Influence of US credit rating agencies key mainland worry

The collapse of the US investment bank Lehman Brothers in 2008 and the eruption of the Greek debt crisis in 2010 has cast doubts on global rating agencies' integrity in conducting the rating business. They were criticized on two fronts: for being either too slow to detect any credit weaknesses related to sovereign countries or financial products during the pre-crisis period, or for being in too much of a rush to downgrade the ratings after the crisis onset, which exacerbated the situation.

Global financial communities are now calling for increasing financial regulations and supporting domestic rating agencies to counteract the dominance of US rating agencies in the market.

The communities want to regain "the power of discourse in international finance" by reforming the current global credit rating system.

More European and Asian countries are hustling to support their domestic rating agencies: Russia has declared that the country will establish its own rating agencies; Malaysia and Korea have announced that all domestic bond issuance and bank lending must get ratings from domestic agencies; and Japanese domestic rating agencies, with governmental support, have successfully acquired major market share in the domestic rating business.

In Hong Kong, Securities and Futures Commission (SFC) Chief Executive Officer Martin Wheatley said that the SFC will consult on how to regulate credit rating agencies in the city. Since the regulations will involve legislation, the SFC expects that enforcement of new regulations will have to wait until 2011, Wheatley said.

As for China, concerns have risen that the country's rating businesses are being penetrated by US players. There are four main domestic players in the market, namely, Dagong Global Credit Rating Co (Dagong), China Chengxin Credit Management Co (China Chengxin), China Lianhe Credit Rating Co (China Lianhe) and Shanghai Brilliance Credit Rating and Investors Service (Shanghai Brilliance). However, except Dagong, which remains mainland-controlled, the remaining three Chinese rating companies' majority stakes have been acquired by US counterparts, or have entered strategic partnership agreements with them.

The Chinese authorities have expressed two concerns over the monopolization by US firms in the global rating business. First, Chinese bond issuers may have to shoulder higher financing costs if US-controlled rating firms do not rate them appropriately. Second, if the US-dominated rating companies downgrade Chinese sovereign ratings, it will trigger severe repercussions in Chinese financial markets.

Academics have said that the intention of the mainland government to support Chinese rating companies is good, but it will encounter two major problems.

"First, the Chinese rating agencies have to formulate their own rating standards that can be equivalent to those of their US counterparts. Otherwise, the mainland bond issuers will not seek the services of the domestic rating companies," Billy Mak, finance and decision sciences associate professor at Hong Kong Baptist University, told China Daily.

Second, "Even if the standards are met, they must be contractually stipulated in the business agreements for legal enforcement. If not, Chinese rating standards will not be generally accepted, and the claims of supporting mainland rating companies will be in vain," Mak said.

He added that unless the above-mentioned two issues are resolved, the Chinese rating companies cannot attract enough business to maintain their strongholds in the domestic credit rating market.

Mak admitted that US-dominated credit rating agencies will still prevail in the credit rating market for the time being, but he added that the global credit rating system can be transformed in two gradually implemented stages.

"First, governments can establish their own-controlled credit rating agencies to undertake credit ratings for corporate borrowers. After the agencies' businesses become more mature, governments can thereafter consider privatizations of these rating agencies so as to preserve their independence. After that, these agencies can undertake sovereign credit ratings work that resembles what the US counterparts do," Mak told China Daily.

China Daily

(HK Edition 05/14/2010 page2)