The European Union’s markets watchdog has criticized the world’s top three ratings agencies over a lack of transparency over how they evaluate banks and has demanded more robust internal reviews of their methods.The European Securities and Markets Authority (ESMA), which studied Moody’s, Fitch and Standard & Poor’s, said there was inadequate disclosure of the in-house methodologies used to compile their ratings and how they keep these methods under review.
Announcing the results of its second annual review of the banking sector on Monday, ESMA said that it looked at bank ratings because of their close link to ratings of government debt, a focus of the euro zone crisis.
The EU has passed three sets of laws over the past three years to directly supervise ratings agencies after finding flaws in ratings during the 2007-09 financial crisis. Some securitized products became untradeable despite being given high ratings.
Rating downgrades of sovereign debt of some euro zone countries during the crisis also angered policy makers. For example, Standard & Poor’s angered Greece in 2011 when it cut the rating on its sovereign debt while the country’s EU bailout was being renegotiated.
ESMA said on Monday that its annual review found that ratings agencies in general have not “sufficiently embedded” the main requirements of EU rules.
“Considering the continued importance of credit ratings in financial markets, it is extremely important that credit rating agencies identify and remedy these issues in their businesses which may undermine the independence, objectivity and the quality of credit ratings,” ESMA Chairman Steven Maijoor said.
The Paris-based watchdog has put in place “remedial action plans” for the three agencies, which make up the bulk of ratings globally.
They will have to detail all relevant factors, models, assumptions and criteria used in calculating a bank’s ratings. They must also keep better records and improve internal reviews of how their methodologies are performing.
Moody’s spokesman Daniel Piels said: “Moody’s is fully committed to complying with the European regulation and to further enhancing the transparency, performance and processes surrounding our ratings as part of ESMA’s continuing supervision of our industry.”
S&P and Fitch were unable to comment immediately.