Finally, the First Shoe Drops

The Justice Department's announcement of a multi-billion-dollar lawsuit against Standard and Poor's could be a one-off cherry-picking against one of the most egregious culprits of the financial collapse, but I think it is the beginning of a new phase of  long-suppressed recriminations.  Now that we are finally out of the Great Crater, it's time to see why we fell in, and S&P is a good place to start--we pointed the finger at the rating agencies' role 4 1/2 years ago (in our essential Bailout FAQ post).

No doubt there was considerable jockeying (years' worth, I'm guessing), as the Attorney General sought to obtain a settlement, but not just any settlement:  One that admitted some culpability.  And, I'm guessing that  S&P--due to the tsunami of lawsuits they would then expect from investors, banks, insurance companies--basically everybody who lost money in the landslide (i.e. everybody)--couldn't do it.  Now the game has gone public, and even if S&P (owned by McGraw-Hill, mentioned in case you may own some of its stock; but never mind, it's already too late!*)  can make a settlement now, it will still be subject to the derivative lawsuits.   Derivatives are what this is about, after all, and the second derivative of their prospects has taken a sharp turn for the worse.

What's it all about?  The problem is that the rating agencies were available for hire to the big banks and other financial institutions to rate their re-packaged credit products.  The process was anything but transparent; the rating agencies' motivations all too transparent.  A lot of attention has been given to the emails and other accounts of bad behavior within the organization which demonstrated that people there knew their ratings were deceiving the purchasers; proving bad intent is necessary to get fraud convictions, but the facts--that the agencies' ratings proved worthless and misleading--should be indictment enough for S&P and the way they did (and still do) business.  As for "Analyst D" and his mangled lyrics of Talking Heads' "Burning Down the House", to say "nice try" would be way off target; the concept (we are destroying our own food chain through our self-destructive and short-sighted approach) was right, but the meter was all wrong, the wit lacking.  (I do think "Analyst D" has some potential as a handle for a rap artist who attacks capitalism, something in itself I'd like to see.)  The Justice Department's case is not a criminal one, but David Byrne would be right to accuse them of criminal misuse of artistic license.

S&P is the largest of the three major rating agencies; Moody's and Fitch should be quaking with fear, as well as many of the banks and insurance companies that were packaging up the garbage, polishing it, and selling off their risk.  There may be opportunities to prove broader conspiracy to defraud, once the Feds get S&P under their thumb, and to get pre-emptive settlements from the agencies who did the same things S&P did.  Ultimately, though, it is the system--in which the sellers of the products pay for their ratings, and know the rules that will ensure top investment-grade ratings, and the buyers must beware--that is the long-term issue to be fixed.  Snakes will be snakes.




*McGraw-Hill's stock price dropped 10% from 2 p.m. to 4 p.m. on Monday, 2/4; 10% more from 9 a.m. to 10 a.m. on 2/5; and 10% more since Tuesday 10 a.m.  Probably three or four more hits of that magnitude are yet to follow.  Moody's has also taken a hit last week.
John Cassidy's New Yorker blog post, which has the link cited above to read Analyst D's original lyrics, confirms many of the thoughts I wrote above, especially regarding the prolonged negotiations which preceded the announcement of the lawsuit.  I'd already written those guesses up and posted this; it was just--after completing it--when I Googled for a link with the full lyrics hat I found his article.