Rating agencies dodge bullet in Wall Street bill

A street sign can be seen outside the New York Stock Exchange in New York March 11, 2009.

WASHINGTON (Reuters) - Credit-rating agencies like Moody's and Standard & Poor's dodged a bullet on Tuesday as lawmakers decided to strip out a provision in the Wall Street reform bill that would have upended their business model.

Negotiators from the House of Representatives and the Senate tasked with hammering out a final version of the sweeping reform bill agreed to remove a measure that would have set up a new clearinghouse to eliminate perceived conflicts of interest in the industry.

Instead, they ordered up a study of the issue.

The credit-rating industry has been widely criticized for assigning overly rosy ratings to dubious debt offerings that brought Wall Street to its knees during the 2007-2009 financial crisis.

Lawmakers said the need to drum up business gave the agencies an incentive to sweeten their ratings, but they did not know whether the controversial proposal to separate buyers and sellers would work.

"I kind of like the idea of the study, given the complexity of how you deal with conflicts of interest -- and they are significant," said Democratic Senator Dodd.

Shares of Moody's closed 6.6 percent higher, and those of Standard & Poor's parent McGraw-Hill gained 5.7 percent, as investors anticipated lawmakers would remove the provision opposed by large ratings firms.

Negotiators on the House-Senate conference committee are seeking to reconcile separate reform bills to send a final version to President Barack Obama to sign into law by early July.

Both bills strive to avoid a repeat of the crisis that plunged the world economy into a deep recession and led to massive taxpayer bailouts of Wall Street firms.

Lawmakers plan to postpone the most contentious issues until the end of the process, which Democrats hope to wrap up on June 24.

Earlier in the day, lawmakers agreed to subject private equity funds and hedge funds to greater oversight and permanently insure banking customers' deposit accounts up to $250,000. That limit, which had been raised during the crisis, was set to revert to $100,000 in 2014.

Even as they worked through relatively noncontroversial aspects of the bill, Democrats were privately approaching consensus on one of the most contentious aspects of the legislation, a proposal to curb risky trading by banks.

Action on that measure, however, was still days away as the panel focused on the fate of ratings agencies.

HOLDING RATERS TO ACCOUNT

The Senate's bill, passed last month, would set up a new government clearinghouse that would assign new structured debt offerings to ratings agencies on a semi-random basis.

Industry analysts said that would only add a layer of bureaucracy, and Democrats said more information was needed to figure out how to tackle the problem.

Negotiators from both the House and the Senate agreed that regulators should first study the issue. Dodd and other Senate negotiators suggested the Securities and Exchange Commission should have the power to set up the proposed clearinghouse in two years if they deemed it the best way to eliminate conflicts of interest.

Credit ratings agencies are already likely to see their business costs rise as they deal with higher transparency and reporting standards, said Edward Atorino, analyst at The Benchmark Company in New York.

Representative Barney Frank, who heads the conference committee, said other elements of the legislation would hold the industry accountable by making it easier to sue agencies that issue misleading ratings and removing the requirement that government agencies use their ratings as they go about their work.

"We did the best we could to put people on notice that they ought to be doing their own diligence," Frank said.

The Federal Reserve was poised to escape relatively unscathed after enduring more than a year of tough congressional criticism for its actions during the crisis.

House Democrats said they will try to strike a Senate-approved measure that would make the head of the Fed's New York branch a political appointee, rather than one appointed by industry. The U.S. central bank has argued that the Senate measure would compromise its independence.

The Fed also appeared likely to evade the most intrusive congressional oversight as House lawmakers backed off a previous plan that would have set up ongoing congressional audits that could have extended to monetary policy.

House Democrats also said they aim to hold investment brokers to a higher client-care standard roughly the level now followed by investment advisers.

BEHIND-THE-SCENES WORK ON DERIVATIVES

Behind the scenes, Democrats sought to resolve their most divisive issue -- how to regulate the $650 trillion derivatives market that led to the downfall of titans like insurer AIG during the crisis.

Banks looked increasingly likely to face some limits on swap trading after Senate Agriculture Committee Chairman Blanche Lincoln softened a proposal that would require banks to spin off their lucrative swaps dealing desks.

Her new plan would require the Wall Street giants that dominate the swaps market to spin off their dealing operations to a separately capitalized affiliate, but it would let them continue to use swaps to hedge their own lending activities.

Sheila Bair, chairman of the Federal Deposit Insurance Corp, who had criticized Lincoln's original plan, told Reuters Insider she was "encouraged" by the new proposal.

Representative Collin Peterson, the House Agriculture Committee chairman, told Reuters it would probably become law in some form.

But lawmakers in the business-friendly New Democrat Coalition called for stripping Lincoln's plan, a central target for Wall Street lobbying efforts. Three members of the 69-member coalition are on the negotiating committee.

(Additional reporting by Rachelle Younglai, Kevin Drawbaugh and Charles Abbott in Washington and Elinor Comlay in New York; Editing by Andrea Ricci, Leslie Adler, Andrew Hay)