Europeans blaming rating agencies, not leftist government, for debt debacle in Greece

The one good thing about witch hunts is that they occasionally catch guilty people. In the trans-Atlantic war on prosperity, governments have finally settled on a common enemy: the investment rating agencies that have been downgrading government debt in Europe and the United States.

Olli Rehn, European Commissioner for Economic and Financial Affairs, says the agencies were "behind the curve and reinforced the curve." That sounds a little like grabbing yourself by the hair and holding yourself at arm's length, and it's typical of the illogical complaints being made by European leaders against Fitch and Standard & Poor's for their rapid downgrading of Greece's sovereign debt.

On this side of the pond, the Securities and Exchange Commission is putting pressure on Moody's, and Sen. Al Franken (D-Minnesota) is introducing regulation of rating agencies into the stalled finance bill.

Note that the rating agencies are not getting dinged in response to their legitimate failures -- the famously too-high ratings awarded to Enron, Lehman Brothers and the universe of junk debt instruments. They're being punished for doing the right thing: sounding the alarm on Europe's manifest sovereign debt crisis and America's looming one. By coincidence, Moody's recently issued a widely publicized warning that the U.S. could be looking at a serious public debt emergency by 2013. No wonder Franken wants to rein in the raters that were considered jim-dandy back when President Obama first introduced his financial regulation bill. The agencies have gotten themselves into trouble by trespassing on government property.

How did Wall Street get flawed mortgage securities past raters? Reverse engineering

One of the mysteries of the financial crisis is how mortgage investments that turned out to be so bad earned credit ratings that made them look so good.

One answer is that Wall Street was given access to the formulas behind those magic ratings — and hired away some of the very people who had devised them.

In essence, banks started with the answers and worked backward, reverse-engineering top-flight ratings for investments that were, in some cases, riskier than ratings suggested, according to former agency employees.

The major credit rating agencies, Moody’s, Standard & Poor’s and Fitch, drew renewed criticism on Friday on Capitol Hill for failing to warn of the dangers posed by complex investments like the one that has drawn Goldman Sachs into a legal whirlwind.

But while the agencies have come under fire before, the extent to which they collaborated with Wall Street banks has drawn less notice.

The rating agencies made public computer models that were used to devise ratings to make the process less secretive. That way, banks and others issuing bonds — companies and states, for instance — wouldn’t be surprised by a weak rating that could make it harder to sell the bonds or that would require them to offer a higher interest rate.

But by routinely sharing their models, the agencies in effect gave bankers the tools to tinker with their complicated mortgage deals until the models produced the desired ratings.