Rating Inflation versus Deflation: On Procyclical Credit Ratings

Chen, Yongmin and Gu, Dingwei and Yao, Zhiyong (2013): Rating Inflation versus Deflation: On Procyclical Credit Ratings.

Abstract

Credit rating agencies play a crucial role in financial markets. There are two competing views regarding their behavior: some argue that they engage in rating inflation, while others suggest that they deflate ratings. This article offers a rationale that reconciles the two opposite arguments. We find that both rating inflation and rating deflation can occur in equilibrium. Furthermore, we show that credit rating is procyclical: rating inflation is more likely to happen in a boom while rating deflation is more likely to happen in a recession.

• Item Type: MPRA Paper
• Language: English
• Keywords: rating inflation, rating deflation, procyclical rating
• Subjects: D - Microeconomics > D8 - Information, Knowledge, and Uncertainty > D82 - Asymmetric and Private Information ; Mechanism Design; G - Financial Economics > G1 - General Financial Markets > G10 - General; G - Financial Economics > G2 - Financial Institutions and Services > G24 - Investment Banking ; Venture Capital ; Brokerage ; Ratings and Ratings Agencies

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