Centre for Economic Policy Research

4.7.5
Prohibit activities creating conflicts
As we note in other connections (see Chapter 5 on universal banking), the 
prohibition of combinations of activities that create potential conflicts of interest
risks may be too extreme a remedy, unless actual conflicts are severe. Such 
solutions can reduce the information available to markets, if synergies in 
information production and dissemination are forfeited. The question we will
wish to ask concerning rating agencies, therefore, is what is the balance of 
advantages and disadvantages from prohibiting certain kinds of activity, or their
financing in particular ways.
In the case of the rating agencies, the most visible potential conflict arises from
the issuer fee model of financing the rating process. While we recognize this
potential conflict, we do not regard the prohibition of this source of financing as
a proportionate remedy. It would almost certainly lead to the severe contraction
of the industry, and the loss of an important source of information and analysis.
The conflicts to which the financing model gives rise can, we believe, be kept in
52 Conflicts of Interest in the Financial Services Industry

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check by market forces, especially if these are buttressed by the additional actions
we have proposed.
A second source of conflict that may be set to grow in importance over time is
the combination of advice and rating. We have suggested above that, at a 
minimum, rating agencies ought to reveal details of all cases where they are 
rating firms or issues where they have provided advice on financial structure.
Should this be taken further, with separation being required between the 
activities of advice and rating? And if so, can this be achieved through firewalls
within existing institutions, or would it require full legal separation?
We do not feel we have enough information to come to a definitive answer on
these questions. Rating agencies have expertise in assessing the risk-sensitivity of
different debt structures. They may be able to help firms structure their debt,