International Shari'ah Research Academy for Islamic Finance (ISRA)

Habib Ahmad

The severity of the current financial crisis has shaken the foundations of the capitalist financial system and has led to the search for ideas and solutions. This paper identifies the failure of risk mitigation at different levels as the main cause of the crisis. While following the principles of Islamic finance would have prevented the occurrence of the crisis, the practice of Islamic finance of mimicking its conventional counterpart can make the industry vulnerable to similar crises. Lessons for the Islamic financial sector are drawn by suggesting ways in which risks can be mitigated at the levels of institutions, organisations and products. In doing so, some key risks arising in Islamic finance are identified and various ways in which the Islamic finance sector can be made stable and resilient are proposed.

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M. Kabir Hassan and Rasem N. Kayed

The most salient values of the Islamic financial system are fairness and socio-economic justice. The exuberance of Islam’s uncompromising commitment to the well-being of humankind goes beyond its caring for existing generations to ensuring a sustainable future for generations to come. This is evident by giving utmost priority to the environment and preserving earth’s valuable–yet limited–endowments and resources, and by limiting public borrowings to available resources hence freeing future generations from the burden of debt. The Islamic system of production and finance based on profit-and-loss sharing (PLS) is more efficient and equitable in distribution of wealth and income. Allocation of funds under risk sharing will be based on the viability and expected profitability of the proposed entrepreneurial undertakings rather than on the creditworthiness of competing entrepreneurs. Furthermore, risk sharing offers both entrepreneurs and investors incentives to be truly engaged in productive economic activities, wherein entrepreneurs will be encouraged by the prospect of seeing their ideas transformed into business entities, and financers will be obliged to assess the risk involved more cautiously, and effectively monitor the use of funds by the entrepreneurs. The appropriate implementation of such partnership contracts increases the likelihood of business success, injects more discipline into the financial market by reducing excessive lending, and ultimately will have positive implications for the socio-economic well-being of society at large.

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Rodney Wilson

For Islamic financial institutions to have credibility, formal procedures for Shari'ah governance are required; otherwise clients would have no assurance that the institution is upholding the principles of Islam in its financial dealings. This formal assurance can be provided by national law, as in the case of Iran, which enacted the Law on Interest-Free Banking of 1983, under which all banking operations had to be Shari'ah compliant. Malaysia passed an Islamic Banking Law the same year, but it created a dual system whereby licensed Islamic banks could compete alongside those operating conventionally. Unlike in Iran, however, Malaysia instigated a system for ongoing assurance by establishing Shari'ah Boards for the Central Bank and the Securities Commission with the power to deliver fatwa, and boards at the level of each Islamic bank to ensure that the financial products they offered are Shari'ah compliant and conform to the requirements of the centrally issued fatwa At the other extreme, the countries of the GCC have devolved all Shari'ah governance to the institutional level, although many Islamic banks recognise the rulings of the Shari'ah Board of the Bahrain-based Accounting and Auditing Organization for Islamic Financial Institutions (AAOIFI) and the Organization of the Islamic Conference (OIC) Fiqh Academy. This paper discusses the merits of centralised versus devolved Shari'ah governance and considers what competences and experience Shari'ah Board members should have. The Islamic Financial Services Board has recently issued guidelines on Shari'ah governance. These are evaluated, including the conditions for the appointment of Shari'ah Board members, their mandate, procedures for the conduct of meetings, and lines of accountability and reporting.

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Asyraf Wajdi Dusuki

The Islamic Foreign Exchange Swap (hereafter Islamic FX Swap) is a contract that is designed as a hedging mechanism to minimise market participants’ exposure to market currency exchange rates which are volatile and fluctuating. Although an Islamic FX Swap functions in almost the same way as its conventional counterpart, its structure must not contravene the principles of Shari'ah. In other words, an Islamic FX Swap structure should be free from any elements prohibited by Islam such as usury (riba), gambling (maysir) and excessive ambiguity (gharar). These prohibitions are mainly to promote justice and provide a level playing field in order to protect the interests of and circumvent harm to all parties involved in market transactions, which is in line with the objectives of Shari'ah (maqasid al-Shari'ah). This paper therefore aims to review the structure and mechanism of the Islamic FX Swap as currently offered by many Islamic financial institutions worldwide. Specifically, this paper highlights the Shari'ah parameters and guidelines in structuring an Islamic FX Swap. As will be evident in this paper, this instrument has its own advantages as a risk management tool which appeals to Islamic financial institutions as an instrument to hedge against currency exchange market rate volatility.{end-tooltip}

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Rafe Haneef

This paper traces the development of the sukuk market through Sukuk case studies. It discusses how Sukuk has evolved from an assetbacked structure, where Sukuk holders have ownership rights over the underlying asset, to an asset-based structure, where Sukuk holders rank pari passu with unsecured creditors. This paper subsequently highlights the emergence of the asset-light structure, where the requirement of having tangible assets seems to be rather minimal. It also discusses the Shari'ah concerns that arise in the asset-light structure.

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Edib Smolo

This research is a collaborative effort between ISRA and AIBIM in an endeavor to find a new pricing benchmark for Islamic finance instruments. This note summarizes the method that was adopted in conducting the research.

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Hakimah Yaacob

As there are increasing numbers of Islamic finance cases that are brought to court, it is timely to explore alternative dispute resolution mechanisms for Islamic finance. This note sums the objective and benefit of the research.

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Shabnam Mokhtar

AAOIFI pronouncement on the issue of purchase undertaking (wa`ad) as applied in Sukuk motivated the study. The research note summarizes the methodology and main findings of the project. Empirical evidence from the case studies support that purchase undertaking as it is currently priced provides assurance to the Sukuk holders of not only the principal but also the accrued but unpaid profit. The note wraps up the discussion with how the market is coping with the AAOIFI pronouncement.

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Dr. Sherin Kunhibava

Although highly controversial, Islamic derivatives have been created and offered in the Islamic space. The note highlights the objective and the approach of the research. It also offers some preliminary findings on the most common type of derivatives instrument used in Islamic finance.

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