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Arm’s Length Method for Comparing Rating Scales

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Abstract

Investors are being encouraged after the global crisis to reduce their dependence on the largest credit rating agencies for risk assessments of companies and securities. Comparing risk assessments from different sources rapidly becomes non-trivial when more than three credit rating agencies are involved. We propose a method for comparing rating scales, and hence constructing correspondence diagrams and tables, thereby treating the rating scales used by different agencies as objects of study. Scales are compared by looking at sets of ratings assigned to similar entities (hereinafter banks) with the assumption that the risk being measured by each credit rating agency is the same for a given rated entity at a given point in time. Studying international bank ratings for a five-year period shows that there are subtle differences for the largest credit rating agencies. A mechanism for constructing mappings between scales could lead to more competition with new credit rating agencies.

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Authors and Affiliations

  1. International Laboratory of Quantitative Finance, National Research University Higher School of Economics, Russia

    Alexander M. Karminsky

  2. Russian Rating Agency, CFA, Russia

    Richard N. Hainsworth (President RusRating)

  3. Banking Institute, National Research University Higher School of Economics, Russia

    Vasily M. Solodkov

Authors
  1. Alexander M. Karminsky
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  2. Richard N. Hainsworth
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  3. Vasily M. Solodkov
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Corresponding author

Correspondence to Alexander M. Karminsky.

Additional information

This article was written as part of project commissioned by the IFC at the initiative of the Ministry of Finance of the Russian Federation to compare rating scales. The project was carried out by a working group at the Banking Institute of the National Research University Higher School of Economics. Main results were published in the working papers 2010–2011 and at the beginning of 2012 (Hainsworth et al. 2012) and (Karminsky and Sosyurko, 2011). Authors are very thankful to all project participants and rating agencies involve in the research. We would also like specially to thank Anatoly Peresetsky, Vladimir Sosyurko, Alexander Vasilyuk, and two anonymous referees for methodological comments, suggestions and discussions.

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Karminsky, A.M., Hainsworth, R.N. & Solodkov, V.M. Arm’s Length Method for Comparing Rating Scales. Eurasian Econ Rev 3, 114–135 (2013). https://doi.org/10.14208/eer.2013.03.02.002

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  • DOI: https://doi.org/10.14208/eer.2013.03.02.002

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