The Hindu Business Line : Raters, regulators in the dock

When in the early 1990, occasional media reports of US businesses going down the drain due to mismanagement combined with fraud at the top levels began to appear, the public tended to view them as stray happenings which were more in the nature of aberrations than representing any deep-seated and rapidly metastasising malaise.

After the sinking like the Titanic of Enron, which strode like a colossus on the business landscape and Arthur Anderson, the towering accounting firm counted among the Big Five, which was also certifying the accounts of Enron, it has been an unending series of horror stories of companies going belly up.

Compounding these are disasters, engulfing the entire financial sector — insurance companies, investment banks, commercial banks, credit institutions and mortgage firms — and amounting to its virtual collapse leaving a trail of human suffering behind. Now automobile companies are seen to be in a shambles, queuing up for government financial aid to save themselves from bankruptcy or utter ruin.

Startling disclosures

What is most alarming is that many of the companies going bust were enjoying high ratings by rating agencies. Markets and investors still take their word as gospel, despite their being long known for their vagaries and even venality. For instance, at the time of the South Asian meltdown in the mid-1990s, the IMF found that the four major international credit rating agencies — Moody’s Investors Service, Standard & Poor’s Corporation, Duff & Phelps Credit Rating Company and the French rating firm Fitch IBCA — made the crisis worse by “their issuance of credit downgrades with an alarming frequency encouraged the exodus of foreign capital and fed the downward spiral. As the crisis expanded, they were less and less able to understand and monitor events (misjudging ) the very nature of the crisis.”

More startling were the disclosures made by The Economist as early as in 2001 (April 12) that Moody’s and S&P’s charged up to $67,400 for telling in confidence and in advance a company’s likely credit ratings if they undertook, or refrained from, a particular course of action, say a merger, acquisition or share buyback, and another $25,000 to get round an unwanted rating. In 1996, Moody’s got into trouble with the US Justice Department for thrusting ``unsolicited ratings” on companies which, the Department suspected, were meant to cow them down to agree to the agency’s full-time and regular engagement.

Stunning fraud

The latest addition to the catalogue of horrors is the arrest on December 11 of Bernard Madoff, former Nasdaq chairman, for gobbling up an astronomical $50 billion of investors’ money in what has been aptly described as “one of the biggest frauds in history”, beating the record of $31.2 billion held by Enron’s collapse. The US Securities Exchange Commission (SEC) has called it “a stunning fraud that appears to be of epic proportions,” but, according to Bloomberg, the SEC itself had failed to examine Madoff’s accounts since he registered his company with the agency in September 2006, and was indirectly instrumental in the looting of investors continuing possibly for decades.

The US Federal Reserve too cannot escape the blame for not being vigilant about the manipulations, machinations and malfeasance in the financial sector and not taking steps to avert the avalanche of disasters before it occurred. The US was taken aback when the former Federal Reserve chairperson, Mr Alan Greenspan, admitted that he had not anticipated the meltdown which revealed “a flaw in a lifetime of economic thinking” and left him in a “state of shocked disbelief.” The US Administration and Congress need to be alert against the bailout of one trillion dollars or more leading to yet another bout of scams.

B. S. RAGHAVAN

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