Ijlal Ahmed Alvi says standardisation will help Islamic financial market reach its full potential. (SUPPLIED)
Efforts to standardise global investment practices that conform to Shariah have made significant progress over the past years and more developments are expected soon as industry players recognise the need to move in a common direction, a watchdog official said.
Ijlal Ahmed Alvi, Chief Executive Officer of the International Islamic Financial Market (IIFM), admitted that the process of creating and finalising regulations had been rather slow to take off because of the in-depth consultation that standard-setting bodies need to have with various units including banks, regulators, Islamic scholars and legal experts.
But over the past four years the Bahrain-based IIFM, which is the worldwide agency responsible for standardising Islamic products and documentation, has managed to set three global frameworks that help regulate the industry’s capital and money market segment, Alvi said.
In 2008, IIFM launched the Murabaha inter-document standards or the Master Agreement for Treasury Placement that is used for over-the-counter commodity transactions. Murabaha is considered both interest-free and transparent as sellers openly declare to the buyers the cost and profit on the commodity being traded.
Coordinating closely with the International Swaps and Derivatives Association (Isda), the IIFM launched in 2010 the Tahawwut (Hedging) Master Agreement – a landmark framework that highlights the importance of hedging instruments in mitigating risks, especially considering the current economic climate.
And most recently, Isda and IIFM released a standard contract template for Islamic profit rate swaps (PRS), which works in the same way as interest rate swaps in conventional financial markets, except that it does not use interest rates as per Shariah laws.
“There has [undoubtedly] been progress over the years and from our side, there are also a few more standards coming up as we move forward. We are working on standards [for] Wakala, cross-currency swaps, sukuk and collaterised [debt obligations],” he said.
A sector that has been buoyant even despite the onslaught of recent market challenges, Islamic finance is expected to have global assets amounting to between $1.1 trillion and $1.3trn (Dh4trn and Dh4.8trn) by end-2012.
Industry observers, however, believe that stronger regulatory framework and clearer guidelines could see the industry’s wealth increasing further as banks and investment firms will be able to expand beyond their home markets.
Collaboration key to industry growth
In Islamic finance, no man is an island, according to Alvi as he acknowledged the fact that addressing standardisation issues involves the collaborative efforts among all standard-setting bodies.
“We coordinate with [global bodies] to ensure that we develop standards in a cohesive manner. For instance with regard to hedging, we coordinate with the IFSB [Islamic Financial Services Board] in terms of looking at the regulatory capital fee for banks and its impact [on the industry] because that is their area [of expertise]. Similarly, we work with AAOIFI [Accounting and Auditing Organization for Islamic Financial Institutions] on the accounting aspect of documentation products for the capital market,” he explained.
Working together also makes more sense as Islamic finance has dramatically grown and diversified its product offerings and services to become a significant sector in the global financial landscape, the IIFM CEO added.
Alvi believes that there is a massive room for innovation in Islamic finance because unlike its conventional counterpart, it has yet to develop its full potential.
“The development of innovation in conventional [finance], in my view is [now] limited because they have already gone through that phase, which the Islamic industry [has just started treading]. So over a period of time, [Islamic finance] will see more innovative solutions especially for risk mitigation and liquidity management. The industry will eventually be more interlinked with the global system [while at the same time staying] independent in many ways,” he said.
Implementation remains an issue
While it has made significant strides in less than a decade, Islamic finance is technically still in the early stages of addressing all the relevant regulatory aspects of the industry. However for standards that are already in existence, the sector faces a new challenge in as far as implementation is concerned, IIFM’s chief executive said.
“[We do not yet have] the standards for everything because we’ve just started [working on them]. But for the standards that we do have, implementation is an issue. It’s a challenge that banks, regulators and everyone in the industry have to play a role in order to [create] a clear direction [for Islamic finance],” he said.
The IIFM, Alvi noted, can only recommend to institutions and regulators to adopt standards. In practice, it does not impose any penalties for non-compliance to industry standards.
“[These standards] are voluntary. We cannot enforce them [because] we understand that the market wants flexibility. What we are doing [however] is for the betterment of the industry and we [hope] that the regulators, banks and users in general will adopt these standards because the benefits [of moving in a common direction] are far much greater than working in isolation,” he said.
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