Assessments by credit rating agencies wield an enormous influence over countries' borrowing costs, but how reliable are they? MEPs will discuss new and tougher rules to make the agencies more transparent and reliable on Tuesday afternoon and vote on them the following day. The proposed legislation aims to reduce investors' over-reliance on external credit ratings of sovereign debt, address conflicts of interest in agency activities and increase transparency and competition in the sector.
Why the new rules?
When a credit rating agency downgrades a country's credit rating, it becomes more expensive for it to borrow money and more difficult to cut debts. The higher borrowing costs will also affect the services offered to ordinary citizens.
The debt crisis in Europe shows that the existing regulatory framework does not suffice. When nine eurozone countries were downgraded by Standard & Poor's in January 2012, it led markets to speculate on the break-up of the eurozone.
What the new rules set out to achieve
One goal is to reduce the reliance on rating agencies. Credit institutions and investment firms will have to put into place internal procedures for assessing their own credit risk, while issuers of structured finance instruments will be required to seek two ratings at once from two different agencies as well as to switch to a different agency every four years.
There should also be more transparent and more frequent sovereign debt ratings. There would be stricter controls on when credit rating agencies could publish their rating of sovereign states, which would only be at specific times of the year. Agencies would need to explain the key factors underlying their ratings and refrain from making any direct or explicit recommendations on countries' policies. In addition they would not be able to issue explicit recommendations on member states' policies.
Conflicts of interest should also be eliminated.This is why shareholdings of credit rating agencies in rated agencies would be capped. The new rules would prohibit agencies' shareholders with 10% or more of the capital or voting rights from holding 10% or more of a rated entity. They will also be prevented from owning 5% or more of the capital or voting rights in more than one agency unless the agencies involved belong to the same group.
Finally, credit rating agencies should become more accountable for the ratings they provide. Investors or share issuers will be able to claim damages for ratings that prove to be ill-founded and harm their interests.
The rules would apply to all credit rating agencies operating in the EU.
The vote on Wednesday 16 January will be on an agreement that has been reached with the Council.