House panel raps rating agencies for not anticipating IL&FS situation

A parliamentary panel wants the finance ministry to spell out steps to make India’s credit rating agencies more accountable and transparent in the backdrop of the crisis at the highly rated finance firm Infrastructure Leasing & Financial Services (IL&FS).

The panel wants the government to end the practice of agencies getting paid by the companies that want credit ratings, a business model that has often come under criticism.

“We want the government to change rules so that firms seeking ratings should pay Sebi [Securities and Exchange Board of India] instead of rating agencies for their work. This will possibly make the system more transparent and the chances of manipulation will reduce,” said a senior member of the panel.

Another member pointed out that investors also go by credit ratings before buying mutual funds or parking money in fixed deposits.

“A wrong rating can create a havoc for common investors who park their hard earned money in financial instruments.”

Earlier this week, members of the standing committee on finance met representatives from credit rating agencies and ministry officials to discuss the functioning of the agencies. During the interactions, several members, including panel chairman Veerappa Moily and Trinamool Congress leader Saugata Ray, drew a parallel between the IL&FS crisis and the Lehmann Brothers collapse and pointed out that both firms were given the highest credit rating.

“We were of the firm opinion that these agencies have failed not only in the IL&FS case, but also in the infrastructure sector. Look at how many infra companies are in the red despite enjoying good credit ratings,” said a senior member of the panel.

Credit rating agencies are currently regulated by market regulator Sebi through regulations formed in 1999. Such agencies usually engage in the rating of financial instruments.

The ratings assigned by agencies reflect their opinion about the credit risk associated with the financial product taking into account factors such as business and industry situation, financial aspects, and capabilities of the management.

Currently there are seven such agencies registered with Sebi out of which three — CRISIL, ICRA and CARE—are listed in the stock market.

Several restrictions are already in place for the rating bodies and the Reserve Bank of India (RBI) also conducts an annual review. Guidelines on their objectivity, independence, transparency and disclosures are issued periodically. The law regulating them was amended last year to hike the minimum net worth requirement of credit agencies, from ~5 crore to ~25 crore, and to restrict cross-holdings at a maximum of 10%.