8 identify countries holding above-investment-grade ratings in 1996 and switching to below-investment-grade in 1998. Points in the Northeast quadrant identify countries holding below-investment-grade ratings in 1996 and switching to above-investmentgrade in 1998.

The distinction between above-investment-grade and below-investment-grade (or speculative-grade) ratings is very important: besides affecting the cost at which issuers can borrow, ratings determine also the amount of the supply of funds. Specifically, statutes and regulations often forbid institutional investors to invest in assets carrying ratings below a certain level (Dale and Thomas, 1991): these assets are referred to as "below-investment-grade" or "speculative" assets. Thus, when an issuer receives a rating below-investment-grade, the number of potential investors significantly shrinks. In practice, such issuer will no longer face the demand from all investors. If the legal restriction becomes binding for institutional investors, our below-investmnent-grade issuer will have to rely only on the small fraction of investors to which such restriction does not apply.

A few facts stand out clear from Figure 3. Besides the downgradings of Brazil and Venezuela (in Latin America) and that of India, the sharpest downgradings affected the East Asian crisis countries: Indonesia, Korea and Thailand fell below investment grade and Malaysia came close to the threshold. Various papers have claimed that rating agencies behaved procyclically,<sup>7</sup> downgrading these countries' sovereign ratings excessively with respect to their underlying fundamentals.

Downgradings were extensive not only for sovereigns but they amply affected the respective banking systems. This was an outcome to be expected if one considers that currency and banking crises tend to coincide in emerging economies (Kaminsky and Reinarth, 1999). However, the extent to which bank ratings dropped is astounding: the bank rating-transition Figure 4 shows this. Specifically, the dramatic fall brought below investment grade ratings for Korea, Malaysia and Thailand and worsened greatly those for Indonesia as well.<sup>8</sup> It was perhaps less easy to predict that (non-bank) corporate ratings would be severely downgraded as well. Yet, this is the evidence we gather from the non-bank rating-transition Figure 5.9 Corporate downgradings were sharpest in Indonesia, but they were sufficient to bring the average corporation below-investment-grade also in Korea and in Thailand.

Finally, it is worth noticing that sovereign ratings did show some upward revision in 1999, as soon as recovery started for East Asian crisis countries (Figure 6A), consistently with the hypothesis that the 1997-98 downgradings were excessive. This, however, did not translate equally rapidly in a relief for these countries' corporations (Figure 6B). Both the Korean and Thai sovereign ratings were brought back to

> _7_ See, among the others, Ferri, Liu, and Stiglitz (1999); Monfort, and Mulder (2000).

_8_ Specifically, for each of the two years, we consider the year-minimum average-bank rating for the following 15 countries: Argentina, Brazil, Canada, China, Colombia, Denmark, Indonesia, Japan, Korea, Malaysia, Mexico, Philippines, Singapore, Sweden, Thailand.

9 Specifically, for each of the two years, we consider the year-minimnum average-non-bank rating for the 31 countries included in Figure 3.

_Ferri, Liu, and Majnoni, "The Role of Rating Agency Assessments in Less Developed Countries: Impact of the Proposed Basel Guidelines"_