Jaseem noted that the International Monetary Fund (IMF) had recently approved the preparation of proposals for operationalising policy support to Islamic finance jurisdictions.
The Executive Board of the IMF held its first formal discussion on Islamic banking (IB) on February 3, and adopted a set of proposals on the role that the fund should play in this area. These proposals, and the case for adopting them, are contained in the staff paper Ensuring Financial Stability in Countries with Islamic Banking and the accompanying country case studies paper.
According to the IMF, IB is present in more than 60 countries and has become systemically important in 14 jurisdictions. "IB involves operations, balance sheet structures, and risks that differ from their conventional banking counterparts. Accordingly, there is a need for putting in place an environment that promotes IB financial stability and sound development, including legal, prudential, financial safety nets, anti-money laundering and countering the financing of terrorism (AML/CFT), and liquidity management frameworks," the IMF said in a statement.
As the number and complexity of IB-related issues arising during IMF country surveillance and the demand for policy advice and capacity development in this area have increased, the IMF's Directors have called for stronger efforts to establish a policy framework and environment that promote financial stability and sound development of Islamic banking, particularly for countries in which Islamic banking has become systemically important.
IMF Directors expressed support for staff's proposed approaches to developing and providing policy advice on Islamic banking-related issues in the context of Fund surveillance, programme design, and capacity development activities. They also called for staff's continued support to the work of the relevant international standard setters and other international bodies to help address current gaps in the international regulatory framework for Islamic banking.
Directors saw merit in considering a proposal to formally recognise the Core Principles for Islamic Finance Regulation for Banking, prepared by the IFSB as a standard under the Fund/Bank Standards and Codes Initiative. Directors also called for full implementation and consistent application of the standards, and for strengthening supervisory capacity with respect to Islamic banking.
Directors emphasised the importance of having in place robust Islamic banking-specific resolution regimes and other financial safety nets for countries in which Islamic banking operates. Noting the slow progress achieved in these areas, they underscored the importance of additional work in collaboration with relevant international bodies on the design of legal regimes and institutional arrangements for effective Islamic banking resolution, deposit insurance schemes and AML/CFT, as well as adapting the conventional lender-of-last-resort framework to cover Islamic banking.
Directors agreed that the availability of high-quality liquid assets for Islamic banking is important for effective liquidity management and financial stability, and for the sustainable development of the Islamic banking industry. In this context, they called for increased efforts to deepen the government sukuk markets. Directors also noted the importance of having in place relevant central banking liquidity facilities and instruments.
Directors agreed that the emergence in recent years of hybrid financial products in Islamic banking, which replicate the relevant aspects of conventional finance, may have brought some benefits, but also raise financial stability concerns. Such concerns include the emergence of new complex risks, the applicability of existing prudential regimes, governance and consumer protection concerns, and reputational risk. Directors encouraged additional work, by staff and other relevant international bodies and standard setters, to better understand the nature of these activities and how they can be effectively regulated.
"A key aspect of the proposals is that they will recommend the recognition of the IFSB’s Core Principles for Islamic Finance Regulation of the Banking Sector (IFSB-17), under the IMF/WB Standards and Codes Review, Jaseem said. "The IFSB welcomes these developments, which point towards an international recognition of Islamic finance that is commensurate with its importance and significance to large communities of human beings in the world today, and to financial and economic stability internationally."
Islamic finance has a system of ethics, is grounded on the real economy and on risk sharing, and avoids harmful activities, Jaseem noted, but also has risks such as those resulting from uneven development of Islamic financial markets and financial instruments.
"The external vulnerability is faced by us all: namely, that the performance of the Islamic financial system cannot be isolated from developments in conventional finance and in the global economy. We are vulnerable to external economic, financial and monetary shocks and these seem to be bigger or more volatile than ever. These vulnerabilities remain with us, they are real and they bring large risks with them which must be identified, made transparent, and managed at both the micro and macro levels," he said.
To determine if the industry can withstand turbulence arising from both internal and external sources of risk, a well-developed global database with reliable time series data is required for macroprudential oversight. The Financial Soundness Indicators (FSIs) from the IMF and adapted by the IFSB are just such a tool. FSIs are macroprudential indicators of the condition of the entire system that supplement the traditional microprudential measures used by bank supervisors. In 2004, the IFSB launched a global database of Prudential and Structural Islamic Financial Indicators (PSIFIs), which are the measures of the aggregate strength or vulnerabilities of the Islamic financial system.
The PSIFIs consist of 19 core and eight additional core indicators, compared to the IMF’s FSIs 12 core and eight additional core indicators. PSIFIs data are similar to the FSIs, aggregated banking sector data of an individual country. As almost all of the core indicators on asset quality, earnings, leverage, liquidity and sensitivity to market risks are similar to FSIs, the indicators permit a comparison with the IMF’s FSIs for a country’s entire financial system.
These PSIFIs would also facilitate comparisons between conventional banks and institutions offering Islamic financial services as part of a peer group exercise on the effectiveness of the application of the IFSB capital adequacy formula.
In phase I, the IFSB Secretariat established a Task Force for the project and undertook the preparation of a Compilation Guide which was adopted by the IFSB Council in March 2007. The IMF, Asian Development Bank (ADB) and the Islamic Development Bank (IDB) supported the PSIFIs from the beginning, and are important members of this and subsequent Task Forces.
This was followed in Phase II by a pilot study of the compilation of data through which the IFSB developed a standardised reporting template in which four member countries – namely Indonesia, Malaysia, Pakistan and Sudan – participated.
In 2014, the IFSB launched the third phase of the PSIFIs project with the aim of achieving, by 2016, the first dissemination of data, as well as a further revision of the Compilation Guide, particularly to align it with the developments of Basel III. After the successful launch of PSIFIs data on 27 April 2015, the IFSB has been regularly disseminating macro-level data collected from 17 IFSB member countries. The database is accessible to the public.
"Overall, the PSIFIs member countries collectively hold more than 85% of global Islamic banking assets. Amongst these countries are eight economies which are also members of the Arab Monetary Fund (AMF), and in which the Islamic finance sector is of systemic importance – in that it accounts for more than 15% of total banking sector assets," said Jaseem.
He also disclosed that a fourth phase of the PSIFIs project, to further extend the coverage of the database to additional countries that have a stake in the Islamic banking sector, has been approved.
Jaseem added that the Bank of England has recently confirmed that it will join the PSIFIs project.
"Today, the PSIFIs database comprise a set of well-developed and tested Islamic finance statistics reflecting sharī`ah-compliant accounting practices and regulatory standards that serve the purpose of better oversight by regulatory and supervisory authorities and the global surveillance community, as well as the analytical needs of the IFSB which are shared with our international stakeholders through the IFSB’s Annual Islamic Financial Services Industry Financial Stability Report," he said.
"The national and international members of the IFSB PSIFIs Task Forces have contributed enormously to the development and the streamlining of the reporting formats, and to the coming on line of this project. It will be important to continue this collaboration, and to develop both formal and informal networks of experts and knowledge centres, as we jointly attempt to better understand and control both domestic and cross-border sources of risks emanating from interconnected financial and economic systems," Jaseem said.
"Our goal should be further collaboration among international and national organisations so as to better measure these interconnected elements which can support better contingency planning and timely policy response by the authorities."
Directors emphasised the importance of having in place robust Islamic banking-specific resolution regimes and other financial safety nets for countries in which Islamic banking operates. Noting the slow progress achieved in these areas, they underscored the importance of additional work in collaboration with relevant international bodies on the design of legal regimes and institutional arrangements for effective Islamic banking resolution, deposit insurance schemes and AML/CFT, as well as adapting the conventional lender-of-last-resort framework to cover Islamic banking.
Directors agreed that the availability of high-quality liquid assets for Islamic banking is important for effective liquidity management and financial stability, and for the sustainable development of the Islamic banking industry. In this context, they called for increased efforts to deepen the government sukuk markets. Directors also noted the importance of having in place relevant central banking liquidity facilities and instruments.
Directors agreed that the emergence in recent years of hybrid financial products in Islamic banking, which replicate the relevant aspects of conventional finance, may have brought some benefits, but also raise financial stability concerns. Such concerns include the emergence of new complex risks, the applicability of existing prudential regimes, governance and consumer protection concerns, and reputational risk. Directors encouraged additional work, by staff and other relevant international bodies and standard setters, to better understand the nature of these activities and how they can be effectively regulated.
"A key aspect of the proposals is that they will recommend the recognition of the IFSB’s Core Principles for Islamic Finance Regulation of the Banking Sector (IFSB-17), under the IMF/WB Standards and Codes Review, Jaseem said. "The IFSB welcomes these developments, which point towards an international recognition of Islamic finance that is commensurate with its importance and significance to large communities of human beings in the world today, and to financial and economic stability internationally."
Islamic finance has a system of ethics, is grounded on the real economy and on risk sharing, and avoids harmful activities, Jaseem noted, but also has risks such as those resulting from uneven development of Islamic financial markets and financial instruments.
"The external vulnerability is faced by us all: namely, that the performance of the Islamic financial system cannot be isolated from developments in conventional finance and in the global economy. We are vulnerable to external economic, financial and monetary shocks and these seem to be bigger or more volatile than ever. These vulnerabilities remain with us, they are real and they bring large risks with them which must be identified, made transparent, and managed at both the micro and macro levels," he said.
To determine if the industry can withstand turbulence arising from both internal and external sources of risk, a well-developed global database with reliable time series data is required for macroprudential oversight. The Financial Soundness Indicators (FSIs) from the IMF and adapted by the IFSB are just such a tool. FSIs are macroprudential indicators of the condition of the entire system that supplement the traditional microprudential measures used by bank supervisors. In 2004, the IFSB launched a global database of Prudential and Structural Islamic Financial Indicators (PSIFIs), which are the measures of the aggregate strength or vulnerabilities of the Islamic financial system.
The PSIFIs consist of 19 core and eight additional core indicators, compared to the IMF’s FSIs 12 core and eight additional core indicators. PSIFIs data are similar to the FSIs, aggregated banking sector data of an individual country. As almost all of the core indicators on asset quality, earnings, leverage, liquidity and sensitivity to market risks are similar to FSIs, the indicators permit a comparison with the IMF’s FSIs for a country’s entire financial system.
These PSIFIs would also facilitate comparisons between conventional banks and institutions offering Islamic financial services as part of a peer group exercise on the effectiveness of the application of the IFSB capital adequacy formula.
This was followed in Phase II by a pilot study of the compilation of data through which the IFSB developed a standardised reporting template in which four member countries – namely Indonesia, Malaysia, Pakistan and Sudan – participated.
In 2014, the IFSB launched the third phase of the PSIFIs project with the aim of achieving, by 2016, the first dissemination of data, as well as a further revision of the Compilation Guide, particularly to align it with the developments of Basel III. After the successful launch of PSIFIs data on 27 April 2015, the IFSB has been regularly disseminating macro-level data collected from 17 IFSB member countries. The database is accessible to the public.
"Overall, the PSIFIs member countries collectively hold more than 85% of global Islamic banking assets. Amongst these countries are eight economies which are also members of the Arab Monetary Fund (AMF), and in which the Islamic finance sector is of systemic importance – in that it accounts for more than 15% of total banking sector assets," said Jaseem.
He also disclosed that a fourth phase of the PSIFIs project, to further extend the coverage of the database to additional countries that have a stake in the Islamic banking sector, has been approved.
Jaseem added that the Bank of England has recently confirmed that it will join the PSIFIs project.
"Today, the PSIFIs database comprise a set of well-developed and tested Islamic finance statistics reflecting sharī`ah-compliant accounting practices and regulatory standards that serve the purpose of better oversight by regulatory and supervisory authorities and the global surveillance community, as well as the analytical needs of the IFSB which are shared with our international stakeholders through the IFSB’s Annual Islamic Financial Services Industry Financial Stability Report," he said.
"The national and international members of the IFSB PSIFIs Task Forces have contributed enormously to the development and the streamlining of the reporting formats, and to the coming on line of this project. It will be important to continue this collaboration, and to develop both formal and informal networks of experts and knowledge centres, as we jointly attempt to better understand and control both domestic and cross-border sources of risks emanating from interconnected financial and economic systems," Jaseem said.
"Our goal should be further collaboration among international and national organisations so as to better measure these interconnected elements which can support better contingency planning and timely policy response by the authorities."