Alternative Ratings

In International Relations

International credit-rating agencies are products of economic globalisation, especially the liberalisation and integration of financial and investment activities. As borrowers and bond issuers could be geographically remote from one another, lenders were unable to assess borrowers’ creditworthiness or possibility of default. However, they needed to know the likelihood of borrowers paying back debts so that they could limit the risks of their investments. Against this backdrop, influential international rating agencies emerged to assign credit ratings to debt issuers.

Since 1860, when Henry Poor started the rating agency Standard & Poor’s, the business of rating major companies and governments has become gradually dominated by three big agencies—Standard & Poor’s, Moody’s and Fitch, which still remain the industry standard-bearers and take up 95 percent of the global rating business.

In 1975, U.S. financial watchdog, the Securities and Exchange Commission, acknowledged these three as nationally recognized statistical rating organizations. As an economic superpower that had material influence on international financial markets, the United States, in effect, reinforced the monopoly of these agencies by granting such an endorsement.

Discontentment arises

This history shows that the currently dominant rating agencies have Western attributes. They represent the unchallengeable impact Western nations exert on the global economy. Such a condition results in a biased approach when the agencies assign ratings to bond issuers from emerging nations like BRICS members—Brazil, Russia, India, China and South Africa.

Over the past decades, emerging economies have impressed the world with rapid economic progress. With their GDP shares declining from a global perspective, Western countries’ endorsement has become less persuasive to emerging nations. While these rating agencies spare no efforts to maintain their monopoly, BRICS nations are looking for favorable rating assessments to scale up economic growth. Conflicts between them have,therefore, become unavoidable.

This can be seen from the recent moves to downgrade the credit ratings of BRICS nations. Fitch lowered Brazil’s sovereign credit rating to BB+ from BBB- in December 2015, and further downgraded it in May 2016. Since 2016, only Fitch among the big three has assigned an investment-grade rating to Russia. In April, Standard & Poor’s and Fitch successively labeled South Africa’s state debt as junk following the nation’s domestic political reshuffle. Even China’s stable outlook was changed to negative by Moody’s and Standard & Poor’s during the past year. India’s ranking was even worse, resulting in its domestic media widely criticizing the agencies for bias. In fact, all five members of BRICS have questioned the way in which the three agencies operate with double standard and entrenched political bias.

Reasonable response

Although BRICS states may be irritated by the downgrades that may potentially cause market upheaval, they should look at the rating agencies with a cool head.

Admittedly, as well-established organizations, the agencies have developed complete and effective assessment models and approaches. Their professionalism deserves full recognition. It is also debatable whether the agencies deliberately targeted emerging nations by lowering their sovereign credit ratings, as developed nations have also had their ratings lowered. Besides, the plummeting oil prices, domestic instability, international sanctions and shrinking foreign investment all contributed to poor economic performance in Brazil and Russia, thus leading to the downgrades. China, South Africa and India face financial risks of a different nature. A reduction in credit rating more importantly reflects international investors’ widespread concerns. Also, the rating calculation is a dynamic process with ups and downs.

Of course, there are problems with the agencies’ rating approaches. For example, as they may not have full access to first-hand information on countries they are rating, the agencies may come up with totally different rating results for the same country. During the European debt crisis, the financial condition of some European countries was worse than those of BRICS nations. However, they still obtained positive ratings. It is suspected that such results were reached through double standard. Free elections or the state of “democracy” is also one of the key factors in deciding sovereign credit ratings. This is an evident ideological bias.

No intention to overturn

Believing the current rating agencies are assigning them unfair credit scores, BRICS members have been in discussion to support the establishment of their own rating service. During the 2016 BRICS Summit in Goa, India, they reached a consensus in this regard. They further discussed the possibility of such an independent agency this June when the Second BRICS Finance Ministers and Central Bank Governors Meeting was held in Shanghai.

To further push forward BRICS cooperation and play a greater role in global financial markets, BRICS members should establish a trustworthy rating agency independent of the dominating big three. To this end, they should stick to some basic principles and have a clear objective.

First, the ultimate goal is not to overturn current incumbents, but to offer a better and fairer credit rating service alternative.

Second, the new rating agency, co-founded by BRICS nations, can learn from the mature practices of the big three and develop innovations to surpass them. Over the past decades, the growth rates of BRICS countries have outpaced those of developed nations. Their global GDP share is also on the rise. But it will still take time for them to catch up with developed economies, which are expected to dominate the international financial markets in the long term. Developed nations still spearhead finance and investment theories and innovation as well as manpower resources. It is not realistic or smart to try to bypass the big three, whose accumulated experience exceeds 100 years. Learning, reforming and then innovating is a more feasible and practical path.

Last but not least, the new rating agency should seek a higher and broader vision and focus more on communication and cooperation with various international and regional organizations and non-BRICS nations. After all, the purpose of a new rating agency is not just to support business between BRICS nations, but also to break the current monopoly and offer a trustworthy credit rating service alternative for developing nations as a whole, as well as developed ones.

Copyedited by Chris Surtees

Comments to liuyunyun@bjreview.com

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