I worship at the Altar of Truth, and swing around metaphorical incense lamps in the Church of Integrity.  Obviously. Which is why I hasten to correct myself when I turn out to be Wrong about something.

And I have been wrong.  Wrong about whether or not the credit ratings agencies were involved in Conspiracy or Cockup when they rated the subordinated debt of the half-finished trailer parks of athousand Cleetus the Slack-jawed Yokels as AAAA, or safer than a Bill Gates IOU.

It turned out they should have been as safe as Bill Gates promise Never to Crash your Computer.

But Mr innocent-as-a-choirboy Freethinking Economist sided a few weeks ago with the Cock-up theory. That is: ooh, ain’t it difficult to rate all these things.  Mistakes will happen.  Hard day at work.  Won’t happen again. I was taking explicit issue with the views of Paul at the Bickerstaffe Record, who attacked the myth that

S&P are anything other than a corrupt part of a corrupt system, and reinforces my view that they are a legitimate and strategically useful target for anti-capitalist political action, direct and indirect

Reading the in-parts-excellent Financial Fiasco by Johan Norberg, I realise that my phlegmatic views are not right. Norberg points us to another source, the New York Times last year, which rather charitably calls the ratings agencies “debt watchdogs”  <<INSERT MORE APPROPRIATE ANIMAL HERE>> and describes the way the ratings would be changed.  Here’s a sampler:

The housing mania was in full swing in 2005 when analysts at Moody’s Investors Service, the nation’s oldest and most prestigious credit-rating agency, were pressured to go back to the drawing board.

Moody’s, which judges the quality of debt that corporations and banks issue to raise money, had just graded a pool of securities underwritten by Countrywide Financial, the nation’s largest mortgage lender. But Countrywide complained that the assessment was too tough.

The next day, Moody’s changed its rating, even though no new and significant information had come to light, according to two people briefed on the change who requested anonymity to preserve their professional relationships.

Moody’s had assigned high grades to many securities containing Countrywide mortgages. Those securities and mortgages, issued during the lending spree of recent years, later soured — leaving investors with large losses and homeowners and communities struggling with foreclosures.

The wealth of sources Norberg uses can give us little doubt.  They put on ratings they knew were wrong.

Now I can still dispute whether this is a large capitalist conspiracy to fool and then fleece the Workers, in the way that Operation Barbarrossa was a conscious conspiracy to do the same to the USSR, say.   But the effect of an unthinking system remorsely following its own logic – must make profit, must please client, must please Boss – can be the same in many details.  No-one needs to be stroking a white cat, swivelling round in a chair, pressing a button that sets off a timer. But they can still operate in a way that ought to bring shame upon any organisation.   I mean, check out this conversation between two S&P analysts.

So. The agencies certainly acted as conduits for more madness and, yes, injustice.  There is a case for saying that much of the financial insanity was known to be insane, and yet kept on happening.  This should give pause to those worthy types who think fixing the system is down to us improving our ideas somehow.  We knew plenty.  Its the way incentives hang together that is a problem.

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15 thoughts on “In which I admit being wrong to Paul Cotterill, who was right

  1. “Now I can still dispute whether this is a large capitalist conspiracy to fool and then fleece the Workers, in the way that Operation Barbarrossa was a conscious conspiracy to do the same to the USSR, say. But the effect of an unthinking system remorsely following its own logic – must make profit, must please client, must please Boss – can be the same in many details. No-one needs to be stroking a white cat, swivelling round in a chair, pressing a button that sets off a timer. But they can still operate in a way that ought to bring shame upon any organisation. I mean, check out this conversation between two S&P analysts.”

    The “anonymous FT journalist” (who is obviously Gilian Tett) in the play The Power of Yes makes this point very well. About how anyone can say “this is wrong” when reflecting upon a bubble situation, but nobody can say “I refuse to take part” when their job is to exploit the bubble to make profit, without sacrificing their own career and changing nothing about the situation in the process.

    No white cats necessary.

  2. Indeed, no white cats, just what these authors so deliciously call ‘subjectivity’!

    Did Subjectivity Play a Role in CDO Credit Ratings? John M. Griffin and Dragon Yongjun Tang

    Abstract: Analyzing 916 CDOs issued from January 1997 to December 2007, we find that direct outputs from a rating agency model are more straightforward and accurate than actual ratings assigned to CDOs. Actual sizes of AAA rated tranches are on average 12.1% larger than implied by the rating agency model. These adjustments to the rating agency model are difficult to explain by possible determinants but exhibit a clear pattern of low model-implied AAA CDOs receiving larger adjustments. CDOs with larger adjustments experience worse subsequent performance. Moreover, prior to April 1, 2007, 91.2% of AAA rated notes only comply with the credit rating agency’s own AA default rate standard. Had the credit rating agency followed its model and default standards AAA rated tranches would on average have been rated BBB, resulting in a 20.1% lower valuation.

    http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1364933 (via Felix Salmon)

  3. That’s exceedingly decent of you. When you are even more famous than you are now, I will shamelessly attempt to dine out on that; given the state of my pension, I am likely to be quite hungry.

    In return, I’m happy to concede that decent offspinning does have an important part to play in test cricket, and your desire to teach the art to your young son reflects, I dare say, your character in as much as the offspinner is often the less glamorous but quietly effective member of the attack.

    And thanks for keeping me up to date with the CRA stuff still emerging – I had taken my eye off it a bit in the last couple of months. I’ll look up the Congress inquiry that was going on, though by the looks of things it wasn’t going to recommend anything substantial in the way of changing the incentives in the CRA industry i.e. who pays for their services. Would also be interesting to see how the new competitor Krug, from a completely different insitutional setting (investigatory) is doing in its early days, though it may be too early to tell.

  4. “Now I can still dispute whether this is a large statist-environmentalist conspiracy to fool and then fleece the public. But the effect of an ideological cabal remorsely following its own logic – must stop global warming, must save world, must suppress all doubts, they will only be seized upon by deniers – can be the same in many details. No-one needs to be stroking a white cat, swivelling round in a chair, pressing a button that sets off a timer.”

    I’m glad you understand the basic logic. You don’t NEED a conspiracy – just a few well-meaning people who have become corrupted by their struggle to save the world, as they believe. The inevitable parade of politicians and rent-seekers will do the rest, all ALSO believing they are doing the right thing. How nice it is to save the world and get rich trading carbon credits at the same time.

    Once again, I am sure the cabal believe in the urgency of the situation. That’s why they are prepared to manipulate data, suppress dissenting papers, try to get editors sacked who publish work they disagree with, stall FOI requests for years, threaten to destroy data which then turns out to have been destroyed, and all the time proclaim publicly that the science is settled when privately they admit doubts.

    And yet – if dissent is suppressed, and data is not released to people who will “only try to find something wrong with it”, who will do the Popperian falsification? How do you know your theory is gold if it hasn’t survived the fire?

  5. Ben

    That is sufficiently cunning to deserve a response. Yes, people can get corrupted without the cats or explicit evil. How much evil is conscious? And it is not impossible for people who believe in good, right things to get enthusiastic. But differences with the S&P example abound:

    1. in the CRA example, there is a system-wide motivation to point the same way. No-one is paid to make a bad rating. The motivations for scientists are very small, financially, and each-way facing.

    2. Which changes the systemic interlinkages. One scientist does not benefit from just blindly following another scientist. They get a kick out of dissent. Even if some are groupthinky, as a whole they don’t get the financial benefit of herding that stockmarket punters do – an instant market gratification. In science, if you are right, you get rewarded for sticking out. In finance, you are dead, even if in the long run you are right.

    There is far more rent in denying it (see Monbiot post to follow).

    I think everyone broadly agrees that all information needs to be released in a timely fashion. But its the climate, its the world. It can’t be hidden, like 456 pages of mortgage filings. The ice can’t be heated away by blowtorches.

  6. At no point have I ever alleged that the scientists are in it for the money – I don’t think they are. Like Holden Caulfield their greatest ambition is to save us from rushing off the edge of an abyss, and their greatest desire is that there be an abyss they can save us from.

    Yes, some scientists can get a kick out of dissent. Which is why it was necessary to pervert peer review and control the IPCC drafting process, to make sure that the opinions of dissenting scientists didn’t confuse the public. If you doubt that occurred, there is plenty to be found.

    For what it’s worth, 456 pages of mortgage filings weren’t hidden, they were just too much effort for anyone to read. That has a lot of parallels here.

  7. Giles,

    I know you are always given too much to read but Risk and Culture by Mary Douglas and Aaron Wildavsky – An Essay on the Selection of Technological and Environmental Dangers is worth asking for from Santa. (Why do people emphasise certain risks while ignoring others? Beyond the particular risk, what forms of social organisation are being defended or attacked?)

    As also worth asking for from Santa is my own The Not-so-Gentle Art of Off-spin Bowling. (Sometimes still to be found in antiquarian bookshops alongside J.P. Hartley’s wonderful Fly Fishing.)

    Paul: Murali, Mendes, Gary Yates (a Lancastrian reference) – not glamorous figures?

    B

  8. You wrote a book on off spin? Serious Respect.

    On the others, I know the saying about giving a busy man something to do. But right now I feel like PacMan on level 99, with no magic pills left. Chances of me reading something non-core – nil. At present, I have Hamlet at home, but otherwise finance everywhere.

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