Transcript Document

Approach and Initiative in Promoting Risk Sharing
in Islamic Finance
Dr. Muhamed Zulkhibri
Islamic Research and Training Institute
Islamic Development Bank
DISCLAIMERS: All findings, interpretations, and conclusions are solely of the authors’ opinion and do not necessarily represent the views of the Islamic
Development Bank and the institutions.
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Presentation outline
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Overview
2
Risk-Sharing in Islamic Finance
3
Public Policy: Promoting ‘Risk Sharing’
4
Moving Forward and Conclusions
2
Islamic Development Bank (IDB)
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Islamic Research and Training Institute (IRTI)
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RISK- SHARING IN ISLAMIC
FINANCE
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Risk-sharing ‘vital’ for Islamic finance
The main principles of Islamic finance are that of risksharing – taking on risks for possible rewards or losses and a
requirement for financial transactions to be backed by
assets. Thus, interest-bearing contracts are replaced by a
return-bearing contract, which often takes the form of
partnerships (risk-sharing)
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Risk profile of IFIs is not significantly different from
conventional banks in practice
U
n
i
q
u
e
s
Rate of
return
risk
Shari’ah
noncompliance
risk
Business Risk
10%
Credit Risk
23%
Liquidity Risk
15%
Displaced
Commercial
risk
Equity
Investment
risk
+
G
E
N
E
R
I
C
Credit
Risk
Market
Risk
Liquidity
Risk
Market Risk
25%
OpRisk
27%
Source: GARP (2008)
Operational
Risk
GOVERNANCE
Risk
Distribution of
risks of all
major Islamic
financial
products
Islamic
Bank
Risk
Profile
Systemic
Risk
In general, all risks faced by conventional banks are also relevant
to IFIs, but there are additional risks that are unique. The
measurement of these risks and the mitigation techniques
deployed are common. The issues: risk sharing vs risk shifting??
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Banking: share of ‘risk-sharing’ instruments remain low
100%
200
180
90%
160
80%
140
70%
120
60%
100
50%
80
40%
60
30%
40
20%
20
10%
0%
0
2005
2006
Mudharabah
2007
2008
Musyarakah
2009
2010
Murabahah
2011
Istishna
2012
Ijarah
2013
2014
(Sept)
Qardh
2005
2006
Mudharabah
2007
2008
Musyarakah
2009
2010
Murabahah
2011
Istishna
2012
2013
Ijarah
Qard
Largely being carried out through non-participatory contracts,
mark-up sale (Murabahah) and the lease-based (Ijarah)
structures, such contracts are similar to lending instruments
which expose the IFIs mostly to credit risk elements
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2014
(Sept)
8
Sukuk: the Murabaha and Ijarah structure are still the
preferred choice
Bai' Istijrar
Istithmar 1%
1%
Bai' Inah
4%
Salam
1%
Wakala
5%
Musharaka
7%
Ijarah
15%
Bai' Bithamin Ajil
2%
Others
5%
US$114
billion
issuance in
2014
Murabaha
59%
Source: IFS, Zawya, Bloomberg
By structure, Murabahah and Ijarah remain popular choices among issuers in 2014
with 59% and 15% respective shares for each structure in total Sukuk issuances.
Total Sukuk has been growing at CAGR of 33% for the past 10 years.
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Reasons for stagnation in ‘participatory’ contracts
contracts are inherently
vulnerable to agency problems
(agency conflict)
contract on the asset and
liability side of an IFIs are
different, as fund user and
fund owner
contracts require welldefined property rights
to function efficiently
RiskSharing
firms believe they can
reinvest their surpluses to
enhance growth
unfair treatment in taxation
is also considered to be a
major obstacle
under competitive
pressure, IFIs have to
offer relatively less risky
modes of financing
restrictive role of shareholders
(investors) in management and,
hence, the dichotomous financial
structure of contract
equity financing is not feasible for
funding short-term projects due to the
ensuing high degree of risks
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GOVERNMENT APPROACH TO
PROMOTE RISK-SHARING
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Public policy approaches in fostering ‘risk-sharing’ finance
Enhance the capacity of the
regulatory and supervisory
framework to evolve in greater
alignment with the
international regulatory and
the supervisory standards and
best practices
Public Policy Alternatives
Develop an effective and efficient
regulatory framework which
provides an enabling environment
to support the development of the
Islamic financial services industry
Market driven approach in
network and product
development, fair treatment
between IFIs and conventional
banks
Create effective and efficient
consumer protection and
complementing the need for
investor protection via
effective risk management
systems
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Ensure the need for
institutional soundness of the
Islamic financial institutions
and their enhanced ability to
assess risks in the real sector
Instill investor confidence
in the market, confidence on
the Shari’ah compliant process
and confidence that Islamic
products are truly Shari’ah
compliant via transparency and
disclosure requirements
Gradual and sustainable
development of infrastructure
and regulation, applying
Islamic universal values for
IFIs development initiatives
‘GOVT. DRIVEN’
‘MARKET DRIVEN’
vs. approach
approach
Adjust the legal, regulatory
and supervisory framework to
accord greater clarity to the
appropriate legal and
regulatory treatment
12
Provide certainty in laws, regulations, tax and legal
actions for the industry
Before
 The definition of “partnership”
includes all types of partnership
(only exception being a Hindu
joint family
TAX NEUTRALITY
(PARTNERSHIP)
X%
Y%
CAPITAL
Amendment to Section (2)
After
 Definition amended to exclude
“any association which is
established pursuant to a scheme
of financing in accordance with
the principles of Shari’ah”
Investment
Profit or
Loss
Provision for tax neutrality to Islamic financing structure based on
the concept of musharakah. No separate partnership tax return is
required to be submitted. In general, tax incentives and tax
neutrality have been provided and refined over years.
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Develop specific blue prints and strategy for the Islamic
financial industry
Finalize a five-year
roadmap (which includes
the establishment of a new
regulatory system)
Shifting trade related
financing contract towards
profit and loss sharing
contract
Bank Indonesia and the
Financial Services Authority
target Islamic banks to hold
at least 15% of market
share by 2023
Merge several existing
Islamic banks, the
conversion of an existing
conventional or creating a
new Islamic bank
Islamic banking assets at
$21.4 billion. Growth of
more than 24%. 11 fullfledged banks, 23 windows,
and 163 rural banks
Source: Bank Indonesia
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MOVING FORWARD AND
CONCLUSION
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Facilitative Legal
and Regulatory
Framework
Ensuring
Robust
Shari’ah
Governance
Framework
Legal, Regulation
and Shari’ah
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Promote
Human
Capital
Development
Product and
Market
Encourage
Innovative
Product and
Services
Tax Incentives
for
Investment
Activities
Institutional
Development
Facilitating
Dispute
Settlement
Institution
National Financial
Development
Cross Border and Global
Development
Many jurisdictions still lack of comprehensive
Islamic financial sector development
Creating a
conducive
environment
for business
Knowledge, Education
and Expert
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Need to ensure institutional soundness and markets
and regulatory clarity
Source: Ernst and Young (2012-13)
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Need to enhance the development of global Islamic
financial infrastructure institutions
Areas of Standards
Key Agency(s) in the International
Financial Architecture
International Accounting Standards Board
(IASB), International Federation of
Accountants (IFAC), Committee on Banking
Supervision (BCBS)
Financial Action Task Force (FATF)
Corresponding Agency(s)
in Islamic Finance
AAOIFI
International Federation of Accountants
(IFAC)
Basel Committee
OECD, Basel Committee, World Bank
AAOIFI
6. Data Dissemination
7. Fiscal Transparency
8. Insolvency and Creditor
Rights Systems
IMF
IMF
World Bank, United Nations Commission on
International Trade Law (UNCITRAL),
International Bar Association (IBA)
9. Insurance Regulation
International Association of Insurance
Supervisors (IAIS)
IMF
n.a
n.a
Not yet addressed but
especially critical for Islamic
financing as it is based on
risk sharing
Not yet addressed but within
the mandate of IFSB
n.a
1. Accounting
2. Anti-Money Laundering /
Combating the Financing of
Terrorism
3.Auditing
4. Banking
5. Corporate Governance
10. Monetary & Financial
Transparency Policies
11. Payments Systems
12. Securities Market Regulation
Committee on Payment and Settlements
Systems (CPSS)
International Organization of Securities
Commissions (IOSCO)
n.a
IFSB
AAOIFI and IFSB
n.a
Not yet addressed but within
the mandate of IFSB
Source: Khan (2005)
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Need to further develop wider use of ‘risk-sharing’
contract
Enhance consumer protection and education initiatives to deepen the
understanding and awareness of consumers on the associated risks
and rewards of risk sharing foundation/contract
Scale-up ability to assess risks in the real sector and develop robust
risk management capabilities to manage new risks peculiar to risk and
profit sharing contract
Adoption of strong governance, transparency and disclosure practices
within the IFIs to meet the due diligence requirements for determining
the viability of business and investment proposals
Spur the broader
representation of
participatory and
equity contracts
Promote in-depth applied research to develop more innovative
financial products using risk and profit sharing structures with the
corresponding development of risk management techniques
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Conclusions
Opportunities:



Challenges:



Future:



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Transformation of Islamic financial paradigm into working policies and enabling
institutions based on ‘risk-sharing’ is a long-term evolutionary process.
The current crisis served as a great opportunity to gradually move to profit and loss
sharing products i.e. promoting higher share of Musharakah and Mudarabah contracts.
Cross-country coordination, transparency and open dialogue between private and
public sectors will play a crucial role at country level and the OIC member states.
How would be the impact on the Islamic banking system if based on a complete shift
to risk-sharing contracts function?
When moving towards risk-sharing proposition, the practical challenges are
concerned with explaining what makes Islamic finance unique products?
What are the features and the advantages of the Islamic ‘risk-sharing’ based finance
(equity or profit and loss sharing contract) to overall economy?
Future of Islamic financing looks exceptionally promising with increasing global
demand and income in the Muslim countries.
There is a real need for constructive product innovation to lower the costs in Islamic
financing contracts and improving corporate governance as well as regulatory
environment.
Islamic banking should not be limited to structuring of transactions/contracts, but also
needs to improve the links between the real and financial sides of the economy.
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Contacts of the presenter
Contacts of IRTI
Website: www.irti.org
Dr. Muhamed Zulkhibri
Islamic Research and Training Institute
Tel : +996 02 646 6533
E-mail: [email protected]
Web: www.irti.org
Phone: +966 (0)
126466377
Fax: +966 (0)
126378927 ​ ​
P.O. BOX 9201 - Jeddah
21413
Kingdom of Saudi
Arabia​​
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THE STATE OF ISLAMIC ECONOMY
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Muslim countries are developing countries with large and
growing population
1400
1,296
1200
1,006
1000
800
600
439
400
386
322
243
200
44
58
5
11
0
Asia-Pacific
MENA
Estimated 2010
Sub-Sahara
Europe
America
Projected 2030
Source: PEW Research Forum (2011)
1.6 billion Muslims comprise more than one fifth of the world’s
population. By 2030, it expected to reach 2.2 billion, with the
growth rate of 1.6% annually. 57 Muslim countries represent
8.9% of the global GDP in 2012 or $6.4 trillion.
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$2 trillion of food and lifestyle sector expenditure and
$1.7 trillion in Islamic assets
Sector
Current Market
Market Potential
Halal Food
•
$1,292 billion
•
$2,536 billion
Islamic Finance*
•
$1,214 billion
•
$4,178 billion
Fashion
•
$266 billion
•
$484 billion
Travel
•
$140 billion
•
$238 billion
Media & Recreation
•
$185 billion
•
$301 billion
Pharma & Cosmetic
•
$118 billion
•
$176 billion
Note: *assets
Source: Thomson Reuters (2014/15)
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