Islamic finance: The next big thing

Islamic finance is maturing, according to experts, and could be on the cusp of becoming a mainstream option. But there are still issues to be ironed out.

At a recent meeting in Dubai, lawyers from several international firms talked about the legal issues surrounding Islamic finance. In spite of their reputation, involvement from lawyers signifies maturation of the market. More than 75 countries are involved in Islamic finance, and there are consulting firms built around advising companies and banks about Shariah-compliance.

“Where we are in Islamic finance today is where [foreign exchange] was in 1971. We are on the cusp, technology is the next phase,” the global head of Islamic finance for Thomson Reuters, Rushdi Siddiqui, says.

But while these developments give reasons to hope that Islamic financing will soon move from an alternative to a mainstream option, the market still faces critical challenges. Experts say a lack of consistent rulings on Shariah compliance, short supply of Shariah scholars, isolation from broader financial markets, and constraints on the time-frame of debt instruments are major challenges to the growth of Islamic finance.

“The problem with religious scholars is they don’t understand Islamic financing,” the executive vice president of corporate finance for Saudi’s giant industrial firm Sabic, Mutlaq Al Morished, says.

Finding people who are both Islamic scholars and have a deep understanding of financial tools and how they work is proving to be one of the most difficult problems to overcome, and often leads to the confusion over different instruments. “The availability of high-quality scholars is the biggest deficit,” the head of Islamic products at Barclays Capital and Barclays Wealth, Harris Irfan, says.And one of the biggest challenges for bankers interested in Islamic financing is the variation in what is considered Shariah-compliant. For instance, the sukuk issued by Sabic is ruled on by Shariah courts in Saudi Arabia, Al Morished says, which he notes “tend to be more conservative than our brothers in the GCC.”

Developing new products can be an arduous process. Scholars may make decisions without giving much explanation to the company attempting to issue a Shariah-compliant instrument. The Malaysian-based Islamic Financial Services Board is attempting to introduce some standardization. Currently the board is reviewing possible regulations on capital requirements.

“How big a crisis you have to be able to survive is the subject of huge debate,” the director of policy and Islamic finance at Dubai International Financial Center, Peter Casey, says. “We’re going to get new liquidity standards. The numbers may not be what some have predicted but we’re going to get them. And in many countries they will be applied just straight on to Islamic financial institutions.”

The countries with a serious concern for Islamic finance will probably want to see them adapted, and the Islamic Financial Services Board is already working on how those standards can be adapted with Islamic finance, says Casey.

A report from the International Institute of Finance in May says local debt markets need to be better developed, but Casey says that Shariah-compliant money markets need to be developed first.

- Trends Magazine

How Can Insurance Be Islamic?

In the world of Islamic economics and finance, conventional financial instruments such as credit cards, mortgages and insurance are generally considered impermissible.  Like Judaism and Christianity, Islam prohibits usury and financial interest.  Considering credit cards and mortgages depend on financial interest to remain viable for conventional banks, both are generally considered impermissible.

In an effort to provide Muslims with the convenience and flexibility of credit cards and mortgages, Islamic banks have developed shari’ah compliant financial products that eliminate interest.  Instead, these Islamized credit cards and mortgages incorporate a profit-and-loss approach, where the lender assumes ownership risk in the goods and services financed.

However, what of insurance?  Why does insurance need to be Islamized?  Conventional insurance serves a very important function in the global economy by mitigating risk.  Insurance policies effectively transfer risk from the insured to the insurer for a monetary amount.  In the event of an insurance claim event, the insured is guaranteed a monetary payment from the insurer to make the insured whole.

The unequivocal guarantee that an insurer provides is especially problematic for family insurance products such as life insurance.  Because a life insurance policy guarantees payment in the event of death, most Muslim jurists consider this a bet against God.  In Islam, only God knows when a person will die.  Any wager or hedge against this date is theologically insoluble.

In Islam, God is considered omniscient and omnipotent.  Therefore, God’s knowledge is perfect.  More specifically, what God knows to happen must happen.  If what God knows to happen does not happen, then God is either not omniscient or not omnipotent.  However, denouncing God’s omniscience or omnipotence is anathema to Islamic theology and doctrine.

Moreover, conventional insurance typically invests the policy premiums in a variety of financial instruments that include interest.  Therefore, most Muslim jurists consider insurance and more specifically life insurance impermissible.

Instead of conventional insurance products, Islamic insurers offer mutual protection through a takaful fund.  The word “takaful” is a derivative of “kafalah” which means “surety,” “guarantee,” or “mutual care.”

Indeed, this type of a mutual care has been in use throughout Islamic history.  In addition to the myriad proscriptions mentioned above, Islam also demands that each Muslim care for members of the community.  The Qur’an says that one should “spend of your substance, out of love for Him, for your kin, for orphans, for the needy, for the wayfarer, for those who ask, and for the ransom of slaves” (2:177).

Accordingly, takaful embodies the spirit of social solidarity and mutual care.  Instead of insurance policy premiums, a voluntary donation is made to a communal takaful fund.  Using the law of large numbers, the takaful fund operator uses statistical data and mathematical calculations–similar to conventional actuarial sciences–to ensure that the fund is sufficiently capitalized to fund any insurance claim events.

All takaful funds are invested in shari’ah compliant investments that are free from interest and impermissible investments (e.g., equities engaged in the manufacture, distribution, or sale of porcine food products, alcoholic beverages, pornography, gambling, etc.).

Unlike a conventional insurance policy, because the tabarru payment is a donation, policy “premiums” do not accumulate any cash value for the insured.  According to proponents of takaful, this prevents an insured party from profiting from an insurance policy.

While critics of takaful–and Islamic banking and finance in general–may argue that takaful is simply another example of an Islamic financial product being superficially Islamized, takaful does appear to promote social solidarity and mutual care.

 Source : thexaminar