issue no. 163 - january–march 2007 / muharram–rabi al awwal 1428

COUNTRY FOCUS: BAHRAIN
NEWHORIZON January–March 2007
‘Our regulations are of the highest standards
of the best international practices,’ assures
Al-Sayed. ‘But at the same time they are
flexible.’ He explains: ‘We are in constant
ongoing consultation with the industry.
Central Bank does not introduce any local or
international regulations without consulting
the financial services industry first.’
This proved to be very topical when
introducing Basel II requirements (the
international agreement on the amount
of capital needed by a bank; a refined
version of Basel I). At the moment, Bahrain
is in full compliance with Basel I, with the
implementation work of Basel II in progress.
It is expected to come into effect in January
2008. ‘Both conventional and Islamic banks
have been involved in the process for the last
12 months,’ says Al-Sayed. Recently, the
Central Bank has sent out the consultation
papers on the introduction of Basel II to all
the banks in the country, and is now ‘waiting
for their comments’. And with the Central
Bank leading the way, the banks on the
ground are striving to meet all the necessary
Basel II requirements. Shamil Bank, for
example, is seeking help in this matter from
its auditor, PricewaterhouseCoopers, who,
according to Bukamal, ‘is working closely
with the risk managers on this issue’.
Both conventional and Islamic banks are
subject to the same supervisory regulations,
including those of the Basel requirements.
However, Islamic banking has ‘unique
characteristics’ that make it somewhat
problematical to be compliant with exactly
the same regulations when it comes to
Basel. Islamic transactions are dissimilar
to conventional ones. ‘And it’s not just the
transactions,’ states Al-Sayed, ‘it’s the whole
relationship between the customer and the
bank that is different.’ He gives an example
based on a mudarabah contract: ‘When a
customer brings money to a conventional
bank, he/she is generally guaranteed a
return. But in an Islamic bank when a
mudarib (manager) and a customer, who
is a fund provider, draw up a mudarabah
contract, there is no guarantee on return.
Central Bank does not introduce any local or international
regulations without consulting the financial services industry first.
Abdulrahman Abdulla Al-Sayed,
Central Bank of Bahrain
If the investment is successful, a bank
and a customer share the return; if not, a
customer bears losses. An Islamic bank is
not liable for the losses, except in the case
of misconduct or negligence.’ This aspect
changes an asset–liability mix which, in
its turn, impacts the capital adequacy
requirements. Therefore, ‘the capital
adequacy is treated differently in
Islamic banking’.
Central Bank,
Bahrain
In order to cater for these differences,
the Prudential Information and Regulatory
Framework (PIRI) was devised. The Islamic
Financial Services Board (IFSB) – of which
Bahrain is a member – has issued standards
in a number of areas, including capital
adequacy, corporate governance and asset
management. And there are two more
standards to come which will cover
Pillar II and Pillar III requirements (market
difference and supervisory review). ‘IFSB
used the fundamental principles of Basel II,
and modified them to be suitable for the
Islamic banking market’, says Al Sayed.
So, whilst the conventional banks operating
in Bahrain must fully comply with Basel II,
their Islamic counterparts must comply with
‘the combination of IFSB standards and
Basel II’. ‘This is not a deviation from Basel
requirements,’ emphasises Al-Sayed, ‘but
rather an enhancement and addition to
them to reflect the nature of the unique
characteristics of Islamic transactions
and the bank–customer relationship.’
Bahrain was the first country to introduce
the regulatory framework specifically for
Islamic banks in 2001. But even prior to
this, according to Al-Sayed, it was ‘the first
country in the world to request the Bahrainbased
Islamic banks to comply with AAOIFI
[Accounting and Auditing Organisation
for Islamic Financial Institutions]’. This
organisation was founded in 1990 in
Algiers, with its main purpose being ‘to
issue accounting and auditing standards’
and governance norms within the Islamic
finance sector. Al-Sayed thinks that
compliance with AAOIFI ‘gives the local
market more disclosure, makes the financial
statements more transparent and reflects the
actual transaction’. Bahrain’s example was
followed by Sudan, Jordan and Qatar, who
also adopted the standards for their
banking markets.
As a matter of fact, Bahrain has been the
pioneer in a number of Islamic-related
activities. The country’s government was
at the forefront in issuing sukuk through
the Central Bank. It was the first to release
Islamic securities, and to date it has issued
over $1 billion worth of ijara sukuk (Islamic
leasing bonds). This initiative has proved to
be successful and has resulted in other GCC
countries turning to Bahrain to manage their
sukuk programmes.
The Kingdom of Bahrain hosts a number
of supporting organisations for Islamic
financial institutions. In 2001, the General
Council for Islamic Banks and Financial
Institutions (GCIBFI) was founded in the
country. One of its major purposes is to
gather accurate information and data
on the Islamic finance industry.
A year later, the Liquidity Management
Centre (LMC) was established. This seeks
28 IIBI www.islamic-banking.com