NATIONAL BUREAU OF ECONOMIC RESEARCH
NATIONAL BUREAU OF ECONOMIC RESEARCH

The Economics of Conflicts of Interest in Financial Institutions

Hamid Mehran, Rene M. Stulz

NBER Working Paper No. 12695
Issued in November 2006
NBER Program(s):   CF

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.

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Document Object Identifier (DOI): 10.3386/w12695

Published: Mehran, Hamid & Stulz, Rene M., 2007. "The economics of conflicts of interest in financial institutions," Journal of Financial Economics, Elsevier, vol. 85(2), pages 267-296, August. citation courtesy of

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