European Union regulators on Wednesday proposed strict new rules for credit rating agencies that would hold them liable for their opinions and stop them from advising banks on how to get top debt ratings.

The EU's financial services chief Charlie McCreevy said the "very exacting rules" were needed to restore confidence in ratings.

Complex investments that turned out to be far riskier than originally rated have played a role in unleashing the global financial crisis.

"The reputation of credit rating agencies over the past year and a half has gone down," he told reporters.

"I was quite amazed in 2006 and 2007 about the tardiness of the credit rating agencies to respond then to the emerging turmoil" from rising defaults in US subprime housing loans given to people with poor credit, he said.

The requirements would mean big changes for New York-based Standard & Poor's, a business segment of publisher McGraw-Hill, and Moody's Corp.

Most investments require two ratings, and these two companies mop up the bulk of the market.

The EU executive wants credit rating agencies to be supervised by European regulators for the first time, to require them to take steps to prevent conflicts of interest and to ask them to prove that they understand the risks of the debt they examine.

The commission said rating agencies "contributed significantly to the current problems in the financial markets" because they underestimated the risk that securitized - or repackaged - debt would not repay loans.

Costly bailouts

Investors, among them many European banks, were encouraged to buy these investments because they carried top ratings, it said. Losses on them have torn a huge hole in the balance sheets of European as well as American banks, leading to costly government bailouts.

The new rules will need the backing of EU governments and the European Parliament and could become law as soon as 2010.

Under the proposed rules, the agencies would no longer be able to claim that ratings are "just opinions," McCreevy said, and could face EU sanctions if found guilty of professional misconduct. That would see them lose their license to rate debt in the 27-nation bloc.

Conflicts of interest

They would not be allowed to provide lucrative advisory services that saw them help banks structure investments to win coveted top ratings. This business led to accusations that agencies were open to conflicts of interest because they are paid by the banks whose debt they rate.

Only highly-rated debt can be sold to pension funds and insurance companies under international banking guidelines.

The US is also considering banning rating agencies from doing consulting work for bond issuers.

Under the EU proposal, agencies would have to quit rating securitized investments if they can't prove that they have good quality information or staff with enough experience and training to make well-based decisions.

They would also have to disclose the models and assumptions they use for rating debt.

They would have to review their own ratings and appoint at least three independent directors to their board, including one expert in securitisation and structured finance.