Credit rating agencies during credit crunch

In this paper, we study whether credit rating agencies (CRAs), as they claim, follow the rating through-the-cycle approach as opposed to a pro-cyclical approach. In particular, we compare the behavior of CRAs during the credit crunch and normal market conditions. Using the credit rating data by S&P, we find that CRAs assign lower credit ratings to firms during credit crunch relative to normal times. Nevertheless, this result does not necessarily imply that CRAs show an excessively pro-cyclical behavior if credit crunches have a long-term fundamental impact on firms. Our further investigation reveals that downgrades during a credit crunch will not be reversed over the subsequent 1-5 years, which supports through-the-cycle credit rating.