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What Does Shariah-Compliance Mean in the Islamic Banking Industry?



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Islamic banking, also known as Shariah-compliant banking or halal finance, is a system of banking and financial services that operates by Islamic principles and laws known as Shariah. Shariah compliance is of utmost importance in the Islamic banking industry, as it ensures that all financial transactions and products are ethically and morally sound and adhere to Islamic teachings.

Islamic banking is based on the principles of risk-sharing and profit-sharing, and it prohibits charging or paying interest, which is considered exploitative and unjust in Islam. Instead, Islamic banks provide financial services based on ethical and moral values, such as profit-sharing, partnership, leasing, and joint venture.

One of the key features of Islamic banking is its adherence to Shariah compliance. Shariah compliance refers to the dedication to Islamic principles and laws in all financial transactions and products Islamic banks offer. Shariah compliance ensures that all financial transactions and products are ethically and morally sound and adhere to Islamic teachings. The importance of Shariah compliance in the Islamic banking industry cannot be overstated, as it is the cornerstone of the industry’s credibility and trustworthiness.

Islamic banking has gained significant momentum recently, with the industry’s global assets reaching over $2 trillion. As the demand for Shariah-compliant financial services continues to grow, the importance of Shariah compliance in the Islamic banking industry will only increase, as it is fundamental to the industry’s success and growth.

Shariah is the set of Islamic principles and laws that govern all aspects of Muslim life, including finance and commerce. It is derived from the Quran and the Sunnah (the teachings and practices of Prophet Muhammad). Shariah is the cornerstone of Islamic finance and the basis for developing Shariah-compliant financial products and services.

Shariah compliance refers to the adherence to Islamic principles and laws in all financial transactions and products offered by Islamic financial institutions. Shariah compliance ensures that all financial transactions and products are ethically and morally sound and adhere to Islamic teachings. It is important to note that Shariah compliance is not limited to avoiding interest-based transactions but also encompasses other ethical and moral values such as justice, transparency, and accountability.

For Islamic financial institutions, Shariah compliance is of paramount importance. It is a key differentiator that sets Islamic finance apart from conventional finance. Islamic financial institutions must comply with Shariah standards set by independent Shariah supervisory boards (SSBs) comprising Islamic scholars and experts in Islamic finance. These boards ensure that Islamic financial institutions’ financial transactions and products comply with Shariah principles and laws.

The importance of Shariah compliance for Islamic financial institutions cannot be overstated. It is fundamental to the industry’s credibility and trustworthiness. Shariah compliance ensures that all financial transactions and products are ethically and morally sound and helps build and maintain trust between the institution and its clients. Shariah-compliant financial products and services are gaining popularity among Muslims and non-Muslims, as they are seen as more ethical and sustainable than conventional finance.

Islamic banks offer a range of Shariah-compliant products and services based on ethical and moral values and adhere to Islamic principles and laws. These products and services are designed to meet the financial needs of individuals and businesses while remaining Shariah-compliant.

Some examples of Shariah-compliant products and services offered by Islamic banks include:

  1. Mudarabah: A profit-sharing partnership between the bank (as the financier) and the client (as the entrepreneur).
  2. Murabahah: A cost-plus financing arrangement where the bank purchases the asset on behalf of the client and then sells it to the client at a marked-up price, with the payment being made in installments.
  3. Ijarah: A leasing arrangement where the bank purchases the asset and then leases it to the client for a predetermined period.
  4. Musharakah: A partnership where the bank and the client contribute capital to a joint venture, with the profits and losses shared according to a predetermined ratio.
  5. Sukuk: Shariah-compliant bonds backed by tangible assets and provide a return based on the profits generated by those assets.

Shariah compliance affects banking operations in several ways. Islamic banks must ensure that all financial transactions and products comply with Shariah principles and laws. This requires the establishment of independent Shariah supervisory boards (SSBs) that oversee the bank’s operations and ensure that they remain Shariah-compliant. SSBs comprise Islamic scholars and experts in Islamic finance who provide guidance and advice on all aspects of banking operations to ensure compliance with Shariah principles and laws.

Shariah-compliant certification is a process by which Islamic financial institutions obtain certification from an independent third party to confirm that their financial products and services comply with Shariah principles and laws. Shariah supervisory boards (SSBs), independent Islamic scholars’ bodies, and Islamic finance experts carry out the certification process.

The importance of certification for Islamic financial institutions cannot be overstated. The certificate provides credibility and trustworthiness for financial products and services offered by Islamic financial institutions. It assures customers that the products and services provided by the institution are ethically and morally sound and adhere to Islamic principles and laws. Certification also helps to differentiate Shariah-compliant financial products and services from conventional finance products and services.

The certification process typically involves a review of the financial institution’s operations by the SSB, which examines all aspects of the institution’s operations to ensure compliance with Shariah principles and laws. The SSB examines the institution’s products and services, investment portfolios, risk management practices, and accounting procedures to ensure Shariah compliance. The SSB also provides guidance and advice to the institution to ensure it remains Shariah-compliant.

Once the review is complete, the SSB issues a Shariah-compliant certification to the financial institution, which can then be used to market its products and services as Shariah-compliant. The certificate is typically valid for a specific period and must be renewed periodically to ensure continued compliance with Shariah principles and laws.

Shariah-compliant banking offers several advantages and benefits for customers and the global economy.

Advantages of Shariah-Compliant Banking for Customers

  1. Ethical and Moral Financial Transactions: Shariah-compliant banking allows customers to engage in financial transactions based on ethical and moral principles. Customers are assured that their financial transactions align with their religious and moral beliefs.
  2. Transparency: Shariah-compliant banking promotes openness in financial transactions. Customers are provided with clear and concise information about the terms and conditions of financial products and services.
  3. Risk-Sharing: Shariah-compliant banking allows customers to share risks with the bank. Profit and loss are shared based on a predetermined ratio. This encourages a more equitable distribution of risks and rewards.
  4. Lower Interest Rates: Shariah-compliant banking offers customers lower interest rates on financial products and services than conventional ones.

Benefits of Shariah-Compliant Banking for the Global Economy:

  1. Financial Stability: Shariah-compliant banking promotes financial stability by encouraging responsible and sustainable lending practices. Islamic finance prohibits speculative investments and facilitates investments in tangible assets, which can lead to a more stable financial system.
  2. Economic Development: Shariah-compliant banking promotes economic development by encouraging investment in projects with a positive social impact. This can lead to increased job creation and improved living standards.
  3. Diversification of Financial Markets: Shariah-compliant banking offers a different approach to finance based on ethical and moral principles. This diversifies the financial market and can lead to increased innovation in financial products and services.
  4. Inclusion: Shariah-compliant banking promotes financial inclusion by providing financial products and services that are accessible to a broader range of customers, including those who are excluded from conventional finance due to their religious beliefs.

Challenges in Shariah-Compliant Banking

While Shariah-compliant banking offers many benefits, it also faces several challenges. These challenges can be internal or external and may arise due to cultural, legal, or economic factors.

Common challenges faced by Islamic financial institutions include:

  1. Lack of Awareness: One of the primary challenges confronting Islamic financial institutions is a need for more awareness and understanding of Islamic finance. This can lead to misconceptions and misunderstandings about Shariah-compliant banking products and services.
  2. Limited Product Offerings: Islamic financial institutions may need help developing a comprehensive range of Sharia-compliant products and services that meet the diverse needs of their customers.
  3. Shariah Compliance: Ensuring Shariah compliance can be challenging for Islamic financial institutions, as the interpretation and application of Shariah principles vary among scholars and countries.
  4. Regulatory Framework: Islamic financial institutions may face challenges in navigating the regulatory framework, as regulatory bodies may need a clearer understanding of Islamic finance or develop appropriate regulatory frameworks.
  5. Cost of Funds: The cost of funds for Islamic financial institutions can be higher than conventional banks due to the need to comply with Shariah principles, such as profit and loss sharing.

Solutions to overcome these challenges

  1. Education and Awareness: Islamic financial institutions can invest in education and awareness programs to increase understanding and awareness of Sharia-compliant banking products and services among the general public.
  2. Product Development: Islamic financial institutions can work on developing a comprehensive range of Shariah-compliant products and services to meet the diverse needs of their customers.
  3. Standardization: The development of standardized Shariah-compliant products and services can help address the challenge of Shariah compliance and provide greater clarity for customers and regulators.
  4. Collaboration: Collaboration between Islamic financial institutions and regulators can help develop appropriate regulatory frameworks that support the industry’s growth.
  5. Funding Sources: Islamic financial institutions can explore alternative funding sources, such as sukuk (Islamic bonds) or Islamic microfinance, to help reduce the cost of funds.

In conclusion, Shariah compliance is a fundamental principle in the Islamic banking industry. It is based on Islamic law principles and aims to promote ethical and responsible financial practices. Shariah-compliant banking products and services offer several benefits to customers and the global economy, including increased financial inclusion and stability.

Despite the benefits, Islamic financial institutions face several challenges, including a need for more awareness, limited product offerings, Shariah compliance, regulatory frameworks, and the cost of funds. However, solutions such as education and awareness, product development, standardization, collaboration, and exploring alternative funding sources can help overcome these challenges.

Shariah compliance is crucial for the growth and sustainability of the Islamic banking industry. As more people become aware of Islamic finance and its principles, the industry is expected to grow and become an essential part of the global financial system.

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How Shariah-Compliant is Islamic Banking?




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Islamic banking has garnered significant attention globally, especially among Muslim communities seeking financial solutions that align with their faith. Rooted in Shariah law, Islamic banking aims to offer an alternative to conventional banking by adhering to principles derived from the Quran and Hadith. But how Shariah-compliant is Islamic banking in practice? This comprehensive blog post explores the core principles of Islamic banking, the mechanisms ensuring Shariah compliance, and the challenges and criticisms faced by the industry.

How Shariah-Compliant is Islamic Banking?

Core Principles of Islamic Banking

Islamic banking operates on several fundamental principles that distinguish it from conventional banking:

  1. Prohibition of Interest (Riba): The most well-known principle is the prohibition of Riba or interest. Instead of earning interest on loans, Islamic banks earn profit through equity participation, trade, leasing, or investment in Shariah-compliant projects.
  2. Risk Sharing: Islamic banking promotes risk-sharing between the bank and its clients. This is achieved through profit and loss sharing (PLS) contracts, such as Mudarabah (profit-sharing) and Musharakah (joint venture).
  3. Ethical Investments: Investments must adhere to ethical and socially responsible principles. Islamic banks cannot invest in businesses involved in activities considered haram (forbidden) such as alcohol, gambling, and pork.
  4. Asset-Backed Financing: All financial transactions must be backed by tangible assets or services, ensuring that speculative practices (Gharar) are minimized.
  5. Transparency and Fairness: Contracts and financial transactions must be transparent, fair, and agreed upon by all parties involved.

Mechanisms Ensuring Shariah Compliance

To ensure adherence to these principles, Islamic banks implement several mechanisms:

  1. Shariah Boards: Each Islamic bank typically has a Shariah board consisting of Islamic scholars and experts in Islamic finance. This board reviews and approves all financial products and services to ensure they comply with Shariah principles.
  2. Shariah Audits: Regular Shariah audits are conducted to assess and verify that the bank’s operations and transactions comply with Shariah guidelines. These audits ensure that any deviations are promptly addressed.
  3. Product Structuring: Financial products are carefully structured to align with Shariah principles. Common products include:
    • Murabaha: A cost-plus-profit financing structure used for purchasing goods.
    • Ijara: Leasing agreements where the bank buys and leases out assets to clients.
    • Sukuk: Islamic bonds representing ownership in a tangible asset or a pool of assets.
    • Takaful: Islamic insurance based on mutual assistance and shared responsibility.
  4. Continuous Education and Training: Islamic banks invest in educating their staff and clients about Shariah principles and the importance of compliance. This helps maintain a high standard of Shariah adherence across all operations.

Challenges and Criticisms

Despite these mechanisms, Islamic banking faces several challenges and criticisms regarding its Shariah compliance:

  1. Standardization: There is no universal standard for Shariah compliance, leading to variations in interpretations and practices across different regions and institutions. This lack of standardization can create confusion and inconsistencies.
  2. Replicating Conventional Products: Some critics argue that certain Islamic banking products are merely replications of conventional banking products with minor modifications to appear Shariah-compliant. This raises questions about the authenticity of these products.
  3. Limited Shariah Expertise: There is a shortage of qualified Shariah scholars with expertise in both Islamic jurisprudence and modern finance. This scarcity can hinder the development and approval of innovative Sharia-compliant products.
  4. Operational Costs: Ensuring Shariah compliance can be costly due to the need for Shariah boards, audits, and continuous education. These costs can make Islamic banking products more expensive than their conventional counterparts.
  5. Market Perception: Some potential customers remain skeptical about the genuineness of Islamic banking, questioning whether it truly adheres to Shariah principles or if it’s merely a marketing strategy.

To address these challenges and enhance Shariah compliance, several measures can be taken:

  1. Developing Universal Standards: Efforts should be made to develop and adopt universal standards for Shariah compliance. Organizations like the Accounting and Auditing Organization for Islamic Financial Institutions (AAOIFI) are working towards this goal.
  2. Enhancing Shariah Governance: Strengthening Shariah governance frameworks and increasing the number of qualified Shariah scholars can improve compliance and innovation in Islamic banking.
  3. Transparency and Education: Increasing transparency in product structuring and operations, along with educating the public about the principles and benefits of Islamic banking, can build trust and acceptance.
  4. Innovation and Differentiation: Developing truly innovative and differentiated Islamic banking products that go beyond merely replicating conventional products can enhance authenticity and attractiveness.

Islamic banking, with its foundation in Shariah principles, offers a viable alternative to conventional banking for Muslims and ethically-minded individuals worldwide. While it faces challenges and criticisms regarding its Shariah compliance, ongoing efforts to standardize practices, enhance governance, and promote innovation are crucial for its growth and success. By addressing these issues, Islamic banking can better fulfill its promise of providing ethical, equitable, and Shariah-compliant financial solutions.

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Afghanistan Central Bank Joins Global Islamic Economics Forum in Malaysia




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The Afghanistan Central Bank, also known as Da Afghanistan Bank, has recently sent a delegation to Malaysia to participate in the Global Forum of Islamic Economics and Finance. This forum aims to foster discussions on the development of Islamic banking, support for small and medium-sized enterprises (SMEs), and the expansion of financial markets. Haseebullah Noori, the spokesperson for the Central Bank, emphasized the significance of this event, highlighting that representatives from central banks and financial institutions from various countries are expected to attend.

Noori stated, “A delegation from the Afghanistan Central Bank traveled to Malaysia to attend the Global Forum of Islamic Economics and Finance. Representatives from central banks, Islamic banks, and financial institutions worldwide will also participate in this forum.” This gathering presents an excellent opportunity for Afghanistan to strengthen its financial sector and align with global banking standards.

In addition to attending the forum, the Afghan delegation is scheduled to meet with several Malaysian officials to discuss establishing and enhancing bilateral relations. These meetings aim to address various economic challenges and explore potential collaborations that could benefit both countries.

Economic experts in Afghanistan believe that standardizing the banking system and developing Islamic banking are crucial for the country’s economic growth. Shaker Yaqoubi, an economist, remarked, “The more our banking system in Afghanistan meets global standards, the better we can align with the global economy. Regulated trade and investment will take shape, and given that Afghanistan is an Islamic country, Islamic banking is a crucial need.”

The Chamber of Commerce and Investment in Afghanistan also stressed the importance of addressing the challenges related to money transfers through banks during these meetings. Mohammad Younis Momand, First Deputy of the Chamber of Commerce and Investment, expressed his hopes, stating, “We hope the global community and the Central Bank’s proposals will address Afghanistan’s banking issues so that the problems we face with money transfers can be resolved.”

Abdul Nasir Rashtia, another economist, added, “The more we normalize our relations with the world and lift sanctions and restrictions, the better we can expand our international trade and provide more facilities for traders.” The lifting of sanctions and restrictions is seen as a critical step towards enhancing Afghanistan’s economic stability and growth.

Previously, the acting governor of the Afghanistan Central Bank met with the Deputy Secretary-General of the United Nations to discuss the negative impact of international sanctions on Afghanistan’s banking sector. The acting governor emphasized that these sanctions have hindered the country’s financial stability and urged for their removal to foster economic growth.

The participation of the Afghanistan Central Bank delegation in the Global Forum of Islamic Economics and Finance is a strategic move towards integrating Afghanistan’s banking system with international standards and promoting the growth of Islamic banking. This initiative aligns with the broader goal of stabilizing Afghanistan’s economy and fostering sustainable development through enhanced financial cooperation and economic integration.

By addressing key issues such as money transfer challenges and advocating for the lifting of sanctions, Afghanistan aims to create a more conducive environment for trade and investment. The focus on Islamic banking, given Afghanistan’s cultural and religious context, further underscores the importance of this financial model in the country’s economic landscape.

As Afghanistan continues to navigate its economic challenges, the efforts of the Central Bank to engage with international counterparts and seek collaborative solutions are vital. The outcomes of the forum and subsequent meetings with Malaysian officials are anticipated to pave the way for significant advancements in Afghanistan’s financial sector, contributing to the overall economic resilience and prosperity of the country.

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ICB Islamic Bank Faces Challenges in Repaying Depositors




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By Ameer Yaqub

The ICB Islamic Bank, which emerged from the collapse of Oriental Bank in 2008, is currently grappling with a severe liquidity crisis that has left it unable to repay depositors. This situation underscores the vulnerabilities within the bank and the broader challenges facing the Islamic banking sector in Bangladesh.

The crisis has had a direct impact on depositors. Abdul Hamid Mahbub, with a deposit of Tk 1,00,000 at the bank’s Moulvibazar branch, recently faced the stark reality of the bank’s financial troubles. “On Tuesday, I went to the bank with a cheque for Tk 55,000, but the branch manager said they had no money at the time,” Mahbub told The Daily Star. Similar stories are being reported across other branches, including in Dhaka’s Paltan and Karwan Bazar areas.

In a bid to mitigate the crisis, ICB Islamic Bank sought Tk 50 crore in collateral-free liquidity support from Bangladesh Bank (BB) on January 31. However, this plea was denied two weeks later due to the bank’s existing liabilities, which total Tk 425 crore. BB’s Off-site Supervision Department has since requested the Banking Regulation and Policy Department to take corrective measures, as the bank’s operations are severely hampered by the liquidity crunch.

The liquidity crisis is compounded by a range of systemic issues. ICB Islamic Bank is dealing with frozen deposits, a significant capital shortfall, and high levels of defaulted loans. As of the end of 2023, the bank faced a capital shortfall of Tk 1,823 crore, with 87% of its total loans amounting to Tk 790.4 crore classified as bad.

The crisis has also affected the bank’s ability to pay its employees. Currently, ICB Islamic Bank employs 350 people across 33 branches, and delays in salary payments have become routine. According to Muhammad Shafiq Bin Abdullah, the bank’s managing director, the influx of depositors seeking withdrawals has exacerbated the situation. “This year, we repaid our depositors Tk 50 crore,” Shafiq noted, emphasizing the unprecedented nature of the current crisis.

Legal complexities surrounding the bank’s ownership have further muddied the waters. Issues stemming from its previous owner, Orion Group, have left ambiguities regarding current ownership, and a related case is still pending in court. This uncertainty has hindered efforts to stabilize the bank and secure necessary funds.

ICB Islamic Bank’s roots trace back to 1987 when it operated as Al-Baraka Bank. It was rebranded as Oriental Bank in 2004 and later dissolved by the central bank in 2006 due to significant irregularities. The restructured bank renamed ICB Islamic Bank in 2008, saw Swiss ICB Group and Malaysian investors take majority ownership. Despite these changes, the bank has struggled to achieve financial stability.

Efforts are ongoing to address the liquidity crisis. Md Mezbaul Haque, executive director and spokesperson of Bangladesh Bank, highlighted that a large portion of ICB Islamic Bank’s funds are tied up with leasing companies, contributing to the liquidity shortfall. “We asked the Malaysian shareholder of the bank to inject fresh funds,” he stated, expressing hope that the crisis could be resolved soon.

ICB Islamic Bank’s struggle to navigate this crisis is a crucial test for the resilience of the Islamic banking sector in Bangladesh. While the bank’s management remains hopeful, the path to recovery will require strategic interventions, regulatory support, and renewed confidence from depositors and stakeholders.

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