improve ratings quality and long-term performance.”

Not Clear

It’s “not clear” whether the rotation proposals will “change the market structure a lot,” Christian Opp, a professor at the University of Pennsylvania’s Wharton School, said in a telephone interview. “The smaller rating agencies will get more volume. Are they really a better substitute? Are their incentives better?”

To reduce market volatility, the draft law would restrict when ratings companies can issue assessments of governments’ creditworthiness. Such ratings should be published “after the close of business and at least one hour before the opening of trading venues” in the region, the EU said.

Governments should receive advance notice of the rating at least one day before it is published, Barnier said, as they may have “complementary information” for the ratings firm.

Today’s proposals would also give investors the right to sue if they lose money because of gross negligence or misconduct at a ratings firm. In such cases, the burden of proof would be placed on the ratings company to prove it had acted with “necessary care,” the commission said.

Ban Ratings

Barnier said that plans to empower the European Securities and Markets Authority, or ESMA, to ban sovereign ratings for as long as two months on countries negotiating international bail- out programs need more work, and had been dropped from today’s proposals.

“We needed more time to really go into detail on the technical measures,” he said. The idea has “more advantages than disadvantages,” he said. “‘We will come back to this question.”

Barnier said the commission had also decided to sideline plans to temporarily ban ratings companies that control more than 20 percent of the market from making acquisitions.

It “will take a bit of time to look at compatibility of this proposal with merger law,” Barnier said.

Today’s measures must be approved by a majority of the region’s governments and by lawmakers in the European Parliament before they can take effect.

Damaged Independence

“We remain concerned that any ability for ESMA to suspend sovereign ratings may damage the independence of the credit rating agencies in the eyes of the financial markets,” Richard Hopkin, a managing director at the Association for Financial Markets in Europe, said in an e-mailed statement.

AFME is an industry group representing international banks including BNP Paribas SA, Deutsche Bank AG and Goldman Sachs Group Inc..

Mark Morley, a spokesman for Fitch Ratings in London, declined to immediately comment.

Barnier’s proposals are “devoid of certain significant elements in comparison to what was anticipated,” Leonardo Domenici, an Italian member of the EU Parliament said in an e- mailed statement.

--With assistance from: Jonathan Stearns in Strasbourg, France, and Zeke Faux in New York. Editors: Peter Chapman, Anthony Aarons

To contact the reporter on this story: Jim Brunsden in Brussels at jbrunsden@bloomberg.net

To contact the editor responsible for this story: Anthony Aarons at aaarons@bloomberg.net


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