Simon Archer and Rifaat Ahmed Abdel Karim
This paper aims to examine the issue that arises in the context of benchmark rate (or interest rate) changes made for reasons of monetary policy in a jurisdiction with a…
Abstract
Purpose
This paper aims to examine the issue that arises in the context of benchmark rate (or interest rate) changes made for reasons of monetary policy in a jurisdiction with a significant presence of Islamic banks. Changes, especially increases, in the prevailing interest rate made by central banks raise issues of asset-liability management for banks, which typically have longer maturities on the asset side than on the liabilities side, resulting in exposure to interest rate risk for conventional banks, and what is known as rate of return (RoR) risk for Islamic banks, which for reasons of compliance with Islamic religious law (Shari’ah) do not use interest in their operations. Islamic banks use various financial instruments which reflect the cost of funds by means of contracts of sale on credit or of leasing or forms of partnership, which allow them to earn returns on their funds and to pay returns to customers who deposit funds with them.
Design/methodology/approach
The methodology of this study consisted of a descriptive analysis of the relevant characteristics of Islamic banks and their economic and regulatory environments, illustrated by a case study approach applied to two jurisdictions, namely, Sudan and Malaysia.
Findings
In jurisdictions where Islamic banks represent a significant share of the market for financial services, if the contracts used in Islamic financing allow for periodic adjustments of the profit rate or lease rental, this could result in a significant impediment to the full implementation of monetary policy and hence to the maintenance of financial stability.
Originality/value
This study is (to the best of authors’ knowledge) the first thorough analysis in the literature of the issues arising from the exposure of Islamic banks to RoR risk and has clear implications for regulatory and central bank policy.
Details
Keywords
Salah Alhammadi, Simon Archer, Carol Padgett and Rifaat Ahmed Abdel Karim
The purpose of this paper is to examine the practices of Islamic banks in managing the so-called profit sharing investment accounts (PSIA) which they offer as a Shari’ah-compliant…
Abstract
Purpose
The purpose of this paper is to examine the practices of Islamic banks in managing the so-called profit sharing investment accounts (PSIA) which they offer as a Shari’ah-compliant alternative to interest-bearing deposit accounts using an unrestricted Mudarabah contract. In particular, the paper aims to examine the risk-return characteristics of such accounts and to compare these to the returns and risks of shareholders in the same banks. It is relevant that PSIA holders (unrestricted investment account holders – UIAH) are exposed to losses on the assets in which their deposits are invested, while the bank as asset manager (Mudarib) does not bear these losses and as Mudarib typically receives more than 50 per cent of the profits earned on the PSIA. The issue is whether the UIAH are being treated equitably. The influence of a set of corporate governance variables on this issue was also analyzed.
Design/methodology/approach
A sample of 28 Islamic banks was selected from five countries for the period 2002-2013, with data being obtained from Bankscope and Bloomberg and, where necessary, from the banks’ annual reports. First, the risk-return characteristics of the UIAHs’ rates of return and shareholders’ rates of return on equity (ROE) were compared by calculating for each bank the coefficients of variation (CV) of the two series of rates of return. Second, a panel data approach was used to evaluate the effectiveness of corporate governance by examining the extent to which the size of the difference between the rates of return for shareholders and for UIAH was associated with a set of corporate governance variables. Third, a comparison was made between the risk-return characteristics of UIAH’s rates of return and shareholders’ dividend yield rate for a sub-sample of 20 banks for which the information was available.
Findings
For a significant proportion of the banks (9 out of 28), the CVs of the PSIA returns were higher than those of the shareholders’ ROEs, which suggested that in these cases the PSIA holders were receiving inequitable treatment. Likewise, for 7 out of the 20 banks in the sub-sample, the CVs of the PSIA holders’ rates of return were higher than those of the shareholders’ dividend yield rate. In explaining the size of the differences between the rates of return on PSIA and the shareholders’ ROEs, the variable with the greatest explanatory power was the return on assets, implying that when this was high the bank took a maximum Mudarib share of profits. Some other corporate governance variables had the expected signs, as did a country dummy representing the maturity of the market for Islamic banking, but there was little evidence of the effectiveness of corporate governance in protecting the interests of the UIAH.
Research limitations/implications
A limitation of the research was that the inefficiency of the stock markets in the relevant countries and the fact that a few of the banks were not listed made it impossible to use shareholders’ stock market returns. ROE is not a very good proxy, as it is unclear how much value should be placed on retained earnings. Dividend yield rates provide a better comparison with UIAH rates of return, but the data were available for only 20 of the banks. Nevertheless, the results of the analysis strongly suggest that in a significant proportion of cases, UIAH are not being treated equitably.
Practical implications
The implication is that the regulation of Islamic banks needs to be improved to provide better protection to UIAH.
Social implications
Islamic banks operate mainly in emerging markets where the effectiveness of regulation is limited. The ethical basis of Islamic finance provides some mitigation of this problem but apparently fails to do so in a significant proportion of cases. This should be borne in mind when assertions are made about the ethical basis of Islamic finance.
Originality/value
There is a dearth of empirical studies of the practices of Islamic banks and in particular of their treatment of their customers. This is because of various factors: the relative novelty of Islamic finance, the paucity of data and the relatively small size of the body of researchers in the field. This paper aims to contribute to filling this gap.
Details
Keywords
Islamic banks are subject to religious audit in addition to thenormal financial auditing process which is carried out in other businessorganisations. The former type of audit is…
Abstract
Islamic banks are subject to religious audit in addition to the normal financial auditing process which is carried out in other business organisations. The former type of audit is conducted by in‐house religious advisers who are employed by the bank. These advisers issue a special report to assure readers that the financial statements of the bank were in accordance with the Islamic Law. This article compares and contrasts the independence of these religious auditors with external auditors. It puts forward theoretical propositions which reflect the possible behaviour of the consumers of the financial statements under situations where Shari′a Supervisory Board (SSB) reports discovered breaches of Islamic precepts by management. It is also argued that it is necessary that both SSB and the external auditor be perceived to be independent to ensure the credibility of the financial statements.
Details
Keywords
Reports that, unlike Western commercial banks, Islamic banks are prohibited by Islamic precepts to receive or pay interest, inter alia, in all their transactions. Argues that the…
Abstract
Reports that, unlike Western commercial banks, Islamic banks are prohibited by Islamic precepts to receive or pay interest, inter alia, in all their transactions. Argues that the Basle capital adequacy ratio (CAR), which was implemented in 1992 by regulatory authorities in many countries, is irrelevant to Islamic banks because it does not accommodate, among other things, one of the major instruments ‐ investment accounts ‐ through which Islamic banks mobilize funds on the basis of profit sharing. Develops four possible scenarios for the treatment of these accounts in the calculation of CAR and examines their impact on the financial and marketing strategies of Islamic banks in the light of the risk‐return relationship between the funds contributors of these banks.
Details
Keywords
Simon Archer, Rifaat Ahmed Abdel Karim and Venkataraman Sundararajan
The aims of this paper are: first, to draw attention to the issues of displaced commercial risk (DCR) which arise as a result of the risk characteristics of profit‐sharing…
Abstract
Purpose
The aims of this paper are: first, to draw attention to the issues of displaced commercial risk (DCR) which arise as a result of the risk characteristics of profit‐sharing investment accounts (PSIA), the main source of funding of Islamic banks in most jurisdictions; and, second, to present a value‐at‐risk approach to the estimation of DCR and the associated adjustments in capital requirements.
Design/methodology/approach
The paper is based on empirical research into the characteristics of PSIA in practice, which vary to a greater or lesser extent from what one would expect them to be in principle, on an analysis of the capital adequacy and risk management implications that flow from this, and on an econometric formulation whereby the extent of DCR in Islamic banks may be estimated.
Findings
The findings are, first, that the characteristics of PSIA can vary from being a deposit like product (fixed return, capital certain, all risks borne by shareholders) to an investment product (variable return, bearing the risk of losses in underlying investments), depending upon the extent to which the balance sheet risks get shifted (“displaced”) from investment account holders to shareholders through various techniques available to Islamic banks' management. Second, the paper finds that this DCR has a major impact on Islamic bank's economic and regulatory capital requirements, asset‐liability management, and product pricing. Finally, it proposes an econometric approach to estimating DCR but report that individual Islamic banks generally lack the data needed to apply this approach, in the absence of which panel data for a population of Islamic banks may be used to estimate DCR for that population.
Research limitations/implications
Empirically, the paper is thus limited by the lack of data just mentioned. Furthermore, the application of the proposed panel data approach has been left for future research.
Originality/value
The analysis of the issues and the development of the econometric model represent in themselves an original research contribution of some significance.
Details
Keywords
Muneer M. Alshater, M. Kabir Hassan, Ashraf Khan and Irum Saba
Islamic finance is an alternative approach of financial intermediation based on risk-sharing and asset-backed operations, which evolved substantially in recent years in academic…
Abstract
Purpose
Islamic finance is an alternative approach of financial intermediation based on risk-sharing and asset-backed operations, which evolved substantially in recent years in academic research raising the need for quantitative studies to address the intellectual development and scientific performance of this field. This study aims to provide quantitative statistics and comprehensive review of the key influential and intellectual structure of Islamic finance literature.
Design/methodology/approach
The authors apply the trending and cutting-edge quali-quantitative approach of bibliometric citation analysis. This study reviews 1,940 English studies and review papers published in scientific journals indexed by the Scopus database from 1983 to 2019. RStudio, VOSviewer and Excel’s software are used to analyze the collected data and apply the bibliometric tests.
Findings
The results identify the leading academic authors, journals, institutions and countries with relation to Islamic finance. The authors also propose six main research themes in this field, which are as follows: Islamic finance – fundamentals, growth and legitimacy; customer’s attitude and perception toward Islamic finance; accounting and social reporting of Islamic finance; performance and risk management of Islamic finance; Islamic financial markets; and efficiency of Islamic financial institutions. Lastly, the authors identify research gaps in the existing Islamic finance literature and present 24 future research directions.
Research limitations/implications
The data in this study is confined only to the Scopus database of English papers and reviews. It also considers papers directly related to the field of Islamic finance.
Originality/value
To the best of the authors’ knowledge, this paper is one of the first to address the literature of Islamic finance from a bibliometric aspect. The results of this study along with future research questions will help researchers and practitioners to further explore and stand on firm quantitative bases regarding the scientific development of Islamic finance.
Details
Keywords
Abstract
Details
Keywords
The purpose of this study is to investigate the two components of market discipline, investment account holder (IAH) monitoring and the consequent reaction of the Islamic banks in…
Abstract
Purpose
The purpose of this study is to investigate the two components of market discipline, investment account holder (IAH) monitoring and the consequent reaction of the Islamic banks in GCC countries for the 2004–2013 period, including the recent financial crisis of 2008.
Design/methodology/approach
We address the research question that Investment Account holders (IAH) in GCC countries suc as Kingdom of Saudi Arabia (KSA), Bahrain and United Arab Emirates (UAE) monitor their banks. Regression analysis was used to examine the dependence level of profit-sharing investment account (PSIA) growth rate on bank risk characteristics (CAMEL variables). Then, the reaction of banks by regression influencing CAMEL variables of one-lagged period on PSIA growth rate was verified.
Findings
The results provide evidence of the first component of market discipline, i.e. the IAH monitoring, in KSA, Bahrain and UAE. The common result to the three countries is that market actors are concerned with accounting information on capital adequacy. However, in UAE, they are also interested in assets performance, whereas they look more at earnings in Bahrain. The results show evidence of the second component in Bahrain; the bank reaction to IAH monitoring and subsequently IAH discipline in Bahrain. Finally, the results do not support any impact of the financial crisis.
Research limitations/implications
The sample size is small although it is constituted by banks having a sufficient number of observations.
Practical implications
This study highlights the importance of IAH discipline, which would help prudential bank monitoring by regulators and wealth development for both investors and managers. It should increase the disclosure of relevant information as for the part of effective accountability of Islamic banks’ governance.
Originality/value
This study contributes to the literature on market discipline by dealing with Islamic banks. It is one of the very few studies to investigate IAH discipline in Islamic banks and the second component of market discipline, i.e. the influence of monitoring on banks.