Research On The Effectiveness Of Credit Rating:Problems,Mechanisms And Countermeasures

Credit rating is a useful,marketable,promising but controversial industry.As an important information intermediary in the process of bond issuance and trading,credit rating can reduce the information asymmetry between investors and issuers,rating can help issuers to reduce the financing cost,and prompt investors to make reasonable investment decisions,as a result,credit rating improves the efficiency of financial market.However,Enron event,WorldCom incident and the subprime mortgage crisis pushed the credit rating to the eye of the storm,investors began question the effectiveness of credit rating.As an emerging market,the credit rating of China is also experiencing controversy.The main criticism lies in the lack of effectiveness of rating:high rating levels,low discriminative power,lack of default rate data and so on,even a "totally negated" view exist toward to credit rating in China.The rating market does reflect some problems,but at the same time,we also find that some critiques have not been fully analyzed and rigorously tested,nor have they been supported by empirical evidence.In order to explore the effectiveness of credit rating in China,we combine theoretical method and empirical method to analyze,discussing the rating effectiveness in details.The paper uses a traditional logical route and analysis framework to launch research:introducing questions;analyzing mechanisms and solving problems.We have our article structure as follow.First of all,put forward the research background,research motivation,innovation and research structure.The second part is literature review.The third part is verifying the effectiveness of credit rating in China,mainly considering the influences on issuer afifected by credit rating during bond issuance.We analyze the problems from two aspects:the information value of credit rating and the construction of credit spread by rating.The fourth part analyzes the mechanisms that affect the effectiveness of rating in China.We not only construct a theoretical model and draw the conclusion in different situations,but also make an empirical analysis from the competition view and the payment view,examining the conflict of interest,reputation mechanism,rating shopping and investor-payment model.The fifth part focuses on the default rate,introduces analysis from the existing external rating system,designs and implements an internal rating system which improves the effectiveness of rating.We measure the improvement effect of this internal rating system compare to external rating system,which can be a reference to improve the existing rating system.The results show that,firstly,credit rating can provide new information in the process of bond issuance,so as to reduce the financing cost;in other words,credit rating has strong information value.Secondly,credit rating ranks top in the deconstruction of credit spread,as a proxy index of credit risk premium,credit rating can explain spread well.Third,the theoretical model holds that in the background of oligarch rating market structure,the increase of competition leads to the rating inflation and damages the effectiveness of credit rating,while the investor-payment model can reduce rating inflation,rating fee is important as well.Fourth,through the empirical analysis of the double-rated financial debt samples,the result support the hypothesis of reputation mechanism,the phenomenon of conflict of interest is not obvious,rating shopping is not confirmed.Fifth,when the issuer-payment model is replaced by the investor-payment model,the phenomenon of rating inflation restricted and rating effectiveness enhanced.Sixth,credit rating can explain the spread well,also be the role of information intermediaries,and rating competition did not lead to conflict of interest,rating shopping has not been confirmed.However,the default curve is discontinuous and the problem of insufficient accumulation of default data is still serious.As a countermeasure,we design and implement an internal rating system,which improves the rating effectiveness both in terms of credit spread and portfolio return.Credit rating in China is still developing,the effectiveness of rating determine the space and quality of the market.The paper falsifies the conclusion that "rating is totally invalid".Rating can play the role of information intermediary,and the competition in rating market is benign.Given the important role of investor-payment in solving rating inflation,authorities should foster and encourage the development of China Bond Rating Co.,Ltd.In addition,rating system should also be continuously improved.Rating agencies should get rid "rigid payment" thinking,put the default rate in the current analysis framework and accelerate the researches on the statistical standard of default rates.