From an editorial published in the New York Times on Tuesday:
The financial crisis could never have happened without the credit ratings agencies issuing stellar ratings on toxic mortgage securities that inflated the bubble. Before the Justice Department filed civil fraud charges this week against Standard & Poor’s, the nation’s largest credit-ratings agency, it seemed as if the entire ratings industry – which reaped record profits in the boom years – was going to escape, unrepentant and unpunished.
That may now change.
But the underlying problem – a lack of proper regulation of the industry – is unresolved. Nearly three years after the passage of the Dodd-Frank financial reform law, there is no sign that federal regulators are willing to propose, let alone finalize, tough rules to reform the agencies. Worse, regulators have repeatedly asserted legal positions that shield the agencies from investor lawsuits, despite questions of misrepresentation, negligence and fraud in the rating of mortgage investments.
Still, the suit against S&P and its parent, McGraw-Hill Cos., is a move toward accountability. It alleges that, from September 2004 through October 2007, S&P “knowingly and with the intent to defraud, devised, participated in, and executed a scheme to defraud investors” in certain mortgage-related securities, and that the agency falsely represented that its ratings “were objective, independent, uninfluenced by any conflicts of interest.”
What sets the case apart is that the government brought the case rather than water down a settlement to suit S&P’s demands. The government originally sought a penalty in excess of $1 billion and an admission to a least one count of fraud. When S&P balked, the government sued and now is seeking a $5 billion penalty.
This is the sort of aggressive legal theorizing that has been missing in the government’s approach to potential cases stemming from the financial crisis.
For years, ratings agencies have defended themselves in civil lawsuits by saying that their ratings are independent opinions, protected by the First Amendment. A court ruling has found that the questionable ratings are not opinions, but misrepresentations. The government’s case will benefit from that view. By charging S&P with violating its own standards in issuing top ratings for trashy securities, the government has lifted the allegations out of the realm of shoddy practices and into the realm of fraud – where they belong.