UPDATE 1-U.S. lawmaker questions issuer-paid credit ratings

(Adds comments from SEC chairman)

By Joseph A. Giannone

NEW YORK, July 13 (Reuters) - A key U.S. lawmaker on Monday questioned whether credit rating agencies such as Moody's and Standard & Poor's should continue to be paid by the big Wall Street banks that issue bonds and derivatives.

U.S. Rep. Paul Kanjorski, a Democrat who chairs the House of Representatives capital markets subcommittee, told CNBC the agencies let investors down by putting triple-A stamps of approval on securities built on a foundation of financially stretched homeowners.

When housing markets tumbled in late 2006 and these securities quickly plunged in value, critics complained the agencies were seduced by lucrative fees dished out by the Wall Street banks who paid for ratings.

"Quite frankly, some of our rating agencies ... I think they let us down, and the American People and the investment community know they let us down," Kanjorski said in the TV interview.

"We're not going to correct this problem if in the future they can let us down again by the issuer paying the rating agency for the valuation."

Kanjorski could not be reached to elaborate on his comments.

The CNBC discussion was prompted by a question submitted by hedge fund manager David Einhorn, who in May announced he was shorting the shares of Moody's Corp (MCO.N). He contends rating agencies have enjoyed an oligopoly nurtured by government.

Einhorn, whose $5 billion hedge fund firm, Greenlight Capital, will profit if Moody's stock falls, said the firm undercut the value of its own brand and primary product. Contacted by Reuters, he declined further comment.

Congress and the Obama administration are scrambling to fix bank and financial market regulation that failed to rein in excesses in the boom years and left investors vulnerable to the continuing financial crisis.

Rating agencies have been under fire for giving top grades to securities that proved to be very risky.

Kanjorski said agencies were trusted by investors to provide an impartial analysis of securities, from corporate bonds to municipal debt. Instead, the agencies were seduced by the "hundreds of millions of dollars" in fees that could come from assigning good grades to asset-backed securities structured by the big banks, he said.

While there has been talk of new rules, such as eliminating conflicts of interest by having investors pay for credit research, rating agencies have not been a front-burner issue in Washington.

Last month, the agencies were largely spared in the Obama administration's financial regulation overhaul. In a "white paper" that outlined its plans, the administration urged Moody's Investors Service, McGraw-Hill Cos Inc (MHP.N) unit S&P and Fimalac SA's (LBCP.PA) Fitch Ratings to bolster the integrity of their ratings, but did nothing to address the compensation issue.

"I know Congress is in a position that we have to resolve it," Kanjorski said. "The administration sent up their white paper and although it discussed in several paragraphs the rating agencies, it didn't put nearly the weight on them nor the analysis of them."