By Edib Smolo and Mirnes Smajic.
Many proponents of Islamic fi nance advocate that now is the opportunity for Islamic fi nance to come out from the shadows of conventional finance and offer to investors fi nancial products which are in line with Shariah. Despite the enormous growth of the industry in the recent times, the industry still faces several issues and problems of technical and organizational nature which may hinder its development and future growth. One of those challenges is the lack of unifi ed Shariah guidelines for the industry which gives rise to legal risk.
Benefits of standardization
Some argue that we do not need standardization saying that differences of opinion refl ect the beauty of Islam and, as such, they are not threats to the Islamic fi nancial industry. They say that the Islamic finance industry has developed tremendously over the last couple of years with over US$1 trillion in assets. This is a fact that cannot be disputed. However, the question is: What would have happened and how big would it be if we had standardized it?
Furthermore, how long can we afford not to standardize it before competitiveness and reputation of the industry suffer? Take for example the instance when Japan Bank for International Cooperation wanted to issue its fi rst Sukuk in May 2008. Citibank of Dubai and CIMB of Malaysia were entrusted with the task of arranging the deal.
However, the Shariah boards of the two banks disagreed on whether the Sukuk was Shariah compliant and, thus, the transaction needed to be restructured from its initial Murabahah structure to Musharakah structure. This added to the costs of the transaction, lengthened the time period initially prescribed for the transaction, and of course, contributed to the frustration of the issuer. The detriments of such a situation for the entire Islamic fi nance industry are more than obvious and can deter potential capital market players from trying out Islamic finance.
Standardization is a must for everyone’s sake.
Shariah opinions on many fi nancial transactions are not subject to unified guidelines in all Muslim countries. Hence, Islamic fi nancial institutions were left with the task of searching and selecting, on their own, Shariah experts who would make up the Shariah board of a particular bank. Expectedly, Shariah boards of different financial institutions have different perspectives and approaches to assessing Shariah compliance of different transactions and products.
Consequently, many different opinions and ruling are floating in the air. It is no accident then that the term “fatwa shopping” surfaced - referring to a situation where a bank looks for a scholar who will endorse a particular transaction which was previously deemed non-Shariah compliant by another scholar. That is why standardization is an essential step forward for the industry.
Standardization of Shariah rulings and having uniform guidelines would make life easier for Islamic fi nancial institutions because it would lead to more effi cient capital market and Islamic money market. Under a uniform guidelines regime, Islamic fi nancial institutions would find it easier to navigate between the money market instruments for example and at the same time, the effi ciency of interbank money market would also improve. Currently, Malaysia is the only country which has a functioning Islamic money market. It would also provide a platform for establishing a global Islamic money market.
Standardization would further eradicate inherent barriers associated with different Shariah practices. Some products, for example BBA, while being acceptable in Malaysia, it is not acceptable in the Middle East region and elsewhere. We believe that the standardization of practices and rulings would also help these practices and rulings to transcend borders more easily.
Unifying Shariah rulings and coming up with a certain guidelines forthe industry will also contribute to higher investor confi dence because it will provide more certainty when it comes to investing in (sometimes) complex Islamic fi nancial products.
Transparency will improve as investors will know upfront what the rules and Shariah requirements of a particular investment are, and hence they will be more informed and will be able chose more efficiently.
Increased certainty and transparency may encourage reluctant investors to venture into investing in Islamic fi nancial products. Uniform Shariah code would drastically reduce legal risk in Islamic fi nance. Islamic institutions and investors alike would be protected from the situations like AAOIFI’s pronouncement in 2008 which deemed the majority of Sukuk issued before 2008 as Shariah non-compliant.
In brief, what we need for the future prosperity of the Islamic finance industry is to come up with unified, standardized and comprehensive guidelines. These guidelines will serve as reference for the Shariah advisory board of each and every bank. Furthermore, these guidelines would take into consideration all the restrictions and jurisdictions. The Shariah advisory board shall make sure that the core principles are upheld while, at the same time, they will have enough room for accommodating specifi c requirements demanded by each and every region or jurisdiction.
Common misconceptions about standardization
The issue of standardization is unjustly marginalized and misunderstood within realms of the IFI. The following are certain misconceptions about the standardization:
1. “Standardization limits Shariah.”
Whenever the issue of standardization is raised at conferences or other forums, many participants (mostly Shariah scholars) raise their voices against it. For example, during the International Shariah Scholars Forum, a forum held in conjunction with the Global Islamic Finance Forum 2010 and organized by International Shari’ah Research Academy for Islamic Finance (ISRA) and the Islamic Research and Training Institute (IRTI). Abdulbari Mashal, general manager of Raqaba for Islamic Financial Consultations, said that there is a need for unifi cation of standards. Shariah scholars present at the forum rejected the idea.
Their main argument is that Shariah was never standardized and that having a difference of opinions is something desirable, as mentioned above. Opponents of the standardization say that this process would restrict Shariah and thus slow down future development and innovations. Furthermore, they argued that dynamics of the fi nancial system require for the dynamic approach to the rising Shariah issues within the industry. Obviously, they take this proposal literally and consider it as a close-ended process, that is, once settled it cannot be changed or amended.
However, proponents of the standardization (including the authors) consider the standardization as “work in progress.” This means that we would standardize already existing products and issues that are commonly agreed upon. At the same time, new issues will be raised and discussed. As new issues are settled, new standards and guidelines will be issued and if needed, the old one will be amended accordingly. Hence, there will be enough room for future development and innovation within the industry.
2. “If we have a standardization of Shariah rulings, we do not need Shariah boards.”
Another misconception about the call for standardization is that there will be no need for Shariah advisory boards (SAB)within Islamic fi nancial institutions (IFIs). While having unified,standardized guidelines for IFI may reduce dependence on SABs, the two are not mutually exclusive. These guidelines that would take into consideration all the restrictions and jurisdictions will simply serve as reference (or starting point) for SABs of each and every fi nancial institution. It would help SAB when addressing already existing products and issues while at the same time, they will have enough room for accommodating specifi c requirements demanded by each and every region or jurisdiction. Hence, instead of reinventing the wheel, they can focus on new arising issues, thus contributing to the future development of the industry.