When experts get it wrong
Jinfo Blog

22nd September 2007

By Tim Buckley Owen

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FT.com, D&B, Mintel, EIU – there are some brands that both information professionals and the end users they serve are generally prepared to trust. The word ‘credit’ actually means ‘trust’ – so it’s doubly ironic that the information products in the firing line as a result of the US subprime mortgage crisis and its knock-on effect to the British bank Northern Rock are in fact the credit rating agencies. Both the US Congress http://digbig.com/4tqhs and the European Union http://digbig.com/4tqht are currently taking a long, hard look at the dominant ones in particular – Moody’s, Standard & Poor’s and Fitch Ratings. They want to know whether they gave too favourable a rating to mortgage-backed financial instruments in the first place, and whether they were too slow to downgrade them subsequently. The roots of this crisis actually go back a long way; according to the Wall Street Journal http://online.wsj.com/article/SB118714461352698015.html it was as long ago as 2000 that Standard & Poor's decided that ‘piggyback’ mortgages, where borrowers simultaneously took out a second loan for the down payment, were no more likely to default than standard ones. Six years later it reversed this decision, saying that they were actually more likely to default – but by that time the damage had been done. Rating agencies enjoy a win-win situation, according to US finance professors Charles Calomiris and Joseph Mason http://www.ft.com/cms/s/0/fac2a61a-51d9-11dc-8779-0000779fd2ac.html since they are paid by the organizations they rate and also insulated from the standard market penalty for being wrong – the loss of business. ‘Issuers must have ratings, even if investors do not find them accurate,’ they point out in an FT article. During their grilling by the Commons Treasury Select Committee about the Northern Rock crisis, senior Bank of England officials also made clear http://www.telegraph.co.uk/money/main.jhtml?xml=/money/2007/09/21/cnboe121.xml that it was concern about the credibility of ratings that caused the markets on which Northern Rock relied for funds to dry up. But Governor Mervyn King further pointed out http://news.bbc.co.uk/1/hi/business/7004710.stm that in the end it was the very act of intervening that precipitated the crisis. He then went on to say something that should cause concern: if he had been able to help Northern Rock covertly, the crisis (and the queues of worried customers) might have been avoided. Plenty of lessons for information professionals to take away here. Firstly – no matter how strong the brand, we should always be ready for the possibility of expert error and have a Plan B ready for dealing with it. Secondly – openness and transparency are what makes business information work. And when this fails, an awkward, intrusive and widely diversified business media is essential – even if the by-product is a crisis of public confidence.

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