The Fundamentally Conflicted Rating Agencies
To briefly provide some background, these agencies were hired by the firms that created these securities to evaluate them. Because the securities were complex, they were hard for investors to evaluate. Investors had become used to using the rating agencies' evaluations as benchmarks for the quality and riskiness of complex securities. Many did not seem to realize that the agencies themselves were for-profit corporations, or subsidiaries thereof, which made more money the more securities they rated. The rating agencies gave many of their highest ratings (AAA) to securities that later failed. (See an informal video discussion by corporate governance expert Robert A G Monks here.)
Some key quotes from the news coverage follow.
Former credit rating agency officials said on Friday that the quest for market share fueled a drive for short-term profits, sacrificing credit quality in the process.from Reuters
Eric Kolchinsky, who was in charge of the Moody's (MCO.N) unit that rated subprime CDOs, or collateralized debt obligations, said that people 'across the financial food chain, from the mortgage broker to the CDO banker, were compensated based on quantity rather than quality,' according to testimony prepared for a Senate panel.
'The situation was no different at the rating agencies.'
Former Moody’s Investors Service and Standard & Poor’s employees said they were excluded from assessing mortgage bonds if they questioned Wall Street’s conclusions and that credit-rating companies focused on protecting business at the expense of accurate grading.per Bloomberg
Richard Michalek, a former managing director in Moody’s structured products derivatives group, told the Senate Permanent Subcommittee on Investigations at a hearing today that managers said he was 'not welcome on deals' involving certain banks.
Eric Kolchinsky, who led the Moody’s group that rated collateralized debt obligations made up of mortgage bonds, said he was berated by his boss when the company lost business after implementing more conservative ratings.
S&P wrongly concluded that its increasing profits amid an inflated U.S. housing market was based on 'superior management skill and insight,' said Frank Raiter, a former managing director at the company. In reality, regulators had made the firm part of 'an oligopoly' by requiring investors to hold assets it rated, Raiter said.
The documents show, sometimes in excruciating detail, the conflicts of interest that many claim lie at the heart of the ratings business model and the concerns of employees about what was happening inside the companies well before the crisis broke.
One employee at Standard & Poor's, the world's largest rating agency, said its handling of awkward questions in the summer of 2007 made it 'sound like the Nixon White House'.
As one Moody's managing director wrote to his superiors in 2007, the company's errors, made it look 'either incompetent at credit analysis, or like we sold our soul to the devil for revenue, or a little bit of both'.per the Financial Times
The two companies targeted by these hearings were Moodys, and Standard & Poors (a subsidiary of McGraw-Hill Inc).
Overlaps with Health Care Leadership: Moody's Corporation
Perusal of the roster of the Moody's board of directors in 2008, per that year's proxy statement, reveals the following overlaps with health care leadership, of its 8 directors.
Connie Mack - is also on the boards of EXACT Sciences Corporation (a biotechnology company), and Genzyme. He is the chair of the H. Lee Moffitt Cancer Center.
Henry A McKinnell Jr - was chairman of the board and CEO from 2001-06 of Pfizer Inc.
Basil L Anderson - is a member of the board of directors of Becton Dickinson.
Overlaps with Health Care Leadership: McGraw-Hill Inc
Via the company's 2008 proxy statement, of 12 directors:
Sir Winfried Bischoff - is a director of Eli Lilly and Company.
Linda Koch Lorimer - is Vice President and Secretary of Yale University, and a Director of Yale-New Haven Hospital.
Kurt L Schmoke - is a Trustee of the Howard Hughes Medical Institute
Sidney Taurel - was chairman and CEO of Eli Lilly and Company.
So, in summary, the 20 board members of one for-profit "ratings agency," and of the corporation of which the other major "ratings agency" was a subsidiary, served on the boards of 2 biotechnology corporations (EXACT Sciences Corporation and Genzyme), one medical device company (Becton-Dickinson), one pharmaceutical company (Eli Lilly) , 2 major academic medical centers (Moffitt Cancer Center and Yale-New Haven), and one medical research institution (Howard Hughes). Two were recent former CEOs and chairmen of the boards of 2 of the world's largest pharmaceutical companies (Pfizer and Eli Lilly).
Most of these health care organizations have been involved with cases we have discussed on Health Care Renewal (see links above).
Given the serious concerns about the conflicts of interest that became the core of these corporations' business models, and their central role in the global financial collapse, one has to wonder why so many of the directors who presided over them still have such influential positions in health care organizations?
As we have pointed out, as the world economy was driven to near ruin by "masters of the universe," some of the same also became leaders of academia and academic medicine in their spare time. Maybe this made sense 10 or 20 years ago, but why does it still make sense? On the other hand, now that we understand how bad the leadership of finance really was, it is a little easier to understand why the leadership of health care has become so bad. It seems reasonable to hypothesize that some of the problems of academia, and particularly the problems of medical academia, may have been at least enabled by leadership more used to working in an increasingly amoral marketplace than to upholding the academic mission. The failures of the leadership and governance of finance thus suggest we need to re-examine the leadership of health care.