It is undeniable that Shariah scholars are the backbone behind the proliferation of Islamic finance and are responsible for ensuring the end-to-end Shariah compliance of Islamic financial institutions ranging from product structuring to product offerings and marketing. Nonetheless, scholars would not be able to perform their fullest functions without supportive infrastructures. In this article, DR MARJAN MUHAMMAD puts Shariah governance under scrutiny.
Islamic finance is one of the fastest-growing segments in the global financial industry with an estimated market size ranging from US$1.66 trillion to US$2.1 trillion in 2015. This, therefore, has necessitated the establishment of Shariah governance frameworks (SGFs) to warrant transparency and efficiency of Islamic financial institutions, and hence promote confidence to the general public and the financial markets on the credibility of Islamic financial operations.
Recent developments in SGFs
The year 2015 has witnessed more awareness among industry players on the significance of Shariah governance to ensure Shariah compliance remains as a focal pillar to cater to the expansion of the Islamic finance industry. One aspect of ensuring Shariah compliance is via the issuance of Shariah standards as guidance for the industry.
The central bank of Malaysia, Bank Negara Malaysia (BNM) for instance, through a contract-based framework promulgated in the Islamic Financial Services Act (IFSA) 2013, has issued Shariah standards together with the operational standards on Shariah matters in one single document. These standards, according to the IFSB’s Stability Report 2015, are meant to outline the Shariah principles adopted by Islamic financial institutions and to support the effective application of Shariah contracts in the offering of Islamic financial products and services.
This effort signifies another milestone in providing a comprehensive regulatory framework that promotes legal and operational certainty in Islamic finance, and facilitates the future direction of the Islamic banking business for the shift from mere financial intermediation to real sector participation. As at November 2015, BNM has issued three standards, namely (i) the Shariah standard on Murabahah, (ii) the Shariah standard on Mudarabah, and (iii) the Shariah standard on Musharakah. Meanwhile, the remaining Shariah standards on Ijarah, Istisnah, Tawarruq, Wadiah, Hibah, Wakalah, Kafalah, Qard and Wa’d are being finalized. In addition, BNM has recently issued another two exposure drafts of the Shariah standard on Sarf and Rahn.
At the international level, AAOIFI has issued in 2015 six new Shariah standards on Wa’d (promise) and Muwa’adah (bilateral promise); Musaqat (irrigation partnership); options of properness; options of reflection/consideration; Urbun (earnest money); and the conditional termination of contracts.
This therefore, according to the Islamic Commercial Law Report (ICLR) 2016 published by ISRA and Thomson Reuters, has contributed to a total number of 93 standards issued by AAOIFI thus far (ie 54 Shariah standards, 25 accounting standards, five auditing standards, seven governance standards and two ethics codes).
Apart from Shariah standards issuance, the number of countries which have adopted a centralized approach of Shariah governance has increased. According to the Shariah Governance sub-indicator of the Islamic Finance Development Indicator (IFDI) 2015 produced by Thomson Reuters, as of to date there are at least nine countries including Bahrain, Bangladesh, Brunei, Indonesia, Malaysia, Oman, Pakistan, the UAE and Sudan which have implemented a centralized Shariah committee to reduce conflict of interests and divergent of opinions.
In a similar vein, Morocco which gazetted its new law on participative banks in November 2014, has established one Shariah committee at the national level to only promote the standardization of Fatwas. Nonetheless, this ‘one-tier centralized model’ as observed by Dr Younes Soualhi in ISRA-Thomson Reuters ICLR 2016 remains unclear in terms of its practicality as opposed to the ‘two-tier centralized model’ which has both a Shariah advisory committee at the national level and a Shariah committee at the individual Islamic financial institution level practised by other countries.
Future outlook of Shariah governance across jurisdictions
Considering the importance of Shariah governance in uplifting the Islamic finance ecosystem to the next level, there is a dire need for more comprehensive frameworks regulating Shariah compliance of Islamic financial institutions. The regulation should look into broader dimensions including risk management, market conducts, accounting treatment, and internal and external audits.
At the jurisdictional level, the adoption of the ‘two-tier centralized model’ might be a viable solution to avoid conflict of interests and hence promote more transparency. In addition, Shariah scholars need to work hand-in-hand with practitioners and to acquire a wider set of skills and competencies to enable them to discharge their roles and duties effectively. Qualified Shariah scholars who possess both Shariah and practical knowledge are crucial for the growth of the Islamic finance industry.
Meanwhile, at the global level, some have suggested to establish an international SGF overseeing the whole Islamic financial markets. Yet, this idea requires further scrutiny, especially in terms of its implementation, as different jurisdictions have their own legal systems which may not able to cater to such unification. The year 2016 should start looking into this idea seriously in order to promote more harmonization, if not standardization, among countries offering Islamic financial services.
Dr Marjan Muhammad is the director of research at the Research Affairs Department of the International Shariah Research Academy for Islamic Finance (ISRA). She can be contacted at [email protected].