'New And Better Astrology' For Ratings Agencies : Planet Money The Senate passed two amendments that would mean big changes for ratings agencies, which played a key role in the financial crisis.
NPR logo 'New And Better Astrology' For Ratings Agencies

'New And Better Astrology' For Ratings Agencies

A U.S. Senator yesterday put a little hocus pocus into the financial reform debate:

"In a way, we're looking here and saying the astrology that we relied upon in the past didn't work," Sen. George LeMieux said, according to the NYT. "Let's have some new and better astrology."

He was talking about ratings agencies. We might hope for more than a "new and better" form of pre-scientific superstition to predict how likely borrowers are to repay their loans. But let's not quibble over semantics.

Ratings agencies -- key players in the boom and bust -- were the subjects of two (apparently contradictory) amendments that passed in the Senate yesterday:

One amendment, co-sponsored by LeMieux, would get rid of much of the language in federal law that gives big ratings agencies a privileged place in the financial system. The basic idea would be to push the market, and federal regulators, to come up with a better system for evaluating risk.

The other amendment was backed by Sen. Al Franken. It would change the way asset-backed securities -- bundles of loans that are sliced up and sold to investors -- are assigned to different ratings agencies.

Under the current system, the banks that create the securities can shop around to find an agency that will give them the ratings they want. The Franken amendment would create a board that would choose which agency rates each security. It's not entirely clear how this would work, but some sort of lottery or random assignment might be involved, and the board would take into account agencies' accuracy, the WSJ says.

The ratings agencies don't like the sound of it. "Credit-rating firms would have less incentive to compete with one another, pursue innovation and improve their models, criteria and methodologies," and S&P spokesman told the WSJ.

It wouldn't really work to have both amendments in any final financial reform bill that Congress passes. But once the Senate passes its bill, the details of a final bill will be hashed out in a conference committee with the House. The internal contradictions will presumably be hashed out then.