Constitution Check: Does the Constitution shield S&P’s downward rating of U.S. credit?
A congressional committee held a hearing July 27 on the slow pace of government moves to write new rules to govern the credit rating agencies like Standard & Poor’s, Moody’s and Fitch Ratings. This was shortly before S&P downgraded the U.S. credit rating from AAA to AA+, sending financial tremors around the globe.
The constitutional claim:
S&P’s downgrade “prompted renewed scrutiny of an industry that has been harshly criticized since the financial crisis [of 2008],,,The pushback against S&P echoes the complaints of other governments that have had their debt downgraded and responded with cries of unfairness.”
- “Anger Over Credit Ratings Resurfaces in Washington,” New York Times, August 7, 2011
The constitutional response:
On both sides of the Atlantic, the most influential private agencies that provide – mainly for the benefit of investors – ratings on the creditworthiness of governments are facing new demands to cut back their power. In the U.S., the agencies’ lawyers have been polishing arguments they have used to try to head off lawsuits growing out of the 2008 crisis, relying on the First Amendment to shield their ratings as a form of free speech.
In Washington, Congress and the Securities and Exchange Commission are working on the details of carrying out the new “Dodd-Frank” Wall Street reform law, which would open the rating agencies to more lawsuits under the securities laws, and would require all federal agencies to stop relying on the private ratings of credit risks, and move to a system of independent credit analysis.
In Europe, there is even a proposal to suspend private credit ratings for any country that is getting financial assistance from a coalition of neighboring nations, and set up instead a public credit rating agency.
Nothing that radical is in the offing in the U.S., but a lively debate, going on before S&P lowered the U.S. rating but intensified in the wake of that move, over ways to break up the triopoly that now dominates the ratings industry by introducing new competitors. But this effort, too, seems at times to be bogging down in the same partisan bickering that S&P cited in its downgrade. There are active efforts in Congress, for example, to repeal key provisions of the Dodd-Frank law, especially as they apply to rating agencies.
The constitutional counter-argument that the rating agencies’ lawyers have at hand have already been tried, with mixed results, in the federal courts.
In a now famous case in a U.S. District Court in New York, involving foreign and U.S. investors’ claims of flawed ratings by S&P and Moody’s, the agencies recruited one of the most seasoned First Amendment advocates – Floyd Abrams – to make sweeping claims for free-speech protection. “The potential for inhibition of the free flow of information inherent in imposing virtually unlimited liability for an arguably ‘erroneous;’ or ‘mistaken’ assessment is plain,” he wrote in a legal brief.
District Judge Shira Sheindlin, in response, concluded that the rating agencies do have First Amendment protection when they issue their assessments as “matters of public concern” – such as, for example, the creditworthiness of governments or of publicly traded private firms. But, the judge added, that protection is not available when the agencies confine their ratings to “a select group of investors rather than to the public at large.”
They are not shielded, she added, when they take part in arranging the sale of a rated investment, and when they misrepresent to investors the arrangements made and cover up their own doubts about the validity of their high rankings.
With the official ire against the agencies now rising, there no doubt will be more such court tests of where their free speech ends, and legal woe begins.