The Economics of Conflicts of Interest in Financial Institutions

51 Pages Posted: 9 Nov 2006  

Hamid Mehran

Federal Reserve Bank of New York

René M. Stulz

Ohio State University (OSU) - Department of Finance; National Bureau of Economic Research (NBER); European Corporate Governance Institute (ECGI)

Multiple version iconThere are 2 versions of this paper

Date Written: November 2006

Abstract

A conflict of interest exists when a party to a transaction could potentially make a gain from taking actions that are detrimental to the other party in the transaction. This paper examines the economics of conflicts of interest in financial institutions and reviews the growing empirical literature (mostly focused on analysts) on the economic implications of these conflicts. Economic analysis shows that, although conflicts of interest are omnipresent when contracting is costly and parties are imperfectly informed, there are important factors that mitigate their impact and, strikingly, it is possible for customers of financial institutions to benefit from the existence of such conflicts. The empirical literature reaches conclusions that differ across types of conflicts of interest, but overall these conclusions are more ambivalent and certainly more benign than the conclusions drawn by journalists and politicians from mostly anecdotal evidence. Though much has been made of conflicts of interest arising from investment banking activities, there is no consensus in the empirical literature supporting the view that conflicts resulting from these activities had a systematic adverse impact on customers of financial institutions.

JEL Classification: G14, G21, G24, G28

Suggested Citation

Mehran, Hamid and Stulz, René M., The Economics of Conflicts of Interest in Financial Institutions (November 2006). Fisher College of Business Working Paper No. 2006-03-005. Available at SSRN: https://ssrn.com/abstract=943447 or http://dx.doi.org/10.2139/ssrn.943447

Hamid Mehran

Federal Reserve Bank of New York ( email )

33 Liberty Street
New York, NY 10045
United States
212-720-6215 (Phone)

Rene M. Stulz (Contact Author)

Ohio State University (OSU) - Department of Finance ( email )

2100 Neil Avenue
Columbus, OH 43210-1144
United States

HOME PAGE: http://www.cob.ohio-state.edu/fin/faculty/stulz

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

European Corporate Governance Institute (ECGI)

c/o ECARES ULB CP 114
B-1050 Brussels
Belgium

Paper statistics

Downloads
825
Rank
21,034
Abstract Views
3,728