COMMENT

April 2006
NewHorizon
Today’s financial markets are highly sophisticated, discriminating and competitive, and demand a whole range of innovative products and services. The conventional banking market is continually expanding and renewing products and services to meet changing customer needs and expectations. With the growing international acceptance of the Islamic finance industry a number of conventional western financial institutions have eagerly moved into this market as the array of invest­ment vehicles has broadened and international hubs for Islamic capi­tal markers have expanded. The Islamic financial institutions there­fore must move forward more quickly as well to keep pace, meet the demands of their niche market and realize its full potential. This will require huge amount of invest­ment in R&D by the Islamic finan­cial institutions collectively to back their commitment and conviction and enhance their competitive advantage over conventional west­ern financial institutions seeking to retain their existing Muslim client base.

In the initial stages Islamic banking, as an entity, was content simply to handle in basic forms the Musharaka, Murabaha and Mudaraba instruments. However, in recent years Islamic banking and finance has matured. With its impressive and rapid growth, Islamic banking still needs to widen its product range and handle all the complicated new issues and prob­lems it finds itself facing, and address their Islamic solutions with­out compromising principles for the sake of profit. The growing accept­ance among Muslims of shariah compliant savings and investment products over the past ~decade has been impressive. Investment accounts complying with Islamic banking include Mudaraba Contracts. Investment contracts under Mudaraba fall into Restricted and Unrestricted Mudaraba cate­gories. In the restricted category, the fund providers define their restric­tions as to how, where and in what sectors their funds are to be invest­ed. The unrestricted category imposes no restrictions on the Bank and the returns are divided up according to pre-determined propor­tion.

One of the key issues for market development and risk management remains the standardisation of Mudaraba contracts. The need for standardization in the global Islamic banking and finance industry cannot be stressed enough. Considerable work has already been undertaken by organisations such as the Islamic Development Bank, Islamic Financial Services Board, Bank Negara Malaysia, the Bahrain Moneary Authority, the Dubai International Financial Authority, State Bank of Pakistan, the Bank of Sudan. Such cooperation and col­loboration will strengthen the global Islamic banking industry, enhance the ability of Islamic Financial Istitutions to trade in international markets and improve business vol­umes.

The need of the hour is to develop new structures in Mudabarah con­tracts as well as devise innovations in other products and services. This calls for a robust Research and Development (R&D) effort. Unfortunately our Islamic banks do not seem to have yet recognised the full financial benefits that R&D
efforts can deliver and hesitate to allocate decent budgets to this important activity that is needed for all businesses to grow and develop on a continuing basis. The success~ of Western banks can largely be attributed to the time, effort and money that has been invested by them in the area of financial research and development. They have extensive R&D wings that are assigned the task of constantly developing new financial instru­ments, keeping in view the demands and trends of the market. Islamic banks must follow the examples of the R&D sections of Western banks. They need research units to react to the constantly evolving nature of the financial marketplace, let alone answer the questions already facing them. Their survival depends on the efficiency that can be achieved through constant research and development.

Successful organisations have also built strategy around a common value proposition, communicated to and motivated the staff, invested in sustained staff training. This is no different for the Islamic financial institutions who wish to compete with the big players in the global market place. In order to build such a strong foothold, to grow and com­pete in the global market place the Islamic banking and finance indus­try has to commit sufficient resources for development of a long-term strategy, its proper imple­mentation and continuous review for improvement and change. Islamic banking needs to eventually come of age broadening its appeal not only to Muslims but also to non­Muslims attracting them with ethi­cal values, innovation, competiteive pricing and transparency.