the global financial crisis: can islamic finance help? - Institute of ...

NEWHORIZON Muharrum–Rabi Al Awwal 1430
IIBI LECTURES
November: The prevailing
international financial crisis
– can Islamic finance help?
The lecture, held on 10th November 2008,
was the first in the IIBI’s Ibn Khaldun lecture
series. Ibn Khaldun (1332–1406) presented
essential economics concepts, such as the
importance of trading and value of labour in
wealth generation and growth. He paved the
way for development of classical economics.
The lecture was delivered by Dr Umer Chapra,
senior research advisor at the Islamic Research
and Training Institute (IRTI) of the Islamic
Development Bank (IDB). He was working at
Saudi Arabian Monetary Agency (SAMA) as
senior economic adviser prior to his current role
at IRTI. He has made seminal contributions to
Islamic economics and finance over more than
three decades in the form of 15 books and
monographs and more than 100 papers and
has received numerous awards for his
contribution, including the prestigious King
Faysal International Award in Islamic studies.
He has also taught in the US at the Universities
of Wisconsin (Platteville) and Kentucky.
The lecture was chaired by Warren Edwardes,
CEO of Delphi Risk Management and a board
member of the IIBI.
After a brief introduction on the financial
crisis, Dr Chapra mentioned that in order to
minimise the frequency and severity of such
crisis in future, it is important to analyse the
primary causes of the crisis which appeared
to be the result of excessive and imprudent
lending practices. All this took place primarily
due to inadequate market discipline and
insufficient regulation and supervision.
There was lack of transparency in many
products on offer. Collateralised debt obligations
(CDOs) were offered to investors
which bundled prime with subprime debt,
paralysing the whole financial system.
Credit default swaps (CDSs) were offered to
many players who were not a party in any
investment in the first place and there was
no, or only a remote, link between the underlying
asset and such instruments offered
in the secondary market.
Dr Chapra then analysed the role that Islamic
finance would play to minimise such
crisis in future. As there is greater emphasis
on equity and profit-and-loss sharing (PLS)
in Islamic finance, this will make banks
more cautious and act responsibly in lending
operations. Debt in Islamic finance is
not created through direct lending and
borrowing but rather through the sale and
purchase of real goods and services; the
asset being sold or leased must be real and
not notional or imaginary; the seller must
own and possess the assets being sold or
November lecture
leased and the transaction must be a genuine
trade transaction with the full intention
of giving and taking delivery of the underlying
goods or services. The risk of default
associated with debt must be borne by the
lender. This will motivate the lender to exercise
greater care and self-restraint in lending
as the institution/person which is exposed to
the risk of suffering a loss is the best one to
also provide the market discipline.
Dr Chapra emphasised that Islamic
finance is still in its infancy and the share
of equity-based structures with PLS, such
as mudarabah and musharakah, is small as
compared to debt-based structures. Despite
some lean practices, Islamic financial institutions
have performed well – or at least the
impact of the financial crisis is minimal on
them due to the safeguards provided by the
adoption of Islamic economic principles.
The way forward would be the application
of these principles in both form as well as
November lecture
substance, and it will have an enormous
impact on prudent lending practices in
future.
There was a lively question and answer
session after Dr Chapra’s presentation; key
issues raised were about Islamic financial
institutions mimicking conventional structures,
why Islamic finance especially in the
US is not being taken up much more or
promoted positively, and the limitation of
Islamic finance products in serving the needs
of peoples of all faiths or no faith.
The full article based on Dr Chapra’s
presentation can be found on page 20
of this issue.
The mission of the IIBI is to
be a centre of excellence for
professional education, training,
research and related activities, to
build a wider knowledge base and
deeper understanding of the world
of finance promoting the Islamic
principles of equity, socio-economic
justice and inclusiveness. The
Institute holds regular lectures on
topical issues, delivered by the
industry experts. For information on
upcoming lectures and other
events, please visit the
IIBI’s website:
www.islamic-banking.com
www.newhorizon-islamicbanking.com
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