OIC Central Bankers to Review Impact of Euro Zone Debt Crisis

The governors of central banks and monetary authorities of the Organization of Islamic Cooperation (OIC) member countries are convening recently for a meeting hosted by Bank Negara Malaysia, the central bank, at its plush new conference centre in Sasana Kijang in Kuala Lumpur.

Officially the theme of the meeting is “Central Banking and Financial Sector Development”. But in the wake of the global financial crisis, the euro zone sovereign debt crisis and the fallout of the so-called “Arab Spring”, it is inevitable that discussions will concentrate on how these events are impacting on OIC member countries, and on some alternative solutions to coping or mitigating some of the impact of these developments.

This meeting comes in the wake of the G20 meeting held in Cannes two weeks ago, which many commentators are now dismissing the grouping as an increasing irrelevance because of the lack of leadership and inertia in tackling the dire issues faced by the global economy and the financial markets of the euro zone.

One alternative solution that inevitably will be discussed is the potential role of Islamic finance in contributing to economic growth and financial stability. Much has been written and claimed about the Islamic financial system being in a better position to cope with the vagaries and excesses of the global financial crisis, because of the proscription of Islam on interest-based speculation and derivatives.

But whether the Muslim countries and the Islamic banking industry are rising or even capable of rising to the challenge remain a moot point. Whether it is at the annual meetings of the World Bank/International Monetary Fund or the G20 meeting, whose members include three important Muslim countries in Saudi Arabia,

Turkey and Indonesia, any talk of a potential role for Islamic finance, especially raising finance through a proven and increasingly popular off balance sheet mechanism such as sukuk issuance, is conspicuously absent. Muslim countries, it appears are either embarrassed by the attention Islamic finance is receiving or are living in denial.

Malaysia remains the outstanding exception as underlined by the host of provisions – totaling 8 altogether – announced in the 2012 national budget by Malaysian Finance Minister Mohd Najib Abdul Razak, who is also the prime minister, to the Dewan Rakyat (National Assembly) in October 2011.

They included a tax deduction on expenses incurred for Sukuk Wakala for a 3-year period commencing from the year of assessment 2012; extending the income tax exemption given for non-ringgit sukuk issuance and transactions for another 3 years until the year of assessment 2014; the establishment by I-VCAP, a subsidiary of Value Cap Sdn. Bhd., of a RM200 million seed fund to further promote the development of Shariah-compliant exchange traded funds (ETF) products;

the proposed introduction of a concessionary tax rate of 10 percent on dividends of non-corporate institutional and individual investors which was due to expire on Dec. 31, will be extended for a period of 5 years commencing Jan. 1, 2012 until December 2016 for the further development of Real Estate Investment Trusts (REITs) industry, including Islamic REITs; the establishment of a Shariah-compliant SME Financing Fund totaling RM2 billion to be managed by selected Islamic banks in 2012; and the establishment of a RM500 million Shariah-compliant Commercialization Innovation Fund with an attractive profit margin to enable SMEs to commercialize research products.

No other economy has embraced the Islamic finance industry in its national budget, its financial sector master plan, its capital market master plan and its national development plans to the same extent as Malaysia.

In a recent report, international credit rating agency, Standard & Poor’s Ratings Services, stressed that the growing and deepening market for Islamic financing especially in Asia could be an ideal conduit to finance the regions’ burgeoning infrastructure sector. This especially in the current volatile state of the world’s lending financial markets which has made the task of funding infrastructure developments, whether power stations to railways, even harder.

“This issue,” stressed the report, “is particularly pertinent for Asia, which is struggling to keep up with the escalating infrastructure needs of the region’s surging population amid solid economic growth. With the outlook for global lending markets still uncertain, part of the solution for Asia may lie in finding alternatives to conventional financing. Islamic finance is one such alternative.”

The authors of the report also believe that infrastructure projects are a logical fit for Islamic finance, which is governed by Shariah principles and predicated on asset-backing and shared business risk. Indeed, “the asset-backing nature of Islamic financing may provide a better funding match for infrastructure projects than traditional lenders, such as banks.

What’s more, sukuk investors typically have an appetite for longer tenors than bank loans, and prefer stable and predictable cash flow — traits that are typically associated with infrastructure projects,” maintained the authors.

For those who believe that the conventional financial markets especially the debt markets are discredited because of the greed and wanton speculation and who would like to see a shift to a more equity-based risk-sharing alternative which is benchmarked to the real economy growth rather than the prevailing base rate, Islamic finance offers a real alternative.

However they rue the lack of political will and leadership of Muslim countries to take Islamic finance into the mainstream platforms of world economic and financial discourse.

If the World Bank Managing Director Mulyani Indrawati publicly stated at the annual meeting of the Islamic Financial Services Board (IFSB) in Luxembourg in May that Islamic finance is now priority for the bank and that it will feature in the banks annual development financing program, what is stopping Muslim countries themselves from adopting a similar declaration?

The OIC bank governors’ meeting in Kuala Lumpur this week needs to recognize that the Muslim world at last has something concrete and proven to offer the world. Islamic finance is not a mere religious phenomenon. It is an alternative system of financial management and intermediation which is largely demand driven.

And those who are driving this demand are the young, the very focus of the so-called Arab Spring movement. Islamic banking, according to Muhammed Al-Jasser, governor of the Saudi Arabian Monetary Agency (SAMA), for instance, accounts for about 38 percent of the banking sector assets in Saudi Arabia, which of course is also the largest Islamic banking market in the world in terms of capital and assets under management. In the UAE and Brunei it is more or less the same.

In Malaysia market share has now surpassed 22 percent of the total banking sector.These are the statistics of real demand and aspirations, which cannot be ignored for too long in the future.

Central bankers can argue about Basel III provisions; better capital adequacy and risk management; stress testing etc. But the reality is that the Islamic finance system will not develop systemically if the proper structures are not in place throughout the countries in which it is practiced. This calls for at the very basic level a legal and regulatory framework backed by the enabling legislation to facilitate Islamic banking and finance, which not surprisingly is still bereft in many Muslim countries.

At the same time, those advance Islamic banking markets such as Malaysia should show greater leadership in innovating new areas of banking such as limited purpose banking; venture capital; project sukuk and securititzation of the multi-billion dollar Waqf sector, not only to generate value-added real economy development and wealth but also to create employment and to monetize idle or dormant assets.


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