Bismillahi Rahmani Rahim.

AssalamualaikumWarahmatullahi Wabarakatuh. 

Salam Sejahtera.

Beta bersyukur ke hadrat ILAHI kerana dengan izin dari Nya juga Beta dapat berangkat untuk melafazkan titah di Labuan International Islamic Finance Lecture Yang ke-empat pada pagi ini.

I am pleased to be here this morning to present the fourth Labuan International Islamic Finance lecture. This lecture series has over the years drawn together a distinguished gathering of regulators, practitioners, scholars and researchers from the financial services industry. It is a manifestation of the increasing interest shown by the financial community in the development of Islamic finance. I would like to commend the Labuan Offshore Financial Services Authority for organisingthis event. LOFSA has evolved into one of Asia’s leading financial hubs, and is today an important focal point for the raising of Islamic finance.

 

This morning I would like to talk about the road ahead for Islamic finance. In particular, I want to discuss what I see as the ‘third stage’ of the development of the Islamic financial system. The first stage needs little elaboration and has to do with the establishment of its viability. From humble beginnings more than thirty years ago, Islamic financial institutions now have a discernible presence in the international financial system. They have ‘come of age’.

Islamic finance has not only gained a strong foothold in western economies, it is also assuming growing importance within mainstream international finance. An increasing number of international financial centres in the west, eager to profit from the lucrative Islamic finance business, are tapping into investors’ appetite for Syariah-compliant products and services. Financial centres such as London, Hong Kong and Singapore have already made the raising of Islamic finance a part of their activities, and are aspiring to join the ranks of the more established financial centres like Kuala Lumpur,  Dubai and Bahrain. The assets of Islamic financial institutions worldwide are currently valued at between US$700 billion and US$1 trillion. The Shariah-Fortune database lists 810 companies, operating in 50 countries worldwide, offering Syariah-compliant financial products and services. 

The fact that many conventional financial institutions have opened Islamic finance windows and established subsidiaries specialising in Islamic finance speaks volumes about its viability in the modern age. If establishing the viability of Islamic finance was the first stage, the second stage, which is where we are now, is to establish its stability. Following the global financial meltdown and the ensuing global economic recession, many commentators have highlighted the natural attractions of Islamic finance. The conventional financial system has many times shown a tendency to be unstable, and dramatically so in the past year. Many ordinary hard-working people lost their life savings, jobs, businesses and homes. In contrast, Islamic financial institutions have been better able to weather the sharp collapse of asset prices. The Islamic financial system has demonstrated itself to be less vulnerable to instability and less prone to crises.

The greatest challenge facing the international financial system today is the restoration of trust and confidence. Trust and confidence will not return as a result of more complex financial engineering and more sophisticated mathematical models. They may not return fully with stricter laws and more aggressive enforcement. Regulations can punish bad behaviour but they cannot instigate good conduct. Trust and confidence will only return when financial transactions are based on sound and mutually beneficial principles.

Islamic finance has well-known characteristics that allow for more non-exploitative, equitable and productive means of raising capital. These include the prohibition against interest (or riba), excessive risk-taking (gharar) and speculation (maysir). These features have contributed to the creation of a system of financial intermediation that is inherently more stable.

 

The global financial crisis has opened a substantial window of opportunity for the advantages of Islamic finance to be showcased. The third stage is one that represents a significant challenge, and that is to deepen the acceptability of Islamic finance not only to the Muslim community but also to the non-Muslim world. In fact, even expanding its reach to a greater number of the global ummah presents a tremendous growth opportunity. Muslims account for 20 percent of the global population, but Islamic finance accounts for less than 1 percent of global financial instruments. In countries where the industry is most advanced like here in Malaysia and in Saudi Arabia, conventional assets far outstrip Islamic assets.

The growth potential of the industry is more apparent in consideration of its prospective non-Muslim market. While conventional finance cannot serve those who demand Syariah compliance, Islamic finance can serve everyone – and as revealed in the wake of the financial crisis, it can do so more consistently and more reliably.

This third stage therefore is a critical one if Islamic finance is going to be a growing influence in the years to come. I believe that in order to make the transition, we will have to be much more deliberate in charting our course and our strategies. In many respects, the easy part of the road is behind us; we now face the task of negotiating the more difficult winding and uphill portions. Insyallah, we will be able to bring the resources and co-operation needed, and will succeed.

In engaging the third stage of the journey, the first challenge is to respond to current global needs, without losing sight of the principles upon which Islamic finance is based. Islamic finance emerged in response to the needs of Muslim consumers, but like conventional finance, it is a profit-seeking industry, albeit one which follows a different code and set of rules.

Because Islamic financial institutions are profit-seeking institutions, they have to be organised and managed in keeping with the best corporate and commercial practices. Among these is the need for continual product innovation. If they are really to be a different model of financial intermediation, they must have presence, and for that, they must stand out. Coming at a time when even the strongest conventional banks have suffered a great loss of reputation, Islamic financial institutions must be models of excellence in every respect.

Innovation should trump imitation. If Islamic financial instruments do no more than imitate conventional financial products, they would not reflect the uniqueness of Islamic financial intermediation. Their edge and differentiating factors would become diluted. Replicating conventional structures is also destabilising in the long run, especially since the quantum of risk in the Islamic structure is very much different under Syariah. The current financial turbulence is a prime illustration of the probable disruptive effects of unbridled adaptation of conventional models.

The increasing shift of attention toward Islamic finance means we should continually come up with new and innovative instruments of financial intermediation. As more bankers, economists and lawyers enter into the sector, financial product innovation has to pick up. In the past few years, original and sophisticated deals and structures have been offered on a global scale. Sukuk is probably the most important innovation so far and I am proud and happy to acknowledge LOFSA’s role in launching it. It has become the preferred method of financing for governments and corporations alike. Advancement in areas of Islamic securitisation, private equity and real estate investment trust represents the new wave of product innovation.

While on this subject, let me take a minute to highlight a subject of particular and personal interest. Contemporary Islamic finance has largely been disengaged from its socio-economic aspects. One instrument that ties the two together is waqf or Islamic endowments. Traditionally, revenue from waqf has been used for building and maintaining religious buildings. This, however, is changing. As an Islamic public finance instrument, waqf has the potential to be both a source of financing and a mechanism for wealth distribution. The principle of perpetuity embedded in the waqf structure creates a distinction from other foundations and charity funds as widely practiced in western countries.

From an economic view point, waqf can be looked upon as a savings-investment mechanism where funds are diverted from consumption and invested in productive assets that provide either usufruct or revenue for future consumption. Proceeds are now being used for building hospitals, universities and commercial complexes. It can be even used to facilitate micro-financing. Such innovative uses have assisted in unlocking its economic potential, as well as its philanthropic objectives. Nonetheless, we find that waqf has not been given due recognition. I am confident that a modernised waqf structure that is both transparent and responsive can rival that of western charitable institutions.

As new Islamic financial instruments continue to pervade the global financial markets, it is important that innovation in turn does not dilute the authenticity of Syariah. Newcomers to the industry, whether players or products, have bearing upon the reputation of the entire industry. It is imperative in going forward, that only the scrupulous and the compliant are welcomed as participants, and that the true essence of Islamic finance is at all times upheld. Therefore, new financial instruments and practices must be infused with intimate knowledge of Islamic jurisprudence as well as the inner workings of banking and finance. Only then can stakeholders establish the happy medium between consistency with Syariah and market demands.

 

The second challenge in the road ahead is to ensure greateralignment and convergence across national jurisdictions. This includes the harmonisation of Syariah standards and regulatory practices. Without it, there will not be the consistency and predictability needed to ensure deep and liquid international Islamic financial markets.

Harmonisation issues have been raised often and a number of efforts have been and are being made to bridge differences. Convergence towards some standards has grown and this is expected to increase in the future. But still more needs to be done. For example, mutual recognition of financial standards and products in different jurisdictions is still low. Standards issued by standards-setting bodies depend on voluntary adoption and are not legally enforceable. Some jurisdictions have adopted them but others only use them as guidelines. Standard regulatory practices must be harmonised if Islamic financial markets are to integrate smoothly into the global financial system. 

The global financial crisis has underscored the need for concerted commitments by authorities and regulators at the national and international level to institute policies, regulations and governance mechanisms to address transparency, prudence, risk management and accountability issues. With increased integration of Islamic financial markets into the global financial system comes the added possibility of contagion effects. This poses a new set of challenges for Islamic financial regulators and industry to rethink stability and governance policies.

Just as Islamic finance stresses the principle of partnership between the parties to the transaction, so should there be a strong spirit of partnership among countries promoting Islamic finance, their regulators and financial institutions. Cooperation and smart partnership amongst international financial centres ensure the stability of the international Islamic financial system. But such endeavours need to be supported by a solid platform for cooperation and information sharing.

 

The third challenge in moving forward is to fortify the institutional foundations that will sustain the Islamic financial sector. We are fortunate to already have a supporting architecture to promote sound regulation and development. International boards such as the Islamic Financial Services Board (IFSB), the Accounting and Auditing Organization for Islamic Financial Institutions (AAOIFI) and the International Islamic Financial Market (IIFM) are important initiatives towards developing international best practices for the industry.

As the global financial architecture undergoes structural reforms, the Islamic financial services industry will have to follow suit. A result of the global financial crisis has been the increasing scrutiny of financial institutions by regulators and international organisations such as the Organization for Economic Co-operation and Development, the International Monetary Fund and the International Organization of Securities Commissions. As Islamic finance becomes an integral part of the financial mainstream, it will be increasingly exposed to requirements of transparency, good governance, information-sharing and co-operation promoted by such bodies as the OECD.

As Islamic finance becomes more integrated into the international financial system, it will not escape the effects of impeded growth and diminished liquidity that comes with a recession. Therefore, a sound liquidity management infrastructure is also required to effectively manage our risks, and this is another area of potential collaboration among the Islamic financial community.

There is also a great need to enhance skills sets at both ends of the spectrum.

Collaborative efforts among stakeholders are especially critical in the area of capacity building and human capital development. This calls for a systematic and goal-directed framework in order to develop a pool of high calibre Islamic finance professionals. The industry, however, currently lacks a global industry body to oversee standardization of continuous education and training to break the human resource bottlenecks that are holding back advancement in virtually all areas. This must be addressed.

I am pleased to note that Malaysia has taken a lead role in talent development by establishing the International Centre for Education in Islamic Finance (INCEIF), the first ever Islamic finance university. Another strategic initiative by the Malaysian government is the setting up of a think tank, the International Syariah Research Academy (ISRA), with the aim of promoting better understanding of the different regulatory and supervisory regimes across jurisdictions. Outside Malaysia, a commendable initiative was the establishment of a Bahrain-based Waqf Fund to finance a broad range of activities related to training, research and education in all areas of Islamic finance.

These strategic initiatives to advance human capital development and Syariah harmonization reflect the full commitment of the Malaysian government to the progress of the industry. Such efforts must be intensified to create a significant support system for the industry, which will ensure its continued viability and overall success.

 

 

Ladies and gentlemen:

The structural break in the thinking about financial markets as a result of the global financial turmoil offers Islamic finance a unique opportunity to present itself as a financial system that is more resilient to the very forces that brought about the crisis in the first place. We must not let this opportunity slip by. Going forward, we must ensure that the investments we make are sustainable, that they promote productive economic activity, thereby creating real value for society.

In Islamic economics, the distribution of resources has a very clear purpose – to promote social justice. By extension, this applies to Islamic finance as well. The idea is that resources are ultimately not ours. They belong to the Almighty and are His blessings upon us. Our responsibility for these resources, therefore, is paramount and we are fully accountable for how we use them.

 

Thank you.