Credit rating agencies like Moody's Corp and Standard & Poor's hoped to win a reprieve on Tuesday from a proposal that would upend their business model as U.S. lawmakers sat down to craft a final rewrite of financial regulations
Lawmakers from the Senate and the House of Representatives could strip a provision designed to eliminate perceived conflicts of interest between the credit rating agencies and the companies whose debt they rate as they resolve differences between their two Wall Street reform bills.
The credit-rating industry has been widely criticized for assigning overly rosy ratings to dubious debt offerings that imploded and brought Wall Street to its knees during the 2007-2009 financial crisis.
Democrats in charge of the process of crafting final legislation on financial reform say there are relatively few differences between the two sweeping bills passed by the House and Senate. Both aim to avoid a repeat of the crisis that plunged the world economy into a deep recession and led to massive taxpayer bailouts of Wall Street firms.
Lawmakers plan to postpone the most contentious issues of until the end of the process, which they hope to wrap up on June 24.
Even as the ratings agency issue dominated the public agenda, private discussions over the most contentious aspects of the bill appeared to be moving more in favor of a modified plan by Senator Blanche Lincoln to curb risky trading by banks.
Lincoln's original proposal called for banks to spin off their lucrative swaps dealing desks. A softened plan floated on Monday, however, appeared to be gaining support, with Lincoln's counterpart in the House, Agriculture Committee Chairman Collin Peterson, expressing growing comfort.
While action on that measure was still days away, other billion-dollar decisions were on the agenda as negotiators met for their first full day of work. Democrats and Republicans spent the first hour sparring over procedure and planned to tackle the credit-rating issue later in the day.
The Senate's bill, passed last month, would set up a new government panel that would assign ratings responsibilities for new structured debt to ratings agencies on a semi-random basis.
Representative Barney Frank, who heads the House-Senate conference committee, is instead pressing for a one-year study of the issue by the Securities and Exchange Commission.
That would allow credit raters to continue soliciting business directly from the companies, municipalities and other issuers whose offerings they assess. That practice has been criticized for leading to unduly strong ratings by agencies seeking to retain business from issuers.
The Senate proposal would add an additional level of administration to the credit ratings agencies, which already are likely to see their business costs rise as they deal with higher transparency and reporting standards, said Edward Atorino, analyst at The Benchmark Company in New York.
The direction (lawmakers are) headed in seems to be no worse than it was, and maybe the ratings agencies will get a little less onerous regulation, he said.
Frank also aims to exempt smaller hedge funds and other private funds from registering with the SEC. The Senate bill, which is being used as a starting point for negotiations, would require firms that manage more than $100 million in assets to register; House Democrats hope to raise that to $150 million.
The agenda highlighted a surprising dynamic that has emerged over the past year of legislating: House Democrats, usually viewed as more liberal than their Senate counterparts, may in fact be Wall Street's best bet for softening legislation that is sure to crimp industry profits for years to come.
Republicans have largely opposed the reform effort and are not expected to play a significant role in final negotiations.
BEHIND-THE-SCENES WORK ON DERIVATIVES
Behind the scenes, Democrats sought to resolve their most divisive issue -- how to regulate the $650 trillion derivatives market that led to the downfall of titans like insurer AIG during the crisis.
Banks looked increasingly likely to face some limits on swap trading as Lincoln's softened proposal to rein in risky business practices gained traction. Her fresh proposal would require the Wall Street giants that dominate the swaps market to spin off their dealing operations to a separately capitalized affiliate, but allow them to continue to use swaps to hedge their own lending activities.
Federal Deposit Insurance Corp Chairwoman Sheila Bair, who had criticized Lincoln's original plan, told Reuters Insider she was encouraged by the new proposal.
Peterson, the House Agriculture Committee chairman, told Reuters he would probably be comfortable with it and predicted that it would be included in the final bill in some form.
The provision has become a central target for Wall Street lobbying efforts and banking regulators during the final stages of resolving legislation that stretches to 2,000 pages.
Later this week, the panel is expected to finalize rules that spell out how regulators can dismantle troubled firms, an attempt to avoid the ad hoc approach government officials took during the crisis.
The House bill would raise $150 billion from the industry to cover the costs of unwinding firms that could threaten the entire financial system, while the Senate bill would cover the costs by selling off the troubled firm's assets and assessing fees on other firms in case of a shortfall.
(Additional reporting by Rachelle Younglai, Kim Dixon and Charles Abbott in Washington and Elinor Comlay in New York; Editing by Andrea Ricci and Leslie Adler)