Pilatus bank, Russian money and the ghost of Lehman Brothers

An article in The Economist talks about the 10th anniversary of the Lehman Brothers collapse, a colossal bankruptcy which rocked the banking world in September 2008.

What was so special about this catastrophe that threatened to bring down the structure of the global financial system? Following the bankruptcy there were numerous US and European banks that felt the strain and had to be bailed mainly due to the poisonous effect of the warped sub-prime mortgage sector and associated derivatives that were extensively traded in Europe.

However, did the banking world learn its lesson? The rules were tightened starting in Europe where regulation went full speed ahead to intensify its grip on banks by introducing regular stress tests and other measures including the 4th Anti-money laundering directive (soon to be further tautened by the 5th edition). This post Lehman reform sounded the dead knell of so-called light touch regulation. In the USA, there has been a healthy turnabout in banking fortunes and President Trump’s victory added an extra boost by pledging to lift the economic growth rate. Amid opposition from the usual quarters, Trump succeeded in cutting taxes on companies (reducing it gradually to 21 per cent) and this will gradually improve banks’ chances to return to healthy balance sheets. This also resulted in a reform instituted in the DoddFrank and Consumer Protection Act to render them more palatable.

In Europe, the opposite oc- curred, with a dollop of heavy bank regulation ushering a post Lehman dirigisme regime. The pendulum has swung to an extreme angle and as a result, most start-ups fail to source new financing from banks.

Since 2013, when the Labour government was returned to power with a landslide victory, we have seen the MFSA continue to act as the super regulator of banks and monitoring all financial services. Only recently, banking supervision was given a root and branch reform following EU directives which effectively placed the onus of direct monitoring on the ECB. This reform started with a number of intense stress tests for all banks and although local banks sailed safely through the tests, there was a deep awareness that KYC and due diligence practices had to be tightened.

In early 2012, a bank owned by Mr Sadr of Iranian origin was introduced to the island by KPMG (an audit firm) which subsequently was granted its banking licence by MFSA in 2013/4 and set up base as a private bank with a modest capital of €8 million. Following press reports by a blogger that the bank was involved in money laundering and aiding top government officials who reputedly opened private accounts, it was hinted that the bank enjoyed protection and the blessing of the Chief of Staff in the Office of the Prime Minister. He appeared to be on a “high level of familiarity” with the Mr Sadr.

The FIAU started its investigations on Pilatus Bank in the early stage during its short banking term while the Opposition published a number of leaked FIAU reports which hinted at irregular opening of bank accounts linked to members of the ruling family in Azerbaijan. Inter alia, it accused Nexia BT’s senior audit partner to having received kickbacks from the government Chief of Staff linked to his assistance in procuring Russian passport applications. These accusations were rebutted. FIAU sent a damning report to Pilatus Bank in May 2016 condemning it for, more or less, ignoring every rule in the money-laundering book.

Surprisingly, following the resignation of a FIAU top man- ager more investigations were conducted and reports were commissioned from KPMG and a top law firm on Pilatus Bank’s operations. This showed that compliance improved such that it was issued with a clean bill of health. The story took a new twist when Sadr was arrested this year in New York over his alleged involvement in a scheme concerning millions of dollars to evade US economic sanctions against Iran. Sadr is now facing a possible 125 years in prison. He pleaded not guilty to the charges and was granted bail.

MFSA reacted to this indictment and formally filed for permission to withdraw the licence with the ECB stating simply that the bank had inadequate liquidity. KPMG, who is one of its AML partners was close to the Sadr family and accepted an invitation to attend his wedding in Venice last year, has defended its role as auditors saying it acted professionally and ethically in all its dealings with the bank in line with the professional standards. KPMG reiterated that it adheres to such standards and applies them scrupulously to all its clients.

Pilatus Bank has since appealed against the withdrawal of its licence and the appointment of an independent controller by MFSA, which in its opinion was charging exaggerated fees. Tiny Malta’s unfortunate scrape with Azerbaijan’s sleazy dictators has been the cause of a lot of navel-gazing especially by Opposition spokespersons relentlessly shouting from Brussels rooftops in an effort to chastise the government and to propose more transparency and good governance. Yet with hindsight, this episode pales into insignificance, almost making a mountain out of a molehill when we read about the mega banking scandals in the Baltic states and Denmark linked to massive Russian funds being laundered with impunity.

Denmark's top bank handled up to €28 billion of suspect Russian funds in just one year, in what has the makings of the biggest money-laundering scandal in European history. British businessman Bill Browder said some of the funds were also linked to the murder of Russian anti-corruption activist Sergei Magnitsky, in what he called "blood money". Commentators admit that not all the money was likely to have been illicit, but all of it came from Russian or ex-Soviet republic clients and all of it flowed through Danske Bank's branches in Estonia. One may ask why no alarm bells rang in the Danske’s head office in Copenhagen to act in time before the scam mutated. It is now all water under the bridge.

In conclusion, the fight against corruption, embezzlement and money laundering goes on unabated regardless of the stern lessons learnt from the Lehman abrupt collapse. Ideally, no effort should be spared by lawmakers and regulators to protect us from shrewd business promoters wearing Armani suits and flying personal jets who sweet talk politicians into letting them in with open arms to propagate their devious schemes. History teaches us that human nature being what it is renders it difficult for regulators (especially if yielding to pressure from motivated politicians) to nip corruption in the bud, yet the Lehman debacle warns us to remain vigilant.

Tiny Malta’s unfortunate scrape with Azerbaijan’s sleazy dictators has been the cause of a lot of navelgazing especially by Opposition spokespersons relentlessly shouting from Brussels rooftops in an effort to chastise the government and to propose more transparency and good governance