An Economic Analysis of the SEC's Nationally Recognized Statistical Rating Organization (NRSRO) Standard

Highlights

The Regulation

• SEC's Nationally Recognized Statistical Rating Organization (NRSRO) Standard designates which credit ratings agencies are deemed "market recognized credible rating agencies."
• NRSRO credit ratings are widely used benchmarks in other regulations (e.g., broker/dealer net capital requirements), and in private contracts (e.g., loan covenants).

Our Findings

• There are currently five officially designated NRSROs: Moody's, Standard & Poor's (S&P), Fitch, Dominion Bond Rating Services, and A.M. Best.
• The NRSRO Standard creates an effective barrier to entry for incumbent providers of financial ratings services, protecting them from competition.
• The barrier's effects are observable through significantly higher returns on assets earned by the incumbents as compared to firms in competitive industries.

By the Numbers

• Together, S&P and Moody's hold approximately 80% of the credit ratings market.
• Moody's and S&P's ROAs averaged 37% and 39% respectively from 2000 through 2004, versus less than 10% for firms in competitively organized industries.

Recommendations

• Remove the NRSRO barrier.
• The SEC can provide a useful function to users of credit ratings by operating an information clearinghouse that furnishes data on accuracy and timeliness of ratings.