Repeated Interaction and Rating Inflation: A Model of Double Reputation

Sivan Frenkel

American Economic Journal: Microeconomics, 2015, vol. 7, issue 1, 250-80

Abstract: Credit rating agencies have an incentive to maintain a public reputation for credibility among investors but also have an incentive to develop a second, private reputation for leniency among issuers. We show that in markets with few issuers, such as markets for structured assets, these incentives may lead rating agencies to inflate ratings as a strategic tool to form a "double reputation". The model extends the existing literature on "cheap-talk" reputation to the case of two audiences. Our results can explain why rating inflation occurred specifically in markets for MBSs and CDOs during the recent financial crisis. Policy implications are discussed. (JEL D82, G01, G12, G24, G32)

JEL-codes: D82 G01 G12 G24 G32 (search for similar items in EconPapers)
Date: 2015
Note: DOI: 10.1257/mic.20110077
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Citations: View citations in EconPapers (32)

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