Commentary—

Wall Street Credit Raters Lobby Big Time

By Michael Beckel

As Congress and the Securities and Exchange Commission (SEC) eye new rules and regulations to ameliorate the financial turmoil, credit rating agencies are coming under increased scrutiny and are reaching out to K Street lobbyists for a helping hand.

The ten firms accredited by the SEC to issue credit ratings spent $370,000 on lobbying during the first three months of 2009, an increase of 42 percent over the first quarter of 2008, the nonpartisan Center for Responsive Politics (CRP) has found. Of that total, 78 percent came from the so-called “Big Three” firms, whose inflated ratings of risky securities, according to some, helped precipitate the financial crisis. Credit rating behemoth Moody’s accounted for most of this lobbying, spending a total of $180,000. Giant Standard & Poor’s dropped $60,000, and Fitch Ratings, the third major company, spent $50,000.

CRP also found that employees of these ten companies and their family members contributed more than $122,400 to federal candidates, parties, and committees during the 2008 election cycle, nearly double the amount contributed during the 2004 cycle. Of those, 74 percent went to Democrats. Moreover, contributions from employees and family members of Moody’s, Standard & Poor’s (a wholly owned subsidiary of McGraw-Hill Companies), and Fitch made up a whopping 92 percent of all industry donations in 2008.

Congress and the SEC are grappling with how to prevent inflated credit scores, the result of a business model that many experts call flawed. Originally, investors paid credit rating companies for timely and accurate analyses of risk. But beginning in the 1970s, the Big Three firms implemented a plan that required the entity seeking the credit rating (known as the “issuer”) to pay for the rating instead. Critics say there is an inherent conflict of interest in this plan — with big financial incentives for rating agencies to provide high ratings and for issuers to shop around for the highest possible ratings.

Some, such as Sean Egan, the co-founder and managing director of Egan-Jones Rating Company, which operates on an investor-pays model, are even calling for the elimination of the issuer-pays practice entirely. “The conflict of interest whereby the ratings firm is paid by the issuer is not a manageable conflict,” Egan said. “It’s lunacy to set up investment guidelines geared toward [conflicting incentives].”

To ensure that this point gets heard in Washington, this year Egan-Jones has stepped up its lobbying efforts, and Sean Egan has become a more prolific campaign contributor. The firm spent $60,000 on lobbying during the first three months of 2009. This represents a 500 percent increase compared to the first quarter of last year and is just $10,000 less than it spent during all of 2008. Since March 2008, Egan himself also gave at least $4,500 to federal lawmakers, including Senators Arlen Specter (D-Penn.); Mark Warner (D-Va.); and Richard Shelby (R-Ala.), the ranking Republican member on the Senate Banking, Housing and Urban Affairs Committee.

But the other rating agencies, especially the Big Three, may not be so eager to abandon their current business model. Fitch Ratings declined to comment and both Moody’s and its lobbying firm failed to return multiple messages. The press office at Standard & Poor’s directed this reporter to its white papers on the subject, which shows the firm’s support for the issuer-pays way of doing business.

“Standard & Poor’s believes that market participants should be free to choose from a number of business models,” the position paper stated. “Firms employing the issuer-fee model have a long-term track record of success.”

Others say that it isn’t the business model that’s the problem, but the dependence on credit raters that regulators and investors have developed. “The key to policy going forward has to be to stop our reliance on these credit ratings,” Frank Partnoy, a professor at the San Diego School of Law, recently told Bloomberg. “Even though few people respect the credit raters, most continue to rely on them. We’ve become addicted to them like a drug, and we have to figure out a way to wean regulators and investors off of them.”

(Michael Beckel is the communications assistant for the Washington-based Center for Responsive Politics, a nonpartisan organization that follows the money in politics on its website www.OpenSecrets.org. )