We consider the role of credit ratings when contracts between investors and portfolio managers are incomplete. In our model, a credit rating and a price on a risky bond both provide verifiable signals about a non-contractible state. We allow the investor to both impose ex ante restrictions on the manager’s action and provide outcome-based compensation. The optimal contract is a prohibitive one when the rating and price indicate a high likelihood of a low state, and relies on wages when the low state is less likely. We provide some observable implications of our contracting approach to ratings.

The COVID-19 pandemic can be considered the third major shock to have hit the United States and the global economy in the first two decades of this century. First, we experienced the September 11, 2001, terror attacks, then the 2008-2009 Financial Crisis, and now the COVID-19 pandemic. Each of these crises confronted the global economy, and the financial system in particular, with different challenges, with the COVID-19 crisis likely to be the worst. According to the World Bank (2020), the global economy is expected to shrink by 5.2% this year, representing the deepest global recession since the Second World War.