Understanding Islamic Finance - Doha Academy of Tertiary Studies

The Way Forward 469depositors. It has been observed that to compete with conventional financial institutions, someIFIs have been giving fixed rates of return, either by paying from the shareholders’ part or byallocating more to the shareholders in the case of higher profits. Although profit equalizationreserves can be maintained with sufficient disclosure and transparency, apportioning profitsjust to compete in the market and without taking the partners into confidence is against thespirit of the Sharī´ah. An effective enforcement of the code of conduct would enhance theintegrity of the system.Structure of Financial InstitutionsWhat the structure of Islamic banks should be is another issue. Should they become tradersor business entities? In most countries, they have to operate analogously to the conventionalbanks, within the national banking systems in general and in respect of international financialand business transactions in particular. Although the philosophy, process and the proceduresof Islamic banks differ, they do serve as financial intermediaries and as a link in the chainof the banking system. Like conventional banks, they mobilize savings and undertake thefinancing of economic and social development activities for the benefit of the economieswhere they operate. While fulfilling this objective, which is indisputably accepted by allIslamic scholars, they have to undertake real sector business instead of dealing in money onthe basis of interest. This implies that Islamic banks’ procedures should be different fromthose of the conventional banks, in the sense that the latter deal in money while Islamicbanks have to deal in goods. Islamic banks’ modus operandi is also different from that of thebusiness community in general, because they do not normally hold inventories of the goodsfor selling or leasing. They rather purchase the goods/assets on requisition of their clientsfor letting or onward sale, and there is no Sharī´ah objection in this regard. Accordingly, theMurabaha Standard issued by the AAOIFI has been captioned the Standard for Murabahato Purchase Orderer.Concern has been shown by a number of writers that IFIs concentrate on short-termcommercial financing, like the conventional banks. An active developmental role is expectedof them that actually provides the rationale for their existence. The concern is genuine, butto combat it would require some structural changes and amendments in legal and regulatoryframeworks, which are crucial for ensuring Sharī´ah compliance and for better performanceof the IFIs.Accordingly, banking business should not be taken as a sacred cow to preclude any changein its tools, processes or operations. Survival in the world of finance, which is undergoingrapid transformation, is possible only through adjustments and transformation, needed fromtime to time due to changing ground realities. In the global competitive environment, IFIsmust diversify their operations to offer broader portfolio services, both to savers/investorsand fund users. By providing only short-term commercial loans, they cannot compete withgiant conventional banks. They should increasingly provide project and infrastructure financingthrough Shirkah- and Ijarah-based modes. They may also provide corporate advisoryservices like issuance of Sharī´ah-compliant Sukuk/certificates and balance sheet and corporaterestructuring, etc. through syndication arrangements. IFIs also have to undertake all sortsof business – from retail banking to fund management and corporate services – by effectingsome structural changes. This would require close coordination between central banks andSECs in respective countries, enabling the IFIs to adopt suitable models and structures forbusiness, keeping in mind the demands of the market and the Sharī´ah principles.