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- Herausgeber: John Wiley & Sons
- Kategorie: Fachliteratur
- Serie: Wiley Finance Editions
- Sprache: Englisch
From the world's foremost authorities on the subject, the number-one guide to Islamic finance revised and updated for a post-crisis world Because it is entirely equity-based, rather than credit-based, Islamic finance is immune to the speculative bubbles and runaway volatility typical of Western finance. Especially now, in the wake of the global financial crisis, this has made them increasingly attractive to institutional investors, asset managers and hedge funds in search of more stable alternatives to conventional financial products. With interest in Islamic finance swiftly spreading beyond the Muslim world, the need among finance and investment professionals has never been greater for timely and authoritative information about the rules governing Islamic finance. This thoroughly updated and revised second edition of the premier guide to regulatory issues in Islamic finance satisfies that need. * Addresses the need for banks to develop common Islamic-based international accounting and auditing standards * Clearly explains the key differences between Shari'ah rulings, standardization of acceptable banking practices, and the development of standardized financial products * Explores the role of the Shari'ah Boards in establishing common rules regarding the permissibility of financial instruments and markets * Offers guidance for regulators seeking to adapt their regulatory frameworks to the needs of the fast-growing Islamic finance sector
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Seitenzahl: 917
Veröffentlichungsjahr: 2013
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Contents
About the Editors
About the Contributors
Foreword
Preface
Acknowledgments
Part One: The Nature of Risks in Islamic Banking
Chapter 1: Supervision of Islamic Banks: The Regulatory Challenge—Basel II and Basel III
1. Introduction
2. The Structure of Basel II and Basel III: Supervisory Implications
3. The Islamic Financial Services Board
4. Contents of This Book
Notes
References
Chapter 2: Banking and the Risk Environment
1. The Global Risk Environment
2. The Regulatory Environment
3. The Implementation Environment (Setting Up a Risk Management Framework in a Bank)
4. The Future Risk Environment
5. Islamic Banks and the Risk and Regulation Environment
Chapter 3: Risk Characteristics of Islamic Products: Implications for Risk Measurement and Supervision
1. Introduction
2. Background
3. Types of Risks in Islamic Finance and Their Measurement
4. Overall Risk of an Islamic Bank and Approaches to Risk Mitigation
5. Summary and Policy Conclusions
Notes
References
Chapter 4: Risk in a Turbulent World: Insights from Islamic Finance
1. Introduction
2. Functions of Risk
3. Dealing with Risk
4. The Fundamental Law of Risk
5. Islamic Finance
6. Functions of Risk in Islamic Finance
7. Risk Exchange in Islamic Finance
8. Regulatory Implications
9. Conclusion
Notes
References
Chapter 5: Capital Structure and Risk in Islamic Financial Services
1. Introduction
2. Risk and Capital Structure in Islamic Banks
3. Risk and Capital Structure in Takaful (Islamic Insurance) Undertakings
4. Concluding Remarks
References
Chapter 6: Inherent Risk: Credit and Market Risks
1. Introduction
2. Distinctive Risks
3. Inherent Risks in Shari’ah-Compliant Products and Services
4. Conclusion
Appendix
Notes
Chapter 7: Operational Risk Exposures of Islamic Banks
1. Introduction
2. Basel III Requirements and Their Implications for Operational Risk Management
3. Operational Risk: The Basel Methodology
4. Operational Risk in Islamic Banks
5. Unique Operational Risks of Islamic Financing/Investment Modes
6. Qard
7. Concluding Remarks
Notes
Chapter 8: Information Technology Risks in Islamic Banks
1. Introduction
2. Important Understandings and Facts
3. ITS Operational Risk—Business, Documentation, and Legal Issues
4. Technical and Functional Clarification for the Imposed Risks
5. Concluding Remarks
Note
Chapter 9: Law and Islamic Finance: An Interactive Analysis
1. Introduction and Overview
2. Islamic Jurisprudence in Modern Times
3. Enforceability of the Shari’ah
4. Enforceability of the Shari’ah: Case Law and Transactional Practice
5. Transactional Practice: Legal Opinions
6. Sukuk: Capital Markets and Secondary Markets
7. Summary and Conclusion
Appendix
Notes
Chapter 10: Legal Risk Exposure in Islamic Finance
1. Introduction
2. Defining Legal Risk
3. Greater Risk from Uncertain and Undeveloped Law and Regulation
4. Greater Risk from Poor Documentation
5. Greater Risk from Unpredictable Dispute Resolution Processes
6. Concluding Remarks
Notes
Chapter 11: Shari’ah–Non-compliance Risk
1. Introduction
2. Risk from an Islamic Perspective
3. The Concept of Shari’ah Compliance
4. Shari’ah–Non-compliance Risk and Its Impact
5. Dealing with Shari’ah–Non-compliance Risk
6. Measuring Shari’ah–Non-compliance Risk
7. Fiqh al-Muwazanah
8. Rectification of a Shari’ah–Non-compliant Contract
9. Mitigation of Shari’ah–Non-compliance Risk
10. Conclusion
Notes
Chapter 12: Supervisory Implications for Islamic Finance: Post-Crisis Environment
1. Regulation and Supervision
2. Supervisors and Shari’ah
3. Lessons of the Crisis and Regulatory Responses
4. The Issues for Supervisors
Notes
Part Two: Capital Adequacy
Chapter 13: Risk and the Need for Capital
1. Introduction
2. The Evolution of International Capital Standards
3. The Risk-Based Financial Regulation Approach
4. Globalisation of Financial Regulation?
5. The Short-Lived Rise of Contingent Capital Instruments
6. Conclusion
Notes
Chapter 14: Measuring Risk for Capital Adequacy: The Issue of Profit-Sharing Investment Accounts
1. Introduction
2. Why Capital Adequacy?
3. Application to Islamic Banks
4. Pillar 2 of the Revised Framework and Risk Management
5. Concluding Remarks
Note
References
Chapter 15: Measuring Operational Risk
1. Introduction
2. Operational Risk in the Context of Islamic Banks
3. Operational Risk Capital under Basel II
4. Operational Risk Capital under the IFSB Standard
5. Industry Practice and Implementation Issues for Operational Risk Measurement
Appendix
Notes
Chapter 16: Liquidity Risk
1. Introduction
2. The Regulatory Response to Liquidity Risk
3. Asset Liquidity
4. Trade Finance Assets as Liquidity
5. Government Bonds and Liquidity
6. Asset-Based Financings and Liquidity
7. The International Islamic Liquidity Management Corporation (IILM)
8. Liabilities (Deposits) as Liquidity
9. Accounting for Liquidity and Fair Value
10. Islamic Banks and the Basel III Liquidity Measures
11. Conclusion
Notes
Part Three: Securitisation and Capital Markets
Chapter 17: Securitisation in Islamic Finance
1. Preface: An Overview of the Sukuk Market
2. Securitisation and Sukuk: Some General Remarks
3. Market for Securitisation in Islamic Finance
4. Securitisation Structures
5. Regulatory Framework
6. Securitisation: A Growth Driver for Islamic Finance
Chapter 18: The Role of Capital Markets in Providing Shari’ah-Compliant Liquidity
1. Liquidity and Its Importance to the Islamic Financial System
2. Traditional Role of Capital Markets in Providing Liquidity to Financial Systems
3. Capital Markets—Structure and Analysis
4. Role of Islamic Capital Markets in Providing Liquidity
5. Enhancements to the Critical Dimensions of ICM to Improve Its Ability to Provide Liquidity
6. Products
7. Players
8. Infrastructure
9. Market Segments
10. Current Trends and Work in Progress
Chapter 19: Regulating the Islamic Capital Market
1. Introduction
2. The Applicability of Universal Principles of Securities Regulation
3. Approaches to Regulating ICM
4. The Shari’ah Governance Framework
5. Conclusion
Notes
References
Part Four: Corporate Governance and Human Resources
Chapter 20: Corporate Governance and Supervision: From Basel II to Basel III
1. Introduction: Corporate Governance and the Special Case of Banks
2. Regulation and the Corporate Governance of Listed Companies
3. Basel Pillar 2 and Corporate Governance in Banks
4. Conclusion
Notes
Chapter 21: Specific Corporate Governance Issues in Islamic Banks
1. Introduction
2. Salient Characteristics of Islamic Banks
3. Corporate Governance Issues in Islamic Banks
4. Exercising Effective Market Discipline on Islamic Banks
5. Regulation of Islamic Banks
6. Concluding Remarks
Notes
References
Chapter 22: Transparency and Market Discipline: Post–Basel Pillar 3
1. Introduction
2. Compliance with Pillar 3
3. Transparency and Market Discipline: Specificities of Islamic Finance
4. Concluding Remarks
Notes
Chapter 23: Human Resource Management of Islamic Banks: Responses to Conceptual and Technical Challenges
1. Introduction
2. Recruitment, Retention, and Qualification of Personnel
3. Support Infrastructure for Islamic Financial Institutions
4. Shari’ah-Compliance Issues
Part Five: Conclusion
Chapter 24: Concluding Remarks
1. Introduction
2. The Challenge to Financial Sector Industry Regulators and Supervisors
3. The Challenge to the Islamic Financial Services Industry Sector
4. The Challenge to Governments and Legislative Authorities
5. Conclusions
Notes
Index
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Cover design: Leiva-Sposato
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About the Editors
Simon Archer is Visiting Professor at the ICMA Centre, Henley Business School, University of Reading, United Kingdom, with particular responsibility for Islamic finance, and Adjunct Professor at the International Centre for Education in Islamic Finance (INCEIF), Kuala Lumpur, Malaysia. Previously, he was Professor of Financial Management at the University of Surrey, after being Midland Bank Professor of Financial Sector Accounting at the University of Wales, Bangor. After studies in Philosophy, Politics, and Economics at Oxford University, he qualified as a chartered accountant with Arthur Andersen in London and then moved to Price Waterhouse in Paris, where he became Partner in Charge of Management Consultancy Services. Since beginning an academic career, Professor Archer has undertaken numerous consultancy assignments, including acting as consultant to the Accounting and Auditing Organization for Islamic Financial Institutions (AAOIFI) and the Islamic Financial Services Board (IFSB). He has been a visiting professor at a number of universities and business schools, including IIUM in Malaysia, Bordeaux, Metz, and Paris-Dauphine; HEC and EAP-ESCP in France; Copenhagen Business School in Denmark and Frankfurt, and Koblenz in Germany. Professor Archer is the author and co-editor of a considerable number of works and academic papers on international accounting and on issues in Islamic finance, including Islamic Finance: Innovation and Growth (Euromoney Publications, 2002) with Rifaat Ahmed Abdel Karim; Islamic Finance: The Regulatory Challenge, 1st edition (John Wiley & Sons Singapore, 2007) with Rifaat Ahmed Abdel Karim; and Takaful Islamic Insurance: Concepts and Regulatory Issues (John Wiley & Sons Singapore, 2009) with Rifaat Ahmed Abdel Karim and Volker Nienhaus. In 2010, Professor Archer received an award from the Central Bank of Bahrain and Kuwait Finance House, Bahrain, for his “outstanding contribution to the Islamic Financial Services Industry.”
Rifaat Ahmed Abdel Karim is one of the world’s foremost and renowned leaders and authority in the Islamic financial services industry (IFSI) both at the professional and academic levels. He has played a pioneering role in the development of Islamic finance, while his leadership in the drafting of accounting, auditing, governance, Shari’ah, and regulatory standards has been instrumental in establishing the position of the IFSI in the mainstream of global financial services.
In addition to the international recognition of his academic publications, which are mainly in tier one international journals in the field of Islamic finance, Rifaat also earned international respect for the two organisations he has played an instrumental role in creating, and for which he served as (their inaugural) Secretary-General—the Accounting and Auditing Organization for Islamic Financial Institutions (AAOIFI) and the Islamic Financial Services Board (IFSB).
Professor Karim’s contribution to the IFSI has been recognised by the many prestigious international awards that have been bestowed upon him during his career, which spans 30 years dedicated to high achievement in professional activities, as well as in research and academic work. These include, among others, the (inaugural) 2004 Euromoney Outstanding Contribution in the Development of Islamic Finance, and the 2010 Islamic Development Bank Prize in Islamic Banking and Finance. In 2010, the King of Malaysia awarded Professor Karim the Royal Malaysian Honorary Award of Darjah Kebesaran Panglima Jasa Negara (P.J.N.), which carries the title “Datuk.”
Professor Karim is currently the Chief Executive Officer of the International Islamic Liquidity Management Corporation (IILM). Professor Karim has been Visiting Professor at the ICMA Centre, Henley Business School, University of Reading, United Kingdom, since 2008, and Adjunct Research Professor at the International Centre for Education in Islamic Finance (INCEIF), Kuala Lumpur, Malaysia, since 2011. He served on the advisory council of the Basel Committee for Banking Supervision, International Accounting Standards Board, and International Auditing and Assurance Standards Board.
Professor Karim is the co-author/co-editor of Business and Accounting Ethics in Islam (Mansell Publishing Co., 1991) with Trevor Gambling; Islamic Finance: Innovation and Growth (Euromoney Publications, 2002) with Simon Archer; Islamic Finance: The Regulatory Challenge (1st edition) (John Wiley Asia, 2007) with Simon Archer; and Takaful Islamic Insurance: Concepts and Regulatory Issues (John Wiley & Sons Singapore, 2009) with Simon Archer and Volker Nienhaus.
About the Contributors
Daud Abdullah (David Vicary) is the President and Chief Executive Officer of INCEIF, The Global University of Islamic Finance. He has been in the finance and consulting industry for more than 38 years, with significant experience in Asia, Europe, Latin America, and the Middle East. Since 2002, he has focused exclusively on Islamic finance where he has contributed to a number of books on the subject and has co-authored a book on Islamic finance entitled Islamic Finance: Why it Makes Sense. He is also a frequent speaker and commentator on matters relating to Islamic finance. He is a Chartered Islamic Finance Professional (CIFP), a Distinguished Fellow of the Islamic Banking and Finance Institute of Malaysia (IBFIM) and a former Board member (2003–2007) of the Accounting and Auditing Organization for Islamic Financial Institutions (AAOIFI). Prior to INCEIF, he was the Global Islamic Finance Leader with Deloitte. He was also previously acting CEO of Asian Finance Bank, an Islamic bank based in Malaysia, and Managing Director of Hong Leong Islamic Bank.
Anand Balasubramanian is currently a Director in Ernst & Young’s Financial Services Risk Management (FSRM) practice in Dubai. He has more than 12 years’ experience in the area of risk and financial consulting across the Middle East, South East Asia, and the United States. He has executed several engagements in the area of risk quantification and model validation for credit risk, market risk, and operational risk.
He has prior experience with Oracle Financial Services Consulting, GE, and ICRA. Anand holds an MBA in Finance from the Indian Institute of Management, Calcutta, India and is certified FRM from Global Association of Risk Professionals (GARP).
John Board has been Dean of the Henley Business School at the University of Reading since October 2010. Before that he was Director of the ICMA Centre at the University of Reading, which he joined after being on the faculty at the London School of Economics.
His recent research has focused on the organisation and regulation of financial markets and the development of Islamic financial markets. Some of this work has been based on large scale analyses of trading data, while other parts have considered more general issues of the effects of market fragmentation as well as the various scandals and crises in financial markets. As a result of this work, he has been widely published in books and academic and professional journals, as well as radio and television. He has acted as consultant to many U.K. and overseas markets, regulatory organisations, and trade bodies. These include the House of Commons, the Financial Services Authority, the City of London Corporation, and the European Commission. He also has an interest in the development of Islamic finance, on which he has recently acted as consultant on a major project on Islamic market developments around the world.
He has successfully supervised some 30 PhD students and acted as examiner for many more. His teaching work has taken place in some 20 countries, including: the United Kingdom, China, India, France, Japan, Korea, Saudi Arabia, Egypt, Spain, Argentina, Serbia, Montenegro, Russia, Thailand, Qatar, Sharjah, Abu Dhabi, Egypt, Libya, Kenya, South Africa, and others.
Peter Casey recently retired as Senior Director, Policy and Strategy, and Head of Islamic Finance in the Dubai Financial Services Authority (DFSA).
Peter has been involved in standards development in Islamic finance through membership of the IFSB Technical Committee and several IFSB Working Groups, including those on Special Issues in Capital Adequacy, Governance of Takaful Operations, and Solvency Requirements for Takaful Operators. He participated in the joint IFSB-IAIS working group on takaful, and in the IOSCO working group which analysed the application of IOSCO’s Objectives and Principles of Securities Regulation to Islamic products. He has also been a member of the Islamic Finance Working Group of the Asian-Oceanian Standard-Setters Group. He has written two book chapters and numerous articles on Islamic finance topics.
Before joining the DFSA in 2002, Peter was Head of the Non-Life Insurance Department of the UK Financial Services Authority. Before that, he held senior regulatory posts in the Treasury, the Department of Trade and Industry and the Office of Fair Trading. He has wide experience of UK Government, having also served in the Cabinet Office and Science Research Council, and having worked in areas ranging from export promotion to the creation of computer misuse legislation.
He was educated at Cambridge University.
Brandon Davies is Non-Executive Chairman of Premier European Capital Limited, a private equity company; he is also the CEO of dRisk.biz, a company he founded, and Senior Independent Non-Executive Director (SINED) of Gatehouse Bank plc. (an Islamic Bank in London), where he has helped to establish the “Gatehouse Thought Leadership Programme.” He has worked with institutions, most notably in Malaysia, London, and Kuwait to build on this role.
Brandon holds a degree in economics from University College London. He is a member of the Financial Markets Group at the London School of Economics (LSE), lectures extensively on subjects in banking and risk management, and has written numerous papers and articles on these subjects for organisations such as the ACCA, Cass Business School, Central Banking, the LSE, Lombard Street Research, and the Financial Times.
Until December 2009, Brandon was Managing Director of the Global Association of Risk Professionals Risk Academy. In that capacity Brandon produced five books on Basel II and risk management, governance, supervision, and enterprise risk management. These books form the basis of certification programs in both banks and central banks in China and Indonesia.
Brandon has over 40 years of work experience in the banking sector; his positions included Head of Retail Market Risk and Treasurer of the retail businesses of Barclays Bank, and he was also a member of the bank’s executive committee. Prior to this appointment he was Managing Director of Financial Engineering at BZW and later of Structured Products at BZW and Barclays Capital. Brandon retired from Barclays in March 2004 after 32 years with the bank.
Yusuf Talal DeLorenzo of Malfa Inc. (www.malfainc.com) is a scholar of Islamic transactional law whose 30-year career has been noted in the Financial Times, the New York Times, Fortune, the Wall Street Journal, the Middle East Banker, and others. Based in Florida, he serves as a Shari’ah advisor to international financial entities, including index providers, institutional investors, mutual funds, hedge funds, real estate funds, private equity funds, home finance providers, and investment banks. Shaykh Yusuf is the author of the three-volume Compendium of Legal Opinions on the Operations of Islamic Banks, the first English/Arabic reference on the fatawa issued by Shari’ah boards. In addition, he wrote the introduction to Islamic Bonds, the 2003 book that introduced sukuk and transformed the world’s Islamic capital markets. His work has appeared in journals and newsletters and as chapters in books, including Islamic Asset Management (Euromoney Books, 2004), Islamic Retail Finance (Euromoney Books, 2005), and Islamic Finance: Innovation & Growth (Euromoney Books, 2002). His entries on the terminology of Islamic finance appear in The Oxford Dictionary of Islam.
Baljeet Kaur Grewal is the Managing Director and Vice Chairman at KFH Research Limited (KFHR), the investment research subsidiary of Kuwait Finance House. In her capacity, Baljeet heads the Global Economic and Investment Research and Advisory teams at KFHR, the first Islamic bank worldwide to have a notable research presence in Islamic finance.
Prior to this, Baljeet was the head of Investment Banking Research at Maybank Group, Malaysia. Prior to that, she was attached with ABN AMRO Bank and Deutsche Bank, London, with experience ranging from credit structuring, loan syndication, and economic and capital market research. She has broad experience in investment banking, having participated in notable Islamic fund raising transactions in Asia and the Middle East; as well as in strategic planning and execution of investment banking organisational change. To date, she has undertaken research in Islamic finance with a principle focus on debt capital markets and sukuk in emerging markets. She has written and published numerous articles and papers on developing economies and debt markets, Islamic debt structures, and South East Asian economies; and has addressed numerous international Islamic conferences and forums. Since its inception, KFH Research Limited has been awarded nine international awards of research excellence, and is widely regarded as the best Islamic finance research house globally.
Baljeet has a First Class Honours degree in international economics from the University of Hertfordshire and has undertaken extensive research in development studies with the London School of Economics.
She is also the award recipient of the prestigious Sheikh Rashid al-Makhtoum award for Regional Contribution to Islamic Finance in Asia 2006, as well as accolades honouring women in Islamic finance.
Abdullah Haron is Assistant Secretary-General of the Islamic Financial Services Board. Previously, he was a Project Manager; his main area of work was the preparation of guidance on risk management and the supervisory review process. He has also participated in task forces on takaful regulation and supervision, as well as a compilation guide on prudential databases of Islamic financial services institutions. His prior experience includes the development of a risk management and measurement framework, and insurance prudential regulation and supervision. Abdullah received a BSLAS in actuarial science from the University of Illinois and an MBA from Ohio University.
Chen Mee King is Senior Vice-President, General Counsel, and Head of Legal and Shari’ah Group of The Islamic Bank of Asia Limited, the first full-fledged Islamic bank in Singapore. She is also an Adjunct Associate Professor of Law in Singapore Management University’s Masters (LLM) in Islamic Law and Finance programme. During nearly 25 years of law practice, Mrs. Chen has engaged in private practice as well as acting as in-house counsel for an Asian commercial bank, two European commercial banks, and an Asian multinational investment group, before joining The Islamic Bank of Asia Limited. Mrs. Chen’s responsibilities in The Islamic Bank of Asia involve the oversight of legal matters arising in connection with the Bank’s activities in South East Asia as well as its representative office in Bahrain.
Dr. Mohamad Akram Laldin is currently the Executive Director of International Shari’ah Research Academy for Islamic Finance (ISRA). Prior to joining ISRA he was an Assistant Professor at the Kulliyah of Islamic Revealed Knowledge and Human Sciences, International Islamic University, Malaysia (IIUM). In the period of 2002–2004, he was a Visiting Assistant Professor at the University of Sharjah, Sharjah, United Arab Emirates. At present, he is a member of the Bank Negara Malaysia Shari’ah Advisory Council, member of the Accounting and Auditing Organization of Islamic Financial Institution (AAOIFI) Shari’ah Board, member of the Law Harmonisation Committee Bank Negara Malaysia, member of Shari’ah Board of Employees Provident Fund Malaysia (EPF), member of Maldives Monetary Authority Shari’ah Board, member of Yassar Limited (Dubai) Shari’ah Advisory Board, member of Nigerian Central Bank Council of Experts, Chairman of the Islamic Advisory Board of HSBC Insurance Singapore, Shari’ah Advisor to ZI Syariah Advisory Malaysia, member of Shari’ah Advisory Council International Islamic Financial Market (IIFM), Bahrain, member of Thomson Reuters Islamic Benchmark (IIBR) Shari’ah Committee, member of Shari’ah Advisor of Dar Al Takaful (Dubai), and of other boards locally and internationally.
In addition, he is also the Member of the Board of Studies of the Institute of Islamic Banking and Finance, International Islamic University Malaysia, and member of the Board of Trustees of the Islamic Research Training Institute under Islamic Development Bank, Jeddah. Dr. Akram holds a BA Honours degree in Islamic Jurisprudence and Legislation from the University of Jordan, Amman, Jordan and a PhD in Principles of Islamic Jurisprudence (Usul al-Fiqh) from the University of Edinburgh, Scotland, United Kingdom. He has presented many papers related to Islamic banking and finance and other fiqh topics at the national and international levels and has conducted many training sessions particularly on Islamic banking and finance for different sectors since 1999. He is a registered Shari’ah Advisor for Islamic Securities with the Securities Commission of Malaysia, and has acted as Shari’ah advisor in several sukuk issuances. In addition he is a prolific author of academic works, specifically in the areas of Islamic Banking and Finance. He is the recipient of the Zaki Badawi Award 2010 for Excellence in Shari’ah Advisory and Research.
Dr. John Lee Hin Hock is the Group Chief Risk Officer (GCRO) of Maybank Group, the largest banking group in Malaysia. As GCRO, he oversees the Group Credit and Risk Management function of the Group, which includes commercial banking, investment banking, and insurance business across South East Asian markets. The Group Credit and Risk Management has oversights on matters relating to credit management, assets and liabilities management, liquidity management, market risk management, and operational risk management. As GCRO, he sits on the Executive Committee and on various other management committees in the Group.
Dr. John Lee was a member of the Liquidity Risk Management Working Group and the Risk Management Working Group of the Islamic Financial Services Board (IFSB), an international standard-setting body set up to ensure the stability of the Islamic financial services industry.
Prior to Maybank, Dr. John Lee was a Partner in KPMG, where he was KPMG Global Lead for Islamic Finance, Asia-Pacific Region Head of Financial Risk Management, and Malaysia Head for Financial Services. His consulting experience includes strategic consulting, banking strategies, capital markets, risk management, and performance management, where he completed numerous projects around the Asia-Pacific region.
Before joining KPMG, John was the General Manager of the Kuala Lumpur Options & Financial Futures Exchange (KLOFFE; now known as Malaysian Derivatives Exchange), where he was responsible for the overall operations of the exchange. Prior to KLOFFE, John worked for a Malaysian merchant bank, Amanah Merchant Bank Berhad, now known as Alliance Merchant Bank Berhad, in their corporate finance department.
John Lee has a PhD in financial economics and a bachelor of economics from Monash University. He is also a Fellow Certified Practicing Accountant of CPA Australia and a member of the American Finance Association, Econometrics Society, and the Society of Financial Studies.
Dato Dr. Nik Ramlah Mahmood was appointed Deputy Chief Executive of Securities Commission (SC) Malaysia on 1 April 2012. Prior to that, she was Managing Director and Executive Director of the SC’s Enforcement Division. Nik Ramlah has served the SC for more than 19 years and has worked in areas ranging from legal and regulatory reform, product and market development, Islamic capital markets, investor education, and enforcement.
Nik Ramlah sits on the board of the Securities Industry Development Corporation (SIDC), the training and education arm of SC, and is a member of the Professional Development Panel of the International Centre for Education in Islamic Finance (INCEIF), the global University of Islamic Finance and is an EXCO member of the Asian Institute of Finance (AIF).
Nik Ramlah holds a First Class Honours degree in Law from University Malaya and an LLM and PhD from the University of London. For her PhD, she was a recipient of a scholarship from the Association of Commonwealth Universities.
Prior to joining the SC in 1993, Nik Ramlah was an Associate Professor in the Faculty of Law, University Malaya.
Michael J. T. McMillen is a Partner in the international law firm of Curtis, Mallet-Prevost, Colt & Mosle LLP. He also teaches Islamic finance at the Law School and the Wharton School of Business of the University of Pennsylvania. Michael’s practice focuses on Islamic finance, project finance, other structured finance, international real estate finance, and private equity. He has worked in the Islamic finance field since 1996 and has received numerous awards for his Islamic finance work, particularly for devising innovative Shari’ah-compliant structures and products. He has worked in the project and structured finance field since 1983. He was the founding chairman of the Islamic Finance Section of the American Bar Association. Michael received his BBA from the University of Wisconsin in 1972, his JD in 1976 from the University of Wisconsin School of Law, and his MD in 1983 from the Albert Einstein College of Medicine.
Volker Nienhaus was Professor of Economics at the German universities of Trier (1989) and Bochum (1990) before he became President of the University of Marburg (2004). His fields of academic specialisation were economics of the European Union, international and development economics, and political economy. He has made numerous contributions to Islamic economics, banking, and finance since the 1980s. In 2006, he was appointed a member of the Governing Council of the International Centre for Education in Islamic Finance (INCEIF), Kuala Lumpur.
Carol Padgett is a senior lecturer in finance at the ICMA Centre, Henley Business School. She has extensive experience of teaching corporate finance and governance to both academic and professional audiences and has written a textbook on corporate governance. She is Director of Studies of the MSc in Corporate Finance at the University of Reading. Her research interests include governance in financial and nonfinancial institutions and the impact of governance on the performance of acquisitions.
Samir Safa has more than 30 years of international experience in information technology and banking. He has managed large-scale transformation information technology projects, as well as building and implementing multidiscipline financial information solutions successfully across North America, EMEA, and Asia.
Since 1992, Samir has been serving the needs and requirements of the Islamic banking and finance industry in their various formations; i.e., start-ups, conversion of conventional banks to Islamic banks, and setting up Islamic finance units or windows.
Prasanna Seshachellam has over 19 years of experience in the financial services industry sector, which includes over nine years of experience in the regulatory domain. Before entering the regulatory world, he worked in many segments of the financial services industry, including investment banking, equity research, asset management, corporate credit, credit rating, risk management, fund administration, and trade operations for ETFs. Prasanna has worked with Barclays Global Investors Canada Limited and with ICRA Limited, the second largest rating agency in India and an affiliate of Moody’s Investors Service.
In his current role at the Dubai Financial Services Authority (DFSA), Prasanna Seshachellam leads the team responsible for the prudential supervision of a number of authorised firms, with primary focus on firms operating in the banking and insurance sectors. Prior to his current role at the DFSA, Prasanna was with the Office of Superintendent of Financial Institutions (OSFI) Canada as a Senior Supervisor overseeing a portfolio of banks and other lending institutions.
Prasanna has been a key contributor to various initiatives of the DFSA in the regulation of Islamic finance. Prasanna has represented the DFSA in many working groups of the Islamic Financial Services Board. Prasanna also plays a leading role in many of the critical projects aimed to enhance the supervision framework of the DFSA.
Prasanna has a bachelor of technology degree from Anna University, India, and a masters in management from Indian Institute of Management, Bangalore. Prasanna is a CFA charter holder and also holds the FRM designation awarded by the Global Association of Risk Professionals, New York.
Dr. Sandeep Srivastava is currently a Senior Director in Ernst & Young’s Financial Services Risk Management (FSRM) practice in Dubai. He has more than 15 years of experience spanning all areas of risk management and has led several projects for investment banks, commercial banks and insurance companies. He has prior experience with KPMG in the Middle East, South Asia, and Europe. He holds a PhD in finance from Indian Institute of Technology (IIT), Delhi, India, and has completed his masters and MPhil. in finance from Delhi School of Economics, Delhi, India.
He also has taught at a reputable business school in India and has authored a book titled Volatility Forecasting and Derivative Trading in India published by Macmillan.
Venkataraman Sundararajan (who died suddenly in 2010) was an internationally recognised financial economist with over 30 years’ experience in the International Monetary Fund (IMF), advising governments in central banking and financial sector issues as well as in macroeconomic policy, covering over 50 countries in Asia, the Middle East, Europe, and parts of Africa. He also brought expertise in Islamic finance issues based on his advisory work with many governments on risk management, governance, and regulation of Islamic finance. He joined Centennial as Director and Head of Financial Sector Practice and was the Deputy Director of the Monetary and Financial Systems Department at the IMF. He earned a PhD in economics from Harvard University and taught at New York University before joining the IMF in 1974.
Sami Al-Suwailem, obtained his bachelor’s degree in science from King Saud University in Riyadh, Saudi Arabia, in 1987. He obtained his master’s degree from Southern Illinois University in Carbondale, Illinois, in 1990, and in 1995 obtained his PhD from Washington University in St. Louis, Missouri, both in economics. He joined Al Rajhi Bank in 1995 as a chief consultant, and in 1998 became Manager of Research & Development in the Shari’ah Group at the Bank. He joined Islamic Development Bank Group in December, 2004 as a Senior Economist. Currently he is Head of the Financial Product Development Center at the IDB Group. He published several papers and books on Islamic finance in Arabic and English.
Dr. Hatim El-Tahir is a Director at Deloitte’s Islamic Finance Group, and Leader of the Deloitte ME IFKC, a think tank and thought leadership initiative in Islamic finance aimed at prompting best practices in the industry.
Hatim worked extensively with regional and global Islamic financial institutions and leads the practice’s development in MENA region and coordinates initiatives globally at Deloitte’s member firms. His areas of specialisation include Islamic financial regulation, risk management, and Islamic finance research and education.
Hatim’s experience spans many regions in the EMEA, including the United Kingdom, Africa, and 10 years in the GCC region. His recent representative accomplishments include advising on the development of a takaful act for an insurance regulator as well as leading a capacity development program in Islamic finance for a central bank in the Gulf.
He has authored numerous articles in credible industry journals, including Harvard University’ Islamic Finance Project publication, and has been a regular speaker in major Islamic finance conferences, seminars, and training workshops.
Hatim is a regular participant in industry standards development discussions, exposure drafts, consultation papers, and task forces.
Richard Thomas OBE, is Chief Executive Officer of Gatehouse Bank plc. Gatehouse received its licence to operate as a Shari’ah-compliant investment bank based in the City of London from the Financial Services Authority in April 2008.
In a career spanning over 35 years in merchant and investment banking in the City of London, Richard’s last 30 years have been entirely in Islamic financial services and dedicated to establishing the Islamic economic model as viable in the heart of the City of London. Richard has previously worked for Saudi International Bank, United Bank of Kuwait, and Arab Banking Corporation (ABC), helping set up the Islamic asset management units in each one. He left ABC in 2007 to follow the vision of Mr. Ayman Boodai to set up GSH (UK) Ltd. and joined the foundation committee to set up Gatehouse Bank plc. from start up.
Richard is a Fellow of the Chartered Institute for Securities & Investment (CISI). He is the Chairman of the working groups UK Islamic Finance Secretariat. Richard is appointed by TheCityUK (TCUK) as Special Representative for Kuwait. In addition, he is an HMRC Tax Advisory Group member (IFS). He is also a British Expertise Advisory Council Member and a member of the Global Association of Risk Professionals (GARP).
In 2010, Richard received his Order of the British Empire, an honour bestowed by Her Majesty Queen Elizabeth II, in recognition for civic excellence and his contribution to the UK Islamic Financial Services industry.
Andrew White is the Director of the International Islamic Law & Finance Centre, Singapore Management University, where he is also an Associate Professor conducting research and teaching courses in Islamic Commercial Law and Islamic Finance, and coordinating the postgraduate specialised masters (LLM) in Islamic Law and Finance programme. An experienced lawyer and commercial arbitrator with nearly 30 years on the bar, Professor White also consults and conducts professional training programs for banks, regulators, and others in the Islamic finance industry. Professor White’s recent international academic engagements include appointment in the University of Melbourne Law School (Senior Fellow), the University of Melbourne Centre for Islamic Law and Society and the Centre for Corporate Law & Securities Regulation, appointment as a Visiting Professor in the Faculty of Law of Universitas Islam Indonesia (UII), as well as in the Harun M. Hashim Law Centre, International Islamic University Malaysia (IIUM), and in the Faculty of Law of Gadjah Mada University (Indonesia). Professor White is also an Arbitrator for Islamic financial disputes with the Kuala Lumpur Regional Centre for Arbitration (KLRCA); an Adjudicator for Islamic financial disputes with the Singapore Financial Industry Disputes Resolution Centre (FIDReC), an Arbitrator with the Singapore International Arbitration Centre (SIAC), and a Fellow of the Singapore Institute of Arbitrators (SIArb).
Foreword
Islamic finance has continued to be the fastest growing sector of the international financial system. This growth has also been in quality and depth, resulting from a high degree of innovation that has kept pace with the new demands for financial products and services as economies continue to evolve and transform. Of significance is the greater abundance of profit-sharing and loss-bearing savings and investment products and other instruments that use structured finance. Given these developments, Islamic finance has demonstrated its potential to provide effective financial intermediation to meet the needs of a modern globalised financial system and economy.
While Islamic finance has shown its resilience and sustainability during this recent global financial crisis, the significant and rapid evolution of Islamic finance highlights the need for greater focus and attention on issues of prudential regulation, risk management, and overall financial stability. The evolving compendium of standards, codes, and principles from the Basel Committee on Banking Supervision, the Financial Stability Board, and other international standard-setting bodies has brought greater clarity and understanding to issues on the regulation and supervision of banks and financial institutions, including Islamic financial institutions.
However, given the uniqueness of Shari’ah-compliant modes of fund mobilisation, funding, and financing, the different financial stability and regulatory challenges may not be fully addressed by the global standards that have been issued. The Islamic Financial Services Board (IFSB) has addressed this in developing and contextualising the prudential, regulatory, and supervisory standards for Islamic finance. In addition, the work of the IFSB addresses the risk of Shari’ah–non-compliance and fiduciary risk, which are specific to Islamic finance, and complements the work of other international standard-setting organisations by bringing a valuable perspective to current and emerging issues.
The international standards are now being voluntarily observed in most nations of the world in efforts to build more resilient financial systems. The effective implementation of these international standards at a national level requires enabling banking and financial legislation that is responsive to market developments, and empowers authorities within a clear accountability framework to act pre-emptively in addressing risks to financial stability. In Malaysia, the recent passage of the Islamic Financial Services Act will substantially strengthen the capacity of the regulatory authority to meet the challenges of the Islamic financial system.
The first edition of Islamic Finance: The Regulatory Challenge by Professors Simon Archer and Rifaat Ahmed Abdel Karim was an important addition to the literature on the regulation of Islamic finance. This second edition addresses the implications of the recent global financial crisis on the regulation of Islamic financial services. The book has dealt with the relevant regulatory issues in a timely manner and would be much welcomed by both practitioners and academics.
Dr. Zeti Akhtar Aziz,
Governor
Bank Negara Malaysia
Preface to the First Edition
There is now great interest, both in financial and legal circles, in reliable and authoritative texts on Islamic finance. I have no doubt that those who provide financial and legal services will warmly welcome the availability of Islamic Finance: The Regulatory Challenge. The work will be of great assistance to them.
The editors and the contributors write with great authority and clarity on a wide range of subjects, all of great relevance and interest. I am confident that those who read Islamic Finance: The Regulatory Challenge will find that they are fully equipped to deal with the many problems and issues that the book addresses. In the days of global financial markets, this subject is of the greatest importance and should not be neglected.
It is therefore very reassuring to know that in this book, there is now available the information necessary to all who are involved in financial markets. I am confident that this book will have the success it deserves.
PREFACE TO THE SECOND EDITION
When I wrote a preface for the first edition of this extremely useful book, I anticipated it would be of considerable value to those involved in the field of Islamic finance and that it would be a success. This has proved to be an accurate forecast, and six years later there is now a second edition.
I am delighted to welcome this new edition. In the period between the two editions—as is to be expected in the case of a subject, which, if it is no longer in its infancy, is a rapidly maturing adolescent—a great deal of experience has been acquired and many changes have occurred. In consequence, there is an even greater need than that which existed when the first edition was published for an up-to-the-minute and authoritative second edition for all those involved today in this important and growing area of finance. This book now meets that need, and I am confident it will succeed, as did the first edition. I wish it well.
Rt. Hon. Lord Woolf
Former Law Lord,
Master of the Rolls and
Lord Chief Justice of England and Wales
Acknowledgments
We would like to thank each of the contributing authors for taking the time to write their chapters. Their insights and practical experiences have made the book much richer.
Thanks also to Nick Wallwork and Ms. Gemma Rosey of John Wiley for getting the book into shape and guiding us through the publishing process.
Finally, we are indebted to our families, who have been a great source of encouragement and support in every step of the way.
Part One
The Nature of Risks in Islamic Banking
Chapter 1
Supervision of Islamic Banks: The Regulatory Challenge—Basel II and Basel III
Simon Archer and Rifaat Ahmed Abdel Karim
1. INTRODUCTION
The documents of the Basel Committee for Banking Supervision (BCBS)—International Convergence of Capital Measurement and Capital Standards: A Revised Framework (generally known as Basel II) and the recently introduced new major set of reforms to Basel II, which are aimed at addressing global capital regulatory framework in light of the prevailing global crisis (and are generally known as Basel III)—present a real challenge to banking regulators and supervisors. This challenge is, of course, first and foremost in respect of the application of both documents to conventional banks. Basel II was issued in June 2004 (with some revisions in November 2005) to supersede the original 1988 Capital Accord (Basel I), while Basel III was issued in December 2010, with a revised version in June 2011.
The main innovations introduced in Basel II were, first, a significantly more comprehensive and sophisticated approach to measuring credit risk and, second, a capital requirement for operational risk. With respect to market risk, Basel II did not supersede the 1996 Amendment of Basel I, which had introduced a capital treatment for this category of risk not specifically covered in the original Capital Accord. The two approaches to market risk under Basel II, the Standardised Approach and the Internal Models Approach, are continued under Basel III.1 However, while the scope of regulation has been extended under Basel III to liquidity risk, and the regulatory capital requirements have been increased, and there have been some significant alterations and additions to Basel II regulatory environment, the Three Pillars of Regulation established under Basel II remain and indeed are enhanced under Basel III.
Basel I was a document of modest length that made no great technical demands on the reader. However, the years since 1988 have seen a very significant evolution in banking and finance, including the effects of the globalisation of financial markets and developments such as the abundance of derivatives and securitisations using structured finance. These developments have significant implications for risk and capital adequacy. Hence, Basel II, which (with its appendices) runs to over 250 pages, is a fairly daunting document that makes some nontrivial demands on the reader, both technical and conceptual.
On the other hand, the development of Basel III was mainly prompted by the recent financial crises, which started to take shape in 2007. Basel III emphasises not only the importance of the absolute amount of a bank’s equity position, but most importantly the quality of capital held by these banks, two important issues that were not adequately addressed in Basel II.
The standards issued by the Islamic Financial Services Board (IFSB) have highlighted the fact that neither Basel II nor Basel III was (understandably) written with its application to Islamic banking in mind.2 However, the rapid development of Islamic banking since the early 1990s, and the fact that international financial authorities such as the World Bank, the International Monetary Fund (IMF), and the BCBS understood the consequent desirability of building bridges between Islamic (Shari’ah-compliant) financial institutions and the conventional (Shari’ah–non-compliant) financial sector,3 inevitably raised the issues of how and to what extent Basel II principles and techniques and those of Basel III are applicable to the regulation and supervision of Islamic banks, and of the regulatory and supervisory problems to be overcome in this context.4 These issues constitute the concern of this book.
2. THE STRUCTURE OF BASEL II AND BASEL III: SUPERVISORY IMPLICATIONS
The structure of Basel II is based on three “Pillars.” As mentioned above, these were retained and enhanced under Basel III. Pillar 1 deals with the new approach to credit risk, which replaces that of Basel I, and with operational risk; Pillar 2 addresses the supervisory review process from the standpoint of the responsibility of the supervisor to promote the overall safety of the banking system, and establishes a set of common guidelines for supervisory review, while also stressing the primary responsibility of individual banks and the critical role of dialogue between supervisors and banks; and Pillar 3 lays down a minimum number of public reporting standards on risk and risk management intended to enhance the ability of market participants to be aware of a bank’s risk profile and the adequacy of its capital in relation to this, thus involving the market in the capital adequacy regime. Building on the three pillars of the Basel II framework, Basel III supplemented the risk-based approach by introducing new regulatory requirements (notably concerning liquidity risk and the quantity and risk absorbency of capital) to promote a more resilient banking sector.
Basel II and Basel III thus present all banking supervisors with a major challenge, both in enforcing Pillar 1 together with the disclosure requirements of Pillar 3, and in implementing Pillar 2. The adoption of Basel II was not intended to be a requirement outside of the G10 countries represented on the BCBS, and then only for banks that are internationally active. However, as Basel I had been adopted in more than 100 countries, the supervisors in these and other countries may be expected to adopt both Basel II and Basel III progressively over the next few years. The G10 was broadened to include additional members and renamed G20. Following the financial crisis that began in 2007, the G20 gave more powers to the Financial Stability Board (formerly the Financial Stability Forum), which, inter alia, include oversight over the implementation of Basel III. The membership of the Financial Stability Board includes, among other standard-setting bodies, the BCBS.
For supervisors in countries where Islamic banks are located, there is the further challenge of applying Basel II and Basel III to those institutions. This added challenge results from the specificities of the Islamic (Shari’ah-compliant) modes of finance employed by Islamic banks. These raise issues of capital adequacy, risk management, market discipline, and corporate governance that differ significantly from those that arise in conventional (Shari’ah–non-compliant) financial institutions. The issues concern the types of assets to which Islamic financing gives rise, the related risks and the availability of risk mitigants, and the types of non-interest-bearing savings and investment products offered by Islamic banks for funds mobilisation in place of conventional deposit and savings accounts. The fact that these non-interest-bearing savings and investment products have characteristics similar to those of collective investment schemes, not normally the concern of banking supervisors or regulators, constitutes a further regulatory challenge.
3. THE ISLAMIC FINANCIAL SERVICES BOARD
The Islamic Financial Services Board (IFSB) was launched in 2002 by a consortium of central banks and the Islamic Development Bank (and with the support of the IMF) with the mandate to provide prudential standards and guidelines for international application by banking supervisors overseeing Islamic banks.
In December 2005, the IFSB issued two prudential standards for Islamic banks that are designed to help supervisors of such banks meet the challenge of implementing Basel II, one on capital adequacy and one setting out guiding principles of risk management. A third standard on corporate governance was issued in 2007.5 The mandate of the IFSB was extended in December 2005 to the domains of insurance and securities market supervisors and regulators.
The main challenge for the IFSB is to develop a framework that is common and applicable to all jurisdictions. However, unlike the Basel Committee, which can rely on regulatory frameworks and best practices developed by other leading regulators and banks as a background to its global framework, this process could not be readily applied by the IFSB. This is because the IFSB does not have the privilege of borrowing ideas from a large number of countries that have developed robust regulatory frameworks specifically for Islamic banks. Hence, the onus is on the IFSB to develop most of the thinking to set internationally accepted common prudential standards for Islamic financial institutions. This involves identifying the risks in the different types of Islamic finance and activities, understanding the substance as well as the form of the contracts that govern the transactions, dealing with issues that have not been addressed in other international standards, safeguarding the interests of other stakeholders who in principle share asset risks with the shareholders, and adapting Shari’ah rules that would be acceptable to the majority of its members.
In addition, whereas after the financial crises the Financial Stability Board has been given more powers to enhance the implementation of Basel III, the IFSB, according to its Articles of Agreement, can only recommend its standards to be adopted.
4. CONTENTS OF THIS BOOK
Since this book deals with a large range of regulatory issues arising from the application of Basel II and Basel III to Islamic banks, authors who have been chosen are specialists drawn from a variety of relevant backgrounds: banking and capital markets supervisors; the legal and accounting professions; banks and financial institutions; and academia. The book is organised into four main parts, reflecting different aspects of the regulatory challenge, and a concluding chapter, as outlined below.
Part One: The Nature of Risks in Islamic Banking
Part One consists of 12 chapters, this overview of the book being the first. In Chapter 2, Brandon Davies examines banking and the risk environment. He looks at the regulatory developments that have recently taken place following the financial crisis that started in 2007. The risk characteristics of Islamic products, and the complexities of some of these, such as the phenomenon of displaced commercial risk, are rigorously examined in Chapter 3 by Venkataraman Sundararajan. Chapter 4, by Sami Al-Suwailem, highlights the benefits that can in principle be derived from Islamic finance in light of the recent financial crisis, especially in enhancing global financial stability. The chapter points out how Islamic finance provides a framework for balancing the relationship between risk and returns, which, as Sami reminds us, requires careful and proper implementation to be practically relevant.
Chapter 5, written by the two editors of this book, Simon Archer and Rifaat Ahmed Abdel Karim, examines issues of capital structure and risk in Islamic banks and takaful insurance firms. Simon and Rifaat point out that the capital structures of both Islamic banks and takaful undertakings present complexities not found in the case of conventional financial institutions. With respect to the former, Archer and Karim show how capital structure and risk are linked, from a regulatory perspective, via risk weightings and capital requirements set out by the IFSB based on the Basel II and III Accords and the Standardised Approach to risk weighting. They highlight specific risks in contracts used by Islamic banks and the implications in these contracts for the capital requirements, and in some cases the capital structure, of these banks. With regard to takaful firms, Archer and Karim show how the regulatory capital of a takaful undertaking needs to meet the solvency requirements of the insurance operations, and how the takaful operator needs capital to cover its own business risks, especially the risk of its management fees being insufficient to cover its operating expenses and the “underwriting management risk” potentially arising from failure in its fiduciary duties in managing the underwriting of the Policyholders’ Risk Fund.
The next several chapters focus on specific types of risk facing Islamic banks. In Chapter 6, John Lee Hin Hock examines credit and market risks inherent in asset-side products. He shows how Islamic financing assets possess risk characteristics not found in conventional loans, including combinations of credit and market risks. In Chapter 7, Simon Archer and Abdullah Haron analyse consequential or operational risks. For Islamic banks, as they point out, operational risks include those that may arise from errors in drawing up contracts or in executing transactions that result in non-compliance with the Shari’ah, which may have serious financial consequences. Chapter 8, by Samir Safa, sheds light on information technology risk, a type of operational risk to which Islamic banks are particularly exposed. Samir claims that the lack of systems that genuinely comply with Shari’ah standards and principles (i.e., systems that are built with the primary purpose of supporting the Islamic finance operating model), seems to have forced the majority of the Islamic financial institutions to adopt conventional banking operational systems that were available in the market. This has greatly contributed, Samir argues, to amplifying the elements of information technology risk that Islamic banks face.
Chapter 9, by Yusuf Talal DeLorenzo and Michael J. T. McMillen, and Chapter 10, by Andrew White and Chen Mee King, deal with a complex and daunting set of risks arising from Shari’ah and legal compliance requirements and their interactions, which result inter alia in legal impediments to the development of Islamic securitisations. Chapter 9 also provides a historical outline, from a legal perspective, of the emergence of modern Islamic banking and finance.
In Chapter 11, Mohamad Akram Laldin addresses another type of operational risk, Shari’ah–non-compliance risk, which is unique to Islamic financial institutions (IFIs). Shari’ah must be the substance of, and provide guidance for, the day-to-day operations and activities of these institutions. The Shari’ah compliance of an Islamic financial institution, the author argues, is crucial to ensuring the confidence of IFI shareholders as well as that of the public in the authenticity of that institution, which in turn, will affect the profitability of the IFIs’ business in the future through its ability to attract and retain funds from the public. A serious lapse in Shari’ah compliance could lead to withdrawals of funds and other loss of business that could plunge the IFIs into crisis. For that reason, Shari’ah–non-compliance risk is arguably a higher priority category of risk for IFIs than other identified risks. In December 2009, the IFSB issued the Guiding Principles on Shari’ah Governance Systems, which delineates a system of internal control over Shari’ah compliance, comprising a continuous internal audit process and an annual review.
Finally, Peter Casey in Chapter 12 considers the implications of these risks in the wake of the financial crisis for a financial sector regulator. In particular, Peter examines the supervisor’s role in Shari’ah matters. He argues that in the case of a firm that claims to be Islamic, the regulator should focus on requiring that the IFI have a sound internal system to ensure Shari’ah compliance, on which the regulator may rely while avoiding the role (for which it is not equipped) of judging the Shari’ah compliance of the IFI. In such a system, the regulator may impose Shari’ah governance requirements on the firm. Implicit in this system is that the supervisor will apply an approach similar to those it would apply in other (nonreligious) control areas, with the aim of achieving compliance with religiously based requirements.
Part Two: Capital Adequacy
Part Two contains four chapters. Chapter 13, by John Board and Hatim El-Tahir, examines the need for bank capital in order to absorb the economic risks of banking. Their chapter touches on two inter-linked developments in capital regulation: first, the globalisation of financial regulation and the impact of the global regulatory framework proposed in Basel III, which aims at promoting a more resilient banking sector worldwide; second, the development and limitations of new forms of capital instruments (contingently convertible or subordinated) introduced by some major financial institutions, including notably systemically important financial institutions (SIFIs) on a global scale. Chapter 14, by editors Simon Archer and Rifaat Karim, highlights an important set of issues concerning the measurement of risk for capital adequacy purposes that results from the use by Islamic banks of profit-sharing and loss-bearing investment accounts in lieu of conventional bank deposit and savings products. In Chapter 15, Sandeep Srivastava and Anand Balasubramanian deal with the measurement of operational risk for capital adequacy purposes under Basel II and Basel III. With respect to Islamic banks, Sandeep and Anand point out that Islamic banks are subject to different types of operational risks, for example, risk of Shari’ah–non-compliance, fiduciary risk, and risks arising out of the complex documentation involved in Islamic products. However, Sandeep and Anand claim that these unique risks of Islamic banks do not necessarily mean that these banks require different methodologies for measuring operational risk. Finally, in Chapter 16, Richard Thomas examines liquidity risk, an issue that Basel III addresses in depth, in Islamic banks. He highlights the liquidity management challenges, which Islamic banks face in light of the shortage of adequate high quality Shari’ah-compliant financial instruments. This challenge has been further complicated by the Basel III requirement for the “high quality liquid assets” that banks should hold to manage their liquidity risk. Accordingly, Richard argues that the handicaps which Islamic banks face in managing liquidity risk should be addressed by national authorities (so as to provide Shari’ah-compliant substitutes for the conventional interbank markets and lender-of-last-resort facilities), as well as by the global regulators and notably the BCBS in terms of what may count as ”high quality liquid assets.”
