APPLIED MARKET DESIGN

Those who believe in the Free Market Fairy will have a difficult time explaining this obvious failure of the ratings agencies.

Citi, California ask Moody's to change muni ratings
By Alistair Barr, MarketWatch
Last update: 4:18 p.m. EDT April 22, 2008

SAN FRANCISCO (MarketWatch) -- Citigroup Inc. and cities in California have asked Moody's Investors Service to change the way it rates municipal bonds because they say the current system is unfair.

Moody's and other agencies currently use one system for rating muni bonds and another for companies, sovereign issuers and structured finance. However, recent studies have shown that muni bonds default less than corporate bonds and much less than structured securities such as Collateralized Debt Obligations. The mortgage crisis has shed harsh light on such differences.

The different scales mean that it's more difficult for municipalities to get an AAA rating. Rating them in the same way as corporations and countries will likely mean a lot of muni bonds will probably be upgraded.