What were bond-rating agencies thinking?

For the panic of 2008, a special place in hell is reserved for the bond-rating agencies. Though they did not create the bad mortgages and the bad bonds, they affixed on bad bonds the coveted rating of Triple A, reserved for the safest securities in the world.

What were they thinking?

The Financial Crisis Inquiry Commission, an arm of Congress, held a hearing about it last week in New York. News reports focused on the testimony of Warren Buffett, chairman of Berkshire Hathaway, the big shareholder in Moody's Investors Service. Buffett was the wrong guy to listen to. The people with a story were Moody's ex-employees.

Eric Kolchinsky, for example. He told how the company changed from 2000 to 2007, when he rose from being an analyst to managing director of a group that rated bonds.

He recalled being shown a telecom bond early in his time at Moody's. After studying it, he rejected it. That the investment bankers were willing to pay for a rating didn't matter. Moody's had to throw it out. And it did. "I felt no pressure to reverse my decision," Kolchinsky said.

That is the way it is supposed to work.

Moody's had long been a subsidiary of Dun & Bradstreet. In 2000, Moody's went public with a sale of stock. According to Kolchinsky's prepared testimony, this changed its culture from that of "a university academic department to one which values revenue at all costs."

Mark Froeba, who left Moody's in 2007 as a senior vice president, told a similar story. He said the company "re-educated" its analysts in the new culture. They became "a docile population ... afraid to upset investment bankers." These bankers, he said, came "to believe that Moody's management would, where necessary, support the bankers against its own analysts."

Kolchinsky said investment bankers began to ask "to keep certain analysts off their deals" — and the requests were honored.

There is a word for that: corruption.

That had always been a possibility. Like public accountants, bond raters are paid by insiders but have a duty to outsiders. In the case of Moody's, Standard & Poor's and the others, they avoided the pitfall by keeping professional standards — by reserving the power to look the customer in the eye and say "no."

Kolchinsky and Froeba said analysts they knew had lost most of that power by 2007. Froeba said Moody's began hiring as analysts new college graduates, many of them foreigners who would be deported if they lost their jobs. These were an especially docile group — and at a crucial point in the financial system.