These agencies that rate credit are firms. The three important ones are Fitch, Standard & Poor and Moody’s. They rate or judge the value of bonds. They gauge the possibility of debts going into default. These debts are issued by various issuers like corporations and governments. More recently the securtizers have started to issue these debts in the form of mortgages.
In the credit world those who are going to invest, the investors, try to know how much credit worthy the borrowers are. For this they turn to the credit rating agencies but there are other sources also.

From the 1930’s the financial regulators have stipulated that the institutions under them have to heed the evaluation of the rating agencies regarding bond investments. The regulations had been introduced keeping in view the safety of the investors and this has led to the credit agencies acquiring a major role in bond markets.

The NRSRO was created in 1975 – it being a rating agency category that had to be listened to. Barriers were set up to prevent easy entry into this category. By doing so the Securities and Exchange Commission added to the importance of the previously mentioned rating agencies.

These three played a vital role in the housing bubble and the sub-prime debacle. The sale of securities backed by sub-prime mortgages on residential houses depended on the initial grades or ratings given by the rating agencies. But when the price of real estate stopped spiking and began go down the ratings that were first given were found to be too optimistic – especially in regard to the mortgages that were contracted during 2005 to 2006. Consequently the bonds backed by these mortgages collapsed bringing down the entire financial system of America down to its knees.

Most of those involved now contend the ratings on the collateralized debt obligations (CDOs) were poor. Thus the issue at stake is whether bringing about changes in the regulatory system could guarantee that such behaviour would not be repeated in the future. The solution implicates the type of competition within the NRSRO category.

Theoretically completion is healthy among the various agencies that do the rating. It would lead to innovation and better research. But in practice there are problems. Competition can lead to inflation of ratings because it is the firm that decides which agency will rate them.

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