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Financial sector: preventing the next crisis - 02/06/2010

Standard and Poor’s earnings outlook on board of New York Stock Exchange © Reporters

New legislation for pan-European supervision of credit rating agencies and a public debate on how financial institutions are managed.

The commission’s proposals on credit rating agencies were already planned as part of the EU’s new system for supervising the financial industry - endorsed by EU leaders last year. But the draft rules come amid fresh calls for tighter oversight of these private companies.

Investors rely on rating agencies to provide information on the risks of assets. The agencies are important to the stability of the financial markets and have a huge impact on the availability and cost of credit. They have drawn criticism for contributing to the financial crisis by underestimating the risks, and, more recently, for acting in a way that worsened the Greek debt crisis.

Until now, most financial supervision has been done at the national level. The new system calls for the creation of a European supervisory authority to oversee securities and markets. This new body would have direct and exclusive oversight of credit rating agencies registered in the EU, including European branches of agencies based outside the EU. Three of the most popular agencies - Fitch, Moody’s and Standard & Poor’s – have headquarters in New York.

Under the measures tabled today, the securities authority, expected to be up and running by 2011, would have the power to launch investigations, carry out inspections, propose fines and even prohibit them from operating in the EU Credit institutions, banks and investment firms would have to make information available to agencies they do not use, so that those agencies could produce independent ratings on their products.

It is believed that centralised supervision of the agencies will lead to more transparency in operations, more protection for investors and increased competition in the credit ratings industry.

The commission also launched a public consultation on corporate governance rules for the financial sector, including insurance companies. Among the issues up for debate: how to improve the functioning and composition of corporate boards for the purpose of supervising senior management and how to involve shareholders, financial supervisors and external auditors in corporate governance.

The EU is also seeking feedback on how to pay bankers without encouraging excessive risk-taking. The commission has issued recommendations on remuneration policies but two EU reports published today show many countries have yet to act on the advice.

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