Mahyuddin Khalid emkay@salam.uitm.edu.

my

ISLAMIC BANKING AND FRAMEWORK OF ISLAMIC FINANCIAL FINANCE SYSTEM

CONTENT
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HISTORICAL DEVELOPMENT OF ISLAMIC FINANCIAL SYSTEM DEVELOPMENT OF ISLAMIC BANKING DEVELOPMENT OF TAKAFUL DEVELOPMENT OF ISLAMIC CAPITAL MARKET ISLAMIC MONEY MARKET SHARIAH ADVISORY COUNCIL (SAC) LABUAN AS ISLAMIC IOFC INTERNATIONAL ISLAMIC FINANCIAL MARKET ISLAMIC FINANCIAL SERVICE BOARD

LICENSING OF FOREIGN ISLAMIC BANKS AND ISLAMIC BANKS SUBSIDIARIES FINANCIAL SECTOR MASTER PLAN

HISTORICAL LANDMARKS IN ISLAMIC FINANCE DEVELOPMENT

1963 1969 1970
Mit Ghamr, Egypt Pilgrims Fund Board (Lembaga Tabung Haji), Malaysia Oil boom Islamic Development Bank, Saudi Arabia Dubai Islamic Bank, UAE Fatwa issued by the Fiqh Council of Muslim World League in favor of Islamic insurance (takaful) Luxembourg Islamic Bank (1st attempt in the West ) Sudanese Islamic Insurance Company is established as the worlds 1st Takaful company by Faisal Islamic Bank of Sudan Malaysia passes comprehensive legislation on Islamic finance (Islamic Banking Act) OIC Islamic Fiqh Academy legitimizes Sukuk which paves the way to the development of Islamic debt securities World 1st sukuk issued in Malaysia (Based on BBA) by Shell MDS worth USD 30 million

1975
1977 1978 1979 1983 1988 1990 1991 2002
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AAOIFI , Bahrain
IFSB, Malaysia International Islamic Liquidity Management (IILM), Malaysia

2011

STAGES OF DEVELOPMENT
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Gradual and pragmatic

Milestones
1969
Pilgrimage Fund Board Full-fledged Islamic banks
Bank Islam Malaysia Bhd. Bank Muamalat Malaysia Bhd. Foreign Islamic banks

1983

1993

2003

Conventional banks offer Islamic window Islamic subsidiary

Islamic Money Markets

Takaful Operators

Syarikat Takaful Malaysia Bhd.

Takaful Nasional, Mayban Takaful, Takaful Iklhas, Commerce Takaful

..achieved significant milestones in building comprehensive and integrated Islamic financial system with diversity of players.

1ST PHASE : 1963-1992

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1963 Establishment of the Pilgrims Fund Board It is saving mechanism Malaysian Muslim set aside regular funds to cover them performing annual pilgrimage

1969 Pilgrims Fund Board combined with Pilgrims Management Fund Board/ Lembaga Urusan dan Tabung Haji (LUTH)

1980 Several parties were calling for establishment of Islamic bank due to resurgence that happened in the Middle East Eg: Malaysian government had being offered by Bumiputra Economic Congress to set up Islamic Bank in this country

1981

1983

Set up National July : NSC Steering submitted their Committee (NSC), report to chaired by Raja government Mohar The first Islamic Badiozaman bank was NSC undertake established in study and make Malaysia- Bank recommendations Islam Malaysia to government on Berhad (BIMB) all aspects relating under Islamic Islamic Bank in Banking Act 1983 Malaysia, including legal, religious and operational aspects. LUTH take over the secretarial functions

2ND PHASE : 1993-2000

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1993 March: Interest-Free banking Scheme (IFSB)/ Skim Perbankan Tanpa Faedah (SPTF) was launched on a pilot basis involving Malayan Banking Bhd. , Bank Bumiputra Malaysia Berhad and United Malayan Banking Corporation Bhd. July: Commercial banks, merchant banks and finance companies begun to offer Islamic banking products and services under the Islamic Banking Scheme (IBS banks).

May 1997 BNM establish Shariah Advisory Council (SAC) which consist of academicians and Shariah experts in Islamic Banking and Takaful Role: Harmonize different opinion in Shariah Advise BNM Analyze Shariah aspects of new products submitted by banking institutions and takaful companies

December 1998 The IFSB/SPTF was replaced with Islamic Banking Scheme (IBS)/ Sistem Perbankan Islam

October 1999 Establishment 2nd Islamic Bank, Bank Muamalat Malaysia Berhad ( merger between Bank Bumiputera Malaysia Bhd. + Bank Commerce (M) Berhad

3RD PHASE : 2001-2010

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2001 March: BNM had launched Financial Sector Master Plan (FSMP) incorporated a comprehensive 10 year master plan for Islamic banking and Takaful Declaration of Labuan as International Offshore Financial Centre (IOFC) to promote Malaysia as International financial system

2002 Establishment of Islamic Financial Services Board (IFSB) in Kuala Lumpur

2004 Financial liberation of Islamic Banking sector with the issuance of three new Islamic license under IB Act 1983, from Middle East to Islamic financial institution

Today Implementing dual banking system Become the first nation have fullfledge Islamic system operating side-by-side with conventional system

TAKAFUL
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Arabic word ) )guaranteeing each other / joint guarantee. It is an Islamic insurance concept which is grounded in Islamic muamalat, observing the rules and regulations of Islamic law. Basic concept

Social solidarity Cooperation Mutual indemnification of losses among members Policyholders (Takaful partners) cooperate among themselves for their common good. (wakalah) Every policyholder pays his subscription to help those who need assistance (tabarru) Losses are divided and liabilities spread according to the community pooling system. (mudharabah) Uncertainty (gharar) is eliminated concerning subscription and compensation. It does not derive advantage at the cost of others. (no riba)

Principles

HISTORICAL DEVELOPMENT OF TAKAFUL IN MALAYSIA

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1983

1984

1985

1996 July-Takaful Malaysia was listed on the Main Board of Bursa Malaysia

1997 May- BNM established NSAC on Islamic banking and Takaful

The The Takaful Act Takaful development was drafted Malaysia of takaful offering Family Syarikat industry in Takaful & Takaful Malaysia was General Malaysia inspired Takaful Berhad through the Business (Takaful establishment Malaysia)was of Bank Islam established as Malaysia the pioneer Berhad (BIMB) takaful in 1983 operator in Malaysia

COMPARISON BETWEEN TAKAFUL AND INSURANCE

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TAKAFUL Prohibited all of this elements because its contradict with Shariah.

CRITERIA

INSURANCE

Elements Of Contains all these Gharar elements (uncertainty), Maisir(gambling ), And Riba Shariah Supervision Dont have Shariah Supervision

Objective is to ensure that the activities of company are carried out according to principles of Shariah.

The account is known as general insurance account and life insurance account of fund.

Accounts

The account known as Tabarru which means donation, the other one is treated in line with the principle of Mudharabah.

COMPARISON BETWEEN TAKAFUL AND INSURANCE

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TAKAFUL
Specifies from the outset how the profits from. Takaful investment are to be shared between the operator(mudharib) and the participants(sahib ul-mal).

CRITERIA

INSURANCE
May offer bonus or profit in general terms only especially with profit policies, there is no exact specification with regard to the profit-sharing in contract. It may also decide to give or not to give bonus for any particular year depending on the result of the investment return. The funds may also be invested in an interest-based scheme. They can also be invested in any scheme or project, which may not be supported by the Shariah discipline.

Bonus

The funds shall be invested in any interest free from Shariah justified scheme. The entire procedure shall comply the guidelines of the Shariah investment return must not be driven by any unethical commercial activities.

Investment

COMPARISON BETWEEN TAKAFUL AND INSURANCE

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TAKAFUL The entire operation aims at paying the way of brotherhood, solidarity and mutual cooperation. Regulations affecting Takaful are based on the Divine sanction (Quran and Hadith)

CRITERIA Nature

INSURANCE The operation aims a commercial gain on the basis of the principles of business. Insurance law is based on the human thoughts and cultures

Regulations

Participants own the Takaful fund and managed by the operator. Participants give up individual rights to gain collective rights over contribution and benefits

Contract

Insurance is a buy-sale contract in which policies are sold and the policy holders are the purchasers.

ISLAMIC CAPITAL MARKET

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Islamic capital market means where investment and financing activities and products are structured in accordance with Shariah principles. The Islamic Capital Market (ICM) refers to the market where activities are carried out in ways which doesnt conflict with the principles of Islam. The ICM represents an assertion of religious law in capital market transactions where the market is free from prohibited activities and elements such as riba, maysir and gharar

ISLAMIC CAPITAL MARKET

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The SCs efforts to develop the ICM by setting up of the necessary infrastructure:

Establishing an Islamic Capital Market Unit (ICMU)

to carry out research and development of ICM instruments analyzing the existing securities from Shariah perspectives to advise the SC on development ICM to study issues related to the operation of the ICM succeeded the role and function of IISG to ensure that the operation of the ICM conform to Shariah principles to advise the SC on all matters related to the development of the Islamic capital market as a reference center for issues related to Islamic capital market.

Establishing Islamic Instruments Study Group (IISG)

Establishing Shariah Advisory Council (SAC) of SC

ISLAMIC CAPITAL MARKET

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YEAR 1990

CRITICAL MILESTONES SHELL MDS Sdn. Bhd. Issued the first Islamic bond.

1993
1994 1995 1996

Launch of first Islamic Equity unit trust fund by ArabMalaysian Unit Trust Bhd
BIMB Securities Sdn. Bhd was established. SC established ICM Unit. The Shariah Advisory Council (SAC) was established. RHB launched the countrys first Islamic equity index, comprising shares of KLSE main board companies.

1997
1999

The SC introduced an official list of Shariah approved securities traded on the KLSE.
The KLSE launched the countrys second Islamic equity index, the KLSE Shariah index (KLSI)

ISLAMIC CAPITAL MARKET

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YEAR
2000

CRITICAL MILESTONES
The SC imposed the requirement to engage independent Shariah adviser for issuing Islamic Bonds, as stipulated in the Guidelines on the Offering of Private Debt Securities. Islamic Bond Fund launched. The minister of Finance launched the Capital Market Master plan. Issuance of the worlds first Global Sukuk by Kumpulan Guthrie First Global Islamic Bond Issues. The Prime Minister launched the book, resolutions of the Securities Commission SAC. Issuance of the worlds first Global Sovereign Sukuk The Malaysia Government, in its Federal Budget 2004, allowed tax deduction for 5 years on expenses occurred in the issuance of Islamic bonds, based on Shariah principles of Istisna.

2001

2002

2003

ISLAMIC MONEY MARKET

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The Islamic Money Market (IIMM) is integral to the functioning of the Islamic banking system. IIMM provide the Islamic financial institutions with the facility for funding and adjusting portfolios over the short-term and serving as a channel for the transmission of monetary policy. Financial instrument and interbank investment would allow surplus banks channel funds to deficit banks, also maintaining the funding and liquidity mechanism necessary to promote stability in

ISLAMIC MONEY MARKET

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IIMM was introduced on January 3, 1994 as a short-term intermediary to provide a ready source of short-term investment outlets based on Shariah principle. The Islamic banks and banks participating in the Islamic Banking Scheme (IBS) would be able to match the funding requirements effectively and efficiently. Bank Negara Malaysia (BNM) issued the guidelines to facilitate proper implementation of the IIMM.

SHARIAH ADVISORY COUNCIL (SAC) OF THE BNM

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BNM established its Shariah Advisory Council (SAC) on Islamic Banking and Takaful on 1 May 1997 to streamline and harmonize the Shariah interpretations among banks and takaful companies. The SAC is the highest authority in deciding Shariah issues pertaining to Islamic banking and takaful operations in Malaysia. The primary objectives of SAC are as follows:

To act as the sole authoritative body to advise BNM on Islamic banking and takaful operations To co-ordinate Shariah issues with respect to Islamic banking, finance and takaful To analyze and evaluate Shariah aspects of new products/ schemes submitted by the banking institutions and takaful companies.

DEVELOPMENT FINANCIAL INSTITUTIONS (DFIS)

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The aspiration of BNM to develop a comprehensive Islamic banking system had stimulated the non-banking financial intermediaries to offer Islamic banking products and services includes:
Bank

Simpanan Nasional (BSN) Bank Kerjasama Rakyat Malaysia (BR) Development Finance Institutions (DFIs) i.e. Bank Pembangunan dan Infrastruktur Malaysia (BPIM) and Bank Pertanian Malaysia (BPM).

LABUAN AS AN ISLAMIC IOFC

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Government has made a decision to promote Labuan as an International Offshore Financial Centre (IOFC) to position itself as an international center for offshore Islamic banking and finance with the objectives:

To complement domestic financial activities in Kuala Lumpur To strengthen the contribution of the financial services sector in the gross national product of Malaysia To promote the economic development of Labuan

Labuan with the status of IOFC has the advantage to attract international banking business by:

Reducing or eliminating the need for full compliance with local capital requirements Having lower license fees, corporate taxes and other business levies

INTERNATIONAL ISLAMIC FINANCIAL MARKET (IIFM)

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Labuan Offshore Financial Services Authority (LOFSA) was established and responsible for setting national objectives, policies and priorities for the development and administration of offshore financial services in Labuan. In its efforts to develop Labuan as an Islamic IOFC, LOFSA worked with Islamic scholars to identify potential offshore activities as well as to develop viable Islamic financial instruments which would attract Islamic investors to the Labuan Following this, Malaysia, Bahrain, Indonesia, Sudan, Iran and the Islamic Development Bank (IDB) established an IIFM Board April 2002 The IIFM Board was entrusted to develop and supervise the development of the IIFM and supported by two committees, the Market and Product Development Committee MPDC and the Shariah Supervisory Committee (SSC).

FIRST SOVEREIGN GLOBAL ISLAMIC SUKUK

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Malaysia successfully launched the first Sovereign Global Islamic Sukuk, structured on the principle of ijarah on 25 June 2002. The launching of the global Islamic bond signified Malaysias strong commitment in supporting the development of Islamic banking and finance on the global front. The move to access the international Islamic capital market would give impetus to the development of the Islamic financial market.

INTERNATIONAL ISLAMIC FINANCIAL MARKET (IIFM)

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LOFSA initiated the establishment of a global network of Islamic financial markets known as International Islamic Financial Market (IIFM) with the objectives:
To establish a structured global financial market that is based on Shariah principles To enhance the cooperative framework among Islamic countries and financial institutions To generate the liquidity, creation and trading of financial instruments, thus enhancing investment opportunities and spins-off of other related services and activities such as custodial, brokerage and treasury. To promote greater awareness of Islamic banking and finance, and facilitate cross border transactions.

ISLAMIC FINANCIAL SERVICES BOARD (IFSB)

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Islamic Financial Services Board (IFSB) was established in 2002. The establishment of the IFSB will set the stage for the adaptation, harmonization and development of the international regulatory and supervisory standards as well as best practices for the governance of all financial institutions offering Islamic financial services and products. The nine founding members are Bahrain, Indonesia, Iran, Kuwait, Malaysia, Pakistan, Saudi Arabia, Sudan and the Islamic Development Bank, The IFSB secretariat is located in Kuala Lumpur. Malaysia. The Board will also contribute towards ensuring the soundness and stability of the Islamic financial system, thus paving the way for Islamic banking to expand globally.

LICENSING OF FOREIGN ISLAMIC BANKS AND ISLAMIC BANKS SUBSIDIARIES

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The financial liberation of the Islamic banking sector was introduced on 2007 with the issuance of three new Islamic bank licenses under the Islamic Banking Act 1983 (IBA) The new entries of the foreign Islamic banks were in line with the recommendations of the Financial Sector Master plan (FCMP) to position Malaysia as an international Islamic financial hub. The presence of foreign players will promote healthy competition which is necessary to elevate the industry to new levels of dynamism as well as to accelerate the global integration the domestic Islamic banking system. It will also promote greater economic and financial linkages between Malaysia and the Middle East, and foster greater harmonization in terms of Shariah interpretation and understanding.

LICENSING OF FOREIGN ISLAMIC BANKS AND ISLAMIC BANKS SUBSIDIARIES

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In 2004, BNM also continued to further strengthen the overall infrastructure development of the Islamic banking system as the Islamic banking industry entered a more advanced stage of development. The window-based institutional structure was reviewed to further strengthen and elevate the development of domestic Islamic banking industry through a new enabling institutional structure. The domestic banking groups and foreign Islamic Banking Scheme (IBS) banks were encouraged to set up Islamic subsidiaries (IS) as full-fledged Islamic banks which would be licensed under the

FINANCIAL SECTOR MASTER PELAN FOR ISLAMIC BANKING

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Financial Sector Master Plan was launched on March 2001 incorporates 10 years master plan for Islamic banking a FSMPs aim is to create an efficient, progressive and comprehensive Islamic financial system that contributes significantly to the effectiveness and efficiency of then Malaysian financial sector. FSMP provides recommendations which focus on three main areas:
Institutional capacity enhancement Financial infrastructure development Regulatory framework development

VISION OF ISLAMIC BANKING AND TAKAFUL

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Malaysia as a regional Islamic financial center. Constitute 20% of the banking and insurance market share with an effective contribution to the financial sector of the Malaysian economy Represented by a number of strong and highly capitalized IBIs and takaful operators Offering a comprehensive and complete range of Islamic financial products and services Underpinned by a comprehensive and conducive Shariah and regulatory framework Supported by a dedicated institution (Shariah commercial court) in the judiciary system that addresses legal issues Supported by a sufficient number individuals and management teams with the required expertise

CONCLUSION
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Islamic banking system has experienced a rapid growth and tremendous development since its first debut in 1983 Various measures have been adopted by the authorities in implementing the Islamic banking system with a step by step and open-minded approach with each step taken after careful consideration of all implications. In order to he a viable Islamic banking system, all the basic elements towards this purpose were being established by the authority. These include a large number of products, instruments and institutions and the establishment of an Islamic money and capital market which would link the institutions and the instruments.

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END OF CHAPTER