The European Commission has adopted a proposal for the regulation of credit rating agencies. The Commission has identified a number of criticisms of credit rating agencies, including:

- conflicts of interest;

- commitment to quality of ratings; and

- transparency.

The draft Regulation will apply only to those rating agencies whose ratings are used for regulatory purposes by financial institutions, including insurers. Any such rating agency will be required to register. The application for registration will be reviewed by the supervisory authority of its home member state and by the Committee of European Securities Regulators (CESR). Registration, if granted, will be valid for the entire EU.

Non-EU agencies will be obliged to incorporate a subsidiary in the EU and apply for registration of that subsidiary.

The supervisory authority of the rating agency's home member state will have power to access documents, demand information and carry out on-site inspections. It will have a range of sanctions available to it, including the withdrawal of registration, a temporary prohibition on the issue of credit ratings and the issue of public sanction notices. However, any decision by the supervisory authority must first be approved by CESR.

Rating agencies will be required to use a different set of ratings for structured finance instruments than those used for rated entities or financial instruments. A further set of ratings will be required if the rating agency issues unsolicited ratings (where the rated entity did not take part in the rating process) and the rating agency must specifically identify in any unsolicited rating that it did not have access to the internal documents of the rated entity.

The draft Regulation contains a detailed list, at Annex 1, of rules and requirements intended to ensure independence of the rating agencies and avoid conflicts of interest. Amongst other things, a rating agency will be prohibited from providing consultancy or advisory services to the rated entity or any related third party regarding the corporate or legal structure, assets, liabilities or activities of the rated entity or any third party or the design of any structured finance instrument.

The Regulation will now be subject to the co-decision procedure, under which the European Parliament and the European Council review and amend the proposal in parallel, before agreeing on a joint text of the Regulation.

The proposal can be found by clicking here.