Confessions of a former Islamic Banker

I stated my Islamic finance journey in 2003 and in mid 2011 I decided to take a break.

I had a great time during my eight year odyssey, starting from an Islamic University to an Islamic window in a conventional bank and ending in an Islamic bank proper. I have developed products for corporate, treasury and high net worth clients; I have dealt with regulators both in Malaysia and abroad and I had the opportunity to market ‘Islamic’ debt capital market products in a foreign country. I even rejected a job offer from a Middle Eastern Islamic bank. In short, I have done quite a bit when it comes to Islamic banking and finance.

So why quit?

The reasons can be explained in one sentence – I was disillusioned with the present state of Islamic banking and finance. I felt I was dealing with legal tricks (hilah) all the time and the guilt was slowly consuming me. In a discussion with the head of Shariah in a local Islamic bank, we concluded that when it comes to forward foreign exchange, what we are doing was merely trying to justify performing a prohibited financial transaction. To put it crudely, we were trying to ‘menghalalkan yang haram’. To quote Tarek El Diwany, there is a lot of ‘contractum trinius’ going on.

I spent the final two years of my Islamic banking days in the treasury dealing room doing primarily two things; structure new Shariah compliant treasury and capital market products and deal in the Islamic money market as part of the bank’s Asset and Liability Management team. Both roles were daunting not because the job was tough but the mostly because my conscience was being tested on a daily basis. I kept wondering what is it am I doing? If money is not a commodity, why am I putting a price on my excess funds? If setting a price today to be paid in the future is prohibited, why am I structuring a product that allows such practice?

I structured a number of Sukuks during my time with the Debt Capital Markets team and all of them were approved by the internal Shariah Committee and the Securities Commission’s Shariah Committee. Looking back, I must admit I’m not really proud of how we structured those papers. I’m not saying this to belittle the Shariah scholars who approved the structures; I have utmost respect for them and I am sure they have solid reasons for approving those structures. What I am trying to say is, the Sukuk is structured in such a way that it conforms to the characteristics of a conventional bond.

Take the Musharakah paper for example. Simply put, a Musharakah is a joint venture by two or more parties to enter into a business arrangement. Therefore, any Musharakah structure must involve a business venture. Our structure utilised listed shares in an existing business owned by the promoters of the Sukuk as the ‘business venture’ entered into by the partners which is fine as it meets the Musharakah criteria. The profits paid to the Musharakah partners however may not necessarily match the dividends paid by the shares. Any profits paid in excess of the dividends declared would entail a waiver by some partners of their share (of profits) while any shortfall means some partners have waived a portion of their share of profits. All this is to ensure the yields of the paper matches its ratings and market expectations.  Yes, the partners may agree on any manner of profit distribution or ratio but doing so with a so-called motive may not be so conforming to Shariah principles IMHO. An Islamic structure should have its own yield curve and not be dictated by the conventional curve.

An Ijarah structure often entails the leased asset be bought by the issuers/originators at the end of the Sukuk tenure. There is nothing wrong with this contract as it is based on a sell-lease-buyback arrangement but often (maybe all the time?) the buyback price is determined at the beginning of the contract and not based on the prevailing market price at maturity. This Purchase Undertaking is the major flaw and main criticism of many Sukuks and was the main reason why Sheikh Taqi Usmani declaring 85% of Sukuks are not Shariah compliant.

Dual Currency Investment (DCI) is a product for customers wishing to earn potentially higher returns (compared to a time deposit) on their idle foreign currency savings. I structured a ‘Shariah Compliant’ version of the DCI and presented the proposal to SC’s Shariah Committee. It is basically a Commodity Murabahah Deposit (CMD) plus a Foreign Exchange Option.

A customer deposits a certain amount of money in the base currency and enters into a FX option contract as the option seller (with the base currency as one half of the pair). At the end of the CMD tenure, the bank (buyer of the option) shall decide whether to exercise the option. The bank’s decision will determine whether the CMD principal and profit plus the option fee are paid in the base currency or the reference currency.

I must admit the DCI does serve a purpose for some sections of the market (unless it is abused and used to speculate movements in exchange rates) but I am not in favour of anything involving Tawarruq.

I stopped accepting darurat as an excuse because after 30 years, our grace period has expired. I refuse to accept that Islamic banking is competing with conventional banking because that shouldn’t be the case. Islamic banking is not a substitute for conventional banking. Islamic banking is an alternative to conventional banking. We are not talking about Coke and Pepsi; we are talking about coffee and whiskey, substitutes for each other they are not.

A fellow Islamic finance practitioner once said it’s about time we move on to Islamic Banking version 2 where Mudharabah is practiced as how it should be and not to mimic a conventional debt instrument. I totally agree with him. We should embrace the true meaning of the Islamic trade contracts. We cannot continue to pay hibah on Wadiah accounts to the point it becomes a norm. Gifts (hibah) are supposed to be a surprise, something unexpected. Paying out hibah on a regular basis defiles the true meaning of hibah and makes it meaningless.

Moving to version 2 of Islamic banking also means eliminating practices which are seen to open the back door for riba. Contracts such as Bai Inah and those similar to it must be expunged from the system. Organised Tawarruq too must be done away with as it only serves to enable the transfer of money from one party to another without involving any productive economic activity (except to enrich the commodity brokers). Undertakings to guarantee profits must not be found in Mudharabah or Musharakah arrangements.

Version 2 may be a noble idea but can Islamic banking survive in a conventional environment? By conventional environment I mean fractional reserve banking which dominates the global financial market. Can the Islamic financial system work in a world where money is a commodity and has a price?

In order to give a chance for Islamic banking to flourish, the definition of banks must first be changed to suit the Islamic financial system. The industry must be free from the shackles of conventional finance and strictly adhere to the principle of Islamic economics. The market, the producers and consumers of Islamic banking products must be aware of what Islamic finance is. Education is key to the success of real Islamic banking.