Credit Rating Agencies and Conflicts of Interest

Aline DARBELLAY Research Associate, University of San Diego School of Law (2010).

Frank PARTNOY George E. Barrett Professor of Law and Finance, University of San Diego School of Law.

While the creation of the credit rating industry traces back to the beginning of the twentieth century, conflicts of interest have emerged particularly since the 1970s, and they escalated in the run-up to the subprime mortgage crisis. In the 1970s, the leading credit rating agencies shifted from an investor-pays to an issuer-pays business model, i.e. issuers that were willing to be rated started to hire the agencies. This shift has been best explained by the quasi-regulatory role given to the leading agencies by regulators in the United States and later worldwide. Consequently, the leading credit rating agencies Moody’s, Standard & Poor’s and Fitch have become increasingly profitable. However, numerous rating scandals during the recent financial crisis highlighted the fact that credit ratings have in fact little informational value as compared to the significant revenues they generate. This paradoxal situation gives rise to concern about the lack of regulatory oversight in the credit rating industry and the need of monitoring conflicts of interest. In the United States, the Dodd-Frank Act of 2010 partly addresses these concerns in its credit rating agency reform.