Presentation in conjunction with the International Islamic Liquidity Management Workshop

1. BankMuscat Meethaq
Islamic Banking
SESSION 6:
FINANCIAL STABILITY, STRUCTURES & CREDIT ENHANCEMENT
IN ISLAMIC FINANCIAL MARKET PRODUCT
Prepared by: Mohamad Noranuar bin Sajari
BankMuscat Meethaq

2. Presentation Outline

3. SECTION 1
Financial Stability: A Glimpse

4. Financial Stability: What it is?
a. At the time of writing, there is no ‘consensus & easy’ definition of FS
from the literature view point.
b. But, FS will normally be associated with the following components:
1) Monetary stability
2) Employment levels close to the economy’s natural rate
3) Confidence in the operation of the generality of key financial
institutions and markets in the economy
4) Where there are no relative price movements of either real or
financial assets within the economy that will undermine (1) or (2)
Source: Michael Foot, Former MD of FSA UK (What is financial stability and how do we get it?)

5. Financial Stability: Understanding the Impact
REGULATORS
OBJECTIVES FOCUS AREA EXTRA POINTS FOR
ISLAMIC FINANCE
Strengthened prudential oversight - Over leveraged - Unique Shariah Compliance Risk
of capital, liquidity and risk - ALM Management
management - BASEL requirements*
Enhancing transparency and - BCOBS on Pillar 1 (Min Capital - Disclosure based on contract
valuation Requirements), Pillar 2 (Supervisory entered into / exit
Review Process) and Pillar 3 (Bank’s - Accounting disclosures (PER to
exposure to specific risks) PSIA / IRR to PSIA / ROA & ROE)
Strengthening the regulators' - Appropriate level of intervention - Unique Islamic Finance
responsiveness to risks - Monetary Policy vs Fiscal Policy guidelines
Robust arrangements for dealing - E.g. Flexibility of Statutory Reserve - Level playing field for Islamic
with stress in the financial system Requirements Finance players

6. +

7. Financial Stability: Understanding the Impact
FIs / IFIs
OBJECTIVES FOCUS AREA / ACTION POINTS
Clear accountability for each institution - To avoid ‘convoy effect’ (One failure causes
knock-on losses to others and threatens the
confidence that banks need if they are to
retain their deposits)
- Lehman Brothers
No duplication of effort & The need to use the - Classic example of KLIRR and most recently IIBR
alternatives provided (support only is NOT
enough!)
Regular exchange of information (as each - Roundtable discussion
institution is plugged into somewhat different - Maintaining market confidence
information circuits) - Promoting public awareness
- Protecting consumers
- Reducing irresponsible financial / cheap credit

9. Financial Stability: Understanding the Impact
CONSUMERS (CORPORATES + RETAIL)
FOCUS AREA ACTION POINTS
Make savings automagical - Auto-sweep facility
Control the ‘impulse’ of spending - Net Gearing Ratio for corporates
- Debt Burden Ratio for retail
Eliminate and avoid debt - ‘Debt Elimination Plan’
- Sukuk (a new ‘debt’ hole to close the other
debt hole)
Financial Health-Check - Evaluate Expenses vs Revenues, Savings vs
Investment, Protection

10. Financial Stability: Case Studies
FINANCIAL CRISIS DISCUSSION POINTS
Eurozone Sovereign-Debt Crisis - Off-balance sheet spending
- Borrow beyond means / Unable to repay
- Trade imbalance
- LOLR!!!
Sukuk Default - Asset-backed vs Asset-based
- Shariah Review

11. SECTION 2
Shariah Compliant Credit
Enhancement Mechanism

12. Credit Enhancement: What it is?
The process of reducing credit risk by requiring collateral, Takaful (or insurance
if the coverage is not available in the Takaful space), financial instruments
(such as margin maintenance / trade finance facilities) or other agreements to
provide the financier with reassurance that it will be compensated if the
financee defaulted.
Source: Investopedia

13. Credit Enhancement for Islamic Finance
To be Avoided Point of Attention
NO Collateral Required - Unsecured financing naturally lead to a higher
NPF w/o any asset to be liquidated
- GBBB approach can to be established
NO Credit Report / Credit Scoring Ratio - Company net gearing ratio etc
NO Business Plan / Cash Flow - To balance between Losses / Break even /
Making Profit
- Organic Growth
NO Asset or Real Estates Appraisals - Independent Valuation & Revaluation post
disbursement

14. Sample Structure of Credit Enhancement
Margin Maintenance – Mudharabah Structure

15. Sample Structure of Credit Enhancement
Margin Maintenance – Wadi’ah Structure

16. Sample Structure of Credit Enhancement
Margin Maintenance – Qardh Structure

17. Thank You
mohammedN@bankmuscat.com