LONDON, 3 February 2003 — In January this year, new regulations introduced by the securities regulator, the Securities Commission (SC) relating to Shariah compliance of Islamic investment funds came into effect in Malaysia.
These regulations follow an earlier one introduced in July 2002 by the SC regarding the registration and appointment of Shariah advisories for Islamic investment funds and schemes offered in Malaysia. Both these regulations have gone almost unnoticed in the global Islamic finance sector. And yet they have important implications for the future of Shariah compliance relating to global Islamic financial management.
This especially in the light of the current pyramid scheme scandal in Saudi Arabia, where illegal, unregulated, and unregistered ‘financial firms’ have amassed a reported SR7 billion in deposits supposedly on the back of Shariah endorsement for the schemes, offering depositors outrageous rates of returns. It took decisive action from the Ministry of Interior not the regulator, SAMA (Saudi Arabian Monetary Agency), to close these companies down recently.
According to Gulf banking sources, similar illegal schemes surfaced in neighboring Qatar in 2001 and 2002, threatening a major scandal, which forced the authorities to act and bail out the depositors. Similar and other unauthorized investment schemes have also surfaced in Kuwait, Turkey, and Egypt in the past decades.
It is worth considering the Malaysian Security Commission’s so-called Practice Notes (PNs) 18 and 19, issued with the aim of further enhancing “the quality of management and administration” of Malaysia’s Islamic investment funds and unit trusts. The measures are also in line with the commission’s efforts to develop the Islamic capital market in Malaysia as set out in its Capital Market Master Plan.
PN18 stipulates the roles of Shariah advisories, committees, consultants; investment committees, trustees and compliance officers in overseeing the management of Islamic unit trusts and mutual funds to ensure that such funds are managed and administered in accordance with the provisions of their articles of memorandum and objectives.
Perhaps equally importantly, PN18 also seeks to enhance the skills set of Shariah advisories and committees to ensure that persons appointed do possess the required skills and abilities in Islamic financial law (Fiqh al-Muamalat) to perform their functions effectively.
PN19 sets out the registration procedures for Shariah advisories, committees, and consultants, “to provide an efficient and expedient framework for their appointment.” In other words, all Shariah advisories, committees, and consultants — whether individuals or members of boards in Malaysia or representing Malaysian financial institutions offering Islamic investment funds, must be registered with the Securities Commission. Registration, according to an SC source, will also allow individual process of approval. Shariah advisories and consultants must have a relevant degree in Islamic legal studies or in Fiqh al-Muamalat.
Needless to say Islamic legal compliance is integral to Islamic finance. Without Shariah compliance approval, there cannot be Islamic banking, investment, or insurance (Takaful).
Compared with conventional legal compliance, it is highly unlikely that a conventional bank would consider using the services of an individual lawyer not attached to any major legal firm. They may ask for a certain expert, but he or she would always be part of a team at a legal firm such as Norton Rose; Denton Wilde Sapte; Stephenson Harwood; King & Spalding; White & Case; Clyde & Co.; Squires, Dempsey & Co; Trowers & Hamlin, Mayer Brown Platt; and others — all currently involved in providing legal documentation services and advice on Islamic financial transactions, funds, and acquisitions.
Yet most of the Shariah advisories and consultants involved in Islamic finance today operate as individuals — very often the same people are appointed to the boards of rival banks and companies. The issues of conflict of interest and of confidentiality are either not appropriately considered or are ‘contained’ through special clauses in agreements. This status quo has tended to give Shariah advisories and consultants an inordinate power over financial institutions, without the requisite independent scrutiny and monitoring of their role, qualifications, experience, and judgments.
Islamic bankers and allied companies tend to agree that they are partly responsible for this ‘free-for-all’ Shariah compliance culture in the sector, which unfortunately has given rise to a number of unfortunate cases, which in turn have only served to add confusion and to undermine the very ethos of Islamic finance.
Apart from the recent scandals in Saudi Arabia and Qatar, Egypt’s Sheikh ul-Azhar Sheikh Syed Mohamed Tantawi, supported by an eager Egyptian financial regulatory establishment, has recently tried to re-invent a totally discredited policy that fixed rate and ‘normal’ rates of interest are permissible under the Shariah. The injunction was summarily but almost unassumingly dismissed by the Islamic Fiqh Academy. But yet the bad aftertaste of the injunction from supposedly the pre-eminent seat of Islamic learning, remains, only to be exploited by the cynics and enemies of the faith-based Islamic ethical banking movement.
Individual Shariah advisories or consultants, save one or two, are extremely coy about publicly defending the consensus position that all riba (interest) is proscribed in Islam.
In another major case involving an Islamic bank currently under liquidation, a group of Shariah advisories, acting in their capacities as either depositors or minor shareholders of the bank, are suing the senior management for fraud, embezzlement, and a string of other charges. Indictment papers have already been lodged with the Swiss Federal Prosecutor and a Swiss canton prosecutor. The bank’s management services company was based in Logarno in Switzerland. To add insult to injury, another prominent Shariah advisory to the bank issued a fatwa (Shariah ruling) arbitrarily exonerating the management of any wrong-doing, and stressing that any monies lost by depositors were done in the normal course of profit-and-loss investment. Needless to say the other Shariah advisories who lost money (and in some cases life savings) in the bank, were not amused.
There are several other shortcomings in Shariah advisory relating to Islamic financial management. Fortunately, some have seen the writing on the wall, and are organizing themselves into Islamic legal entities or firms — a move that should be encouraged. Yasaar Limited, incorporated in the UK; Securities House, incorporated in Kuwait; and the Islamic Finance Institute, set up in Pakistan, are but three such initiatives.
The Malaysians of course not for the first time in the Islamic finance sector have gone several steps further than their counterparts in the Gulf and elsewhere in the Muslim world. They have managed to introduce Shariah compliance quality control, enforcement and monitoring, and through registration have introduced a level playing field for all Shariah advisories involved in Islamic finance in the country. Yet another Malaysian model to emulate.
Lets hope that they eventually also manage to push through Shariah convergence with their Gulf and other counterparts especially on the vexed issues relating to Islamic bonds and debt securities.