Michael Hudson: The Case Against the Credit Ratings Agencies

By Michael Hudson, a research professor of Economics at University of Missouri, Kansas City and a research associate at the Levy Economics Institute of Bard College

In today’s looming confrontation the ratings agencies are playing the political role of “enforcer” as the gatekeepers to credit, to put pressure on Iceland, Greece and even the United States to pursue creditor-oriented policies that lead inevitably to financial crises. These crises in turn force debtor governments to sell off their assets under distress conditions. In pursuing this guard-dog service to the world’s bankers, the ratings agencies are escalating a political strategy they have long been refined over a generation in the corrupt arena of local U.S. politics.

Why ratings agencies public selloffs rather than sound tax policy: The Kucinich Case Study

In 1936, as part of the New Deal’s reform of America’s financial markets, regulators forbid banks and institutional money managers to buy securities deemed “speculative” by “recognized rating manuals.” Insurance companies, pension funds and mutual funds subject to public regulation are required to “take into account” the views of the credit ratings agencies, provided them with a government-sanctioned monopoly. These agencies make their money by offering their “opinions” (for which they have never been legally liable) as to the payment prospects of various grades of security, from AAA (as secure government debt, the top rating because governments always can print the money to pay) down to various depths of junk.

Moody’s, Standard and Poor’s and Fitch focus mainly on stocks and on corporate, state and local bond issues. They make money twice off the same transaction when cities and states balance their budgets by spinning off public enterprises into new corporate entities issuing new bonds and stocks. This business incentive gives the ratings agencies an antipathy to governments that finance themselves on a pay-as-you-go basis (as Adam Smith endorsed) by raising taxes on real estate and other property, income or sales taxes instead of borrowing to cover their spending. The effect of this inherent bias is not to give an opinion about what is economically best for a locality, but rather what makes the most profit for themselves.

Localities are pressured when their rising debt levels lead to a financial stringency. Banks pull back their credit lines, and urge cities and states to pay down their debts by selling off their most viable public enterprises. Offering opinions on this practice has become a big business for the ratings agencies. So it is understandable why their business model opposes policies – and political candidates – that support the idea of basing public financing on taxation rather than by borrowing. This self-interest colors their “opinions.”

If this seems too cynical an explanation for today’s ratings agencies self-serving views, there are sufficient examples going back over thirty years to illustrate their unethical behavior. The first and most notorious case occurred in Cleveland, Ohio, after Dennis Kucinich was elected mayor in 1977. The ratings agencies had been giving the city good marks despite the fact that it had been using bond funds improperly for general operating purposes to covered its budget shortfalls by borrowing, leaving Cleveland with $14.5 million owed to the banks on open short-term credit lines.

Cleveland had a potential cash cow in Municipal Light, which its Progressive Era mayor Tom Johnson had created in 1907 as one of America’s first publicly owned power utilities. It provided the electricity to light Cleveland’s streets and other public uses, as well as providing power to private users. Meanwhile, banks and their leading local clients were heavily invested in Muni Light’s privately owned competitor, the Cleveland Electric Illuminating Company. Members of the Cleveland Trust sat on CEI’s board and wielded a strong influence on the city council to try and take it over. In a series of moves that city officials, the U.S. Senate and regulatory agencies found to be improper (popular usage would say criminal), CEI caused a series of disruptions in service and worked with the banks and ratings agencies to try and force the city to sell it the utility. Banks for their part had their eye on financing a public buyout – and hoped to pressure the city into selling, threatening to pull the plug on its credit lines if it did not surrender Muni Light.

It was to block this privatization that Mr. Kucinich ran for mayor. To free the city from being liable to financial pressure from its vested interests – above all from the banks and private utilities – he sought to put the city’s finances on a sound footing by raising taxes. This threatened to slow borrowing from the banks (thereby shrinking the business of ratings agencies as well), while freeing Cleveland from the pressures that have risen across the United States for cities to start selling off their public enterprises, especially since the 1980s as tax-cutting politicians have left them deeper in debt.

The banks and ratings agencies told Mayor Kucinich that they would back his political career and even hinted financing a run for the governorship if he played ball with them and agreed to sell the electric utility. When he balked, the banks said that they could not renew credit lines to a city that was so reluctant to balance its books by privatizing its most profitable enterprises. This threat was like a credit-card company suddenly demanding payment of the full balance from a customer, saying that if it were not paid, the sheriff would come in and seize property to sell off (usually on credit extended to customers of the bankers).

The ratings agencies chimed in and threatened to downgrade Cleveland’s credit rating if the city did not privatize its utility. The financial tactic was to offer the carrot of corrupting the mayor politically, while using the threat of forcing the city into financial crisis and raising its interest rates. If the economy did not pay higher utility charges as a result of privatization, it would have to pay higher interest.

But standing on principle, the mayor refused to sell the utility, and voters elected to keep Muni light public by a 2-to-1 margin in a referendum. They proceeded to pay down the city’s debt by raising its income-tax rate in order to avoid paying higher rates for privatized electricity. Their choice was thoroughly in line with Book V of Adam Smith’s Wealth of Nations provides a perspective on how borrowing ends up with a proliferation of taxes to pay the interest. This makes the private sector pay higher prices for its basic needs that Cleveland Mayor Tom Johnson and other Progressive Era leaders a century ago sought to socialize in order to lower the cost of living and doing business in the United States.

The bankers’ alliance with the Cleveland’s wealthy would-be power monopoly led it to be the first U.S. city to default since the Great Depression as the state of Ohio forced it into fiscal receivership in 1979. The banks used the crisis to make an easy gain in buying up bond anticipation notes that were sold under distress conditions exacerbated by the ratings agencies. The banks helped fund Mayor Kucinich’s opponent in the 1979 mayoral race.

But in saving Muni Light he had saved voters hundreds of millions of dollars that the privatizers would have built into their electric rates to cover higher interest charges and financial fees, dividends to stockholders, and exorbitant salaries and stock options. In due course voters came to recognize Mr. Kucinich’s achievement have sent him to Congress since 1997. As for Mini Light’s privately owned rival, the Cleveland Electric Illuminating Company, it achieved notoriety for being primarily responsible for the northeastern United States power blackout in 2003 that left 50 million people without electricity.

The moral is that the ratings agencies’ criterion was simply what was best for the banks, not for the debtor economy issuing the bonds. They were eager to upgrade Cleveland’s credit ratings for doing something injurious – first, borrowing from the banks rather than covering their budget by raising property and income taxes; and second, raising the cost of doing business by selling Muni Light. They threatened to downgrade the city for acting to protect its economic interest and trying to keep its cost of living and doing business low.

The tactics by banks and credit rating agencies have been successful most easily in cities and states that have fallen deeply into debt dependency. The aim is to carve up national assets, by doing to Washington what they sought to do in Cleveland and other cities over the past generation. Similar pressure is being exerted on the international level on Greece and other countries. Ratings agencies act as political “enforcers” to knee-cap economies that refrain from privatization sell-offs to solve debt problems recognized by the markets before the ratings agencies acknowledge the bad financial mode that they endorse for self-serving business reasons.

Why ratings agencies oppose public checks against financial fraud

The danger posed by ratings agencies in pressing the global economy to a race into debt and privatization recently became even more blatant in their drive to give more leeway to abusive financial behavior by banks and underwriters. Former Congressional staffer Matt Stoller cites an example provided by Josh Rosner and Gretchen Morgenson in Reckless Endangerment regarding their support of creditor rights to engage in predatory lending and outright fraud. On January 12, 2003, the state of Georgia passed strong anti-fraud laws drafted by consumer advocates. Four days later, Standard & Poor announced that if Georgia passed anti-fraud penalties for corrupt mortgage brokers and lenders, packaging including such debts could not be given AAA ratings.

Because of the state’s new Fair Lending Act, S&P said that it would no longer allow mortgage loans originated in Georgia to be placed in mortgage securities that it rated. Moody’s and Fitch soon followed with similar warnings.

It was a critical blow. S&P’s move meant Georgia lenders would have no access to the securitization money machine; they would either have to keep the loans they made on their own books, or sell them one by one to other institutions. In turn, they made it clear to the public that there would be fewer mortgages funded, dashing “the dream” of homeownership.

The message was that only bank loans free of legal threat against dishonest behavior were deemed legally risk-free for buyers of securities backed by predatory or fraudulent mortgages. The risk in question was that state agencies would reduce or even nullify payments being extracted by crooked real estate brokers, appraisers and bankers. As Rosner and Morgenson summarize:

Standard & Poor’s said it was taking action because the new law created liability for any institution that participated in a securitization containing a loan that might be considered predatory. If a Wall Street firm purchased loans that ran afoul of the law and placed them in a mortgage pool, the firm could be liable under the law. Ditto for investors who bought into the pools. “Transaction parties in securitizations, including depositors, issuers and servicers, might all be subject to penalties for violations under the Georgia Fair Lending Act,” S&P’s press release explained.

The ratings agencies’ logic is that bondholders will not be able to collect if public entities prosecute financial fraud involved in packaging deceptive mortgage packages and bonds. It is a basic principle of law that receivers or other buyers of stolen property must forfeit it, and the asset returned to the victim. So prosecuting fraud is a threat to the buyer – much as an art collector who bought a stolen painting must give it back, regardless of how much money has been paid to the fence or intermediate art dealer. The ratings agencies do not want this principle to be followed in the financial markets.

We have fallen into quite a muddle when ratings agencies take the position that packaged mortgages can receive AAA ratings only from states that do not protect consumers and debtors against mortgage fraud and predatory finance. The logic is that giving courts the right to prosecute fraud threatens the viability of creditor claims endorses a race to the bottom. If honesty and viable credit were the objective of ratings agencies, they would give AAA ratings only to states whose courts deterred lenders from engaging in the kind of fraud that has ended up destroying the securitized mortgage binge since September 2008. But protecting the interests of savers or bank customers – and hence even the viability of securitized mortgage packages – is not the task with which ratings agencies are charged.

Masquerading as objective think tanks and research organizations, the ratings agencies act as lobbyists for banks and underwriters by endorsing a race to the bottom – into debt, privatization sell-offs and an erosion of consumer rights and control over fraud. “S&P was aggressively killing mortgage servicing regulation and rules to prevent fraudulent or predatory mortgage lending,” Stoller concludes. “Naomi Klein wrote about S&P and Moody’s being used by Canadian bankers in the early 1990s to threaten a downgrade of that country unless unemployment insurance and health care were slashed.”

The basic conundrum is that anything that interferes with the arbitrary creditor power to make money by trickery, exploitation and outright fraud threatens the collectability of claims. The banks and ratings agencies have wielded this power with such intransigence that they have corrupted the financial system into junk mortgage lending, junk bonds to finance corporate raiders, and computerized gambles in “casino capitalism.” What then is the logic in giving these agencies a public monopoly to impose their “opinions” on behalf of their paying clients, blackballing policies that the financial sector opposes – rulings that institutional investors are legally obliged to obey?

Threats to downgrade the U.S. and other national economies to force pro-financial policies

At the point where claims for payment prove self-destructive, creditors move to their fallback position. Plan B is to foreclose, taking possession of the property of debtors. In the case of public debt, governments are told to privatize the public domain – with banks creating the credit for their customers to buy these assets, typically under fire-sale distress conditions that leave room for capital gains and other financial rake-offs. In cases where foreclosure and forced sell-offs are not able to make creditors whole (as when the economy breaks down), Plan C is for governments simply to bail out the banks, taking bad bank debts and other obligations onto the public balance sheet for taxpayers to make good on.

Standard and Poor’s threat to downgrade of U.S. Treasury bonds from AAA to AA+ would exacerbate the problem if it actually discouraged purchasers from buying these bonds. But on the Monday on August 8, following their Friday evening downgrade, Treasury borrowing rates fell, with short-term T-bills actually in negative territory. That meant that investors had to lose a small margin simply to keep their money safe. So S&P’s opinions are as ineffectual as being a useful guide to markets as they are as a guide to promote good economic policy.

But S&P’s intent was not really to affect the marketability of Treasury bonds. It was a political stunt to promote the idea that the solution to today’s budget deficit is to pursue economic austerity. The message is that President Obama should roll back Social Security and Medicare entitlements so as to free more money for more subsidies, bailouts and tax cuts for the top of the steepening wealth pyramid. Neoliberal Harvard economics professor Robert Barro made this point explicitly in a Wall Street Journal op-ed. Calling the S&P downgrade a “wake-up call” to deal with the budget deficit, he outlined the financial sector’s preferred solution: a vicious class war against labor to reduce living standards and further polarize the U.S. economy between creditors and debtors by shifting taxes off financial speculation and property onto employees and consumers.

First, make structural reforms to the main entitlement programs, starting with increases in ages of eligibility and a shift to an economically appropriate indexing formula. Second, lower the structure of marginal tax rates in the individual income tax. Third, in the spirit of Reagan’s 1986 tax reform, pay for the rate cuts by gradually phasing out the main tax-expenditure items, including preferences for home-mortgage interest, state and local income taxes, and employee fringe benefits—not to mention eliminating ethanol subsidies. Fourth, permanently eliminate corporate and estate taxes, levies that are inefficient and raise little money. Fifth, introduce a broad-based expenditure tax, such as a value-added tax (VAT), with a rate around 10%.

Bank lobbyist Anders Aslund of the Peterson Institute of International Finance jumped onto the bandwagon by applauding Latvia’s economic disaster (a 20 percent plunge in GDP, 30 percent reduction of public-sector salaries and accelerating emigration as a success story for other European countries to follow. As they say, one can’t make this up.

As the main advocate and ultimate beneficiary of privatization, the financial sector directs debtor economies to sell off their public property and cut social services – while increasing taxes on employees. Populations living in such economies call them hell and seek to emigrate to find work or simply to flee their debts. What else should someone call surging poverty, death rates and alcoholism while a few grow rich? The ratings agencies today are like the IMF in the 1970s and ‘80s. Countries that do not agree sell off their public domain (and give tax deductibility to the interest payments of buyers-on-credit, providing multinationals with income-tax exemption on their takings from the monopolies being privatized) are treated as outlaws and isolated Cuba- or Iran-style.

Such austerity plans are a failed economic model, but the financial sector has managed to gain even as economies are carved up. Their “Plan B” is foreclosure, extending to the national scale. By the 1980s, creditor-planned economies in Third World debtor countries had reached the limit of their credit-worthiness. Under World Bank coordination, a vast market in national infrastructure spending for creditor-nation bank debt, bonds and exports. The projects being financed on credit were mainly to facilitate exports and provide electric power for foreign investments. After Mexico announced its insolvency in 1982 when it no longer could afford to service foreign-currency debt, where were creditors to turn?

Their solution was to use the debt crisis as a lever to start financing these same infrastructure projects all over again, now that most were largely paid for. This time, what was being financed was not new construction, but private-sector buyouts of property that had been financed by the World Bank and its allied consortia of international bankers. There is talk of the U.S. Government selling off its national parks and other real estate, national highways and infrastructure, perhaps the oil reserve, postal service and so forth.

S&P’s “opinion” was treated seriously enough by John Kerry, the 2004 Democratic Presidential nominee, as a warning that America should “get its house in order.” Despite the fact that on page 4 of its 8-page explanation of why it downgraded Treasury bonds, S&P’s stated: “We have changed our assumption on this because the majority of Republicans in Congress continue to resist any measure that would raise revenues, a position we believe Congress reinforced by passing the act,” was one of the three senators appointed to the commission under the debt-ceiling agreement. He chimed in to endorse the S&P action as a helpful nudge for the country to deal with its “entitlements” program – as if Social Security and FICA withholding were a kind of welfare, not actual savings put in by labor, to be wiped out as the government empties its coffers to bail out Wall Street’s high rollers.

No less a financial publication than the Wall Street Journal has come to the conclusion that “in a perfect world, S&P wouldn’t exist. And neither would its rivals Moody’s Investors Service and Fitch Ratings Ltd. At least not in their current roles as global judges and juries of corporate and government bonds.” As its financial editor Francesco Guerrera wrote quite eloquently in the aftermath of S&P’s bold threat to downgrade the U.S. Treasury’s credit rating: “The historic decision taken by S&P on Aug. 5 is the culmination of 75 years of policy mistakes that ended up delegating a key regulatory function to three for-profit entities.”

The behavior of leading banks and ratings agencies Cleveland and other similar cases – of promising to give good ratings to states, counties and cities that agree to pay off short-term bank debt by selling off their crown jewels – is not ostensibly criminal under the law (except when their hit men actually succeed in assassination). But the ratings agencies have made an compact with crooks to endorse only public borrowers that agree to pursue such policies and not to prosecute financial fraud.

To acquiescence in such economically destructive financial behavior is the opposite of fiscal responsibility. Cutting federal taxes and Social Security payments to obtain a more positive S&P “opinion” would give banks an ability to “pull the plug” and force privatization and anti-labor austerity plans by refraining from rolling over the U.S. debt – and cutting taxes Tea-Party style rather than funding spending by taxation on a pay-as-you-go-basis.

The present meltdown of the euro provides an object lesson for why policy-making never should be left to central bankers, because their mentality is pro-creditor. Otherwise they would not have the political reliability demanded by the financial sector that has captured the central bank, Treasury and regulatory agencies to gain veto power over who is appointed. Given their preference for debt deflation of the “real” economy – while trying to inflate asset prices by promoting the banks’ product (debt creation) – central bank and Treasury solutions tend to aggravate economic downturns. This is self-destructive because today’s major problem blocking recovery is over-indebtedness.

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  1. Justicia

    The rating agencies also screwed public issuers in other ways as well:

    “Despite the lack of defaults of municipal bonds, issuers of these securities have historically earned a lower rating than comparable corporate bonds when viewed in terms of likelihood of default. Moody’s Investor Services, for example, has employed a distinctly separate method of evaluating municipal bonds for 70 years. In general, Moody’s bases its municipal bond ratings on the fiscal strength of the municipality that issues the bonds. For corporate bonds and structured, or asset-backed bonds, on the other hand, Moody’s bases its rating on risk of loss.”

    –U.S. Congress, House Committee on Financial Services, Municipal Bond Fairness Act, Sept 2008, H.R. 6308 Sec. 205,

    If the same criteria applied to corporate bonds were applied to municipal debt, then municipal bonds rated below investment grade (Caa) would have received investment grade ratings (Ba-Baa). This disparity has forced municipal issuers to buy “credit enhancement” in the form of bond insurance at a cost of billions of dollars.

  2. oy

    The rating agencies do not rate bank loans and lines of credit, only bonds, so they were not threatened with a shrinkage of their revenues in the Cleveland case.

    1. Barons Von Baitnswitch

      What? Who was threatening whom:

      “In a series of moves that city officials, the U.S. Senate and regulatory agencies found to be improper (popular usage would say criminal), CEI caused a series of disruptions in service and worked with the banks and ratings agencies to try and force the city to sell it the utility. Banks for their part had their eye on financing a public buyout – and hoped to pressure the city into selling, threatening to pull the plug on its credit lines if it did not surrender Muni Light.”

  3. Monroe

    Citizens must remove them self from
    the influences of the big banks and credit Moloch
    to whatever degree possible.

    You do that not by taking, but by giving.
    Use cash in all small businesses. Give away your
    used clothes to the best charity, The Salvation Army.

    Force the employment of more people by refusing to
    use ATM or debit cards. Chat up your bank tellers.
    Demand your bank employ more of your neighbors if they are to get your deposits.

    If you are afraid of getting robbed carrying cash, take a self defense class.

    Ask every supermarket clerk and employee you encounter if they are a union member and if they are getting benefits.

    Stir the pot.

  4. Deloss

    My God.
    My God.
    My God.

    I shall try to send this to Rangel, Schumer and Gillibrand.

    Thank you, Yves.

  5. Hal Roberts

    At first I thought it was a good idea for them to down grade the USA credit rating I looked at it as a much needed shot across the bow of the US. May be so but my appreciation stops their.

    When I read something like this it just reinforce my thought that we should have let these Bank fail in the first place. The more I find out about them the more I see how they are really just out to under mind and control civilization as a whole. We should just close down all offending Banks. Confiscate their assets give um their day in court and send them where they belong.

    Give them the Accountability they long for in it’s proper order.

  6. Susan the other

    The best and briefest suggestion was from one of yesterday’s readers: get rid of the credit rating agencies by making public all of the information on the “credit” in question. Sunshine.

  7. Siggy

    If RMBS are being downgraded; then CDO’s should be downgraded . . . .But they were not.

    The agencies had little to no experience with RMBS and subprime based securities; This was paper they should not have rated! But they did and for very handsome fees.

    As the agencies think cheaply of their ratings, so should investors. It’s a bit tedious, but a nine year old can estimate the credit worthiness of a community or a company. Relying on the rating agencies to do so is hardly the exercise of competent due diligence.

    It might appear politcal at this juncture; however, the Justice Department should be initiating indictments for fraud. But we are waiting, wilst they shred documents that demonstrate patterns of deceit. This cancer of corruption is so wide spread that it may well be that only a total collpase will provide the opportunity for a correction.

    As much as they might try to hide behind the curtain of opinion, it is my view that the rating agencies were complicit in the fraud attendant to the subprime/CDO mess. The real issue is to what extent were they witting?

    1. Push Back Harder

      For the Justice Department to leap into action like Batman, the regulators needed to their job first. This famously included John Dugan and John Bowman, two royals that are doin’ a-o-k compared to the enabling wreakage they indifferently left in their wake. The “Justice” Dept, is, of course going after whistleblowers and activists like a hellfire missle.

  8. ScottS

    Why doesn’t the Federal Government lay out standards for ratings (formulae, criteria, etc), and subsidize anyone who wants to do the legwork? Or just give it over to the CBO.

    1. Cog

      Because, imagine where CBO would go with ratings quality on things it had a vested interest in. CBO has historically wrong about GDP growth, for example, because…I don’t know, maybe they want to keep the beltloop thing going with rosey estimates. What makes you think they would stop by forcing ratings to have some integrity? Both parties of government have been affected by what it is that sustains their power, not what is right.

  9. PT Barnum

    Like credit agencies aren’t blatantly criminal at all time.

    If you or me ran around telling everyone how our neighbor had bought a boat, refused to pay for it, and then lied about having bought the boat in the first place, and none of these things were true, then we would be up for libel. Not the Credit Reporting Agency though. They are special. They can lie all they want.

    They created the fake crime of “identity theft” to replace the real crime of fraud, perpetrated by a criminal against a greedy business.

    Well, the business can’t find the criminal, and neither the credit card company or the business want to take the loss. So they dump it on the person the criminal pretended to be.

    Why? Cause they can. Because the credit score companies are eager and hungry to commit libel against people and ruin their credit. Because the government backs this libel and cradles the credit reporting agency in their arms.

    The credit reporting companies have ALWAYS be criminal enterprises.

    1. Ministry of Info

      Loan shark: Between a rock n’ a hard place. This is the best environment to make a killing, sometimes in two ways.

  10. JamesW

    Louis Brandeis, once an honorable member of the US Supreme Court (when such still existed), and author of the classic expose of monopolistic corruption in the 1900s, Other People’s Money and How the Bankers Use It, stated in that book on p. 114 his opinion of rating agencies:

    “It needs no banker experts in value to tell us that bonds of Massachusetts or New York ….. are safe investments.”

    It was accurate than, and more so today. Thanks to Prof. Hudson for another insightful and highly intelligent and informative article.

    Brandeis’ best remark from that book:

    “They control the people through the people’s own money.”

    [Sidebar: Today on that pathetic show hosted by rightwing whackadoodle Diane Rehm, the faux newsies kept repeating “conspiracy theory, conspiracy theory” as they usually do, this time in regard to the leak that the DOJ is investigating S&P. Evidently, those faux newsies – including the neocon mealy-mouthed David Ignatius — are so blithely ignorant that they have never read, and probably never heard of, the FCIC report delivered by Phil Angelides which was handed over quite some time ago to the DOJ for criminal prosecution of those entities involved in promulgating the economic meltdown, including one rating agency, S&P!]

    Many years ago, while working in being involved in political activism in the D.C. area, a friend of mine whose father was a lobbyist had an invite to a Georgetown dinner affair he wasn’t planning on attending, so I took the invitation and attended it out of curiousity.

    I found myself seated between ultra-rightwing whackadoodles Linda Chavez (Carter Administration, Reagan Administration, Manhattan Institute) and Diane Rehm and only my rock hard sixpack stomach muscles prevented my from spewing — those two are truly rightwing nuts.

    1. Tao Jonesing

      “They control the people through the people’s own money.”

      Remember that Brandeis wrote that line when we really had fractional reserve lending, when banks actually had to have other people’s money in order to lend. His words helped pass the Federal Reserve Act, and so we now have fictional reserve lending instead.

      And I love Brandeis. His opinion in Eerie Railroad v. Tompkins is one of my all time favorite Supreme Court opinions.

      1. Maximilien

        This famous Brandeis quote bears repeating:

        “Our government is the potent, the omnipresent teacher. For good or ill it teaches the whole people by its example. Crime is contagious. If the government becomes the law breaker, it breeds contempt for laws; it invites every man to become a law unto himself. A lawless government invites anarchy.”

    1. Cog

      It was only the ratings on the investment portfolio, not the City. LA is going to need to borrow, as laggard to CA’s recovery with 13.9% current unemployment. That makes them BFFs w/S&P.

      1. Nick

        im not sure if people are that vested in what sandp say anymore. Los angeles doesn’t need sandp, i don’t think anybody does. I actually think itd be ill advised for anybody to continue paying them any attention. they’re all in the big financial sector scam, no better than any brokers on wall st.

  11. Graham

    “The ratings agencies’ logic is that bondholders will not be able to collect if public entities prosecute financial fraud involved in packaging deceptive mortgage packages and bonds. It is a basic principle of law that receivers or other buyers of stolen property must forfeit it, and the asset returned to the victim. So prosecuting fraud is a threat to the buyer – much as an art collector who bought a stolen painting must give it back, regardless of how much money has been paid to the fence or intermediate art dealer. The ratings agencies do not want this principle to be followed in the financial markets.”

    Just like the stampede to treasuries, if S&P says one thing, the smart money goes the other way. Loss of trust because this kind of behavior will destroy S&P and other MOTUs, and take us down too. Warren Mosler needs to be appointed Treasury Sec ASAP.

  12. Doug Terpstra

    Another terrific, horrific post; thanks, Yves. Michael Hudson’s damning indictment of the credit rating agencies shows their credibility to be FFF, complete fail crossing into criminal fraud. He certainly has their number, a sub-basement credit score matching their credibility/morality score.

    The analogy of investing in RMBS as tantamount to receiving stolen property is exactly on the mark — the mark, being the American people and local governments—not yet wholly captured like DC. Indeed, the way loans are designed and sold, under the watchful eye of Greenspan/Bernanke’s Criminal Reserve, this is no longer plausible as mere short termist negligence or unenlightened self-interest, but conspiracy to commit with malice aforethought. It is premeditated disaster capitalism with Shock Doctrine written all over it.

    Siggy points out more evidence of crime on the differential in RMBS vs CDO ratings. Still more are credible allegations of insider collusion and the strange WTF AAA rating for France and other Euros (last I checked), versus the downgrading of a global superpower that can print reserve currency at will. Yet even such incontrovertible evidence will not bring the SEC, the Criminal Reserve, or the Ministry of Justice to even do an investigation. As Siggy says, “This cancer of corruption is so widespread that it may well be that only a total collpase will provide the opportunity for a correction.”

    That is why many of us are shorting the stock market in spirit if not in gold. It’s astonishing and telling to realize that the price of gold has exploded from $250/once since shrub first stole office in 2001 to nearly $1900.00 today. That’s more than a 750% increase in ten years, with almost half of the dollar increase druing the current reign of shrub III.

  13. Tyler

    It simply doesn’t sound reasonable that the fiscal fate of the financial systems rests on the analytical verdict of a few companies, the financial record of which has in recent years not been unblemished.

  14. Because

    The so called “rating downgrade” was paid for and then S&P then tried to use some “political correct” statement why. S&P are dead anyway you look at it. The key is who paid for the downgrade. I know who, but I ain’t telling!

    You will have to figure it out for yourself. A hint: it is more than 1.

  15. craazyman

    i dunno. i think this one wobbles. who among us is their brother’s keeper? few indeed. and those who are, you don’t hear or see them except as faces on the street and you have no idea which ones they are. or what reward they receive for their service, other than resentment until the day of ascension, when everything shines like streets after the rain. jerusalem, jerusalem thou slayest the prophets and stonest those sent unto thee.

  16. Lyle

    An interesting piece that says Moodys was one big conflict of interest, and that management managed the ratings so as not to make the customers unhappy. This is from a former senior vice president in the derivatives products group: http://finance.yahoo.com/blogs/daily-ticker/moody-analyst-breaks-silence-says-ratings-agency-rotten-155917921.html
    He made the comments in a filing on the Dodd-Frank rules to be set up on ratings agency reform. If this is sustained, then the first amendment protections of the ratings agencies are toast.

  17. nick

    we should employ ratings agencies that rate credit ratings agencies, which rate stocks. that’ll show em.

  18. nick

    If you think about it, credit ratings agencies are a contradiction to the neoclassical theory of economics which got us into this mess in the first place…buyers and sellers who have perfect information wouldn’t need credit ratings agencies…right? or am i missing something?

  19. compass rose

    So, c’mon, Warren Buffet and George Soros:

    Pour some of your billions into creating a Consumers Union for the financial industry!

    An independent, consumer oriented organization with a guaranteed/dedicated flow of funding, a rotating board of directors, and operating under a charter of sunshine paralleling that under which any modest state employee labors (while the bigwigs tunnel and mine in silence).

    How about some solar energy for the financial industry?

    Yves, thanks so much for this piece; I just checked the Hudson blog the other day and probably wouldn’t again for a couple weeks.

  20. Tao Jonesing

    Such austerity plans are a failed economic model

    Uh, not for the banksters.

    but the financial sector has managed to gain even as economies are carved up.

    See, Prof. Hudson agrees.

    But S&P’s intent was not really to affect the marketability of Treasury bonds. It was a political stunt to promote the idea that the solution to today’s budget deficit is to pursue economic austerity.

    I accept that assessment as it is the best explanation for what happened. But it does not fit within the narrative that S&P was mistaken or stupid. They were deliberate and venal, serving their own self-interest and that of their bankster masters.

    This article displays a fair amount of cognitive dissonance, however. On the one hand, we have this astute recognition of realist banksters lying, cheating and stealing to accrue power to themselves and prey upon the rest of us. On the other hand, there’s all of this rationalist language regarding a “failed economic model” that was just moments before labeled the lie that it is.

    The only way to reconcile these two opposing thoughts is to recognize that austerity is a successful political strategy, not a failed economic model. Of course, then you’d have to accept that economics are really politics, and then we couldn’t pretend that any economic model is anything other than a lie, propaganda posited to accumulate power for a particular group.

    But if you insist on labeling austerity an “economic model,” then you have stop rationalizing it and start calling it out for the lie that it is. When you are sitting at the negotiating table and the person on the other side reveals himself to be a lying sociopath, you have to get up from the table and walk away because he will renege on any agreement you reach whenever it suits him to do so.

    As long as we continue to negotiate with sociopaths, the sociopaths will continue to run the show. We are giving them all sorts of time to figure out how to undermine every rationalist argument we make. Just as they managed to affix the “Keynesian” label to something that bears very little resemblance to Keynes’ theory as a whole, they’ll manage to do the same thing to MMT, just taking the parts that perpetuate their rule (and yes, there are aspects of MMT that are very helpful to acchieving that end, if you can manage to ignore the rest, which should be a no-brainer).

    1. Nathanael

      Unlimited theft by kleptocrats is, indeed, an economic model.

      It is also a failed economic model — it’s now destroying the source of wealth even for the kleptocrats.

      So I don’t see what your problem is with the term “failed economic model”. :-)

  21. Marc Michon

    So another reason for anti tax propaganda is
    borrowing from the banks rather than covering government budget by raising property and income taxes
    instead of funding spending by taxation on a pay-as-you-go-basis.
    That way banks make money on all govt functions or projects more scam
    Then govt functions cost us double
    More info on same subject
    United States Under Attack by International Zombie Bankers, Corrupt Ratings Agencies; Italian Judge Raids S&P, Moody’s Milan Offices; Greece Bans Short Selling; Time to Jail Speculators
    Oppose Obama’s Unconstitutional Supercongress of Austerity Ghouls, aka The Twelve Tyrants
    The Debt Ceiling Crisis: When Statutes Conflict, the Fourteenth Amendment and the General Welfare Clause Rule
    Forget Compromise: The Debt Ceiling Is Unconstitutional
    Social Security Is Not Welfare. It Is a Debt Due and Owing. We paid for it we are owed it.

    fight back general shift replaces the general strike in the 21st century – get your money out
    http://www.flashpoints.net/ Community Business: Catherine Austin Fitts august 12, also aug 8 and 10th
    great cartoon and info

  22. Ed

    While Hudson makes some good points, its amusing that all of these negative articles on rating agencies, some taking aim at stuff they have been doing for decades, are coming out right around the time one of them downgraded US debt and others are considering it.

    Many of these articles are coming from the left side of the political spectrum. I think the left is being bamboozled again.

    The episode has convinced me, however, that the agencies should have stayed away from rating government debt, or at least used a type of rating and methodoloy and terminology that made it clear that it was different from sovereign debt. Its just too politicized and the area invites too much political pressure and postering.

    Technically, the people who say that governments can’t default have a point. As long as the debt is less than 100% of GDP, a government can repay the whole thing by taxing everything owned by their private citizens, and turning the part of the economy owned directly by the government over to the creditors. They can do the same thing to pay interest, and service much higher levels of debt. To the extent the debt is owned by their own subjects or citizens, as is generally the case with pensions, these creditors don’t have much recourse if the government simply stops paying them. So at the least, foreign investors in government debt have a different type of risk than, for example, a retiree hoping for a promised pension.

    And if you are talking about sovereign debt, a sovereign government can even invade other countries and plunder them to balance their books (to a large extent this is what the Nazis did)!

    In practice, governments may want or may not be able to politically survive these sorts of extreme measures and you won’t often see them. So its not that government obiglations might not be honored, its just the factors that determine this are almost entirely political, eg does the entity have a political process that enables it to finance its obligations or which encourages it to stiff its creditors? Come to think of this, the S &P rationale for the downgrade of US debt was based exactly on this sort of consideration.

    1. Cahal

      ‘While Hudson makes some good points, its amusing that all of these negative articles on rating agencies, some taking aim at stuff they have been doing for decades, are coming out right around the time one of them downgraded US debt and others are considering it.’

      No, Hudson has been talking about how corrupt the agencies are for a long time, as have Yves and others – just look through the archives. And the last line – are you suggesting they are somehow on the side of the U.S. government?

      Obviously you’d expect more to come out after a significant ratings-agency related event, just as people were not commenting as much on Egypt before the rebellions. People can’t write about all of the things all the time.

      ‘Many of these articles are coming from the left side of the political spectrum. I think the left is being bamboozled again.’

      ‘Left’ now apparently means ‘anybody who doesn’t worship corporations’. Any Conservative from before mid 20th century would be campaigning against the banks etc. just as hard as the ‘left’ are now.

      ‘Technically, the people who say that governments can’t default have a point. As long as the debt is less than 100% of GDP, a government can repay the whole thing by taxing everything owned by their private citizens, and turning the part of the economy owned directly by the government over to the creditors.’

      No, 100% of GDP is not a limit; GDP is an annual figure which is economically meaningless, barring perhaps the agriculture industry. What matters is whether you can service the debt, which governments ALWAYS can because they can print their own currency!

      If you find yourself referencing Zimbabwe in your response then you need to learn some more about monetary policy.

  23. Mike Dever

    The latest attack on credit ratings agencies by one of their own, William J. Harrington, makes it clear that they operated for decades addled with conflicts-of-interest at best, and corruption likely. I cover this topic in my book “Jackass Investing: Don’t do it. Profit from it.” I provide access to the entire chapter that includes the credit ratings agencies from my blog at this link: http://jackassinvesting.com/blog/.

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