David R. Kotok
December 21, 2011
This week, financial market observers witnessed Christian Noyer, France’s central bank governor, clearly and firmly discuss some issues involving rating agencies. He defended the AAA rating of his country. And he described the economics of the United Kingdom as a comparison. Why did he do this?
A central banker does not often specifically comment in the manner of the remarks we saw from Christian Noyer. In this case, they seem warranted. They were precise and supported by statistics. Essentially, Noyer said that if you are thinking about downgrading the creditworthiness of France, you must also analyze the economics that drive the ratings for others like the UK. He offered economic comparisons that measure the creditworthiness of the UK in a poorer light than that of France.
What Noyer did not say, but what market observers clearly saw, was that the frustration demonstrated in these comments had its origin in the actions of the UK. They effectively worked to undermine the position of the UK within the European Union. And they make EU financial-market repairs more difficult. For those who did not follow the events, of the 27 members of the European Union, 26 of them agreed or indicated commitment to the development and preservation of the European Union. The UK, under the leadership of Prime Minister David Cameron, cast the only negative vote.
It seems clear that Prime Minister Cameron is motivated by the political lobbying force of the financial sector in the UK. Known as “the City,” the financial sector in Britain is the home turf of many of the wealthiest people in the country. It has a very high per-capita income. What Cameron does not say is that the rest of the British population lives at a standard somewhat lower than Italy, yet higher than Greece. In other words, the UK is divided between the wealthy financial/economic types in or associated with the City, and all the rest. Clearly, Cameron’s politics and his decision to take the UK out of participation in EU decisions will weaken its status with respect to the European Union. The EU is dealing with the financial repairs that must take place in Europe. Cameron has hurt his country’s ability to influence that process. He succumbed to political pressures and lobbying of the same type that we see in the United States.
Let’s take this even farther. Within a couple of days, Cameron, was soundly criticized in editorials and commentaries. Then he faced a second embarrassing moment. The revelations of MF Global in terms of hypothecation and re-hypothecation in London have become widely known. For contrast note that Canada was not exposed to MF Global losses thanks to its regulations and rule making. The US also has tighter rules than the City. In fact, the City is now tainted with very serious questions concerning its capacity to regulate, to maintain safety of securities, and to supervise financial agents. All of this comes on the heels of Cameron’s politically-driven strategic gaffe and negative vote, and haunts the Prime Minister.
Readers may not know that the European Union is busily working on another approach to sovereign debt ratings. For good reason, agents in the EU and around the world find the behavior of the rating agencies to be a puzzle. One agency downgraded the creditworthiness of the United States, a bizarre rating that is still not completely understood. Other rating agencies took different approaches.
If you read Norbert Gaillard’s book, A Century of Sovereign Ratings, you can see how he outlines the very recent history of rating agencies dealing with sovereign debt. The conclusion is simply that they do not have much experience doing it, they have not done it for a very long period of time, and they very rarely get it right. So, relying on the rating agencies to assess the capability of sovereigns to pay, and to evaluate their governance, is a problematic exercise before they even begin. The rating agencies have failed investors and institutional players for several years. Their credibility is terribly damaged, and their behaviors of threatening ratings changes and issuing warnings dealing with sovereign debt have called into serious question their capabilities in this area.
Let’s get back to Christian Noyer. He has watched the evolution of the euro from the beginning. He was involved on behalf of his country in the early stages, before the euro was launched. He then joined the first European Central Bank president, Wim Duisenberg, in the leadership of the launch of the euro. Noyer was the ECB vice-president during its first five years. He was intimately and actively involved in its creation. His motivation was to make it a success, to bring about convergence, to bring about integration in Europe. He wanted to blunt the forces of European history that have shown themselves to surface when Europe is under economic stress. In Europe this has often ended in bloodshed. The Nazi occupation of France happened after the rise of Hitler and the collapse of the Weimar regime. Noyer is a student of his history. He knows that a thousand years of history says Europe is a very dangerous place when it is not involved in peaceful integration of finance and commercial activity.
Now, Noyer is in the throes of a tremendous test of the durability of the European Union. This is a fight for preservation of the concept of cooperation rather than confrontation. Christian Noyer functions in his capacity as the governor of the central bank of the second largest country in the euro zone. And he confronts rating agencies that are not credible but that can cause damage. And he sees behavior from the UK that defies logic and explanation.
Noyer therefore speaks out and forthrightly confronts the economics that drive the decisions of rating agencies. He is right, and he deserves to be applauded for it.
A personal disclosure is in order at the end of this commentary. During the past decade, I have chaired the central banking series of the Global Interdependence Center, www.interdependence.org. In that capacity, I have personally come to know a number of central bankers throughout the world. One of them is Christian Noyer. We have broken bread together. We have attempted to advance the dialogue that originates from seeking the goals of increased transparency, rather than opacity, and more integrity in our financial and economic world. Christian Noyer is a recipient of the GIC’s Global Citizen Award; and he has been a participant, speaker, and supporter of GIC events throughout the world. He is my personal friend.
He did the right thing. But I am biased by friendship some critics may say.. He said what was necessary. But my opinion is biased some would argue. He articulated clarity about the division that is occurring in Europe. He’s right. He stated his pro-Europe, pro-rapprochement (cooperation), strategic view of policy. He is right again. He chastised rating agencies. Right again. Dear reader, when it comes to this issue, I am not a fence sitter. A divisive breakup of this marvelous European experiment would be a disaster. It must be avoided. Noyer is right.
David R. Kotok, Chairman and Chief Investment Officer