Economist: Need for unified regulation of Islamic finance

Economist: Need for unified regulation of Islamic finance
By Chong Pooi KoonPublished: 2009/09/30

The recent crisis should teach Islamic finance players one important lesson: the need for a unified regulation across nations.


Malaysia, which has the most advanced Islamic finance regulation, should take the lead in helping to create a standardised regulatory and supervisory framework, said economist Dr Abbas Mirakhor, who is formerly an International Monetary Fund executive director.

Abbas said contrary to popular belief, Islamic finance is not the most regulated financial sector and could face the same risks that brought the global financial system to its knee last year.

"We may have more regulatory standards but there is no implementation of the standards in a unified manner, and there is no organisation that supervises the instruments," he said in a public lecture hosted by the Securities Commission in Kuala Lumpur yesterday.

A big part of the recent financial crisis can be blamed on the regulatory failure, he said, and Islamic finance is not immune to this potential risk.



"Now you have scholars who know very little about finance and it seems it has become performable to just put the stamp of approval so that an instrument can be issued. There have been two or three instruments that have got into trouble but they all have had their approvals given by syariah scholars," he said.

"Our problem is that every jurisdiction has its own regulation, and some may not even have their own regulation. That gives an opportunity for regulatory arbitrage, which means people may issue Islamic instruments that are sub-par in jurisdictions that have very weak or no regulation on that particular instrument, therefore creating risk for the system," he said.

The need for a well-regulated Islamic finance is even more crucial due to its nascent stage of development. Any failure in the Islamic financial system now will hurt its reputation and could threaten its survival.

"If there is a failure of the bond market in California, nobody will question whether there's systemic risk to the global bond market. But if a sukuk fails, it will raise questions on the entire Islamic finance," he said.

"So to ensure that Islamic finance has a decent chance of growth and development, one has to make sure that regulation is unified and accepted by all jurisdiction," Abbas said.

He added that this is not hard to do since organisations like the Islamic Financial Services Board has issued standards on syariah products that are universal.

"The question is whether or not they want to put together an association of Islamic banks or association of central banks in jurisdictions that have Islamic finance operation, and then organise a regulatory agency which is supernational and authoritative," Abbas said.