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The IUP Journal of Financial Economics
Are Sovereign Credit Ratings Objective and Transparent?
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Sovereign credit ratings provided by international rating agencies to different countries have a definite impact on their access to the international credit market. These ratings help to develop lenders' perception about the level of credit risk of the national governments. However, the reliability of the ratings has been a matter of debate due to the methodology followed by the agencies. The present paper attempts to check the reliability of these ratings, by considering the ratings assigned by two of the major international rating agenciesMoody's and Standard and Poor's. This is done through comparison of the ratings assigned by them and checking whether the difference is significant and responsive for the countries rated by both. A regression analysis of the ratings and some of the commonly used indicators by the two agencies to determine the ratings, is also done. The results indicate an increase in the average rating difference of the two agencies over time and that the difference is statistically significant. Moreover, the rating methodology followed by these agencies involves several common indicators, except the external balances indicator. The differences in the ratings, however, are also caused due to subjective assessments of the countries by the rating agencies.

 
 
 

Credit rating of any entity is the estimation of the ability of the entity, like banks, financial and nonfinancial institutions and the corporate bodies, to service their debt obligations effectively and in time. It analyzes various factors or types of risks that affect the ability of these institutions to service their debts. These obligations involve interest and/or principal amount repayment of the various rated instruments such as bonds and deposits. Apart from these institutions, credit rating is also done for an economy as a whole. This type of credit rating for nations or states within a nation is known as `sovereign credit rating'. The ratings of the sovereign governments provide an estimate of their ability and willingness to repay the future debts in full and in time. These estimates indicate the probability of default by governments and hence are forward looking. In the context of international capital market, the sovereign credit ratings have a great significance. Governments seek the credit ratings so as to improve their access to the international capital markets and to reduce their cost of borrowing. These ratings help to develop lenders' perception about the level of credit risk of the national government. The changes in these ratings have an effect on the terms of borrowing available to a country. Sovereign ratings are not only important for the governments, but also for assessing other borrowers of the same nationality. The ratings that are assigned to the non-sovereign entities are generally not greater than those assigned to their home countries (Standard and Poor's, 2006).

Given the background of the sovereign credit ratings, the issue of reliability of the ratings and the process followed by the agencies become relevant. These ratings have often been a matter of debate for the methodology followed by the rating agencies on the one hand, and the possibility of them being affected by subjective opinions rather than objective analysis and their consequences, on the other hand.

 
 
 

Financial Economics Journal, Sovereign Credit Ratings, International Credit Market, Sovereign Governments, International Capital Market, International Agencies, Credit Rating Agencies, Policy Developments, Foreign Currency Debts, Financial System, Economic Policy, Economic Development, Gross Domestic PRoduct, GDP.