The Senate approved two amendments to a landmark Wall Street reform bill on Thursday that would shake-up the credit rating agency business, widely maligned for its role in the 2007-2009 financial crisis.
An amendment from Democratic Senator Al Franken would set up a government clearinghouse to assign debt rating duties to agencies, including the Big Three: Moody's Corp, Standard & Poor's and Fitch Ratings.
That could ease pressures the agencies face to assign overly rosy ratings to debt instruments issued by firms that hire the agencies, backers of the Franken amendment said.
There is a staggering conflict of interest facing the credit rating industry, Franken said on the Senate floor.
The Franken plan could bring more competition to ratings, said Bill Bergman, an analyst with Morningstar Inc.
This is a big step ... it seems the doors are open for greater entry into the industry, he said.
Shares of Moody's fell 0.5 percent after the Senate votes, and Standard & Poor's parent, McGraw-Hill Cos, fell 1.6 percent.
Franken's amendment was approved in a 64 to 35 vote over the objections of Senator Christopher Dodd, the Democratic author of the sprawling bill, which is widely expected to win final approval in the Senate as soon as next week.
Dodd said the Franken proposal had merit but needed more study to prevent any unintended consequences.
A related amendment, from Republican Senator George LeMieux, was also approved, by a 61 to 38 vote. It would require regulators like the Federal Deposit Insurance Corp to develop their own standards of creditworthiness rather than rely solely on credit rating agencies' assessments.
VOTES MOVE BILL FORWARD
Both votes were steps forward for legislation that promises to be the biggest overhaul of financial regulation since the Great Depression. President Barack Obama is a strong advocate of tighter rules for banks and capital markets.
A parallel crackdown is under way in the European Union, with banks and financial firms bracing for changes on both sides of the Atlantic that look likely to pinch their profits, risk-taking ability and growth potential for years to come.
Dodd's regulation bill already included a provision on credit rating agencies. It would boost the U.S. Securities and Exchange Commission's power to police the agencies. But critics said it did little to address a basic conflict of interest in the agencies' issuer-pays business model.
Bergman said it was not entirely clear that the Franken plan would address the industry's problems. A government body that makes calls on who should or shouldn't be a rating agency, that's not necessarily a cure, he said.
Howard Simons, a strategist with Bianco Research in Chicago, criticized the Franken amendment, saying the rating agencies would always adopt a herd mentality. A government board, he said, does not fix that.
In the run-up to the financial crisis, with real estate prices peaking, agencies assigned high ratings to complex debt instruments issued by banks -- such as collateralized debt obligations, or CDOs -- backed by subprime mortgages.
Those ratings proved to be misguided. When housing prices began to fall off sharply, the ratings were abruptly downgraded, which critics said aggravated a crisis that paralyzed capital markets and tipped the U.S. economy into a deep recession.
The massive U.S. taxpayer bailouts of Wall Street that followed unleashed a wave of reform proposals worldwide and a political backlash that is still rolling through Washington.
CREDIT CARD FEES TARGETED
Another amendment to the Senate bill in line for debate and a vote would restrain credit card interchange fees charged to supermarkets, convenience stores and many other merchants by lenders every time a customer uses a credit card.
Senator Richard Durbin, the Senate's No. 2 Democrat, wants to restrain the fees -- a proposal of concern to banks and card firms like Visa Inc and MasterCard Inc. Those fees totaled $48 billion in 2008, up from $42 billion in 2007.
Durbin wants to let merchants give discounts to customers who use one type of credit card over another, or who pay by cash or some means other than a credit card. Retailers could also set minimum purchase levels for using a credit card.
Federal Reserve Chairman Ben Bernanke said on Thursday he was concerned about part of the Senate bill that could force banks to spin off their swaps business, according to a letter obtained by Reuters.
Bernanke wrote that he was concerned this would make the U.S. financial system less resilient and move banks' derivatives activities away from federal oversight.
Bernanke expressed his concerns in a May 12 letter to senators who are crafting new rules for the unpoliced, $615 trillion over-the-counter derivatives market.
(Additional reporting by Rachelle Younglai, with Joe Rauch in Charlotte, N.C.; Editing by Padraic Cassidy)