U.S. report says HSBC handled Iran, drug money

WASHINGTON (Reuters) - A "pervasively polluted" culture at HSBC Holdings Plc allowed the bank to act as financier to clients seeking to route shadowy funds from the world's most dangerous and secretive corners, including Mexico, Iran, the Cayman Islands, Saudi Arabia and Syria, according to a scathing U.S. Senate report issued on Monday.

While the big British bank's problems have been known for nearly a decade, the Senate probe detailed just how sweeping the problems have been, both at the bank and at the Office of the Comptroller of the Currency, a top U.S. bank regulator which the report said failed to properly monitor HSBC.

"The culture at HSBC was pervasively polluted for a long time," said Senator Carl Levin, chairman of the U.S. Senate Permanent Subcommittee on Investigations, a Congressional watchdog panel.

The report comes at a troubling time for a banking industry reeling from a multi-country probe into the manipulation of global benchmark rates. Last month, rival British bank Barclays Plc agreed to pay a $453 million fine to settle a U.S.-British probe into the rigging of the benchmark interest rate known as the London interbank offered rate, or Libor.

The Senate probe provides a rare look at how HSBC responded when confronted with numerous cases of suspect money flows.

The report caps a year-long inquiry that included a review of 1.4 million documents and interviews with 75 HSBC officials and bank regulators. It will be the focus of a hearing on Tuesday at which HSBC and OCC officials are scheduled to testify.

The bank and the regulator are expected to face tough questions at the hearing about how the abuses were allowed to continue, even after the OCC took regulatory action against HSBC in 2010. A Reuters investigation found persistent lapses in the bank's anti-money laundering compliance since 2010.

In an emailed statement, HSBC said the Senate report had provided "important lessons for the whole industry in seeking to prevent illicit actors entering the global financial system".

The bank said it is spending more money on compliance and has become more coordinated in policing high-risk transactions.

The report also contained strong criticism of the OCC, saying the regulator failed to crack down on the bank despite multiple red flags, allowing money laundering issues "to accumulate into a massive problem".

Thomas Curry, who took over as comptroller less than four months ago, said in a statement on Monday that anti-money laundering compliance "is crucial to our nation's efforts to combat criminal activity and terrorism, and the OCC expects national banks and federal thrifts to have programs in place to effectively comply with these laws".

Curry said the Senate report had made a number of "thoughtful" recommendations, "which we fully embrace".

LAX CONTROLS

The failings and lax controls inside HSBC included an inability to properly monitor $15 billion in bulk cash transactions between mid-2006 and mid-2009, inadequate staffing and high turnover in the bank's compliance units, the report said.

HSBC ignored risks in doing business in countries such as Mexico, a country rife with drug trafficking, it said.

Between 2007 and 2008, HSBC's Mexican operations moved $7 billion into the bank's U.S. operations. According to the report, both Mexican and U.S. authorities warned HSBC that the amount of money could only have reached such a level if it was tied to illegal narcotics proceeds.

The Senate probe also examined banking HSBC did in Saudi Arabia with Al Rajhi Bank, which the report said has links to financing terrorism. Evidence of those links emerged after the Sept 11, 2001 attacks on the United States, the Senate report said, citing U.S. government reports, criminal and civil legal proceedings and media reports.

In 2004, Al Rajhi sued the Wall Street Journal, which had published an article about U.S. and Saudi authorities monitoring accounts. The article referenced Al Rajhi.

Al Rajhi said in response to a WSJ story that it "unequivocally condemns terrorism". Al Rajhi and the paper settled in 2004. The paper did not pay damages and stated that it "did not intend to imply an allegation that (Al Rajhi) supported terrorist activity, or had engaged in the financing of terrorism", the Senate report said.

In 2005, HSBC told its affiliates to no longer do business with the bank, the report said. Four months later, HSBC officials reversed course, allowing affiliates to decide whether to continue to do business with Al Rajhi.

A Middle Eastern unit of HSBC continued doing business with the bank, the report said. HSBC ultimately stopped helping the bank handle certain types of transactions, and HSBC compliance officials rebuffed other HSBC bankers seeking to maintain ties to the bank.

"(The) most important consequence is that the bank is now under the microscope ... at a very bad time where banks are used as scapegoats by politicians globally," analysts at Italian bank Mediobanca said in a research note, adding that they expect HSBC to face a $1 billion fine as well.

The Senate report alleged that HSBC did regular business in areas tied to drug cartels, terrorist funding and tax cheats.

It detailed how between 2007 and 2008, HSBC's Mexican operations moved $7 billion into the bank's U.S. operations. Both Mexican and U.S. authorities warned HSBC that the amount of money could only have reached such a level if it was tied to illegal narcotics proceeds, the report said.

It also examined banking HSBC did in Saudi Arabia with Al Rajhi Bank, which the report said has links to financing terrorism.

HSBC had company in the Senate's harsh spotlight -- the report was also highly critical of the Office of the Comptroller of the Currency, a major U.S. bank regulator.

The OCC took enforcement action against HSBC in 2010, more than seven years after the Federal Reserve Bank of New York and the New York State Banking Department issued their own criticism of HSBC's money-laundering detection systems.

Levin pounced on Grace Dailey, the former deputy comptroller for large bank supervision at OCC, demanding to know why more action had not been taken and sooner.

"We probably did not appreciate the systemic nature of some of those issues," Dailey said. "We could have and should have taken formal enforcement action, with the benefit of hindsight."

Levin was quick to dismiss the notion of hindsight and put one of his sharpest comments of the day to Thomas Curry, who took over as Comptroller of the Currency less than four months ago and who expressed his regrets for the OCC's inaction.

"This is pretty feeble enforcement," Levin said.

(Reporting by Carrick Mollenkamp and Aruna Viswanatha in Washington and Steve Slater in London; Writing by Ben Berkowitz in Boston; Editing by Karey Wutkowski and Tim Dobbyn)