1. SEKTOR KEWANGAN ISLAM DI MALAYSIA ISLAMIC BANKING & FINANCE IN MALAYSIA ISLAMIC BANKING AND FINANCE: MALAYSIA’S EXPERIENCE AND ACHIEVEMENTS 13 June 2006 Victoria University of Wellington Presented by: Bakarudin Ishak Director Islamic Banking and Takaful Department Bank Negara Malaysia ISLAMIC BANKING & FINANCE IN MALAYSIA

2. SEKTOR KEWANGAN ISLAM DI MALAYSIA ISLAMIC BANKING & FINANCE IN MALAYSIA MALAYSIA AT A GLANCE Population – 26.1 m Muslim – 15.4 m (59%) Strong GDP growth 1 st quarter 2006 5.3% Low inflation

3. SEKTOR KEWANGAN ISLAM DI MALAYSIA ISLAMIC BANKING & FINANCE IN MALAYSIA In response to the needs of Muslim community Acts as a catalyst to fill the gap to mobilise funds for productive purposes, in particular for Muslim communities Significant untapped business potential Proven to be a viable financial intermediation channel in supporting economic growth Fulfilled the demands of not only the Muslims but non-Muslim population as well WHY ISLAMIC BANKING IS IMPORTANT?

4. SEKTOR KEWANGAN ISLAM DI MALAYSIA ISLAMIC BANKING & FINANCE IN MALAYSIA Comprehensive Islamic financial system covering all financial sectors –operating in parallel with conventional financial system Diversities of players –Twelve full-fledged Islamic banking institutions – 2 domestic Islamic banks – 3 full-fledged foreign owned Islamic banks – 7 Islamic banking subsidiaries – 9 takaful operators Sound and robust Islamic financial institutions governed by international best practices Rapid growth with wide range of product and services –Retail, corporate & investment banking Internationally integrated with international Islamic financial system MALAYSIAN ISLAMIC FINANCIAL SYSTEM

5. SEKTOR KEWANGAN ISLAM DI MALAYSIA ISLAMIC BANKING & FINANCE IN MALAYSIA STAGES OF DEVELOPMENT Gradual and pragmatic..achieved significant milestones in building comprehensive and integrated Islamic financial system with diversity of players…. Milestones 1969198319932003 Pilgrimage Fund Board Bank Islam Malaysia Bhd. Bank Muamalat Malaysia Bhd. Foreign Islamic banks Full-fledged Islamic banks Conventional banks offer Islamic window Takaful Operators Syarikat Takaful Malaysia Bhd. Takaful Nasional, Mayban Takaful, Takaful Iklhas, Commerce Takaful Islamic subsidiary Islamic money markets

6. SEKTOR KEWANGAN ISLAM DI MALAYSIA ISLAMIC BANKING & FINANCE IN MALAYSIA Dedicated Islamic Banking Division Dedicated minimum capital as Islamic Banking Fund Separate clearing account with the Central Bank Separate cheque clearing system Separate submission of statistical reports in Financial Inst. Statistical System on monthly basis Additional disclosure of Islamic banking portfolio in financial statements CONVENTIONAL BANKS WITH ISLAMIC WINDOW …. total segregation of funds to meet Shariah requirement

7. SEKTOR KEWANGAN ISLAM DI MALAYSIA ISLAMIC BANKING & FINANCE IN MALAYSIA Institutional & Regulatory development Product and market development Legal and Shariah framework Enhancement of knowledge and expertise DEVELOPMENTAL FOCUS

8. SEKTOR KEWANGAN ISLAM DI MALAYSIA ISLAMIC BANKING & FINANCE IN MALAYSIA ENABLING INFRASTRUCTURE Legal  Islamic Banking Act, 1983  Takaful Act, 1984  Government Investment Act, 1983  Legal Redress Framework Shariah  Two Shariah governing committees National Shariah Advisory Council at Bank Negara Malaysia Shariah committee at Islamic financial institution Regulatory  Adopted international standards

9. SEKTOR KEWANGAN ISLAM DI MALAYSIA ISLAMIC BANKING & FINANCE IN MALAYSIA ROLE OF BANK NEGARA MALAYSIA BNM Conventional financial system Islamic banks Takaful operators Non-banking institutions Money marketCapital market Customer Islamic financial system Conventional banks Insurance companies Non-banking institutions Money marketCapital market Malaysia Deposit Insurance Corporation Dispute resolution  Judicial system  KL Regional Arbitration Centre  Financial Mediation Bureau Supervisory objective Financial stability Consumer protection -Separate clearing and settlement system -Liquidity management  Specific monetary policy instruments Islamic Banking Act 1983 Takaful Act BAFIA 1989 Insurance Act 1996

10. SEKTOR KEWANGAN ISLAM DI MALAYSIA ISLAMIC BANKING & FINANCE IN MALAYSIA COMPREHENSIVE ISLAMIC FINANCIAL SYSTEM Legal, Shariah & Reg Institutional development Product & market Knowledge and education Comprehensive legislation Dispute resolution o Dedicated high court o Arbitration centre o Financial Mediation Bureau Tax neutrality policy Shariah Advisory Council and its governance International best practices - IFSB Comprehensive product range in banking, takaful & financial markets Global sukuk - sovereign & multilateral institutions Consumer Education & Awareness Programmes Complete training infrastructure o INCEIF, IBFIM & ICLIF International conferences Domestic & foreign Islamic banks, Islamic banking windows Islamic capital market players Fund for Shariah Scholars o Promote Shariah dialogues o Scholarship o Research grant Offshore players Liberalised equity policy for Islamic subsidiaries and takaful

11. SEKTOR KEWANGAN ISLAM DI MALAYSIA ISLAMIC BANKING & FINANCE IN MALAYSIA VISION TO BECOME ISLAMIC FINANCIAL HUB  Sustaining Malaysia’s competitive edge as leading IFC following:-  progressive development  achievements of domestic mkt  integration & liberalisation  Moving forward, hub envisioned in Financial Sector Master Plan  Growing interest from Middle East investors now seen  Opportunity to improve trade & investment ties, and linkages between Malaysia & other parts of the world

12. SEKTOR KEWANGAN ISLAM DI MALAYSIA ISLAMIC BANKING & FINANCE IN MALAYSIA LEADING INITIATIVES IN ISLAMIC FINANCE 2005 Islamic Financial Services Board Malaysia global sukuk 2002 2003 2004 Islamic securities/ Sukuks by multilateral dev’t banks Malaysia-IDB MoU Shariah scholars dialogue Financial liberalisation Financial Market Islamic Index Foreign Islamic FIs, 49% foreign equity in Islamic banks and takaful companies Forex liberalisation Promotion of trade, investment, takaful, financial market & ICT International Islamic standard- setting body Attract international investors First global sovereign sukuk Greater Shariah harmonisation Financial Sector Master Plan Malaysia as international hub/ Labuan’s niche in Islamic finance … for global integration

13. SEKTOR KEWANGAN ISLAM DI MALAYSIA ISLAMIC BANKING & FINANCE IN MALAYSIA Meeting the education needs of all levels of Islamic finance practitioners Level of knowledge: Elementary Focus: Short training courses to meet industry’s needs IBFIM INCEIF ICLIF Level of knowledge: Intermediate & advanced Focus: International professional certification and post- graduate programs Focus: Leadership programs Institutions of higher learning Other training providers Human Capital Development in Islamic Finance

14. SEKTOR KEWANGAN ISLAM DI MALAYSIA ISLAMIC BANKING & FINANCE IN MALAYSIA Part 1 (Building Knowledge) Part 2 (Building Skills) Part 3 (Actual Work) Islamic Economics and Finance Theory & Ethics Islamic Financial Institutions and Markets Islamic Finance Regulations and Governance Applied Shariah in Financial Transactions Deposits Mobilization and Financing Management Wealth Planning and Management ASSOCIATE MEMBER Common Modules Structuring Financing Requirements Issuing & Managing Islamic Securities Shariah Audits and Compliance Customer Relationship Management Issues in Islamic Financial Institutions & Markets Specialized (Banking) Modules Deposit & Financing Practices of Islamic banks Managing Islamic Banks Treasury and Risk Management for Islamic Banks Legal aspects of Deposits & Financing Specialized (Takaful) Modules Managing Takaful Institutions Risk Management in Takaful Operational Aspects of Takaful Actuarial Concepts & Practices PROFICIENT MEMBER Articleship PRACTISING MEMBER Pedagogical approach: Self-study (on-site and online learning), exams, case studies, simulation Hands-on activities & role play CIFP PROGRAMME MODULES

15. SEKTOR KEWANGAN ISLAM DI MALAYSIA ISLAMIC BANKING & FINANCE IN MALAYSIA “… Islamic banking and finance will emerge as a force to be reckoned with in shaping the future development of global finance …”

16. SEKTOR KEWANGAN ISLAM DI MALAYSIA ISLAMIC BANKING & FINANCE IN MALAYSIA Presently… Rapid growth of Islamic banking in the global financial world Various parts of the world are actively promoting Islamic banking and finance in their respective jurisdictions Emergence of global conventional players venturing into Islamic financial activities INTERNATIONAL DEVELOPMENT IN ISLAMIC FINANCE

17. SEKTOR KEWANGAN ISLAM DI MALAYSIA ISLAMIC BANKING & FINANCE IN MALAYSIA COMPREHENSIVE ISLAMIC FINANCIAL SYSTEM ISLAMIC BANKING & FINANCE IN MALAYSIA

18. SEKTOR KEWANGAN ISLAM DI MALAYSIA ISLAMIC BANKING & FINANCE IN MALAYSIA Conventional banks Islamic banks Conventional financial system Islamic financial system Conventional banks window MALAYSIA’S PARALLEL DUAL FINANCIAL SYSTEM Conventional banks Islamic Banking Subsidiaries Insurance Companies Takaful Operators ISLAMIC BANKING & FINANCE IN MALAYSIA

19. SEKTOR KEWANGAN ISLAM DI MALAYSIA ISLAMIC BANKING & FINANCE IN MALAYSIA GROWTH OF ISLAMIC BANKING AND FINANCE Market share of Islamic banking sector (as at March 2006) –Assets: 11.6% or RM113.5 b –Deposits: 11.6% or RM85.0 b –Financing: 15.7% or RM67.5 b Growing at 19% p.a. since 2000 Market share of takaful sector (as at March 2006) –Assets: 5.9% or RM6.2 b –Market : 5.9% penetration Performance of Islamic financial markets (as at March 2006) –Active money market activities : o monthly trading & investment turnover of RM21 billion –Wide range capital market investment avenue: o Islamic PDS 40% of outstanding PDS o Over 80% Shariah approved counters on Bursa o Over 70 Islamic unit trusts o Issuance of first Islamic residential mortgage backed securities of RM2.05 billion based on musyarakah concept by Cagamas MBS Berhad o RM400 million BNM Ijarah Sukuk issued in February 2006 5.9% Assets of Takaful funds (as at Mar-2006) Islamic Banking Assets

20. SEKTOR KEWANGAN ISLAM DI MALAYSIA ISLAMIC BANKING & FINANCE IN MALAYSIA

21. SEKTOR KEWANGAN ISLAM DI MALAYSIA ISLAMIC BANKING & FINANCE IN MALAYSIA CHARACTERISTICS OF ISLAMIC BANKING Islamic financial transactions based on Shariah principles: Contract (aqad) No elements of usury (riba) No elements of uncertainty (gharar) and gambling (maisir) Multi-faceted roles based on nature of financial transactions engagement: ISLAMIC FINANCIAL CONTRACTS Savings and Current Accounts Investment Account Asset Creation ISLAMIC BANKING & FINANCE IN MALAYSIA

22. SEKTOR KEWANGAN ISLAM DI MALAYSIA ISLAMIC BANKING & FINANCE IN MALAYSIA DEPOSITORS/ INVESTORS BANK PROFIT FINANCING AND INVESTMENT ACTIVITIES LOSS 30% 70% 100% INVESTMENT ACCOUNTS INVEST FUNDS (MUDHARABAH) Pre-agreed Profit- Sharing Ratio ISLAMIC BANKING & FINANCE IN MALAYSIA

23. SEKTOR KEWANGAN ISLAM DI MALAYSIA ISLAMIC BANKING & FINANCE IN MALAYSIA Ijarah Istisna Bai’ al salam Musyarakah Mudharabah Bai’ bithaman ajil Murabahah EXAMPLES OF ISLAMIC CONTRACTS Lease Commission to manufacture (progressive payment) (price is paid in advance, goods delivered in the future) Islamic forward sale Partnership financing Profit Sharing contract Deferred payment sale Cost –plus or mark-up

24. SEKTOR KEWANGAN ISLAM DI MALAYSIA ISLAMIC BANKING & FINANCE IN MALAYSIA Sources of funds Non-mudharabah deposits Mudharabah deposits SHF Application of funds General pool Specific account I Specific account II Profit    Distribution of profit Depositors Bank Depositors or ISLAMIC BANKING & FINANCE IN MALAYSIA ISLAMIC BANKING OPERATIONS

25. SEKTOR KEWANGAN ISLAM DI MALAYSIA ISLAMIC BANKING & FINANCE IN MALAYSIA Fixed assets Other assets Inventories Equity investment in capital ventures Equity investment in joint ventures Investment in real estate Investment in leased assets Investment in securities Sales receivables Cash & cash equivalents ASSETS Owners’ Equity Investment risk reserve Profit equalization reserve Profit sharing investment accounts Equity of Profit Sharing Investment Accounts (PSIA) Other liabilities Current accounts LIABILITIES STYLIZED BALANCE SHEET OF AN IIFS

26. SEKTOR KEWANGAN ISLAM DI MALAYSIA ISLAMIC BANKING & FINANCE IN MALAYSIA TAKAFUL (e.g. Family, General) TABARRU’(Donation) PROFIT SHARING ON SURPLUS A contract among participants to reciprocally help each other against defined loss Commercial profit sharing contract between participants and takaful operator Agreement to relinquish certain portion of contribution as donation to fulfil obligation of mutual help and joint guarantee Concepts Based on……. Takaful

27. SEKTOR KEWANGAN ISLAM DI MALAYSIA ISLAMIC BANKING & FINANCE IN MALAYSIA Surplus/ (Deficit) Participants’ Risk Account (PRA) Participants’ Account (PA) Investment Profit Takaful Operators Less Operating Expenses Retakaful Reserves Claims Participants Contributions 100% -x% Surplus on Maturity x% ISLAMIC BANKING & FINANCE IN MALAYSIA Takaful Model Wakalah fees x% 100% -x% 2 Models: Mudharabah or Wakalah