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Islamic financing needs new growth paradigms to avoid status quo

Manama, The economic slowdown resulting from lower oil prices since 2015 provides an opportune time to consolidate and plug any gaps that may have been overlooked during the rapid growth period and to reflect on what is needed next to usher in a new era of fast-paced growth, the Governor of the Central Bank of Bahrain, has said.

"Islamic finance has followed a fragmented growth pattern since the start with various countries in the Middle East and South East Asia taking the lead," Rasheed Al Maraj said on Tuesday.

He was addressing the 1,300 participants attending the two-day World Islamic Banking Conference 2018 that opened on Tuesday.

"These country specific models have achieved reasonable success as measured by the share of Islamic finance in the respective markets. I would like to argue, however, that the reduced pace of growth suggests that we cannot hope for a new growth paradigm while maintaining the status quo. If the developments in the conventional finance industry are any indicator, it is reasonable to expect that regional and global cooperation can open new doors for the Islamic finance sector."

The magic of such global cooperation works when some pre-requisites are in place, namely, leadership, standardization, good governance and risk management and compliance, he said.

"A leadership that does not possess a global mindset cannot possibly establish and manage a global Islamic financial institution. A multi-national institution has to compete at the global level for human resources, finances and competitive advantage. Its leadership must provide a global vision and demonstrate its own capability to compete with the best-in-class worldwide.

"This is the only way to attract and retain a globally competitive workforce. The leadership of Islamic financial institutions has to show exceptional professional competence and integrity to convince their stakeholders that they deserve to lead the industry to the next level of growth. I can only hope that we have the courage and the honesty to ask ourselves the hard questions, play to our strengths and address our shortcomings."

Standardization is another important area to enable global growth. Shari'ah standards, accounting standards, prudential standards and best market practices, all need to be developed for the Islamic finance industry with the global audience in mind, he said.

"The Accounting and Auditing Organization for Islamic Financial Institutions (AAOIFI) has been doing excellent work on Shari'ah and accounting standards while Islamic Financial Services Board (IFSB) has developed risk management and capital adequacy standards which conform to global best practices.

International Islamic Financial Market (IIFM) has made valuable contribution towards standardizing money and capital market contracts as well as financing contracts. The recent endorsement by the IMF of the IFSB's proposed core principles for Islamic finance regulation and their assessment methodology for financial sector assessments is a great news for the global acceptance of Islamic finance. What we need now is to convince regulators and market players to adopt AAOIFI, IFSB and IIFM standards in their respective markets."

UnRestricted Investment Accounts (URIA) is something specific to Islamic banks. They are not deposits because neither the principal nor the profit is guaranteed by the bank.

"There are a dozen issues that we need to resolve with respect to URIA. Should it be on balance sheet or off? Is it liability or quasi-equity? If it is risk absorbing then shouldn't an alpha factor be introduced to reflect this in capital adequacy calculation? Should this alpha be 30 or 50 or 100 per cent ? Who is looking after the interests of URIA holders? What governance mechanism should be put in place to ensure fair treatment to URIA holders? How pool management and profit distribution should be done? Should a bank set aside special reserves to smoothen returns or make up for the potential loss of principal to URIA holders?

"You will appreciate that these are really profound questions which need to be answered to ensure fair and equitable treatment of a very important stakeholder in Islamic finance. Yet the reality is that we have different models working in different countries with no consensus or industry best practice."

The importance of good governance, risk management and compliance practices is again a mindset issue as most people think of compliance as merely a cost centre, he added.

"They tend to forget the lesson learned from the global financial crisis. During the last decade the top ten global banks have paid over $250 billion in fines and penalties and have had to fire hundreds of thousands of their employees to reduce costs and sustain themselves. This is the price for laxity in compliance, lack of appropriate controls and poor risk management. A far-sighted leader should never opt for a quick buck while ignoring the long-term consequences. If there is one lesson that Islamic banks can learn from their conventional peers it is this."

Source: Bahrain News Agency

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