September 7, 2007
Ratings Firms and Auditors
Ratings firms, hired and paid by those they rate, and accounting firms, hired and paid by those they audit, will have inherent conflicts of interest. We attempt to ameliorate the conflicts with independent regulatory authorities, professional standards, anti-fraud rules, and Chinese wall procedures, but the conflicts remain. Ratings firms and auditors want to keep clients happy (and they personnel often want the option of working for clients on job transfers). Periodically we are reminded of the conflicts when bad news breaks and firms that may even be transparent scams have clean audits and their bonds have high rankings. In some of our worst cases, the audit and ratings stay until the eve of some company's bankruptcy declarations. The ratings firms and auditors protest any questions on their work: "We are proud professionals careful to protect our reputations for integrity and honesty. We have multiple protections in place...." A better system would be one that mirrored the one we use for testing automobile crash worthiness or hiring referees for football games. Independently funded groups (there are two) buy cars and test them. The league hires and pays the referees (can you imagine referees paid by, for example, the home team based on calls during the game?? That's what we do with auditors and ranking agencies.) Firms can hire whoever they want for advertising purposes in an attempt to convince ("see A-Rod likes our bonds"), but the SEC (and the exchanges) do not rely unequivocally on the hired services for filings or categorization. At some point, the inherent conflict of client/checker cannot be "fixed" enough by structured relief to justify our current practice.
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