WASHINGTON — Sen. Al Franken’s latest television ad of his re-election campaign is another wonky one, diving headlong into the often-arcane world of financial reform.
Franken’s ad, a $130,000 buy on Twin Cities television, recalls Congress’ 2010 attempt to respond to the economic crisis by regulating the financial industry. The resulting bill is one of the most famous of the Obama era, the Dodd-Frank Act, and Franken is looking to highlight a provision he included meant to reform Wall Street credit rating agencies.
Franken managed to attach a rather significant overhaul of the agencies to the Senate version of the bill, only to see it stripped out and scaled down later on in deliberations. Even so, four years later, regulators haven’t implemented the type of reform Franken had hoped to achieve.
Rating agencies took blame for recession
Credit rating agencies are independent, private entities charged with rating securities’ creditworthiness for the banks that are selling them. Those banks are also responsible for funding the agencies — like Moody’s, Fitch and Standard and Poor’s — by paying a fee when their securities are assessed. After the recession, when the rating agencies were hammered for giving overly-optimistic ratings to mortgage-backed securities, lawmakers and consumer advocates highlighted this funding scheme as a conflict of interest.
In the spring of 2010, with Dodd-Frank on the Senate floor, Franken was pushing an amendment to completely overhaul the system. Rather than the banks choosing and directly funding their own rating agencies, the Securities and Exchange Commission would establish an independent board to assign securities to rating agencies instead. Banks would then pay fees to keep the whole system afloat rather than picking and choosing rating agencies on their own.
Franken won bipartisan support for his provision, which passed the Senate 64-35. But in conference committee, the bill’s namesakes, Sen. Chris Dodd and Rep. Barney Frank, watered down the amendment, warning that it was broad and could have unintended consequences. Instead, the final bill mandated an SEC study into the rating agencies’ funding system, and if the SEC concluded that there was a risk of conflicts of interest, it was given the power to create a new funding mechanism of its own, Franken’s proposal or otherwise.
Rule writing has delayed
While Dodd-Frank gave the SEC more power to regulate the financial system, it also expanded its list of responsibilities. A regulatory backlog has delayed many of the law’s major reform goals, Micah Hauptman, the financial services counsel at the Consumer Federation of America, said, and credit-rating reform is caught up in that.
“The SEC has shown a complete lack of progress on credit rating agency reform, and on a whole host of issues that relate directly to the financial crisis,” he said. “The SEC has been very weak in that respect.”
When the SEC’s credit-rating report came out at the end of 2012 (six months late), it found evidence of conflicts of interest within the system. In May 2013, the SEC held a roundtable on potential fixes to rating agency funding, but it hasn’t moved forward with an overhaul, as was allowed under the law.
Franken has led a handful of bipartisan letters to SEC officials asking them to introduce a new funding scheme.
“There is ample evidence to suggest that the public interest conflicts present in the credit rating agency business model that played a key role in the financial collapse five years ago persist,” the group wrote in January. “We urge the commission to prioritize credit ratings reform that address conflicts of interest, increase transparency and promote competition in the credit rating industry.”
SEC officials didn’t respond to a request for comment for this story.
‘We’ll know during the depths of the next recession’
Not only has reform been snarled by a delayed rule-making process, but Hauptman said the SEC just has little appetite for rebuilding the system anyway. The agencies themselves — independent, and only lightly regulated before the financial crisis — have also resisted funding reform.
“Of all the Dodd-Frank considerations, this was probably one of those that was the most difficult,” University of Minnesota public policy professor Jay Kiedrowski said.
Beyond their funding mechanism, Kiedrowski said the agencies have worked to fix some of their other pre-recession problems. Moody’s, for example, is much tougher when assessing the creditworthiness of states’ debt, and all three have given extra scrutiny to mortgage-backed securities, a driving force behind the financial crisis. Franken’s office said Dodd-Frank included a couple other provisions meant to shore up the agencies’ performance, but none have changed the industry’s funding mechanism, which Franken says has “rigged” the system.
Kiedrowski said the agencies’ reforms haven’t been tested under pressure yet, and it’s tough to judge their effectiveness until the economy weakens again.
“We’ll know during the depths of the next recession,” he said, “if some security they rated is in default and embarrasses them.”
Devin Henry can be reached at firstname.lastname@example.org. Follow him on Twitter: @dhenry