Liquidity management is an enormous challenge for Islamic banks as they cannot hold conventional treasury bills or hold interest bearing deposits with central banks. Inter-bank Murabahah deposits were used as a substitute, but these are more expensive to set up and are subject to counterparty risk. The establishment of the International Islamic Liquidity Management Corporation is a welcome development, and hopefully it will promote and sponsor research into finding liquidity solutions which are acceptable from a Shariah perspective. A starting point is to establish criteria under which existing and future Islamic liquid instruments can be assessed from a Shariah perspective. Too many of the existing instruments are Islamic in name only, and lack substance. One possible question to be addressed is — does the liquid instrument involve risk sharing, and if so, what risks are being shared? A second question is — how far do liquidity requirements contribute to risk sharing between Islamic banks and depositors in a meaningful sense. There is also the issue of whether it is acceptable for conventional banks offering Islamic financial products to use their aggregate liquidity holdings to safeguard their Shariah compliant operations. Such practices are dubious and amount to unfair competition.
PROFESSOR RODNEY WILSON
Liquidity in the financial markets has a number of factors and is strongly related to the number of issues, variety in the maturity dates, issue size, pricing, and willingness of market participants to actively trade. To date, the main challenges in the market are associated with each of these. Issues are typically small compared to their conventional counterparts which results in certain types of investors shying away from them. Funds for example, generally use two types of limit when investing. They will never invest in more than a predetermined percentage in an issue, but also never invest less than a predetermined amount which, in case of sovereign wealth funds for example, can be a significant amount. Besides the size of the issue, most issues are relatively short dated with an average tenor of around five years and are generously priced compared to a similar risk profile for conventional issues. As a result, many investors will buy and subsequently hold their investment to maturity. Longer dated, benchmark size issues with competitive pricing will go a long way to enhancing liquidity in the market. In addition, there are currently only a limited number of issuers and expanding this range would be highly beneficial. DR NATALIE SCHOON Head of product research, Bank of London and the Middle East
I think we should also be looking at Shariah based hedging instruments as well as an International Islamic Commodity Exchange to facilitate liquidity.. DAUD VICARY ABDULLAH Managing director, DVA Consulting, Malaysia
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