Why did Chase move so fast?

By Peter Field and Nigel Adam

Security was tight at Chase Manhattan Bank's London branch on the afternoon of Friday, December 7. On that damp and dreary afternoon in Coleman Street, a key group of international banks at the centre of lending to Iran were due to meet at three o'clock.

Bankers and lawyers waited patiently on the pavement outside the Chase entrance as an attendant checked their names on a list before admitting them. To be more secure, the venue of the meeting had been changed at the last minute from the Armourers' Hall up the road.

What they had come to discuss was the major financial question to be raised so far by the Iranian crisis: why had the $500 million syndicated loan for the government of Iran been declared in default so quickly? That is the subject of this month's cover story. It was pieced together, against a background of great suspicion, secrecy and uncertainty within the international banking community, by Peter Field and Nigel Adam.

Chase Manhattan, as agent bank for the 11-bank syndicate, had faced increasing criticism from some members of the group since repayment of the entire loan had been demanded on November 19. That was in the wake of President Carter's freeze on Iranian assets in US banks on November 14, which was itself part of the escalating conflict between Iran and the US over the violation of the American embassy in Tehran and seizure of hostages.

Feelings were running high in the days before the Chase meeting – remarkably, the first full meeting of syndicate since Iran's interest payment had failed to come through on the due date, November 15. The four non-American banks (National Westminster, Toronto Dominion, Union Bank of Switzerland and Swiss Bank Corporation) in the syndicate were particularly upset. One of the two Swiss banks had already sent Chase a most unSwiss-like telex berating it for its handling of the affair in language described by another banker as unprintable. A representative from another of the non-American syndicate members said on the eve of the meeting: “Chase have got a hell of a lot of explaining to do.” Even some of the American members of the syndicate (Bank of America, Bankers Trust, Citibank, Chemical, Manufacturers Hanover and Morgan Guaranty, as well as Chase) had been critical of Chase's actions.

But what was expected to be a stormy meeting passed off remarkably quietly and quickly. Those at the meeting remain silent about the proceedings, but it is reported that the lawyers did most of the talking and very little at that. ''They just reserved their position on everything," remarked one insider.

It is the beginning of a legal and market wrangle that could last for months, and probably years, whether the hostages in Tehran are released quickly or not. Meeting of syndicates for seven other syndicated loans for which Chase is agent took place in the week following the December 7 gathering. The very deep resentment harboured by bankers outside America against the US administration and the major US banks will not be dispelled easily. The Carter freeze, the rush by American banks to consolidate loans and deposits in their Iranian accounts, and the acceleration of the government of Iran loan have plunged the international capital markets into a situation that may be more serious than Herstatt.

The financial crisis stemmed directly from the political one: with the invasion of the US embassy and the seizure, contrary to every custom of the twentieth century, of 49 American hostages by Iranian students in Tehran on November 4 (later an unfortunate American businessman became the 50th victim). As the war of nerves between the US and Iran intensified, Iran's acting Foreign Minister Abol-Hassan Banisadr told a press conference in Tehran on November 14, that Iran intended to withdraw its foreign currency reserves from US banks. The American response was swift. The same day (the US east coast is 8½ hours behind Tehran time) president Carter acted under the International Emergency Economic Powers Act and the National Emergencies Act, blocking "all property and interests in the property of the government of Iran, its instrumentalities and controlled entities and the Central Bank of Iran which are or become subject to the jurisdiction of the United States or which are in or come within the possession or control of persons subject to the jurisdiction of the United States."

The White House was unclear about the size of the problem: "The precise amounts involved (of accounts of the government of Iran, the Central Bank of Iran and other controlled entities) cannot be ascertained at this time," its November 14 statement admitted. If the Administration had no clear idea of the sums involved, why did the President take such an extreme action in order to, again in the official words, "deal with any unusual and extraordinary threat to the national security, foreign policy or economy of the United States"? Treasury Secretary William Miller made it clear at a White House press briefing on November 14, that Carter's move was made "purely in response to the Iranian announcement that it was going to withdraw its deposits from US banks and not because of the takeover of the US embassy in Tehran." To Europe's bankers, that raised the question: if the Presidential action wasn't provoked by considerations of national security or foreign policy, where was the threat to the economy? The size of the threat in financial terms was admitted to be unknown. And the mechanics of unwinding financial assets in US banks would have been far less simple than the US administration seems to have allowed people to believe.

When the Treasury published its estimates of US-held Iranian assets on November 19, it revealed that $1.2 billion was in mainly US government securities in the Federal Reserve Bank of New York, and $600 million in gold in the same repository; $400 million was deposited with the Treasury for use by the Defense Department; over $1 billion in deposits in domestic commercial banks; over $500 million with private non-bank companies in the US and the bulk – over $4 billion – in deposits in foreign branches and subsidiaries of US banks.

Only $1 billion of this would have been call money, according to an Iranian source. The Treasury bills could obviously have been sold quickly, though at a discount. But the rest of the deposits were in fixed time deposits and could only have been withdrawn as they matured.

To some, it is obvious that the American authorities had planned for such an eventuality as the possible withdrawal of deposits from US banks. Miller, in another briefing for the press on November 15, said: "We have been prepared in the event of such action to respond." It is obvious, too, that the major American banks were ready for the Iranians. How much advance warning of the Presidential action they were given is not clear, but there is a school of thought among bankers outside the US that prominent American bankers had been pushing the Administration to act in this way, and that at least one big institution jumped the gun and froze Iranian assets before Carter gave the order.

The major American banks also hastened to offset their deposits from, against loans to, Iran, apparently with little regard for the actual regulations issued by the Treasury. The original regulations of November 14 did not allow offsetting, but, later the same day, there was a modification to allow US banks to offset loans against deposits in foreign branches and subsidiaries. Citibank, which led the way in offsetting on November 14, and the other big New York banks which followed in the next two days – Chase, Bankers Trust and Manufacturers Hanover – did not apparently attempt to distinguish between domestic and foreign held deposits from Iran. They just consolidated everything.

The Treasury had excluded domestic deposits from the terms of the amended order, as Deputy Treasury Secretary Robert Carswell later explained: "to protect US creditors who do not hold Iranian assets." These are primarily the regional banks in the US, some of which have been quite active in lending to Iran, but have little or no deposits to match. According to C. Edward McConnell, a senior vice president of Keefe Bruyette, quoted in the Wall Street Journal of November 26, the net lenders among US banks include Security Pacific in Los Angeles with a net exposure of $50-75 million, Chemical Bank in New York with $25-50 million, First National Bank of Boston with $20 million and Wells Fargo in San Francisco with $10-20 million. Paul Smith, executive vice-president of Security Pacific, confirmed the figure for his bank and said: "We have no deposit offset capability." If the Treasury had made contingency plans to counter the steps announced by Iran on November 14, it is hard to understand why its intentions were not made clear in the regulations from the beginning – unless the big New York banks were setting the pace. The US Treasury seems to have had little grasp of the potentially massive repercussions of its actions: Miller believed on November 14 that "it (the freeze) should have no effect on domestic money markets. As a matter of fact, we should not expect there to be any reason for there to be any disorders in any of the money markets.'' And for good measure he added: "The action we are taking is not action that should create any kinds of disruptions at all." In all honesty, that comment must go down as one of the classic understatements of 1979.

The freeze was directly responsible for holding up Iran's interest payment on its $500 million syndicated loan, which was then declared in default, beginning a chain of potential defaults. The freeze has led to a string of law suits in Europe and the US. It provoked the voluble acting Foreign Minister of Iran, Abol-Hassan Banisadr (now Minister of the Economy) to say on November 23 that his country would not honour its foreign debts, though the day before Bank Markazi, through Bank Melli, had emphasized that it would. By the time Banisadr's statement had been modified by the Iranian foreign ministry on November 26 – he had apparently been referring to only "illegal debts incurred by the former directors of private banks" – and an advertisement placed in New York newspapers on December 3 asserting Iran's intention "to honour all of its legitimate foreign debts,'' the crisis had deepened beyond salvation. An Iranian banker in London noted: "If a country says it's repudiating all its debts, it's front page news. If it goes back on that statement a few days later, the story only makes an inside page." But by then it was clear that there was more than one voice inside Iran.

Whatever the series of conflicting statements from the mullahs' mouthpieces, the country's public sector debt continued to be serviced. If payments were a day or two late, syndicates not dominated by American banks preferred to wait and see. Only one other loan was declared in default – the $120 million for Industrial Credit Bank, also raised in 1977 – and that was under an adverse material change clause, not because of late servicing. Again, US institutions formed the majority in the management group. Again, Chase was agent.

What was clearly emerging was that America had one view of the crisis – and an understandable one given the depth of feeling against the Iranian actions in Tehran – and Europe, Japan and Canada another. The sticking point was the US determination to make its view prevail outside America by bidding to control what its banks do abroad. Whose law were they to obey in foreign locations when local law conflicted with US law?

It didn't take long for Iran to try to resolve the legal clash. Only six days after the Carter freeze, the state-owned Bank Saderat Iran served a writ in London, through its solicitors Waterhouse and Co., on Amex Bank, alleging that Amex had not repaid a £1 million deposit due on November 19. Late on November 21 Amex received news that the US government had issued a licence unblocking non-dollar assets, enabling the bank to repay the Saderat deposit the following day. But that action was just the first of many. By the end of November, Bank Markazi, the Iranian central bank, had issued writs against the London branches of five major US banks, claiming repayment of around $3 billion of deposits. And on December 3 Citibank, one of the five, asked the High Court for a declaration that it was not bound to repay the central bank’s deposits and that under US law these deposits were now blocked.

As Euromoney went to press, a date had not been fixed for a full hearing of Citibank's case in the High Court, although some preliminary hearings had taken place under the auspices of Mr. Justice Robert Goff. “The London commercial courts move very quickly compared with New York, where it's quite usual for an action to last for years,'' said one lawyer." But because of the implications of Citibank's request, I doubt if the action will be heard in court much before Easter. It's not a question of giving summary judgement in favour of one party where the other has no realistic defence." Whatever the verdict, most lawyers considered an appeal by the losing party to be inevitable which would prolong the legal wrangling for months, if not years. The arguments put forward by the US banks and by Bank Markazi will be followed closely by all those involved. For one thing, there are very few legal precedents.

Interestingly, Citibank's action against Bank Markazi names the US government as co-defendant.

"Citibank is obviously liaising closely with the US authorities in an effort to bring the whole matter to a head; that's why the government is named as co-defendant. But the problems it faces in getting the declaration it wants are enormous," said another lawyer.

One of the greatest problems concerns the right of US banks to offset deposits held in the name of Iranian entities against their loans to Iran. The banking practice of combining or offsetting customer accounts is a long established one and the principles are governed not by statutory but by common law, both in London and in New York. One basic principle is that both the loan and the offsetting deposit must be due and payable. But, it will be argued, US bank loans to Iran were not due at the time the deposits were offset. And not all the deposits were held on demand, but on a time basis, meaning the banks were limited in the extent to which they could justify combining deposits with outstanding loans.

A second principle behind the right to offset is that debtor and creditor must be the same legal entity. "We would say there has to be mutuality between borrower and depositor," said one lawyer. "But in the case of Iran most deposits with US banks are in the name of Bank Markazi, whereas most lending was done to public sector utilities. To justify offset, a bank would have to prove that all Iranian assets should be treated as all Iranian liabilities, the so-called Mullah theory. In other words, it would need a judgement that Iran is one large entity – a ball of wax if you like – with different pockets containing the various utilities and nationalized banks." It is thought, however, that the US banks will argue that the Mullah principle should be upheld.

Another grey area yet to be resolved in the English courts is whether banks may offset across international borders. A substantial portion of Iranian deposits were booked in the London branches of US banks, but loans are usually booked outside London for tax reasons, Nassau and Bahrain being among the most favoured places. The English courts might rule that loans and deposits should be booked in the same branch of a particular bank to render valid a combination of the two. In most loan agreements there is nothing to prevent a bank assigning its participation from one branch to another. A US bank would certainly argue that as one legal entity it is entitled to move its loans around between the various world branches. But deposits booked in the London branch of a foreign bank are almost certainly, according to most lawyers, subject to English jurisdiction. ''There has certainly been quite a shift in loans and deposits between bank branches since the Carter freeze took effect although nobody really knows who has offset what," said one US lawyer. "But I am sure Bank Markazi will challenge the validity of these movements in the courts."

In spite of the legal problems raised by the offsetting actions of US banks, the problem was still just about manageable. But when the $500 million loan syndicate decided on November 19 that default had occurred, a whole new layer of problems was superimposed on the existing ones. Not only was an actual default occurring for the first time since the market had undergone its massive expansion after 1973/74. It was occurring in one of the market's biggest borrowers in that period. Default on one loan meant, under cross-default clauses, possible default on a host of others.

Even this fresh twist to the crisis might have generated less heat but for the peculiar circumstances surrounding it. It is now widely known that, with an interest payment of just over $4 million due on November 15, Bank Markazi instructed Chase's head office on November 5 to transfer the funds on the due date from its own account at Chase in New York to the agent's New York account, and that only Carter's action on November 14 stalled the transaction.

But this, apparently, was not well known at the time, even to members of the syndicate. Telexed by Chase New York on November 15 after the deadline for payment (10 a.m. New York time), the 10 other banks were not given a full account of why Iran had failed to pay. Said one incensed non-American syndicate member: "The telex did not lay out in detail what had happened, that is, that the funds were ready in New York for payment." Another confirmed: "They didn't tell us the payment was simply held up by the freeze."

Only on November 23 did Chase publicly acknowledge the full train of events. And it has since told us that: "The fact that Bank Markazi had issued instructions was irrelevant. The telex to the syndicate was to inform it that a default as clearly defined in the terms of the loan agreement had occurred and to seek instructions. Those banks that sought further information were provided with that information."

This was remarkable enough. But the same telex from Chase also required syndicate members to vote on whether to move to acceleration of the loan, since, strictly interpreted, an event of default had occurred. The telex was despatched from New York after European centres had closed. London-based members of the syndicate found it on their desks when they arrived for work next morning, November 16. It is believed that this left virtually no time to reply. ''The time limit was stupidly short," complained an aggrieved syndication head in London. "There was about an hour between opening and the deadline." Not so, Chase has told us: "Every bank had as much time as it liked to respond."

The reaction of the three European banks and one Canadian was understandable. They either did not bother to vote or voted after the deadline. One of their executives claimed: "There was no reason to vote. The whole thing was precipitated by Chase. Under those circumstances, why bother? It just ties you up with them." Another said: "No-one with a grain of common sense would have taken the telex seriously."

Naturally, with seven US banks in the syndicate, an American view of the problem prevailed. "A majority decision was required to accelerate the loan," said Chase, "And this was received by November 19." That was when Chase, on behalf of the syndicate, demanded repayment of principal and interest (totalling $510 million it was revealed in a later court injunction). So far, the demand has been to no avail.

Usually, banks lean over backwards to avoid calling into default a loan to a sovereign borrower. Experience has shown that it is a measure to be resorted to only when all else has failed, and even then quick repatriation of money is not likely. Meetings being held in December of creditors of Zaire are a reminder of how some of the world's leading banks have gone out of their way for three years or more to avoid calling the Mobutu regime’s failure to meet its international debt obligations a default.

Earlier in 1979, too – after the Shah left Iran in mid-January – Chase took polls of syndicates for which it is agent, to determine if default should be declared on certain loans to the Industrial Credit Bank under adverse material change clauses. But the banks decided not to take any action, indicating that in an event of a default, you don't rush to act on it. A Swiss banker spelt it out: "In such a situation as we had, you don't normally go straight to a default and accelerate payments." Especially when it could be argued, as some lawyers have done, that only force majeure prevented Iran servicing its debt on time and that in such circumstances the loan should not have been called into default. "Usually," said one London banker, "if a borrower fails to pay principal or interest when due, the agent tries to arrange a meeting with the borrower to see what can be done. Possible solutions might include rolling up interest payments or, in this case, arranging for payment in non-dollar currencies."

Even if a meeting with the borrower couldn't be arranged, some might have expected a meeting of the syndicate. But syndicate members "did not request a meeting," said Chase. However, some kind of meeting is believed to have taken place in London between November 15 and 19, but who was present isn't clear. Two of the four non-US banks were unaware of such a meeting, according to sources at those banks, and it would be tempting to conclude that the American banks got together by themselves. But rumours of the meeting include a heated exchange between a National Westminster representative and one or more of the Americans.

In any case, there would have been little point to a syndicate meeting because the major banks had already taken their positions. Citibank offset on November 14, Chase, Bankers Trust and Manufacturers Hanover in the next two days. At what time Chase offset hasn't been revealed, but it would be interesting to know whether it was before or after the 10 a.m. deadline for receipt of Iran's interest payment.

In effect, the major US banks presented the others with a fait accompli. As an executive with an American merchant bank in London commented: "If Chase and Citibank move in a certain way, it's pretty hard for others to resist."

It's clear that if the syndicate wanted to find a way round the problem of Iran's interest payment being frozen in New York, they could have done. Other syndicates have simply been paid through non-US intermediaries. But the US Treasury has apparently discouraged American banks from accepting interest payments on dollar loans in anything but dollars. Chemical Bank, as agent for an Agricultural Development Bank loan, is believed to have had to abandon plans in December to be paid interest in Deutschemarks.

In theory, there is nothing to prevent Iran paying in new money to an agent bank account in New York. A Treasury spokesman said: "We have given general licence for Iran to make payments through blocked accounts to meet any obligation to residents of the US." The Iranians have not been quick to seize this opportunity.

Syndicates other than those for which Chase is agent have reported no difficulties in servicing of their loans to Iran, even if there have been some delays. For Japan, the key loan was the $50 million 12-year loan to the Industrial and Mining Development Bank of Iran raised in 1973 by 17 Japanese and three European banks led by Sumitomo. A spokesman for Sumitomo Bank in London said: "The interest and principal on the IMDBI 1973 loan have been paid. We have found the Iranians quite willing to pay if a method can be found. The Iranians approached us and said they would try hard to pay somehow.” He noted: "It took them over a week to actually pay, but they managed it." What they did, according to Tetsuya Horie of Long Term Credit Bank in Tokyo, was to devise a new payment route: "The syndicate changed the place of settlement from New York to London. All payments are now made there to all parties. We are having no difficulty in collecting our money." And he added: "None of our loans where the term of payment is in December is in default.'' And Shoichi Misaki of Taiyo Kobe Bank considered: "It is clear that there is a willingness by Iran to repay its syndicated loans."

So why did the American banks, in particular Chase, behave as they did? One theory offered for Chase's failure to explain what happened to Iran’s interest payment was a breakdown in internal communications. It's said that Chase London, which is the agent for the $500 million credit, was unaware that Chase New York had received the transfer instructions. But there seems to be more to it than that. After all, the key telex was despatched from New York not from London. Headquarters clearly asserted its leadership. Why? Given Chairman David Rockefeller's friendship with the Shah, his lobbying of the Administration for the Shah to be allowed into the US and his underwriting of the former Iranian ruler's hospital bills in New York, it would not be surprising for Chase in New York to be disinclined to give the Ayatollah's regime the benefit of the doubt. Feelings were running high in the US over the plight of the hostages. There was widespread frustration at not being able to do anything to hurt Iranians in return. Banisadr's threat to withdraw Iran’s money from US banks was seen by some as a gift to America. The fact that it came a day before interest was due on the most important of Iran’s syndicated loans, was, it appears to some, a beautiful coincidence for the Americans. But the big banks had obviously been ready to act for some time. With increasing doubts over the stability of the country and the rising tide of anti-Americanism even before the seizure of hostages, they had no doubt been looking for an excuse to get out before it was too late. The Administration seems to have been following rather than leading the big banks, stumbling along in their wake, amending regulations almost as soon as it issued them and not understanding the full international import of what it was doing. But the crucial objective, apart from protecting American interests, seems to have been to tangle the Iranians up in a web of financial and legal disputes which they wouldn't begin to understand. One banker involved in London said: "Clerks are running the banks in Iran now. They don't even know how to open a simple letter of credit, and they wouldn't know what an international loan agreement looked like. Carter wanted to tie them up. And he wanted to get the Europeans enmeshed too." The stated objective might have been to stop Iranian withdrawals from US banks. Beneath that, however, was a deep desire to teach the Ayatollah's men a sharp lesson out of anger over the hostages: which is, after all, an understandable motive. But this is what has upset so many European and Japanese bankers. "Whatever the mob in Tehran does is one thing," asserted a Swiss banker. "What Iran does to fulfil its financial obligations is another. The two should be kept entirely separate.” The consequences of using the international banking system to fight an essentially political dispute could be very serious, he added: The financial consequences to the world could do more harm than the deaths of 49 people. "

If the US banks were largely motivated by understandable revulsion over events in Tehran, a more generous interpretation could be offered of their actions. But many non-US bankers simply feel that they were looking after number one. It is said by insiders that Citibank and Chase actually co-operated on the offsetting moves, whether with others or with the knowledge of the government isn't clear. But, the story goes, Citibank agreed to move first since it would have looked bad for Chase, with the biggest exposure in Iran to do so. Citibank has in the past not been slow to offset. It has done so previously in Cuba, where it used $12 million of Cuban assets to cover loans of $10 million, and in China. In both cases, the US was not at war with the two countries.

Once the Treasury allowed offsetting, it gave a carte blanche to the major US banks to take their shares of loans to Iran and the question of whether Iran would default or not became, in a sense, academic. But Chase did poll the syndicate on November 15, when, according to some lawyers, it was under no obligation to do so – it could have used its own discretion to call a default. Was the poll just a minimal attempt to observe the proprieties, as the sketchy information and haste suggest? Some non-US bankers think so. As a banker from one of the non-American institutions in the government loan group delicately explained: "The very hectic sequence of steps would lead an independent observer to assume there had been preparation for such an event."

Perhaps Chase had more to lose than the other big US banks. The Iranian deposits it froze in London amounted to $321 million, according to Bank Markazi's writ in the High Court. How much it has on deposit from Iran in other branches isn't known. Chase had been losing deposits from Iran because of its chairman's relationship with the Shah. And it is probably a net lender by a substantial amount, given its leading role in syndicated lending to Iran. Only Citibank, with much lower Iranian exposure – at least in publicly syndicated credits – had a lower deposit figure in London cited by Markazi: $175 million. Bank of America had most – $1.8 billion – followed by Manufacturers Hanover ($416 million) and Bankers Trust ($332 million).

Under the Shah, Bank Markazi generally followed a policy of spreading its deposits widely by bank, currency and country. Some $500 to $600 million was the usual limit for each bank, and some $2-3 billion was deposited with the Bank for International Settlements in Basle which offered lower deposit rates but which is politically untouchable. The size of Bank of America's deposits in London seems to suggest a transfer of funds out of the BIS – presumably to get a slightly better rate of interest, a strange act for an Islamic government technically against all interest – and perhaps a smaller flow out of Chase.

Unfortunately the true position of American bank exposure to Iran can't be assessed because a large amount of letter of credit and direct loan business doesn't appear to be included in the generally quoted figure of something over $2 billion for US banks' total lending to Iran.

It is assumed that those banks not cited by Markazi are in a less fortunate position. Certainly, Chemical Bank's haste in getting a High Court injunction on December 4 to prevent Iran removing any assets from the jurisdiction of the English courts – a move of such blanket proportions that it had to be modified only two days later – must give some clue to its own position. Chemical's haste showed through in the modified court injunction which was aimed at stopping Iran "from removing from the jurisdiction of the English courts any payments due to it from the National Water Council which would reduce the indebtedness of the National Water Council to the government of Iran below $510 million" (the syndicated loan amount plus interest). Unfortunately for Chemical, the National Water Council had already repaid $400 million of the $800 million it borrowed from Iran after the 1973/74 oil price rises. The most it could secure by that method would therefore be $400 million. But Chemical also got an injunction preventing any of the five banks cited by Markazi for freezing its deposits in London from making payments to the Iranian central bank "which would result in an aggregate reduction in net balances below $510 million."

Morgan Guaranty tried a different tack to protect its interests, getting court orders in Germany attaching Iran's 25.01% stake in Fried. Krupp and 25% stake in Deutsche Babcock. Morgan claimed these against its $40 million share in the $500 million government loan and its $25 million share in the $310 million Chase-led deal for the National Petrochemical Company. Morgan in New York justified this last claim on the grounds that the loan was in default under the cross-default clause. But a syndicate meeting at Chase in London on December 11 decided not to accelerate the loan – not surprising in view of the predominance of Japanese banks in the group.

The almost unseemly rush to grab Iranian assets is no doubt inspired by worries about how the bank stockholders might react if they thought their bank managements were being slow in looking after their interests. "After cases like United California Bank in Basle (Paul Erdman's bank), they've got to be very careful," said an American banker in London.

One day, perhaps, all the facts will be known. Now, however, on the basis of what is known, it looks as if the American banks had a twin motive above all others: to avenge the Ayatollah's actions and to protect their own stockholders. The fact that this is in conflict with the position of banks outside America has triggered off one of the most serious crises in banking history.

Two syndicated loans to the Pahlavi Foundation have been in default since June 20 last year, writes Nigel Hance. There has been virtually no contact between the Pahlavi Foundation, now nationalized and renamed the Alavi Foundation, and the lead managers since the revolution. Communication has been hampered by the reorganization now taking place within the Foundation.

Some bankers now doubt whether these two loans will ever be fully repaid as the Pahlavi Foundation was closely linked to the Shah's personal finances. The foundation was used as a vehicle to channel the Shah's investments both in Iran and throughout the world. In Iran, the Foundation wholly owned Bank Omran, which at one time had assets of $2.5 billion and is now closed. It also had major shareholdings in Bank Iranshahr, Bank Etebarat and the Development and Investment Bank of Iran. Outside banking the Foundation had investments in all sectors of Iranian industry especially real estate. In New York the Foundation had an office which supervised investments in the US.

The first of the two loans in default was for $25 million in 1977 at a spread of 1½% above Libor with a maturity of seven years, arranged by Kredietbank Luxembourgeoise and National Westminster Bank. The proceeds were used to build the third tower for the Hilton hotel. The final payment on this loan should have been paid on June 20 together with an interest payment on the second loan of $26.5 million arranged by almost the same syndicate in July 1978. Kredietbank and NatWest were again joint lead managers. The other participants were Standard Chartered, Bank of Yokohama, International Commercial Bank, National Bank of Abu Dhabi, Norddeutsche Landesbank International and the Northland Bank of the US. The proceeds were to finance a block of luxury apartments at Ramsar, a holiday resort on the Caspian Sea. Included was a multicurrency option which enabled the Foundation to draw down in any major European currency it chose.

However, difficulties arose when the Foundation tried to draw down the loan. Its lawyer resigned in sympathy with the demonstrators against the Shah and by the time the Foundation had found itself a new lawyer the banks did not allow a drawdown, as the political situation had worsened.

In the interim period, Kredietbank and NatWest between them had arranged a bridging finance for $10 million which was not syndicated among the other participants – much to the relief of several of them. In January this year the borrower tried again to make a full drawdown which was unacceptable to the managers, as the period for drawdown had expired.

The Pahlavi Foundation was considered to be one of the best Iranian risks. As one of the participants in the loan remarked "What could have been better than lending to the Shah himself?" Ironically, however, these loans attracted higher spreads and fees than other Iranian risks. "These were very profitable loans," said one banker. At the time the 1978 loan was being arranged at a spread of 1¼% for six years, the National Petrochemical Company and the Iranian National Oil Company were in the market at rates below 1% with longer maturities.

Kredietbank and NatWest have made no attempt to accelerate the loans. NatWest is making no comment and Kredietbank insists it wants to keep a low profile. Even though the payments are now six months overdue (the longest for any Iranian credit now in default) André Coussement, executive director of Kredietbank Luxembourgeoise, is optimistic. "We believe we should not accelerate the loans," he said. "Contact is being maintained and we believe the Iranians will pay. Right now we are taking no action as we see no reason why the Iranians will not fulfil their obligations.''

Another banker closely connected with both loans asked: "How do you milk a dry cow?"

The Japanese are trying hard to avoid getting flak from both sides in the US-Iran crisis. But it's been difficult from the start because the Iranians decided to sell to Japan their surplus oil barred from the US, and transfer liquid funds from the US to Japanese banks in London. Only $100 million was transferred before Carter blocked Iranian assets on November 14 but the move gives a strong clue on how Iranian money will be flowing in the future.

US criticism of Japan's dealings with Iran are seen as unfair in Tokyo, writes Stephen Bronte. Like other non-US banks, Japan's banks have resisted calling Iranian government and government guaranteed loans into default under cross-default clauses. But, according to Toyoo Gyoten, who is assistant vice-minister for international affairs at the Ministry of Finance: "As far as I know, Japanese banks have not taken any actions that would undermine American efforts." The recent harsh comments by American officials were based on a misunderstanding, he said.

"If one country tries to enforce a total severing of economic relations, that is understandable. But the US has not completely broken ties with Iran.'' He pointed out that the US was continuing to trade with Iran and exporting food, while freezing the country's financial assets. "If there is trade there are payments. You can't accept one without the other. You can't say – trade, yes, finance, no.”