The Obama Administration’s 89-page report on financial regulatory reform says on page 3,

Market discipline broke down as investors relied excessively on credit rating agencies.

To me, attributing the use of credit rating agencies to a breakdown in market discipline undermines the credibility of the report. Instead, one cannot ignore the role played by regulators.

Mark Flandreau and Norbert Gaillard describe regulatory use of rating agencies in the 1930’s. (thanks to Mark Thoma for the pointer.)

in 1931, in the midst of extensive fire sales of assets that threatened banks’ solvency, US authorities decided that banks supervised by the Comptroller of the Currency (the supervisory body that was in charge of dealing with so-called national banks in the US) would be enabled to book investment-grade securities at face value rather than at market price.

–in 1975, regulators created the official designation of Nationally Recognized Statistical Rating Organization, effectively setting up the credit rating agencies as a government-sanctioned oligopoly

–in January of 2002, the major U.S. bank regulators issued a policy allowing banks to hold less capital based on high grades issued by the credit rating agencies.