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News from the Sunshine State

February 23rd, 2009

Two big news items from Queensland in the last 24 hours. Standard & Poors has downgraded the State’s credit rating to AA+ and Anna Bligh has called an early election.

The fact that these two events happened in this order is striking. Until six months ago, a government that had been downgraded in this way would be holding off an election until the last possible day in the hope of burying the bad news, or else would have gone early, before releasing the bad budget news that triggered the downgrade. Now, the government calculates:

* Everyone knows that the state’s finances are a lot weaker than they looked six months ago, and that this has very little to do with the government
* No-one who has been watching the news could possibly place any weight on ratings issued by Standard & Poors (or Moodys – Fitch has been marginally better). If credit rating agencies were subject to election, or to any kind of proper market test, these guys would be out of business. The fact that they aren’t is yet another indication that the global financial sector is in need of reform far more drastic than has been contemplated so far
* The policies ‘demanded’ by S&P to keep the rating (drastic cuts in infrastructure spending) would have been economically disastrous

Coming to the election itself, the uncertainties created by the global financial crisis are such that I’m not going to venture a prediction. Overall, the government has done a reasonable job, but not a great one, and it remains to be seen whether the cumulative impact the ethical troubles of numerous ministers, ex-ministers and backbenchers over the years will come back to haunt them. There are also a bunch of policy decisions (including some good ones, like fluoridation, and not-so-good ones like chickening out on water recycling) that need to be taken into account. And it remains unclear how much progress has been made, and perceived, in fixing the health system. The government’s performance on indigenous issues has been lamentable, but that probably won’t cost them many seats.

On the other side, the opposition moved from being unelectable to conceivably electable with the merger that created the Liberal National Party. But they remain deeply unimpressive. This election will be won, or lost, by Labor.

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  1. derrida derider
    February 23rd, 2009 at 14:49 | #1

    Yep, S&P ratings are a complete joke. Does anyone seriously believe the Qld government is more likely to default on its bonds than, say, US States – whose bonds for the most part are still AAA? Not to mention how harshly all the ratings agency treat foreign governments’ debts compared with those of US corporations (that is, their clients). John Quiggin has been making the last point for many years now.

    But I guess not all punters in the street have realised what nonsense the ratings are yet, so the downgrade may hurt electorally.

  2. gianni
    February 23rd, 2009 at 14:52 | #2

    No-one who has been watching the news could possibly place any weight on ratings issued by Standard & Poors (or Moodys – Fitch has been marginally better). If credit rating agencies were subject to election, or to any kind of proper market test, these guys would be out of business. The fact that they aren’t is yet another indication that the global financial sector is in need of reform far more drastic than has been contemplated so far

    There’s a description of the rating agencies complicity in the meltdown in the Michael Lewis (author of “Liar’s Poker”) article “The End” that was printed in the January 30 issue of the AFR’s Review, and which is also available online.

    But he couldn’t figure out exactly how the rating agencies justified turning BBB loans into AAA-rated bonds. “I didn’t understand how they were turning all this garbage into gold,” he says. He brought some of the bond people from Goldman Sachs, Lehman Brothers, and UBS over for a visit. “We always asked the same question,” says Eisman. “Where are the rating agencies in all of this? And I’d always get the same reaction. It was a smirk.” He called Standard & Poor’s and asked what would happen to default rates if real estate prices fell. The man at S&P couldn’t say; its model for home prices had no ability to accept a negative number. “They were just assuming home prices would keep going up,” Eisman says.

    As an investor, Eisman was allowed on the quarterly conference calls held by Moody’s but not allowed to ask questions. The people at Moody’s were polite about their brush-off, however. The C.E.O. even invited Eisman and his team to his office for a visit in June 2007. By then, Eisman was so certain that the world had been turned upside down that he just assumed this guy must know it too. “But we’re sitting there,” Daniel recalls, “and he says to us, like he actually means it, ‘I truly believe that our rating will prove accurate.’ And Steve shoots up in his chair and asks, ‘What did you just say?’ as if the guy had just uttered the most preposterous statement in the history of finance. He repeated it. And Eisman just laughed at him.”

    “With all due respect, sir,” Daniel told the C.E.O. deferentially as they left the meeting, “you’re delusional.”
    This wasn’t Fitch or even S&P. This was Moody’s, the aristocrats of the rating business, 20 percent owned by Warren Buffett. And the company’s C.E.O. was being told he was either a fool or a crook by one Vincent Daniel, from Queens.

  3. Alanna
    February 23rd, 2009 at 15:09 | #3

    It amused me how Costa hung on for dear life to his little ratings gold painted plastic trophy for the NSW State Govt…after he was unceremoniously shoved.

  4. Ikonoclast
    February 23rd, 2009 at 16:15 | #4

    I had a big laugh when I heard the news about S&Ps rating of Qld. The entire US financial system is an emperor with no clothes. The ratings agencies are the worst of the worst in that system. All their top management should be in jail full stop, end of story. That they should still be giving ratings of other States (and states) attire is preposterous. That they ever did is also preposterous.

    I’ve never understood why any sovereign nation would or should accept financial ratings from private enterprise shysters and US corporate cowboys.

  5. Socrates
    February 23rd, 2009 at 19:33 | #5

    The comparison of S&P’s ratings between Austrlaian states is even more damning than their international comaprisons, because there is no obvious reason fo rthe differences. Aren’t Queensland’s public servant super liaiblities fully funded? Their default risk is surely one of the lowest of Australian states.

    I think this was a predictable development by rating agencies. Having had their inability to accurately assess risk exposed, they have now shifted from over-optimistic to over-pessimistic in a desperate attempt to win back credibility. They still don’t convince me they know risk.

  6. charles
    February 23rd, 2009 at 20:11 | #6

    Back when Victoria lost their AAA rating Stockdale fixed it by moving a few assets from debt financing to equity financing, to my mind a solid indication the rating agencies aren’t even bright enough to value an asset without it being wrapped in a structure that can be quoted on a stock exchange.

    Even then there ability seems to be limited to averaging the price paid for the small number of shares traded in a period and multiplying that by the number of shares.

    Their ratings seem to have to relationship to reality. Buyer, seller and voter beware.

  7. Ernestine Gross
  8. February 23rd, 2009 at 22:09 | #8

    The EU Commission’s latest proposal for a directive on credit rating agencies is here. I’d be surprised if the agencies had the clout to fend it off.

  9. jquiggin
    February 23rd, 2009 at 22:37 | #9

    The EU Commission offers some marginal improvements, but the only worthwhile reform of the existing ratings agencies is abolition.

  10. February 23rd, 2009 at 23:06 | #10

    Sorry, it’s a draft regulation not a draft directive. For those of you unfamiliar with EU jargon, a regulation is the strongest form of EU law, directly enforceable without the need for national implementing legislation as for directives.
    But the content isn’t IMHO very tough. It does not replace the current scheme of payment by issuer, which creates systemic conflicts of interest; and it doesn’t do anything to ensure more competition in this cosy all-American oligopoly.
    If a security is intended to be quoted on a regulated exchange, why can’t the exchange front the rating fee and recover from buyers?

  11. Monkey’s Uncle
    February 23rd, 2009 at 23:40 | #11

    The Queensland government will probably be returned, but they will likely lose a lot of seats.

    Recent election results show that voters are becoming harsher towards incumbent governments pretty well everywhere.

  12. Alanna
    February 24th, 2009 at 12:33 | #12

    Ernestine points out the CVs of management at S&P. If you look closely two are ex McGraw Hill execs.

    “”By 2001, the focus at S&P was profits for the parent company, McGraw-Hill- it was not on incurring additional expense.”

    http://www.risknews.net/public/showPage.html?page=822467

    How can they be taken seriously?

  13. February 25th, 2009 at 07:52 | #13

    And it was only 3 months ago that Ken Henry when questioned seemed to indicate that maintaining the AAA rating was more important than the fiscal consequences of the required NSW mini budget! I wonder if he still thinks that?

    “However, retaining the state’s AAA credit rating was a worthy goal and losing it “would be even more negative in terms of the NSW economy”.”-SMH

  14. Ernestine Gross
    February 25th, 2009 at 19:59 | #14

    Where are the apostles of v. Hayek to speak loud and clear against rating agencies?

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