Sat Aug 06, 2011 4:17 pm
Obama and the Democrats may have inadvertently forced this downgrade with the passage of the Frank-Dodd Act last year. If you will recall from a thread about a year ago, a consequence of the Frank-Dodd passage was that there was a period of time when the credit rating agencies withheld their ratings altogether due to new legal exposures that had not been quantified, causing consternation in the market.
The source of that minor interruption in the ratings market was a provision in the Frank-Dodd bill that repealed Rule 436(g) under the Securities Act of 1933. In times past, one of the privileges of being one of the few government-appointed ratings agencies (NRSROs) was that they were exempt from legal liability for the quality of their credit ratings, unlike the rest of the credit rating market. Many people know that NRSROs were putting garbage ratings on some debt but fewer know that those government-sponsored ratings agencies were uniquely exempt from legal consequences for doing so. This is why they were so easy to game -- all upside, no downside.
Frank-Dodd repealed this special liability exemption for NRSROs, giving them legal exposure if they put dubious credit ratings in registration documents and prospectuses. Since last year the NRSROs -- like S&P -- can be sued for bad faith ratings like everyone else. They no longer have legal cover to paper over the government's fiscal malfeasance. Consequently, multiple NRSROs are downgrading US debt to avoid legal exposure when they put their imprimatur on it.
I am pretty sure this is an unintended consequence of the Frank-Dodd Act for the Democrats. A year and some months ago none of the Democrats considered the possibility that a side-effect would be that it would restrict the ability of the ratings agencies to play ball with the political establishment when it came to US debt instruments or that US debt instruments would be in a position where they might be legitimately downgraded.