LONDON, 18 June 2007 — After almost three decades of the “International Commodity Murabaha” (Islamic commodity trade finance based on the cost-plus financing principle), both regulators and market players are revisiting the structures and tightening any loopholes which might be deemed contrary to Islamic investment principles.
This is a major development given that the global commodity Murabaha market is in excess of $1.2 trillion. In April 2007, Bank Negara Malaysia, the central bank, together with the Securities Commission of Malaysia and Bursa Malaysia (the stock exchange) and industry players, launched the Commodity Murabaha Program (CMP), which will act as a liquidity management scheme for Islamic bank overnight and short-term deposits, using crude palm oil as the underlying commodity traded for investment. Bank Negara has executed CMP master agreements with eight Islamic banking institutions to promote the use of the instrument for liquidity management.
Last month Saudi Hollandi Bank became the first Saudi financial institution to sign up to the CMP.
Two further commodity Murabaha agreements will be signed in London on Wednesday during the Sukuk Summit. At the same time, another commodity Murabaha product aimed at global Islamic liquidity management involving a top GCC Islamic bank and two Western banking majors, which similarly filters out non-Shariah compliant investments, is due to be launched.
“Some people may argue that doing the CMP is regressing,” explained Badlisyah Abdul Ghani, CEO of CIMB Islamic Bank and head of Islamic Finance at the CIMB group, one of Malaysia’s top banking groups. “There is nothing wrong with the commodity Murabaha as a structure. What is not liked is when the proceeds of the commodity Murabaha are used for non-Shariah purposes. This is a fact. This leakage of Islamic funds is huge, which we estimate is over $1.2 trillion. The basic funds are mostly invested in US treasuries and non-Shariah compliant investment products. We need a situation where commodity Murabaha conducted in the market is done in such a way that the proceeds arising from transaction are utilized Islamically. In other words, Islamic finance liabilities must match Islamic finance assets.”
Similarly in the Sukuk (Islamic bond) market, there are certain scenarios where conventional banks are issuing Islamic papers and raising Islamic funds to finance their conventional activities. Such activities, warned Abdul Ghani, “are wrong. Those should never happen.”
The Malaysian CMP has important legal and market implications, which are bound to impact on other markets where commodity Murabaha deals are transacted including the GCC states and the UK through the London Metals Exchange (LME). In Malaysia, under the Islamic Banking Act 1983, all financial institutions offering Islamic financial products are obliged under law to ensure that their products do not contradict Shariah financial principles. “We never employed commodity Murabaha as practiced abroad. We are bound by our Islamic Banking Act which requires the whole transaction to be Shariah-compliant — how you raise the funds, and how you utilize and manage the funds. Because of this, market players are encouraged to seek Islamic assets. This, in turn, encourages product development and innovation. The result has been an extremely vibrant and deep Islamic debt market in Malaysia, in which Islamic funds are chasing Islamic assets,” Abdul Ghani said.
Conventional banks in Malaysia offering Islamic finance products such as the commodity Murabaha must similarly comply with Section 124 of the Islamic Banking Act. They must separate their Islamic balance sheet and PNL in tangible form from their conventional ones, to ensure that they are operating Islamic funds in a Shariah-compliant way. This regulatory framework and an Islamic interbank money market are only to be found in the Malaysian financial space.
Globally, hitherto most of the placements were in the commodity Murabaha markets, and very little in a secondary market for Sukuk, or even in primary Sukuk issuances. Although this is changing with the growth of the Sukuk market, the market disequilibrium in Islamic finance is still pronounced where there is a huge pool of funds with very few instruments to invest in.
Islamic bankers do not think there would be any difficulty to universalize the Malaysian framework. They stressed that any jurisdiction which is serious about facilitating Islamic finance should simply incorporate the legal principle that any entity that wishes to under take Islamic banking must do so in a manner that does not violate Shariah financial principles. This is effectively a legal definition as to what constitutes Islamic banking.
CIMB for instance does place Islamic funds with foreign banks, including commodity Murabaha. However, Abdul Ghani said “we insist in our contract that we include one clause, whereby both parties agree that investments in the transaction will be conducted in a Shariah-compliant way. Any bank that refuses on this clause, we will not sign up with. Banks in the GCC and elsewhere should follow this example.”
The Malaysians of course use commodity Murabaha, Mudaraba and Wadiah interbank placements. The system, local bankers stress, is efficient and effective. However, it may not be wise to globalize this in the short term. Bankers prefer that individual countries first set up a formal Islamic interbank market in their jurisdictions with the relevant regulatory and legal architecture. Only after then can the market talk about a global Islamic money market.
“There is too much harping on about a global market and global standards, when there is nothing in your local markets. There are a lot of activities, but very little structured, regulated or formal. This is not the way we want our (Islamic finance) industry to develop. As a player, I want to go into a jurisdiction with certainty about how I can do business there and not worry about whether I am contravening this or that law. Once I have that comfort, then there will be cross-border and global transactions,” Abdul Ghani added.
