Moral Hazard with Rating Agency: An Incentive Contracting Approach

Bappaditya Mukhopadhyay

Credit Rating agencies suffer from a possible moral hazard problem. This is caused due to the fact that the evaluation standards set by rating agencies are unobservable to outsiders. In this paper, we address the moral hazard problem with the rating agencies. We discuss the feasibility of possible incentive contracts that can ameliorate this problem. We find, that incentive payments to the rating agency based on expected returns on debt will eliminate the moral hazard problem.