Who should pay for credit ratings and how?

Anil K. Kashyap, Natalia Kovrijnykh

Research output: Contribution to journalArticle

15 Scopus citations

Abstract

We analyze a model where investors use a credit rating to decide whether to finance a firm. The rating quality depends on unobservable effort exerted by a credit rating agency (CRA). We study optimal compensation schemes for the CRA when a planner, the firm, or investors order the rating. Rating errors are larger when the firm orders it than when investors do (and both produce larger errors than is socially optimal). Investors overuse ratings relative to the firm or planner. A trade-off in providing time-consistent incentives embedded in the optimal compensation structure makes the CRA slow to acknowledge mistakes.

Original languageEnglish (US)
Pages (from-to)420-456
Number of pages37
JournalReview of Financial Studies
Volume29
Issue number2
DOIs
StatePublished - Feb 1 2016

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ASJC Scopus subject areas

  • Finance
  • Accounting
  • Economics and Econometrics

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