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The Importance of Credit Rating Agencies | eHow

Credit rating agencies help provide risk measures for various entities and make it easier for financial market participants to assess and understand the credit risk of the parties involved in the investing process. Individuals can get a credit score in order to be eligible for easy access to credit cards and other loans. Institutions can borrow money easily from banks without having to go through lengthy evaluations from each individual lender separately. Also corporations and governments can issue debt in the form of corporate bonds and treasuries to attract investors based on the credit ratings.

The credit ratings provided by popular rating agencies including Moody's, Standard Poor's, and Fitch, have become a benchmark for regulation of financial markets. Legal policies require certain institutions to hold investment graded bonds. Bonds are classified to be investment graded based on their ratings by these agencies, any corporate bond with a rating higher than BBB is considered to be investment graded bond.

The credit ratings provided by these agencies are used by various banks and financial institutions in determining the risk premium they will charge on loans and corporate bonds. A poor credit rating implies a higher risk premium with an increase in the interest rate charged to corporations and individuals with a poor credit rating. Issuers with a good credit rating are able to raise funds at a lower interest rate.

The credit rating agencies provide improved efficiency in the credit markets and allow for more transparency in dealings. The ratings help monitor the credit soundness of various borrowers through a set of well-defined rules.

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