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CREDIT-RATING AGENCIES
A credit downgrade can make it more expensive for a government to borrow money
They are credit-rating agencies, which exist to assess the credit-worthiness of bond issuers companies or, as in this case, countries who borrow money by issuing IOUs known as bonds.
But who are they? Do we need them and how do they work out whether to give the top-ofthe-class AAA or a lower grade, such as CCC, which - sticking with the schools analogy means the issuer is probably planning on bunking off?
Poor and Moody
Standard & Poor's (S&P), as the oldest, comes first. It was begun in 1860 by Henry Poor,
who wrote a history of the finances of railroads and canals in the United States as a guide for
investors.
The 'Standard' part came into being in 1906, when the Standard Statistics Bureau was set up
to examine finances of non-railroad companies.
The two businesses joined forces in the 1940s.
Moody's was started in 1909 by John Moody, who published an analysis of the tangled and
uncertain world of railway finances, grading the value of its stocks and bonds.
These are now mighty concerns - Moody's operating income was $688m in 2010 and
Standard & Poor's made $762m.
They each have 40% apiece of the business of rating major companies and countries.
Fitch, with another eponymous founder, John Fitch, was set up in 1913 and is a smaller
version of the other two.
There are hosts of other ratings agencies, whose names rarely appear even within the darker
corners of the financial pages - so why are these three businesses the ones everyone watches?
Track Record
Part of the answer lies with the Securities and Exchange Commission (SEC), the US financial
watchdog.
In 1975, it acknowledged these three as Nationally Recognized Statistical Rating
Organizations (NRSRO).
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The reasons for ratings adjustments vary, and may be broadly related to overall shifts in the
economy or business environment - or more narrowly focused on circumstances affecting a
specific industry, entity, or individual debt issue
SCORE CARD
After all, stacks of mortgage-backed securities - the investments that were backed by
mortgages that were either never going to be paid back or were even fraudulent - were given
the very best grade by the three supposed experts in rating the likelihood of the money being
paid back.
Similar dramatic swings have been taking place in the ratings applied to government-backed rather than private property-supported debt. One day a country's bond is graded a safe top
rating and the next given a mark that suggests investors' money is not safe.
Many observers believe that if the rating on the UK's government bonds - or gilts - was
downgraded by just one notch from AAA to AA it would put up the cost of official
borrowing by around half of one per cent.
That would mean a big rise in the annual interest bill which has to be met by taxpayers.
When asked why it changes ratings, S&P responded: "The reasons for ratings adjustments
vary, and may be broadly related to overall shifts in the economy or business environment or more narrowly focused on circumstances affecting a specific industry, entity, or individual
debt issue."
It indeed appears a dark art - but one whose influence has a more measurable effect.