BCCI Debacle Sours Bank of England’s Reputation : Finance: Britain’s equivalent of the Federal Reserve welcomed the controversial institution, while the U.S. tried to keep it out.

The West Isles Council, the municipal government for the chain of islands at Scotland’s northwestern tip, was planning to spend $125 million this year for everything from running the district’s schools to maintaining its roads.

That was before its bank collapsed. Regulators seized the Bank of Credit & Commerce International on July 5, alleging international fraud on an unprecedented scale. The West Isles Council, which had $38 million on deposit at BCCI, has little hope of seeing much of that money again.

“We have absolutely no idea of what’s going to happen,” said Graham Edwards, assistant director of administration.

The West Isles’ predicament is playing out up and down Britain, where the Bank of England, Britain’s bank regulatory authority, welcomed BCCI to its shores in the 1970s. Now Britain’s big losers in the BCCI scandal--local governments, small businesses, individual savers--are blaming the Bank of England for letting them hang out to dry.

The contrast with the United States is stark. Even as the Bank of England was opening its arms to BCCI, its U.S. counterpart, the Federal Reserve, was doing everything in its power to keep BCCI out.

The different approaches to BCCI by officials in Britain and the United States highlights the weaknesses in international banking regulation that has allowed some large financial institutions to engage in questionable, sometimes illegal, operations worldwide.

Fed officials had no evidence of outright corruption at BCCI, which was founded in 1972 by Pakistani financier Agha Hasan Abedi and is now 77% owned by Abu Dhabi’s ruler, Sheik Zayed ibn Sultan al Nuhayan. Instead, officials at the Fed were suspicious about BCCI’s operations, starting with its decision to base its enormous worldwide operations in Luxembourg and the Cayman Islands, two tiny jurisdictions well known for their loose banking laws.

“We didn’t have any great intuitive knowledge about fraud,” said a top Fed official, who declined to be identified. “What we did have was the knowledge that there was no central bank watching over BCCI.”

The Fed’s suspicions turned out to be justified. After allegations of massive fraud that could cost depositors as much as $15 billion worldwide, regulators have closed BCCI in many of the 69 countries in which it operated.

BCCI’s customers in Britain stand to lose most of the $1.1 billion they had on deposit. In the United States, the losses, if there are any, will be a fraction of that.

U.S. bank regulators were not able to keep BCCI out altogether. U.S. authorities allege that BCCI secretly bought the Bank of Georgia, First American Bank of Washington and Independence Bank of Encino. BCCI also opened loan offices in New York, Florida and California that were exempt from federal regulation because they did not take deposits.

In 1981, when a group of Arabs sought to purchase First American Bankshares, the holding company for First American Bank, the Fed called a special hearing to pursue their suspicions that the purchase would give BCCI a role in running the bank. At the hearing, former Defense Secretary Clark M. Clifford, chairman of First American, testified that he had been assured thatBCCI would have no ownership share in the bank. The deal subsequently went ahead.

The Bank of England took no such precautions. According to one U.S. regulator, the Bank of England showed “hardly any interest” in widely held suspicions about BCCI that dated back many years.

The Bank of England acted against BCCI only after an auditor’s report, which the Bank of England had commissioned in March, revealed what a spokesman described as “evidence of fraud.” Until that report, which was delivered in June, the bank did not have cause to act against BCCI, the spokesman said.

It was an auditor’s report commissioned by the Bank of England in March that led the bank to close BCCI temporarily July 5 and to ask Britain’s High Court this week to close it permanently. The court said it will need at least eight days to decide whether the bank could be rescued.

The auditor’s report, which was delivered to the Bank of England in June, uncovered what the auditor, the Price Waterhouse accounting firm, described as fraud on “an ever-increasing scale.”

However, earlier audits by Price Waterhouse also reportedly raised red flags about the bank. A Price Waterhouse report of last October, for example, raised strong suspicions about fraud and corruption at BCCI, according to published reports here.

The Bank of England denies that version. “The reports in 1990 certainly showed financial problems,” it said in a July 14 statement. But until the Price Waterhouse report of last month, it said, “none of these reports had contained evidence of fraud or other wrongdoing.”

Well before 1990, BCCI had become one of the largest banks in Britain. It particularly appealed to Britain’s large population of Asians. Abedi, BCCI’s founder, proclaimed that his bank would finance development projects in the Third World.

“That bank came from the same culture as ours, and it listened to us,” said Indian-born Hanwantbir Chadha, who runs a wholesale clothing operation called Chadha & Son.

Several sources here said BCCI offered another attraction: a willingness to help businesses evade the British income and value-added taxes.

Chadha denied that he had any such relationship with BCCI. Without being more specific, he said he had a five-figure sum--more than 10,000 pounds, or $16,500--on deposit at BCCI. He might get most of that back. The Bank of England’s insurance system guarantees repayment of 75% of the first 20,000 pounds on deposit, for a maximum repayment of 15,000 pounds.

Chadha also said he will not be able to cash his customers’ checks that are drawn on BCCI accounts. He expressed embarrassment that his own outstanding checks on his BCCI account will bounce.

As president of the Whitechapel Traders’ Assn. in London’s East End, Chadha said the area’s garment industry was heavily invested in BCCI. At least half of the many Asian-owned clothing businesses in the area did business with the bank, he said.

To Chadha and other Asian businessmen, much of the blame for the BCCI scandal lies with the Bank of England, which in their view should have warned them about the bank long ago.

“The Bank of England has acted disgracefully,” said Bryan Slater, a lawyer who represents commercial clients who stand to lose $50 million in the BCCI fiasco. “It’s treated my people like pieces of dirt.”

On behalf of his “big punters,” whom he declines to name, Slater plans to ask Britain’s High Court to forbid the Bank of England from closing BCCI permanently. Instead, he wants the court to force Abu Dhabi’s ruler to pay whatever sum is necessary to keep the bank solvent. If he fails, he plans to sue the Bank of England for negligence in its regulatory duties.

Britain’s municipal governments feel no more charitable toward the Bank of England. Right up to the day when regulators closed it, BCCI was on the Bank of England’s list of financial institutions authorized to take deposits from municipal governments.

“BCCI should have come off that list,” said Brian Dibble, assistant treasurer of the Wigan District Council.

Dibble said Wigan, a town between Manchester and Liverpool, had about $3.5 million on deposit with BCCI. “I don’t know exactly what’s going to happen,” he said, “but it’s safe to say we’re going to lose most of it.”

Altogether, British municipalities stand to lose as much as $150 million to the BCCI debacle. Ian Ward, assistant secretary of the Assn. of District Councils, which represents many of the local governments, said it was a disaster that the Bank of England could have averted.

Ward said his association raised questions about BCCI in a meeting with Bank of England officials as recently as May, only to be told that investing in BCCI carried no particular risk. “The Bank of England could have gotten the message across,” Ward said. “If they’d just asked us to check some suspicious banks, that would have been enough.”

Havemann reported from London and Fritz reported from Washington.

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