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Statement by J. Virgil Mattingly, Jr., General Counsel, Board of Governors of the Federal Reserve System, before the Subcommittee on Terrorism, Narcotics and International Operations of the Committee on Foreign Relations, U.S. Senate, May 14, 1992.

Statement by J. Virgil Mattingly, Jr., General Counsel, Board of Governors of the Federal Reserve System, before the Subcommittee on Terrorism, Narcotics and International Operations of the Committee on Foreign Relations, U.S. Senate, May 14, 1992

I am pleased to appear again before this subcommittee to report on the Federal Reserve's actions regarding the Bank of Credit and Commerce International (BCCI). Since my last appearance, on August 1, 1991, the Federal Reserve has continued to investigate the circumstances under hich BCCI gained control of the shares of U.S. taking organizations, to prosecute enforcement actions against those responsible for wrongdoing by BCCI, and to work to ensure the separation and insulation of U.S. banking organizations om BCCI. Substantial progress has been made a each of these fronts and includes, most recently, shareholder approval of the Federal Reserve's proposal for an independent trustee to old the shares of the First American banks. today, I will provide a status report on the investigation and describe the actions that the Federal Reserve has taken to date regarding the First American banks and Independence Bank.

FEDERAL RESERVE ENFORCEMENT ACTIONS

The Federal Reserve is actively and aggressively pursuing its investigation of BCCI and those who assisted it in illegally and secretly gaining control if the shares of U.S. banking organizations. Because the investigation is ongoing, I must refrain from divulging details that could prejudice our case or the cases of the other law enforcement officials with whom we are working. I can, however, describe the charges that have been made public and the extent of the investigation to date.

As you may recall, on July 12, 1991, the Federal Reserve, acting on the basis of its investigation of the BCCI matter over the preceding months, took enforcement action against four individuals for their involvement with BCCI's illegal acquisition of Independence Bank, Encino, California. These individuals were Agha Hasan Abedi and Swaleh Naqvi, the two former senior officers of BCCI; Kemal Shoaib, a former senior officer of BCCI and the former chairman of Independence Bank; and Ghaith Pharaon, a Saudi Arabian businessman who was the owner of record of Independence Bank and a shareholder of BCCI. The Federal Reserve's notice alleged that these individuals arranged for Pharaon to acquire Independence Bank on behalf of BCCI, thus establishing BCCI as an illicit bank holding company in violation of the Bank Holding Company Act and Federal Reserve regulations. The notice further alleged that these individuals concealed this illegal transaction from the Federal Deposit Insurance Corporation (FDIC), the primary federal regulator of Independence Bank, as well as from the Federal Reserve.

An additional notice was issued on July 29, 1991, which alleged that BCCI had illegally acquired control of the shares of National Bank of Georgia, CenTrust Savings Bank, and Credit and Commerce American Holdings, N.V. (CCAH), the parent holding company of First American Bankshares. The Federal Reserve assessed a $200 million civil money penalty against BCC! and initiated proceedings against nine individuals associated with BCCI to bar them from any future involvement with U.S. banking organizations. These individuals included Kamal Adham, Faisal Saud Al-Fulaij, A.R. Khalil, and Sayed Jawhary, each of whom the Federal Reserve alleged served as a nominee for BCCI in acquiring shares of CCAH, and five others, including Abedi and Naqvi.

At the request of the Department of Justice, which had concerns about double jeopardy in the event of a criminal prosecution, the Federal Reserve deferred an assessment of civil money penalties against these individuals. In September 1991, after the Justice Department's withdrawal of its request for deferral with respect to Shoaib and Pharaon, the Federal Reserve assessed civil money penalties of $20 million against Shoaib and $37 million against Pharaon in connection with the Independence Bank acquisition. These assessments are in addition to the $200 million assessed against BCCI. The Federal Reserve, represented by the Justice Department, moved in U.S. District Court to freeze the U.S. assets of Shoaib, including certain deposit accounts. A freeze order was entered on October 15, 1991. In March of this year, the Federal Reserve entered a default judgment against Shoaib, after the recommendation of the administrative law judge assigned to the case. The Department of Justice is now pursuing collection actions against assets belonging to Shoaib.

On September 17, 1991, the Federal Reserve, again represented by the Justice Department, moved in U.S. District Court to freeze substantially all of the U.S. assets of Pharaon, and a freeze order was entered that same day. Pharaon's frozen assets represent an amount greater than the penalty assessed against him, although there are competing claims to the assets. Pharaon has, through counsel, contested the charges against him in both the action for civil money penalties and the action seeking to bar him from U.S. banking. A substantial motions practice has taken place before the administrative law judge, and dispositive motions by Pharaon and the Federal Reserve are cunently pending.

As for the other individuals whom the Federal Reserve has charged in the matter, Adham and Jawhary have filed answers contesting the Federal Reserve's July 29 charges, and one other respondent has consented to the entry of a ceaseand-desist order. Service of other respondents has proved difficult because they are generally located in the Middle East. However, with the assistance of the Department of State, several respondents have been located and served, and efforts are continuing to effect service on the remaining respondents. The Federal Reserve has also moved for a default judgment against Abedi and Naqvi, who have been served.

On December 19, 1991, the fiduciaries appointed by the courts in the United Kingdom, Luxembourg, and the Cayman Islands to administer BCCI's affairs in liquidation entered into an agreement with the Justice Department, the New York County District Attorney, the Federal Reserve, and various federal and state regulatory agencies whereby BCCI agreed to plead guilty to federal and state criminal charges and to forfeit its assets in the United States, estimated at more than $500 million. The agreement was approved and the conviction entered by the U.S. District Court for the District of Columbia on January 24, 1992, and by the appropriate New York court on December 20, 1991. Under the agreement, BCCI also consented to the Federal Reserve's $200 million civil money penalty action, with the Federal Reserve agreeing to stay collection of the penalty in light of the forfeiture to the Justice Department of BCCI's U.S. assets.

I would note that the Board agreed to the settlement because it achieved the Federal Reserve's three primary aims. First, the assets forfeited under the plea agreement establish a fund that is available to provide additional capital support to U.S. banking organizations that were illegally acquired by BCCI. Second, the courtappointed fiduciaries agreed to comply with the Federal Reserve's order of March 4, which requires BCCI to divest its interest in CCAH, First American Bankshares' parent holding company. Third, as part of the agreement, the courtappointed fiduciaries for BCCI agreed to cooperate in the Board's investigation of violations of U.S. banking laws and thereby to provide certain BCCI documents that we have been seeking for some time.

Even as adjudication of the charges that the Federal Reserve has brought to date proceeds, the Federal Reserve continues its investigation of BCCI and those who were responsible for its illicit activities in the United States. Federal Reserve investigators and examiners have traveled throughout the United States and to several foreign nations to compile evidence regarding BCCI's illegal acquisition of U.S. banking organizations. To date, Federal Reserve investigators have interviewed more than sixty individuals, issued more than seventy-five subpoenas for the production of documents, and taken numerous formal depositions comprising thousands of pages of testimony. Federal Reserve investigators have also reviewed hundreds of thousands of pages of documents.

The Federal Reserve's investigators have sought the cooperation of foreign law enforcement and regulatory agencies. The Bank of England has been particularly cooperative. However, bank secrecy laws in other countries in which BCCI operated continue to hinder the ability of Federal Reserve investigators to obtain necessary information.

At home, the Federal Reserve's investigators have continued to work with both the New York County District Attorney's Office and the Justice Department, with whom the Federal Reserve has established excellent, cooperative relationships, to unravel the relationships of BCCI to U.S. banks.

FEDERAL RESERVE ACTIONS REGARDING U.S. BANKS

First American Banks

Since the discovery in late 1990 of BCCI's control of certain shares of CCAH (First American Bankshares' parent holding company), the Federal Reserve has actively sought to achieve a complete legal separation of the First American banks from BCCI. Arranging for divestiture has been a difficult and complex process, plagued with uncertainties regarding the ownership of certain CCAH shares and involving many parties that are located in other countries and that often have conflicting interests and claims. However, with the cooperation that the Federal Reserve has received from the Department of Justice and the New York County District Attorney, the shares of the First American banks should shortly be placed in the hands of an independent trustee with full authority to sell and convey title to the banks. The transfer of the banks to an independent trustee is designed to maintain public confidence in the banks by providing them with an effective and complete insulation from BCCI and related persons until they can be sold.

The process leading to the establishment of the trust began on March 4, 1991, when the Federal Reserve ordered BCCI to submit a plan to divest its interest in CCAH. That order also restricted financial and other dealings between BCCI and the First American banks. BCCI submitted a plan in May 1991 that provided for a trust to hold the shares of CCAH and to sell the shares or assets of CCAH as soon as possible.

Before that plan could be implemented, however, overseas banking authorities closed BCCI on July 5, 1991, and its affairs were placed in the hands of court-appointed fiduciaries in those foreign jurisdictions. Control of BCCI by the court-appointed fiduciaries achieved a limited separation of BCCI and the First American banks, but the Federal Reserve continued to seek divestiture to finally, completely, and irrevocably separate the two.

This effort was complicated by the fact that BCCI's interest in CCAH is not perfected, and the extent of that ownership interest is not clear. BCCI is not the record owner of any shares of CCAH; the shares of CCAH are registered in the names of various individuals and corporate entities. Rather, as the Board has charged, BCCI holds a beneficial interest--through nominee agreements and loans to shareholders--in more than 50 percent of those shares. Thus, although the Federal Reserve might have attempted to force the court-appointed fiduciaries to sell BCCI's interest in CCAH, the fiduciaries would have first had to secure possession and title to the shares. Doing so would have entailed substantial litigation regarding precisely which CCAH shares were controlled by BCCI, as well as foreclosure proceedings to secure title to the shares apparently pledged to BCCI as collateral for loans to nominee shareholders. That process could easily have involved years of litigation.

Because of these problems, the Federal Reserve pushed to transfer control of the First American banks to an independent trust approved by the record holders of CCAH shares as the most expeditious method of achieving the divestiture on which the Federal Reserve insisted. This would enable the banks to be sold without the necessity of waiting for resolution of the various claims to the CCAH shares.

During the fail of 1991, the Federal Reserve and other involved parties agreed that divestiture of the First American banks could be achieved most expeditiously by transferring to a trust all of the shares of one of CCAH's subsidiary holding companies, First American Corporation, rather than transferring BCCI's undetermined interest in CCAH shares. First American Corporation is the immediate parent of First American Bankshares, the holding company that controls the First American banks. (1)

This arrangement was deemed preferable to the transfer of BCCI's interest in CCAH because the trustee would receive 100 percent of the shares of a U.S. bank holding company, as opposed to BCCI's lesser and disputed interest in CCAH. The independent trustee would thereby gain full and absolute control of the First American banks and, because of this total control, will be able to effect a sale and convey clear title to the banks.

Early this year, an individual trustee was identified who was acceptable to all concerned, but major issues remained, including funding and indemnification for the trust. The Board believed that the plea agreement, which made funds forfeited by BCCI available to support the First American banks, provided a method to resolve these issues. The Justice Department provided significant assistance in this regard. The department proposed that the trust arrangement be established through the U.S. District Court for the District of Columbia, which has jurisdiction under the BCCI plea agreement. The New York County District Attorney and the proposed trustee endorsed this proposal, as did the board of directors of First American Bankshares, which on April 30, 1992, recommended the proposal to the CCAH shareholders.

Because the trust arrangement required CCAH shareholder approval, the Board asked the managing directors of CCAH to call a special shareholders meeting to consider the proposal. The meeting was called for May 12, and record holders of nearly 80 percent of the shares of CCAH executed proxies directing the managing director of First American Corporation's immediate parent, CCAI, to transfer the shares of First American Corporation to an independent trustee. Three CCAH record shareholders that hold the remaining CCAH shares did not vote.

Under the terms of the trust agreement, the trustee will, as I have indicated, hold all of the shares of First American Corporation and have all the rights of a shareholder, including the exclusive right to vote the shares. The trustee is directed to cause the sale of the First American banks expeditiously but within a one-year period, and it has the authority to transfer title to the banks without further CCAH shareholder approval or authorization. The trust agreement also establishes a process for determining which shares of CCAH are controlled by BCCI for the purpose of distribution of the proceeds of any sale of the First American shares or assets held by the trust. The proceeds of any sale will be used to repay bona fide debts at the holding companies, with the balance held by the court for distribution to the legitimate shareholders of CCAH. Proceeds of the sale attributable to BCCI's interest in CCAH are forfeited to the Justice Department under the terms of the plea agreement.

Although the trustee now has authority to sell the banks, the universe of prospective purchasers for the banks may be somewhat reduced by federal law. Under the Douglas Amendment to the Bank Holding Company Act, a bank holding company is prohibited from acquiring a bank in another state unless the acquisition is expressly permitted by the laws of the bank's home state. Virginia, in which a large percentage of First American's banking assets are located, permits the acquisition of banks in that state by holding companies only from the southeastern United States. Therefore, banking organizations in the rest of the country are generally ineligible to acquire the First American banks.

I should add that the Federal Reserve's protective actions regarding the First American banks have not been limited to arranging the trust. The Federal Reserve has continued to monitor the banks' financial condition, to help coordinate supervision of the banks among the relevant state and federal banking authorities, and to encourage actions to maintain the banks' capital. In this regard, over the last twelve months the management of First American has arranged for the sale of individual First American banks. The Valley Fidelity Bank and Trust Company of Knoxville, Tennessee, was sold on September 2, 1991, and the First American Bank of Pensacola was sold on January 15, 1992. In addition, substantially all of the assets of the First American Bank of Georgia were sold on May 1, 1992. These actions have resulted in a substantial decrease in the assets of First American Bankshares and have helped to maintain its capital position.

INDEPENDENCE BANK

Beginning in August 1991, Federal Reserve staff members began meeting with representatives of the FDIC, the Superintendent of Banks of the State of California, and the court-appointed fiduciaries for BCCI to obtain capital support for Independence Bank from the fiduciaries. Discussions proceeded through September and October, at which point the Justice Department entered the negotiations and was able to conclude the plea agreement described above. Although Independence Bank was ultimately closed by the State of Calffornia, the plea agreement that followed the Independence Bank negotiations provides a fund from BCCI's forfeited assets that is available for repayment to the FDIC of the costs of resolving the bank.

COOPERATION OF THE COURT-APPOINTED FIDUCIARIES AND ABU DHABI SHAREHOLDERS

In its efforts to effect the divestiture of BCCI's interest in the First American organization, the Federal Reserve has sought the cooperation of the court-appointed fiduciaries for BCCI and the Abu Dhabi shareholders of BCCI in connection with the trust proposal and other matters.

Soon after the fiduciaries' appointment on July 5, 1991, Federal Reserve staff members contacted the fiduciaries to determine their intention with respect to the divestiture plan that had been submitted by BCCI before its closure. The fiduciaries responded that they would cooperate with the Board in its efforts to achieve a trust agreement, and they have recently joined with the Federal Reserve and the other parties in supporting the trust arrangement described above as a means of complying with the Federal Reserve's March 1991 divestiture order and the plea agreement that incorporated that order. We also anticipate that the fiduciaries will provide certain BCCI documents that the Board has requested relating to the First American acquisition.

The principal shareholders of CCAH--the ruler of Abu Dhabi and his eldest son and the Abu Dhabi Investment Authority--have been responsive to the Board's requests regarding First American. Before the July 5 seizure of BCCI, the Abu Dhabi shareholders caused BCCI, which they then controlled, to grant Federal Reserve investigators access to many of the documents evidencing the BCCI nominee arrangements regarding First American and Independence Bank. The Abu Dhabi shareholders have also provided substantial financial support for the First American banking organization over the last eighteen months and have supported the Federal Reserve's efforts to put in place a trust arrangement that would include a transfer of their CCAH shares to the trust.

The Federal Reserve has made requests to the Abu Dhabi government for access to certain BCCI documents located in Abu Dhabi that were earlier withheld by BCCI on grounds of privilege. Those documents have recently been transferred to the court-appointed fiduciaries for BCCI, with whom the Board's request for access is pending. The Federal Reserve has also asked the Abu Dhabi government for access to former BCCI officers who were instrumental in the acquisition of First American and other persons in Abu Dhabi who may have information regarding the acquisition. We are hopeful that favorable action will be taken on these requests in the near future.

EFFECT OF BCCI ON U.S. BANKING ORGANIZATIONS

One of the primary questions on which Federal Reserve examiners and investigators have focused is the degree to which BCCI affected the First American banks. The Federal Reserve has devoted considerable resources to determine whether and to what extent BCCI's illicit ownership resulted in harm to, or abuse of, the First American banks. More than fifty experienced examiners from the twelve Federal Reserve Districts have spent more than eight man-years in examining the First American Banks. Federal Reserve staff members have also worked extensively with other federal and state banking authorities who have conducted examinations of the First American banks.

Federal Reserve examiners have checked for any business dealings between the First American banks and persons known or believed to be connected to BCCI. In addition, loan portfolios were sampled for any evidence of loans with poor payment histories, frequent renewals or preferential terms, and for any other questionable lending practices. The work of the Federal Reserve examiners has included, among other procedures, a review of all loans of more than $50,000 that were charged off between 1982 and 1991, selected overdraft reports for the last three years, all large loans repaid within six months of the examination, large depositor and high activity accounts, personnel files and expense accounts, and Bank Secrecy Act procedures. Examiners also conducted an intensive review of wire transfer activities and reviewed real estate transactions, securities purchases, and other large-asset transactions. The Federal Reserve's workpapers and methodology have been reviewed by the General Accounting Office and have been made available to this subcommittee and others.

In addition to these efforts, during the last eighteen months, each of the primary federal and state regulators for the First American banks has conducted one or more full-scope examinations, which included in-depth reviews of all the banks' significant credit and deposit relationships.

The Federal Reserve's examinations, and those of other federal and state regulators, have to date uncovered no evidence of abuse of the credit facilities of the First American banks for the benefit of BCCI or its affiliates. The examinations have not to date found any credits currently outstanding to BCCI or its affiliates other than the trade-related credits discussed below and a small payment under a letter of credit issued in connection with a lease. At the holding company level, however, the Federal Reserve is continuing to investigate the circumstances and terms under which First American Bankshares acquired the National Bank of Georgia in 1987 and the role that BCCI or its agents played in the holding company's decision to make that acquisition.

Two of the First American banks have received additional scrutiny from the examiners: the First American Bank of New York because it served as BCCI's correspondent bank in the United States and the First American Bank of Georgia (formerly the National Bank of Georgia) because Pharaon was the record owner before its acquisition by First American Bankshares in 1987.

Besides the review procedures described above, Federal Reserve examiners reviewed all clearing transactions of more than $100,000 by the New York subsidiary over a two-year period. In addition, aH transactions of more than $1,000,000 for that period were analyzed by country of origin and by country of disposition. This effort was undertaken to determine whether BCCI improperly used the clearing functions of that bank.

The review indicated that only certain traderelated transactions between the First American Bank of New York and a subsidiary of BCCI resulted in a loss to the bank. Bankers acceptances issued by the First American Bank of New York on behalf of BCCI's Hong Kong subsidiary came due after BCCI was closed on July 5, 1991, and the BCCI subsidiary has not repaid the First American bank. The examinations produced no evidence that these transactions were undertaken other than in the ordinary course of business.

In its July 29 notice, the Federal Reserve alleged that BCCI participated in certain management decisions of the First American Bank of New York, which included the selection of the senior management of the bank and the purchase of branches. The notice also alleged that two of the New York subsidiary's officers, who were former officers of BCCI, monitored the First American bank's operations for BCCI.

With regard to the First American Bank of Georgia, the examinations have not uncovered any direct loans to BCCI. Before the 1987 acquisition of the National Bank of Georgia by First American Bankshares, however, several instances of common loan customers between the National Bank of Georgia and BCCI occurred, and in at least two instances the bank made loans secured by standby letters of credit issued by BCCI. Loans to interests of Pharaon were also made. However, losses incurred on these loans have been minor, and only one such transaction since 1987 has surfaced.

The Federal Reserve also continues to investigate a lease of certain property from Pharaon entered into by the National Bank of Georgia in 1985, from which Pharaon appears to have benefited substantially. In addition, the National Bank of Georgia, before its acquisition by First American, hired several individuals who had previously been employed by BCCI, and evidence has appeared of BCCI influence over National Bank of Georgia's management when Pharaon was the record owner.

Independence Bank was not a member of the Federal Reserve System. As a nonmember bank purporting to operate without a parent holding company, it was regulated by the State of California and the FDIC. Representatives of the FDIC will discuss the results of their investigation of Independence Bank. However, as noted above, the Federal Reserve has taken enforcement action against the former chairman of Independence Bank, Shoaib, charging him with having participated in BCCI's illegal acquisition of Independence Bank.

CHANGES IN FOREIGN BANK SUPERVISION

The Federal Reserve is currently implementing the Foreign Bank Supervision Enhancement Act of 1991, legislation co-sponsored by Senator Kerry and passed by the Congress largely in reaction to conduct at BCCI and Banca Nazionale del Lavoro. The act provides a process to control the entry into the United States of foreign banks and to strengthen the authority of the Federal Reserve to supervise and regulate foreign banks once they have entered. The new entry standards established under the act include requirements of consolidated home country supervision and supervisory access to information regarding any foreign banking organization seeking to do business in the United States. The act also applies to foreign banks the same financial, managerial, and operational standards that govern U.S. banks. The act grants federal regulators additional authority to terminate the U.S. activities of a foreign bank that is engaging in illegal, unsafe, or unsound practices.

In addition, the act grants the Federal Reserve authority to examine any office of a foreign bank in the United States. The Federal Reserve is authorized to coordinate examinations with other federal and state supervisors and is no longer directed to rely on the examinations of other supervisors in its examination of foreign banks. Each branch and agency of a foreign bank must be examined at least once during each twelvemonth period.

The Federal Reserve is working to strengthen significantly its supervisory capabilities and processes with respect to the operation of foreign banks in this country. For example, the Federal Reserve is in the process of expanding its examination staff to carry out its new examination responsibilities and has promulgated interim rules to implement the entry standards under the new act. The Federal Reserve hopes that the enhanced capabilities and new entry standards will reduce the potential for a recurrence of problems such as those presented by BCCI. Although new authority and expanded procedures cannot guarantee that criminal activity by foreign banks will not occur, they do address the potential for illegal activities by (1) creating a bar to U.S. entry or operation in the United States by weakly capitalized, poorly managed, or inadequately supervised foreign banking organizations and (2) strengthening the Federal Reserve's capabilities to uncover illicit activity at foreign banks.

CONCLUSION

The Federal Reserve is actively engaged in dealing with the BCCI matter and has deployed its most experienced and proven staff members to the task. The Federal Reserve will continue to cooperate with federal, state, and foreign bank supervisors and law enforcement agencies. Our immediate goals are to conclude our investigation and initiate whatever additional enforcement actions are warranted; to make the current separation in fact between BCCI and U.S. banks a complete and permanent separation in law so that these banks can be relieved of any remaining BCCI taint and operate free and clear of this controversy; and to ensure that all wrongdoers are prosecuted civilly and criminally to the extent provided by law.

1. First American Corporation is a wholly owned subsidiary of Credit and Commerce Amencan Investment, B.V. (CCAI), which, in turn, is a wholly owned subsidiary of CCAH.
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Title Annotation:Statements to the Congress
Publication:Federal Reserve Bulletin
Article Type:Transcript
Date:Jul 1, 1992
Words:4701
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