IFSB: Islamic Financial Services Industry Stability Report 2022

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IFSB: Islamic Financial Services Industry Stability Report 2022

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ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 Resilience Amid a Resurging Pandemic
Published by : Islamic Financial Services Board Level 5, Sasana Kijang, Bank Negara Malaysia 2, Jalan Dato’ Onn, 50480 Kuala Lumpur, Malaysia Email: ifsb_sec@ifsb.org All rights reserved. No part of this publication may be reproduced or transmitted in any form or by any means, or stored in any retrieval system of any nature without prior written permission, except for permitted fair dealing under the Copyright, Designs and Patents Act 1988, or in accordance with the terms of a license issued by the Copyright Licensing Agency in respect of photocopying and/or reprographic reproduction. Application for permission for other use of copyright material, including permission to reproduce extracts in other published works, shall be made to the publisher(s). Full acknowledgement of the author, publisher(s) and source must be given. Disclaimer: The views expressed in this publication are those of the contributors and do not necessarily represent the views of the IFSB’s Council, Executive Committee and Technical Committee. Recommended citation: Islamic Financial Services Board. 2022. Islamic Financial Services Industry Stability Report. Kuala Lumpur, Malaysia, June. © 2022 Islamic Financial Services Board
ABOUT THE ISLAMIC FINANCIAL SERVICES BOARD (IFSB) The IFSB is an international standard-setting organisation which was ofﬁcially inaugurated on 3 November 2002 and started operations on 10 March 2003. The organisation promotes and enhances the soundness and stability of the Islamic ﬁnancial services industry by issuing global prudential standards and guiding principles for the industry, broadly deﬁned to include banking, capital markets and insurance sectors. The standards prepared by the IFSB follow a comprehensive due process as outlined in its Guidelines and Procedures for the Preparation of Standards/Guidelines, which involves, but is not limited to, the issuance of exposure drafts, the holding of workshops and, where necessary, public hearings. The IFSB also conducts research and coordinates initiatives on industry-related issues, as well as organises roundtables, seminars and conferences for regulators and industry stakeholders. Towards this end, the IFSB works closely with relevant international, regional and national organisations, research/educational institutions and market players. For more information about the IFSB, please visit www.ifsb.org. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 i
ASSUMPTIONS AND CONVENTIONS In this IFSI Stability Report 2022 , the following conventions are used: • • • • • • • • • • • • • IFSI Stability Report “2022” implies that the report covers activities for the year 2021 and is published in the year 2022. “1H’21” means the ﬁrst half of the year 2021. “4Q’21” means quarter 4 of the year 2021. “Billion” means a thousand million. “Trillion” means a thousand billion. “IFSB Secretariat workings” means ﬁgures indicated in the corresponding table or chart are based on IFSB staff estimates or calculations. “PSIFIs” implies that the data used in a corresponding table or chart are obtained from the IFSB’s Prudential and Structural Islamic Financial Indicators database. “SR2021” refers to IFSI Stability Report 2021. The data and analysis in the IFSI Stability Report are compiled by IFSB staff from various sources and are assumed to be correct at the time of publication. The data analysed correspond to the latest data available to the IFSB. Data for outstanding and Islamic funds are for full-year 2021. Data for Islamic banking are mainly as at the end of December 2021 (4Q’21). Data for takāful are mainly for full-year 2020 and as per the available indicated data period in 2021. In all cases, where data for the periods indicated above are not available to the IFSB Secretariat, the latest data available to the IFSB Secretariat have been used. Data used are mainly from primary sources (regulatory authorities’ statistical databases, annual reports and ﬁnancial stability reports, ofﬁcial press releases and speeches, etc.), as well as from the IFSB’s Prudential and Structural Islamic Financial Indicators (PSIFIs) database and IFSB surveys. Where primary data are unavailable, third-party data providers have been used. As much as possible, the data used and charts and ﬁgures provided in the IFSI Stability Report 2022 have been checked for accuracy, completeness and timeliness. Discrepancies in the sums of component ﬁgures and totals shown are likely due to the rounding-off effect. Where errors are observed, corrections and revisions will be incorporated in the online version of the report. The IFSB appreciates feedback on the report, which is available for free download at www.ifsb.org. ii ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
TABLE OF CONTENTS ABOUT THE ISLAMIC FINANCIAL SERVICES BOARD (IFSB) ASSUMPTIONS AND CONVENTIONS PREFACE FOREWORD EXECUTIVE SUMMARY i ii v 1 3 9 9 12 15 19 21 26 26 42 43 44 46 46 1.0 DEVELOPMENTS IN THE ISLAMIC FINANCIAL SERVICES INDUSTRY 1.1 Developments in the Global Financial System 1.1.1 Developments in the IFSI 1.2 Global Islamic Banking Sector 1.2.1 Islamic Banking Assets Across Regions 1.2.2 Overview of Islamic Banking in Key Markets 1.3 Islamic Capital Market: Sustained Resilience Amid Retained Concentration 1.3.1 1.3.2 Islamic Funds 1.3.3 Islamic Equity Markets 1.3.4 Islamic Capital Market Growth Outlook in 2022 1.4 Takāful: Sustained Growth and Contribution 1.4.1 Takāful Market Growth Trends 2.0 ASSESSMENT OF THE SOUNDNESS AND RESILIENCE OF THE ISLAMIC FINANCIAL SYSTEM 2.1 Islamic Banking: Recovery Amid Uncertainty 2.1.1 Proﬁtability 2.1.2 Liquidity 2.1.3 Foreign Funding and Financing Structure 2.1.4 Financing Exposure 2.1.5 Asset Quality 2.1.6 Capital Adecuacy 2.1.7 Leverage 2.2 Assessment of the Islamic Capital Market’s Resilience and Stability 2.2.1 2.2.2 Islamic Funds 2.2.3 Islamic Equity Markets 2.2.4 Islamic Capital Market Stability Outlook 2022 2.3 Takāful: Assessment of Resilience 2.3.1 Proﬁtability/Earnings Performance 2.3.2 Underwriting Performance and Risk 64 64 65 68 73 75 79 83 86 87 87 93 94 96 98 98 100 3.0 TRANSITIONING FROM LIBOR TO RISK-FREE RATES IN SELECTED JURISDICTIONS OFFERING IIFS 107 ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 iii
4 .0 GLOBAL DEVELOPMENTS: IFSB INITIATIVES AND ACTIVITIES 4.1 Global Developments and Impacts on the IFSI 4.1.1 International Sustainability Standards Board 4.1.2 Financial Stability Board (FSB) 4.1.3 International Organization of Securities Commissions 4.1.4 International Association of Insurance Supervisors 4.1.5 Financial Action Task Force 4.2 IFSB Standards, Research and PSIFIs Activities 4.2.1 Update on Standards under Development 4.2.2 Synopsis of IFSB Research Projects 4.2.3 Final Review of the IsDB-IFSB Ten-Year Framework and Strategies Paper 4.2.4 Prudential and Structural Islamic Financial Indicators (PSIFIs) Database: A Repository of Global Islamic Finance Data 4.3 Facilitating the Implementation of IFSB Standards Initiatives 4.3.1 FIS Workshop, Technical Assistance and Policy Advice 4.3.2 Impact and Consistency Assessment Programme 4.3.3 Training of Trainers Programme 4.3.4 Implementation Guidelines 4.3.5 Highlights of the IFSB Standards Implementation Survey 2021 LIST OF BOXES, TABLES AND CHARTS LIST OF ABBREVIATIONS GLOSSARY iv 132 132 133 133 135 135 135 136 136 139 141 142 143 143 143 144 145 145 153 157 161 ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
PREFACE The Islamic Financial Services Board ’s (IFSB) Islamic Financial Services Industry (IFSI) Stability Report provides recent updates on the trends and developments, as well as insights on the soundness and resilience of various sectors, in the global IFSI. The report also shares a selection of results of the IFSB’s internal research and surveys so as to achieve a broader and common understanding of critical issues in Islamic ﬁnance. Finally, the report provides an in-depth study on emerging issues in Islamic ﬁnance that have implications for regulation and supervision of this fast-growing industry. The analysis and information in the IFSI Stability Report 2022 have been provided by a project team from the Technical and Research Department of the IFSB Secretariat comprising Dr. Rifki Ismal (Assistant Secretary General), Dr. Abideen Adeyemi Adewale (Project Manager), Ms. Aminath Amany Ahmed and Dr. Dauda Adeyinka Asafa. Other members include Mr. Mohammad Arif Hasan, Mr. Reza Mustafa, Mr. Ahmed Nasser Al Aamri, Mr. Mohamed Omer Elamin Abbasher, Mr. Erfanul Alam Siddiquee, Ms. Cindhi Cintokowati, Ms. Ainaz Faizrakhman, Mr. Ahmed Barakat and Mr. Osama Alchaar. Mr. Peter Casey provided extensive review of the report. Mrs. Ida Shaﬁnaz Ab. Malek, Ms. Fadhila Izzati Mokhtar and Ms. Nur Khairunissa Md. Zawawi of the IFSB Secretariat provided support in circulating the preliminary draft of the report to IFSB member institutions. Ms. Natejah Ahmad and Ms. Sri Mumtaz Abdul Rahim, also from the IFSB, provided assistance in the editing, formatting and publication of the ﬁnal document, while Mrs Intan Zalina Zamani assisted with the procurement matters. Dr. Ahmad Mohamed Mokhtar assisted with checking the Arabic terms, while Mr. Muhammad Nur Faaiz F. Achsani and Mr. Md. Alamgir Hossain assisted with data compilation. Finally, the report has beneﬁted immensely from comments and suggestions by the IFSB Regulatory and Supervisory Authority members. In particular, the IFSB Technical Committee and the Stability Report Quality Improvement Committee provided guidance and feedback during the drafting of the report. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 v
FOREWORD The tenth edition of the Islamic Financial Services Board ’s (IFSB’s) Islamic Financial Services Industry (IFSI) Stability Report takes place at a time when the global ﬁnancial system is gradually recovering from the impact of the COVID-19 pandemic. In addition to the emergence of new mutations of the virus, which has further fueled uncertainty around the speed and pattern of economic recovery given the uneven access to and distribution of COVID-19 vaccines, new ﬁnancial stability risks have also arisen from events such as the Russia–Ukraine conflict. The Russia–Ukraine conflict intensiﬁed pre-existing inflation concerns due to soaring oil and commodity prices, and disruptions in global supply chains. The consequential tightening of ﬁnancial conditions is expected to compound the delicate balance faced by central banks in curbing rising inflation without slowing down economic recovery. This effect of the war poses a great challenge to many emerging and developing economies, especially those facing debt-sustainability issues. The conflict is also expected to impact the environmental, social and governance (ESG) initiatives in many jurisdictions given the huge investment required for renewable alternatives amid slower global economic growth. Various ﬁscal and monetary measures that were introduced and adopted by governments and regulatory authorities to stimulate the economy and reduce the burden on citizens and businesses have proven to be effective. The extent of the vulnerability of the ﬁnancial system and the magnitude of ﬁnancial risks masked by the forbearance measures will now become discernible as the various support measures are partially or totally suspended. There are also concerns around the heightening of ﬁnancial stability risks that could result from the increasing interconnectedness of crypto-assets with the mainstream ﬁnancial system, especially due to lack of operational data and inadequate regulatory oversight in most jurisdictions. Notwithstanding the potential downside risks and the lower global economic growth projection amid a possible resurgence in COVID-19 and a prolonged conflict in Ukraine, the global Islamic ﬁnancial services industry (IFSI) is expected to remain resilient. The optimism is hinged on the limited direct exposure of many Islamic ﬁnance jurisdictions to the impact of the Russia–Ukraine conflict, gradual recovery and reopening of economies, an accelerated digital transformation process, and the improved ﬁnancial soundness and resilience performance recorded in 2021. The worth of the global IFSI increased to an estimated USD 3.06 trillion in 2021 (from USD 2.75 trillion in 2020). The IFSI sustained its growth momentum with a growth rate of 11.3% year-on-year (y-o-y) based on signiﬁcant improvement, especially in the Islamic banking and Islamic capital markets segments in some key markets. Furthermore, the ﬁnancial stability indicators remained satisfactory, especially when compared with previous years’ performance, conventional peers, and assessment criteria used by international standard-setting bodies. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 1
Based on cautious optimism in view of the downside risks , a positive but slower growth in IFSI assets, and in ﬁnancial soundness and resilience indicators, is envisaged in many jurisdictions’ Islamic ﬁnance industry in 2022. This will depend on the speed and magnitude of the reopening and recovery of their economies, ﬁscal and monetary capacity, digital transformation process, extent of exposure to the effect of the conflict in Ukraine, their level of Islamic ﬁnance development, the adequacy and effectiveness of their extant post-pandemic recovery plan, and multilateral cooperation to mitigate the potential challenges posed by developments in crypto-assets, climate risks, etc. The IFSB closely monitors developments in the global ﬁnancial system generally, and speciﬁcally in its member jurisdictions. In line with its core mandate, the IFSB, in addition to issuing guiding statements on measures to mitigate the impact of COVID-19 in the IFSI, published a compendium of policy responses across its member jurisdictions as well as issued working papers on the effectiveness of the various COVID-19 policy measures in relation to the key segments of the IFSI. The IFSB has issued several standards, guidance/technical notes and research papers that generally complement the work of other international standard setters but, most importantly, cater for the speciﬁcities of the IFSI. In this regard, since the publication of the IFSI SR 2021, the IFSB has issued three new standards, along with ﬁve working papers, and has conducted numerous workshops on the implementation of its standards. Presently, the IFSB is working on nine standards and guidance/technical notes across its three main segments, as well as on four research working papers that speciﬁcally focus on various aspects relating to the prominent role of the IFSI in the global ﬁnancial system. As always, it is my fervent hope that the IFSI Stability Report 2022 will provide a better understanding of current trends, structural developments, prudential issues, and other related matters in the IFSI across jurisdictions and sectors, as well as of the workings of the IFSB and of both the extant and emerging issues that affect the stability and resilience of the IFSI. Dr. Bello Lawal Danbatta Secretary-General Islamic Financial Services Board July 2022 2 ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
KEY IFSI HIGHLIGHTS GLOBAL IFSI SUSTAINED POSITIVE GROWTH IN 2021 : Global IFSI assets grew by 11.3% (y-o-y) with a total worth estimated at USD 3.06 trillion (2021). The projected sense of optimism for further growth in 2022 is expected to be impacted by a number of headwinds and tailwinds. HEADWINDS TAILWINDS Uneven access to COVID-19 vaccines amid new mutations Russia–Ukraine conflict Spillover of effect of ﬁnancial tightening in advanced economies Rising oil and commodity prices amid inflation concerns Exchange rate volatility Financial stability risk Political impasse, social unrest and civil conflict Climate change risk Reopening and recovery of many economies Increased digitalisation Increased sustainability-linked investments Increased mergers and acquisitions Limited direct exposure to the Russia–Ukraine conflict SECTORAL ANALYSIS Islamic Banking ^ Growth (y-o-y): 6.5% Share of IFSI: 68.7% Islamic Capital Market * Growth (y-o-y): 11.6% Share of IFSI: 30.5% Takāful ** Growth (y-o-y): 5.2% Share of IFSI: 0.8% ^ Islamic banking data as at end-4Q’21 as IFSB PSIFIs database. * Islamic capital market share comprises sukūk and Islamic funds assets as at end-2021. ** Takāful as at end-2020 due to limited or non-availability of data as at the time of drafting the report. STYLISED FACTS Islamic Finance Assets Systemically Important Jurisdictions Islamic Banking Assets Sukūk Outstanding GCC region (52.4%), South-East Asia region (23.5%), Middle East and South Asia region (17.4%), Africa region (2.1%), and “Others” (4.5%). Islamic banking segment is systemically important in 15 IFSB jurisdictions 94.0% of Islamic banking assets are concentrated in the top three key regions 82.5% of outstanding in 2021 were in jurisdictions where Islamic banking is systemically important ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 3
EXECUTIVE SUMMARY The Islamic Financial Services Board ’s (IFSB’s) Islamic Financial Services Industry (IFSI) Stability Report 2022 presents an assessment of the key vulnerabilities, resilience and future outlook of the global IFSI in general, and in the IFSB member jurisdictions in particular, across three key segments: Islamic banking, Islamic capital market (ICM) and takāful. The report provides an indicative outlook for the IFSI, which makes it a prime reference for key information on the stability and resilience of Islamic ﬁnance globally and across jurisdictions. Similar to its previous editions, the IFSI Stability Report 2022 is divided into four chapters. It is worth noting that, in addition to a rearrangement of the chapters, the period of coverage for Islamic banking data is extended for the ﬁrst time to the fourth quarter of the reporting year, in this case, 2021. The analysis conducted on the Islamic banking segment in this report is based on the IFSB’s PSIFIs database. The IFSB has extended the coverage of the database to both the Islamic capital market and takāful segments from 2020 onwards to complement data obtained from other external sources. CHAPTER 1: STRUCTURAL DEVELOPMENTS IN THE IFSI This chapter of the report, as in previous editions, provides updates on the key trends in growth and development in the global ﬁnancial system, and analytical and structural outlooks, across the Islamic banking, ICM and takāful sectors since the IFSI Stability Report 2021. The various COVID-19 policy measures implemented since 2020 have generally proven to be effective at helping to reduce the risk of worst-case-scenario economic and ﬁnancial crises in 2021. Financial stability risks were contained, and the ﬁnancial system’s resilience was sustained, globally during the year. Furthermore, there was increased capital flow to emerging markets for sustainability investment purposes due to a generally favourable economic condition. Economies also became adapted to the new normal, especially via increased digitalisation. Moreover, both the advanced and emerging economies – especially those that export oil and gas, and high-tech commodities – beneﬁted from soaring global demand for their exports due to the reopening of economic activities. However, the momentum in the recovery and reopening of many economies, especially in the ﬁrst half of 2021, slowed down and has remained uneven since the third quarter of the year due to a new wave of the COVID-19 pandemic.1 This necessitated reintroduction of movement restrictions and other lockdown measures, which caused further disruptions in the global value chain and increased costs of containerised transport. Amid rising global debt, inflation rates also increased globally due to an increase in oil and commodity prices, and supply–demand mismatches, as economies reopened. Moreover, tighter ﬁnancial conditions (reflected in an upward review of policy rates) were introduced in most emerging and developing economies in 2021 in response to rising inflation, causing a slowdown in international bank ﬁnancing to poorer economies already faced with a limited ﬁscal space and debt sustainability issues. 1 4 Initially through the Delta variant, and later the Omicron variant. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
Given the presence of several potential downside risks , the Russia–Ukraine conflict is also expected to test the soundness and resilience of a global ﬁnancial system just recovering from the effect of the COVID-19 pandemic. If the conflict in Ukraine is prolonged, it will cause a further rise in commodity and oil prices, thus fuelling global inflation and heightening the potential for security risks and cyber-attacks. Islamic Banking The global Islamic ﬁnancial services industry (IFSI), which grew 11.3% y-o-y and is estimated at USD 3.06 trillion in 2021, has so far demonstrated resilience amid the COVID-19 pandemic (its ﬁrst major test). The effects of a prolonged Russia–Ukraine conflict on the dynamics of economic recovery and ﬁnancial stability present another, different test of resilience. On a sectoral analysis basis, the Islamic banking segment, which grew by 6.5% and is estimated at USD 2.10 trillion, retained the highest share (68.7%) of IFSI assets, and remained systemically signiﬁcant in 15 jurisdictions in 2021. This number is envisaged to grow in the near term given that the proportion of Islamic banking assets relative to the entire banking system’s assets increased across the many jurisdictions on the back of momentum in the reopening and recovery of economies, increased digitalisation of ﬁnancial services, and merger and acquisition activities. Nonetheless, Islamic banking remained largely concentrated, with the ﬁve highest jurisdictions in terms of assets accounting for 80.2% of global Islamic banking assets. Islamic Capital Markets The ICM segment further entrenched its prominence in the IFSI for the fourth year running. Many jurisdictions returned to the market to take advantage of the reopening and recovery of their economies, favourable market conditions, and so on. The segment accounted for 30.5% of global IFSI assets and is estimated at USD 930.3 billion in 2021. Supported by a resilient global risk appetite and favourable external conditions, the sub-segment remains dominant in the ICM sector with an estimated value of USD 775.7 billion and a y-o-y growth of 12.5%. Notably, corporate issuances improved signiﬁcantly on the back of improvements in the issuance process and facilitative environments. The sectoral distribution for issuers has not changed signiﬁcantly, with ﬁnancial sector issuers still making up the largest proportion of issuers after issuances by governments. In terms of origination, there were a number of new entrants to the market in 2021 and the return of issuers from jurisdictions that are not core Islamic ﬁnance markets. Sustainability-related issuances, led by the Islamic Development Bank (IsDB), Indonesia and Malaysia, have continued to grow in both existing and new markets. During 2021, sovereign entities in Saudi Arabia and Oman introduced sustainability-related debt frameworks. Following the numerous climate-focused commitments agreed to by many countries and international ﬁnancial institutions during the United Nations Climate Change Convention (COP 26) held in Glasgow, Scotland, in November 2021, it is expected that sustainability-linked bonds will continue to gain prominence and help to attract funding into the emerging markets. The total assets under management (AuM) of Islamic funds grew by 6% from the previous year. Core domiciles for Islamic funds remain unchanged, although the overall share of core markets has contracted slightly, signalling the growing size of other markets. In the Islamic equity markets, a key trend in 2021 was a sector rotation from growth stocks, such as the technology sector (which did well at the outbreak of the pandemic), to defensive and cyclical stocks. Overall, Islamic indices experienced similar movements to the conventional market, but again outperformed their conventional counterparts in 2021. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 5
Tak āful Despite structural developments in the takāful segment, especially via digitalisation, its share of the IFSI’s asset worth remains marginal. The overall takāful sector’s direct contributions increased by 4.8% y-o-y to USD 24.2 billion in 2020, after a signiﬁcant decline (–14.8%) in 2019. The sustained growth recorded in the segment is the positive outcome of supervisory relief measures and forbearances taken in the wake of the pandemic outbreak and subsequently. The regulatory framework for the takāful sector has improved in the majority of countries in recent years. Different measures are being introduced. In particular, the introduction of risk-based capital regimes in some jurisdictions has prompted a greater emphasis on technical proﬁtability, as volatile equity and property investments could require higher solvency capital charges. CHAPTER 2: ASSESSMENT OF RESILIENCE This chapter provides a detailed assessment of the resilience of the three sectors of the IFSI based on technical analyses and interpretation of the likely implications of selected stability indicators. These indicators are compared with the previous year’s report, with conventional ﬁnancial institutions in the respective jurisdictions, and with international benchmarks. Cognition is given to the effectiveness of policy measures adopted in various jurisdictions to ensure the stability and resilience of the IFSI amid a resurgence of the COVID-19 pandemic, rising inflation, and other headwind factors (especially the military conflict in Ukraine). Islamic Banking In many cases, across many ﬁnancial soundness indicators and jurisdictions, there were notable improvements; in some cases, levels that hadn’t been seen since before the pandemic were recorded – a testament to the effectiveness of the various COVID-19 policy support measures introduced since 2020. While some of these measures have been either partially or completely withdrawn, the Islamic banking sector sustained its recovery momentum in 2021 due to economic reopening in many jurisdictions and generally improving global economic conditions. In terms of proﬁtability, the global Islamic banking industry improved in 2021, surpassing its pre-pandemic level. This was due to diverse reasons across jurisdictions, including normalisation of operating income, relatively low y-o-y provisions for credit losses, increasing demand for Islamic banking products, etc. The liquidity position of the Islamic banking sector fluctuated but remained strong across various jurisdictions during the review period, in many cases satisfying regulatory thresholds; in some instances, they were back to their pre-pandemic levels. This was due to the positive outcome of the various liquidity support measures adopted across jurisdictions to mitigate the effect of liquidity pressure due to the pandemic, reopening and recovery of the economy, increased public-sector deposits, and cash inflows from both households and businesses due to the gradual suspension of payment moratoria. The proportion of both foreign currency funding and foreign currency ﬁnancing vis-à-vis the total funding and total ﬁnancing of the global Islamic banks, respectively, remained relatively unchanged during the period under review. Except for a slight switch in proportion, the ﬁnancing exposure remained concentrated in the real estate, sectors, followed by the construction sector. Due to the various forbearance measures put in place across jurisdictions, 6 ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
the asset quality of Islamic banks and windows measured by the average non-performing ﬁnancing (NPF) ratio remained within tolerable levels. However, this should be viewed with caution as implying a true reflection of the cost of risk as it may also portend hidden vulnerability to asset quality issues. Such issues could morph into structural legacy problems that could both infringe the resilience of the global Islamic ﬁnancial system and slow down economic recovery when forbearance measures are completely suspended. In 2021, the regulatory capital of the Islamic banking industry across many jurisdictions remained stable and was also well above the IFSB’s and respective jurisdictions’ regulatory thresholds. In a few countries, the regulatory capital ratios show worryingly low levels on average, implying almost certainly that some Islamic banks in those jurisdictions have signiﬁcantly lower ﬁgures. The leverage ratio remained well above the regulatory threshold given that Islamic banks are less prone to engaging in highly leveraged products because of Sharī`ah requirements. Islamic Capital Markets Supported by a continuation of accommodative policies, the market remained resilient in 2021, with major issuers remaining active and total outstanding surpassing previous years’ values. The reduced pressure from the need for liquidity at the outbreak of the pandemic in 2020, and the increased revenue from soaring oil prices for the oil-exporting jurisdictions, resulted in a decrease in short-tenor issuances in 2021. was indicated by the number of issuances that were oversubscribed in 2021. In A robust demand for addition to robust investor appetites for , the share of investment-grade in total outstanding has increased in 2021. A number of restructurings and defaults were also announced in 2021. During the 2011–21 period, the trend has shifted to lower yields (3–5% yield bucket) for the majority of outstanding. Plausible reasons include increasing investor conﬁdence, and the flow of funds into markets pushing down yields, as well as improvements in credit ratings for issuers in 2021. The geographic distribution of issuances in 2021 continued to be well balanced across regions, with strong interest from both regional and international markets Although the USD remained the dominant currency of issuance, the fact that there were signiﬁcant local-currency issuances is a favourable indication of the ability to maintain ﬁnancial stability by reducing currency mismatches. That said, markets across all jurisdictions generally remain illiquid with a narrow domestic investor base, and large investors adopting buy-and-hold strategies. The Islamic funds market remained resilient despite the prolonged pandemic and ongoing uncertainty in 2021. The asset size composition of Islamic funds did not demonstrate any signiﬁcant change compared to 2020. The issue of scale of funds, however, remains a challenge for the Islamic funds segment. Consistent with the previous trend, Islamic funds are mainly concentrated across money market, equity asset, and commodity classes. From a ﬁnancial stability perspective, effective liquidity management of money market funds (MMFs) (which constitute the largest share of Islamic funds) and other open-ended funds remains the most important concern, particularly in the case of exogenous shocks. In general, the Islamic equity markets maintained a remarkable buoyancy in 2021. While Islamic equity indices continued to outperform their conventional equivalents, emerging market indices underperformed compared to developed market indices in 2021. Takāful Most countries achieved strong underwriting performance in 2020 despite a decline in contributions due to low sales. This was boosted by the movement restriction order in many countries which reduced the frequency of motor claims. Medical claims were also reduced due to the government’s coverage of treatment costs of- ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 7
COVID-19 cases , and the fact that visits to hospitals declined and non-emergency surgeries were cancelled or postponed. As the economy reopens and activities return almost to pre-pandemic levels, the implications for the loss ratios of takāful operators, especially in terms of motor and medical claims, will become more discernible. Some jurisdictions are already registering an increasing claims ratio due to a surge in claims related to COVID-19, and to a rise in the surrender rate due to deterioration of customers’ disposable incomes during the pandemic. The expense ratio showed a decreasing trend, which might be explained by a broad range of cost-saving measures to reduce overhead expenses in marketing and consulting services during the period, especially via the adoption of technology. The combined ratio also surged in some jurisdictions. Reasons include the difﬁculty of obtaining retakāful services in some of these markets, especially for medical products, and the slow collection of receivables for both new policies and policies in force. Notwithstanding the effect of COVID-19 on the takāful sector’s efﬁciency and stability in 2020, it remained resilient. Perhaps the various COVID-19 policy support measures have proven to be generally effective. CHAPTER 3: EMERGING ISSUES IN THE IFSI This chapter covers emerging issues in the IFSI, with a particular focus on the ﬁnancial stability implications of the transition from London Interbank Offered Rate (LIBOR) to risk free rates (RFRs) in the IFSI. The transition from the LIBOR RFRs could have an impact on Islamic banks in particular and Islamic ﬁnance in general, subject to their exposure to LIBOR. A smooth transition therefore depends on Islamic banks’ readiness in terms of legacy contracts, RFRs development and regulations. Full cooperation between regulatory and supervisory authorities and various stakeholders, including international standard-setting bodies, is needed during the RFR development process to ensure that the alternative rates are in line with both international norms and Sharīah requirements. Hence, the development of the Islamic alternative benchmark should be backed by a comprehensive governance guideline to provide guiding principles on: (i) the roles of RFR administrators; (ii) the benchmark’s design and methodology; and (iii) the responsibilities of submitters. CHAPTER 4: IFSB WORKSTREAM AND IMPLEMENTATION INITIATIVES This chapter tracks initiatives and developments in the other international ﬁnancial standard-setting bodies, with an emphasis on aspects that relate directly to the complementary role played by the IFSB. In addition, the various initiatives of the IFSB since the issuance of SR2021 are highlighted, including a synopsis of the IFSB standards implementation survey, standards development, research and working papers, and various industry collaborations. Finally, this report also contains box articles contributed by the Islamic Development Bank Institute on “Islamic Finance, SDGs and Climate Change – An Aligned Spectrum”; by the Central Bank of the Republic of Turkey on “Central Bank Digital Currency (CBDC) Initiatives in Turkey”; by the Securities Commission Malaysia on “Sustainability in Malaysia”; and by Fitch Ratings on “Global Islamic Financial Services Industry Outlook in 2022”. 8 ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
1 .0 DEVELOPMENTS IN THE ISLAMIC FINANCIAL SERVICES INDUSTRY 1.1 Developments in the Global Financial System In 2021, the global economy bounced back strongly with a real gross domestic product (GDP) growth of 5.9% compared to a contraction of –3.1% recorded in 2020. Improvement in global ﬁnancial conditions was driven mainly by resumption of economic activities due to an intensive COVID-19 vaccine roll-out in both advanced and emerging economies. Financial stability risks were also contained due to the effectiveness of the various policy support measures that were implemented in 2020–1 across the various segments of the global ﬁnancial system. The recovery momentum, however, weakened and has remained uneven since 3Q’21, reflecting both country and regional peculiarities. Reasons for this include a resurgence in the COVID-19 pandemic initially through the Delta variant and later the Omicron variant, which triggered the reintroduction of lockdown measures, travel restrictions and supply chain disruption in some countries. The affluent and emerging countries across the regions were able to procure vaccines from diverse sources and thus recorded relatively more successes in their vaccination campaigns needed to reopen their economies and hasten economic recovery.2 By contrast, less affluent countries were faced with funding and logistical constraints.3 Inflation rates also increased globally amid rising global debt in 2021. This was due mainly to soaring oil and commodity prices, and disruptions in global supply chains. While some countries, especially those adopting a ﬁxed-peg exchange rate regime, were able to mitigate against the component of imported inflation and to effectively preserve price stability, headline inflation soared in others. In some other jurisdictions, the rising debt level and limited ﬁscal space also constrained the extent of subsidies as a means to reduce the impact of inflation pass-through from rising commodity prices.4 This is envisaged to continue due to the impact of the Russia–Ukraine conflict, which the Food and Agriculture Organization of the United Nations (FAO) estimates could trigger a jump of up to 20% in global food and feed prices,5 especially the prices of wheat, vegetable oil and corn. Past experiences also prove that fragile and conflict-affected countries could be highly susceptible to civil unrest due to increasing food prices6 aggravated by pre-existing inequalities and vulnerabilities. In response to rising inflation, tighter ﬁnancial conditions (reflected in an upward review of policy rates) were introduced in most emerging and developing economies in 2021. The Russia–Ukraine conflict is expected to compound the delicate balance faced by central banks in curbing rising inflation by further tightening ﬁnancial conditions without slowing down economic recovery. A downside risk, especially for the emerging and developing economies facing debt-sustainability issues, is a likely further hike in policy rates and a slowdown in international bank ﬁnancing as the advanced economies tighten their ﬁnancial conditions in response to rising inflation. Although the envisaged signiﬁcant increase in credit risk did not occur in most countries, investor concerns still reflect the uncertain economic outlook that may result from solvency risks in both the retail and corporate sectors. Investors are also concerned about the strength of the global economic recovery and the magnitude of ﬁnancial risks that may crystallise as some of the previously granted regulatory forbearance measures unwind. The potential hidden ﬁnancial vulnerabilities in asset quality would gradually become discernible and could morph into structural legacy problems that could both infringe the resilience of the global ﬁnancial system and slow the speed of economic recovery. 2 3 4 5 6 For instance, both the Gulf Cooperation Council (GCC) region and the South-East Asia (SEA) region achieved an average vaccination rate of 75% as at end-2021. The Middle East and South Asia (MESA) and Africa regions recorded low average vaccination rates, at less than 30% and about 4.9%, respectively For instance, Egypt provides bread subsidies for about two-thirds of its population. A soaring price of wheat would further weigh heavily on the country’s ﬁscal deﬁcit. Lebanon, which is presently faced with runaway inflation, also depends heavily on wheat imported from Ukraine. https://www.reuters.com/world/un-agency-warns-ukraine-war-could-trigger-20-food-price-rise-2022-03-11/ For instance, soaring food prices have triggered a protest in southern Iraq where the anti-corruption protest that gripped the country in 2019 began. https://www.aljazeera.com/news/2022/3/9/iraq-protest-food-prices-russia-ukraine-war ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 9
Despite accounting for a relatively small proportion of global ﬁnancial assets, the increasing prominence and high volatility of crypto-assets has ﬁnancial stability implications. The potential ﬁnancial stability risks may become heightened as crypto-assets become more interconnected with the mainstream ﬁnancial system if they are not subjected to exchange restrictions or capital flow management. In addition, crypto-assets’ activities have the tendency to heighten protection risks due to their poor disclosure and transparency practices. The lack of data on the extent of use, lending and trading platform operation results in inadequate regulatory oversight in most jurisdictions. Regulatory and supervisory authorities (RSAs) across countries have been developing the requisite framework for crypto-assets providers in their jurisdictions. Developments relating to the introduction of the central bank digital currencies (CBDC) in some jurisdictions also saw increasing attention in 2021. CBDCs offer numerous potential beneﬁts, including (but not limited to) broadened ﬁnancial inclusion via digitalisation, lower cash management costs, a resilient payment system, and the promotion of market soundness and discipline via the regulatory oversight lacking in privately issued digital currencies. While some countries have already commenced implementing CBDCs, some others are running pilot projects alongside developing a regulatory framework, revising legislation, and exploring the possibility of enhancing existing alternative digital payment systems. Nonetheless, there are ﬁnancial stability implications arising from CBDCs. For example, in addition to issues of cyber security and operational resilience, there is a likely disintermediation of the banking sector in the event that people decide to hold CBDCs in a substantial volume. This would not only compress banks’ margins, but also increase their funding costs. Environmental, social and governance (ESG) factors also gained more interest among global investors. The emphasis on the volatility in weather patterns as a front-burning development issue is a result of the unprecedented changes in climate. This also has implications for ﬁnancing provision by banks, investment decisions by asset managers, and underwriting services and investment portfolios of insurance ﬁrms given that their balance sheets are potentially exposed to liability risks, asset impairment and rising claims from climate change–related risk. Regulators and ﬁnancial institutions are building their capacity towards ESG risk management and are developing policy documents7 and products, respectively, that support the transition to sustainable ﬁnance and a low-carbon global economy. However, the lack of universal guidelines on sustainable ﬁnance could also make the burgeoning market susceptible to greenwashing from both sovereigns and corporates.8 Moreover, it is expected that the Russia–Ukraine conflict would moderate the dynamics of the magnitude and speed of transmission to a low-carbon economy due to rising gas prices, supply disruptions, and the huge investment required for renewable alternatives amid slower global economic growth. The transition from the London Interbank Offered Rate (LIBOR) to risk-free reference rates (RFR), which has so far gone well,9 has been achieved at the cost of a somewhat unsatisfactory position from a Sharīah viewpoint. Banks need not only to build both spread and term structures that are commensurate with the LIBOR, but also to ensure that the transition exposure is properly managed across various risk areas. For Islamic banks, the peculiarity of the contractual terms in their various extant products and the need to ensure Sharī`ah compliance present additional transitional complexities relative to conventional banks. For instance, the Sharī`ah-compliance requirement that parties agree in advance to a pre-agreed rental rate in an ijārah transaction or to a pre-agreed cost and markup in a murābahah transaction is at variance with the backward-looking rates used in the RFR, where the amount payable is only determinable a few days before the payment due date. While there are ongoing efforts to come up with an acceptable RFR, in the interim, the effect on Islamic ﬁnance will be the relative complexity of offering a Sharīah-compliant floating rate structure, as well as limitations in engaging in dual ﬁnancing together with a conventional ﬁnancing institution. 7 8 9 10 Moody’s ESG Solutions (2022), Regulatory Calendar: Latest Regulatory State of Play Across Key Jurisdictions for 2022 and Beyond. https://assets.website-ﬁles.com/5df9172583d7eec04960799a/6255a1c173ca566c9da9d291_RegulatoryCalendar_April2022.pdf In November 2021, the International Sustainability Standards Board (ISSB) was created to cater for this need. https://www.ifrs.org/groups/international-sustainability-standards-board/ (See more on this and the related workstream of the Islamic Financial Services Board (IFSB) to cater for the Islamic capital markets in Chapter 4 of this report.) Financial Stability Board (FSB), FSB Statement Welcoming Smooth Transition Away from LIBOR. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
Given the presence of several potential downside risks – in particular, the ongoing COVID-19 pandemic and the Russia–Ukraine conflict – global growth projections for 2022 remain highly uncertain. Although the conflict in Ukraine is yet to have a worldwide systemic effect, its impact on the global economy is felt through an aggravation of the supply chain disruption, as the cost of containerised transport climbed sharply compared to the pre-pandemic period. A prolonged military conflict in Ukraine will not only cause a further rise in commodity and oil prices, thus fuelling global inflation, but real income and economic activities will also likely contract, with the potential for geopolitical risks and cyber-attacks heightened by any further escalation of the crisis. It is estimated that a signiﬁcant number of non-Russian investors – many of them institutional insurance investors – are facing sizeable losses on their Russian assets as the market for them dries up.10 Although the projections for global economic recovery have remained positive so far in 2022, growth is expected to be lower than the International Monetary Fund (IMF) predicted in January 2022, at 3.6% compared to the predicted 4.4%.11 Speciﬁcally, recovery in both the advanced economies and the emerging and developing markets in other regions is expected to continue to be slower than in the Association of Southeast Asian Nations (ASEAN), GCC and Africa, where Islamic ﬁnance is practised. While the global Islamic ﬁnancial services industry (IFSI) has so far demonstrated resilience amid the COVID-19 pandemic (its ﬁrst major test), the effect of a prolonged Russia–Ukraine conflict on the dynamics of economic recovery and ﬁnancial stability offers a test of resilience. The remainder of Chapter 1 provides a further analysis of growth and developments across the three key sectors of the global IFSI, while Chapter 2 provides further analyses from a stability and resilience perspective. 10 11 See “Report on Political Risk, An End to Globalization”, Asia Insurance Review, April 2022. https://www.imf.org/-/media/Files/Publications/WEO/2022/April/English/text.ashx ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 11
1 .1.1 Developments in the IFSI In 2021, the global IFSI demonstrated resilience, complemented various COVID-19 policy support measures, supported economies, and sustained its growth momentum despite a resurgence in the COVID-19 pandemic. The global IFSI is estimated to be worth USD 3.06 trillion in 202112 (see Table 1.1.1.1), marking a growth of 11.3% year-on-year (y-o-y) in assets in USD terms (2020: USD 2.75 trillion). Similar to the previous years’ trend, the Islamic banking and Islamic capital markets sectors were the main contributors to the increase in total value of the global IFSI, as many countries experienced a reopening of their economies and beneﬁted from an improving global economic condition. Takāful contributions also registered a marginal improvement amid increased pressure from the effect of the COVID-19 pandemic in 2020. Table 1.1.1.1 Breakdown of the Global IFSI by Sector and Region (USD billion) (2021) Region Gulf Cooperation Council (GCC) Islamic Banking Assets Sukūk Islamic Funds Takāful Outstanding Assets Contributions Total Share (%) 1,212.5 332.3 46.0 12.7 1,603.5 52.4 South-East Asia (SEA) 287.5 390.3 37.5 4.7 720.0 23.5 Middle East & South Asia (MESA) 477.1 26.9 22.0 5.6 531.6 17.4 Africa 58.2 1.8 4.0 0.6 64.6 2.1 Others 68.8 24.4 45.1 0.7 139.0 4.5 2,104.1 775.7 154.6 24.3 3,058.7 100.0 68.7 25.4 5.1 0.8 100 Total Share (%) Source: IFSB Secretariat workings. Notes: a) Data are mostly taken from primary sources (regulatory authorities’ statistical databases, annual reports and ﬁnancial stability reports, ofﬁcial press releases and speeches, etc.) and from the IFSB’s Prudential and Structural Islamic Financial Indicators (PSIFIs) database. b) Where primary data are unavailable, third-party data providers have been used, including: Eikon-Reﬁnitiv, Bloomberg, IMF database, etc. c) Takāful contributions are used as a basis to reflect the growth in the takāful industry. d) The breakdown of Islamic funds’ assets is by domicile of the funds, while that for outstanding is by domicile of the obligor. e) The regional classiﬁcation is the same as that used in the previous IFSI stability reports. Other than the GCC and SEA regions, other jurisdictions in Asia are classiﬁed as Middle East and South Asia (MESA). The Africa region includes both North Africa and Sub-Saharan Africa. Jurisdictions not belonging to any of the four regions are classiﬁed as “Others”, speciﬁcally countries located in Europe, North America, South America and the Commonwealth of Independent States (CIS). 12 12 The ﬁgure quoted here is, in fact, a composite made up by adding assets in the banking sector and Islamic funds to the value of outstanding and takāful contributions. The latter is a measure of income, rather than assets, and elsewhere there may be elements of double counting – for example, if a bank holds . The ﬁgure is nevertheless the best measure we can offer in the current state of data availability. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
Speci ﬁcally, the global Islamic banking industry in 2021 experienced a 6.5 % y-o-y growth in assets (2020: 4.3%). The share of Islamic banking in the global IFSI assets was 68.7% as at end-4Q’21. Buffered by gains from the implementation of the various prudential standards and guidelines post the Global Financial Crisis (GFC) of 2007–8, the segment remained highly capitalised, proﬁtable and liquid.13 Thus, it was able to support economic recovery by continuing to provide ﬁnancing to both households and corporates, by absorbing credit risk, and by complementing various policy support measures implemented across jurisdictions due to the pandemic. The overall Islamic capital market (ICM) segment, consisting of , Islamic funds and Islamic equities, remained the fastest-growing segment of the IFSI over the past ﬁve years. This was due to the easing of COVID-19 restrictions and the resultant improved economic conditions and growth prospects. The segment’s value of USD 930.3 billion accounted for a share of 30.5% of global IFSI assets. The sub-segment also retained its dominance within the ICM segment. Despite the reduction in sovereign issuances in some oil-exporting countries due to increased revenue from the sale of oil, many new (albeit low-rated) sovereign issuances were recorded in response to the global economic recovery and increasing investor risk appetite. There were also sustainability-linked issuances to fund development projects in some jurisdictions as they heightened their ESG activities. outstanding registered a growth of 12.5% y-o-y, compared to the 7.5% y-o-y growth recorded in Islamic funds’ assets as at end-2021. The takāful segment’s market share of the global IFSI remains marginal at 0.8%. Nonetheless, the segment registered a growth of 5.2% y-o-y to reach USD 24.3 billion as at end-2020. The growth was achieved due to improved economic conditions as economies reopened following relaxation of the various lockdown measures, especially in the last quarter of 2020. Other contributing factors include increased digital transformation activities through which takāful operators leveraged on technology to capture the growth potential in health and family takāful business lines. Additional factors include (but are not limited to) increased public awareness and appreciation for takāful offerings, and the positive impact of the various COVID-19 policy support measures taken by the various governments. Regionally, the Gulf Cooperation Council retained its position as the largest domicile for Islamic ﬁnance assets in 2021. The value of the GCC region’s share of global Islamic ﬁnance increased by 3.5 percentage points (pp) in 2021 and represented 52.4% of the total. The region also achieved a relatively broader coverage of COVID-19 vaccine roll-out compared to other regions, which helped to accelerate reopening and recovery of their economies. The impact of inflation and exchange rate volatility was also mild in the GCC compared to other regions given that the GCC countries maintain a US dollar–pegged exchange regime which helped to mitigate against components of imported inflation and to preserve price stability during 2021. The GCC countries, being mainly hydrocarbon exporters, also beneﬁted from the increase in the price of oil in 2021, which has soared further since the ﬁrst quarter of 2022. This is expected to remain so in the medium term due to the agreement by the Organization of the Petroleum Exporting Countries (OPEC) to maintain a gradual production increase amid the sanctions imposed on Russia, a key global oil producer. The high elasticity of ﬁscal revenue to oil price in the region helped the GCC countries broaden their ﬁscal spaces and extend their policy support measures amid increased foreign exchange reserves and reduced sovereign issuances in 2021.14 The increased revenue from oil is also expected to help drive the various economic transformation initiatives presently being pursued in different GCC countries with the aim of ensuring economic diversiﬁcation and advanced technological development. 13 14 A. Adewale (2021), Assessing the Effectiveness of COVID-19 Policy Responses in the Islamic Banking Industry. IFSB Working Paper Series No. WP-23/12/2021. https://www.ifsb.org/download.php?id=6309&lang=English&pg=/sec03.php Gains are also expected in some lines of insurance in oil-exporting countries, especially since government spending is directly related to oil prices in many of these countries. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 13
The South-East Asia region retained its second position in terms of regional IFSI market share , notwithstanding a marginal decrease to 23.5% in 2021 (2020: 24.9%). In addition to the effect of headline inflation due to increased food prices, the SEA region witnessed a stronger resurgence in the COVID-19 pandemic in the second half of 2021. The resurgence necessitated another round of movement restrictions and disruptions to economic activities, especially in high-contact sectors. Nonetheless, the region’s economic recovery is expected to be fast-paced given a high rate of vaccination recorded and the reopening of borders for tourism and other economic activities. The impact of the potential increase in prices of oil and gas due to the Russia–Ukraine conflict is not expected to be signiﬁcant among the countries in the SEA region, especially those with sizeable Islamic ﬁnance markets. Speciﬁcally, both Brunei Darussalam and Malaysia are net exporters of oil. Although Indonesia is a net importer of reﬁned crude oil, it also continues to beneﬁt as a major exporter of palm oil and metals, which have seen rising prices as a result of the conflict in Ukraine. Despite a relatively mild inflation outlook in the region amid gradual policy normalisation, commodity price pressures will be felt if the conflict in Ukraine escalates and becomes prolonged. The consequential imported inflation would further lead to currency depreciation, tightened ﬁnancial conditions and a slower economic recovery amid reducing but prevalent COVID-19 cases. The Middle East and South Asia region constituted the third-largest share, accounting for a lower 17.4% of global IFSI assets in 2021 (2020: 20.3%). In addition to the fact that most countries in the region were faced with a low COVID-19 vaccination rate amid a resurgence, rising inflation due to high oil and commodity prices also had a knock-on effect for economic recovery in some others. Iran, although a major global player in the oil industry, was not directly affected by the hike in both oil and energy prices but experienced a high inflation rate of 43.4% in 2021. The inflation was due to the economic sanctions imposed by the United States along with limited access to international trade and currency, and a slow recovery from the impact of the pandemic. Both Pakistan and Bangladesh, the other key Islamic ﬁnance jurisdictions in the MESA region, also experienced increased inflation on the back of soaring oil prices and oil’s direct link to transport, electricity and food prices (especially cereals and cooking oil). A prolonged Russia–Ukraine conflict is expected to have a further inflationary effect on the prices of these important commodities in the region. The Africa region’s share of the global IFSI value, though improved, remained small at 2.1% (2020: 1.7%). Like the MESA region, the Africa region’s economic recovery has been impeded by (among other things) inflation, exchange rate volatility and a low vaccination rate. Amid the risk of a potential resurgence in the pandemic, the region is highly susceptible to imported inflation from commodity prices due to its being highly dependent on imports. While oil-exporting countries such as Nigeria and Algeria may beneﬁt from the increase in oil prices, there are other related factors that may attenuate such beneﬁts. For instance, while Nigeria does not currently reﬁne most of its oil locally, the North African countries are highly dependent on wheat and cereals from Russia and Ukraine, which has resulted in a hike in the price of bread and cereals. Moreover, the security situation in Africa may deteriorate further given the fragile peace in many countries in the region (e.g. Libya, Mali and Central African Republic, all with a huge presence of Russian forces). The “Others” region, comprising Turkey, the United Kingdom (UK), and countries from the CIS region, accounted for the remaining 4.5% of total global IFSI assets in 2021 (2020: 4.3%). While both the UK and Turkey are G20 countries with a high rate of vaccination and notable economic reopening and recovery from the pandemic, they are both exposed to increased commodity and energy prices due to the Russia–Ukraine conflict. Speciﬁcally, Turkey as a key Islamic ﬁnance jurisdiction in the region experienced a high rate of currency depreciation in USD terms, which subsumed the USD value of Islamic ﬁnance assets. For the CIS countries, the conflict in Ukraine provides opportunities for commodities exporters such as Kyrgyzstan, Uzbekistan, Tajikistan and Kazakhstan to increase supply. However, these countries are also highly susceptible to inflation and currency depreciation due to limited shipping activities in the region, especially through the Black Sea. 14 ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
1 .2 Global Islamic Banking Sector The growth rate recorded by the global Islamic banking sector in 2021 was supported by a recovery in the global economy and less-stringent pandemic-related restriction around the world. In addition to merger and acquisition (M&A) activities in some jurisdictions, new Islamic banks were also established in others. The increase in oil prices also played a part in the growth rate recorded in 2021, especially among systemically important Islamic banking jurisdictions that are also oil exporters. However, the converse is the case in some other oil-importing jurisdictions that continue to bear the burden of the soaring price of oil. Some jurisdictions were also faced with economic turbulence, a high rate of inflation, and exchange rate depreciation arising from sanctions,15 internal political impasses, low reserves and a high dependence on foreign currencies.16 GLOBAL ISLAMIC BANKING SIZE $1.60 TN $1.88 TN $1.97 TN $2.10 TN 4Q’18 4Q’19 4Q’20 4Q’21 GLOBAL ISLAMIC BANKING GROWTH CAGR ^ ASSETS FINANCING DEPOSITS 2.4% 4.4% 3.7% Year-on-Year (4Q’21) 6.5% 8.1% 7.3% ^ Compound Annual Growth Rate (June 2014 – December 2021). Data used in calculating CAGR, as well as growth rates for assets, ﬁnancing and deposits, were obtained from the IFSB PSIFIs, and include data from both Islamic banks and windows in Afghanistan, Bangladesh, Indonesia, Malaysia, Oman, Pakistan and Saudi Arabia, and (where available) from stand-alone Islamic banks in Bahrain, Brunei, Iraq, Jordan, Kuwait, Lebanon, Libya, Morocco, Nigeria, Palestine, Qatar, Sudan, Turkey, the United Arab Emirates (UAE) and the UK. Some Islamic banking jurisdictions such as Egypt, Iran, Kazakhstan and Lebanon were excluded due to data limitations. 15 16 A notable example in this regard is Iran with a fully Sharī`ah-compliant Islamic banking system and which faced economic sanctions, resulting in high inflation and local currency depreciation. Lebanon is a notable example in this regard. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 15
In USD terms , the compound annual growth rate (CAGR) for Islamic banking assets was 2.4% as at end-4Q’21. Financing and deposits of the global Islamic banking sector also recorded a CAGR of 4.4% and 3.7%, respectively, during the period under review. Speciﬁcally, among the countries tracked for the computation of the y-o-y in this year’s report, 10 (including seven that are systemically signiﬁcant Islamic banking jurisdictions) registered slower asset growth, and nine registered either a slower ﬁnancing growth or a slower deposits growth. Nonetheless, the majority of the countries included in the analyses registered improved performance in key soundness and resilience Islamic banking indicators (see details in Chapter 2). Chart 1.2.1 Islamic Banking Share in Total Banking Assets by Jurisdiction (%) (2021) Iran Sudan Saudi Arabia Brunei Kuwait Malaysia Qatar Bangladesh Djibouti UAE Jordan Bahrain Pakistan Palestine Oman Afghanistan Iraq Indonesia Libya Turkey Maldives Tunisia Senegal Egypt Bosnia & Herzegovina Algeria Kyrgyz Republic Kenya Nigeria Tanzania Sri Lanka Lebanon Thailand Kazakhstan South Africa UK 100.0% 100.0% 77.2% 58.0% 51.9% 31.5% 28.1% 26.3% 25.1% 23.9% 21.3% 21.2% 18.6% 18.0% 15.3% 13.2% 6.1% 6.1% 6.1% 6.0% 5.7% 5.1% 5.0% 4.0% 3.2% 2.4% 1.5% 1.0% 0.8% 0.8% 0.8% 0.4% 0.4% 0.2% 0.1% 0.1% Source: IFSB Secretariat workings based on PSIFIs, data culled from various RSAs’ websites, and annual ﬁnancial reports of Islamic banks. Notes: The countries shown by dark blue-coloured bars satisfy the criterion of having a more than 15% share of Islamic banking assets in their total domestic banking sector assets and, hence, are categorised as systemically important. Notably, the number of jurisdictions where Islamic banking has achieved domestic systemic importance17 remained at 15, the same as at 4Q’20 (see Chart 1.2.1). Collectively, these 15 jurisdictions accounted for a 91.8% share of the global Islamic banking assets and for 82.7% of global outstanding as at end-4Q’21 (see Charts 1.2.2 and 1.2.3). The Islamic banking sector experienced an increase in domestic market share in 29 countries (4Q’20: 21 countries). While both Iran and Sudan maintained 100% domestic market shares, ﬁve jurisdictions monitored recorded declining market shares (compared to 10 as at end-3Q’20). 17 16 This report considers the Islamic ﬁnancial sector as being systemically important when the total Islamic banking assets in a country comprise more than 15% of its total domestic banking sector assets. The report uses the Islamic banking segment as the criterion for systemic importance of Islamic ﬁnance, since about 68% of Islamic ﬁnancial assets are held within the banking sector. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
Chart 1 .2.2 Islamic Banking Assets in Jurisdictions with an Islamic Banking Sector of Systemic Importance (2021) Systemic Importance Outstanding in Chart 1.2.3 Jurisdictions* with an Islamic Banking Sector of Systemic Importance (2021) USD 175.8 billion (8.4%) USD 135.6 billion (17.5%) USD 1,928.3 billion (91.6%) USD 639.4 billion (82.5%) Systemic Importance Others Others *Based on the domicile of obligors Source: IFSB Secretariat workings based on PSIFIs, data culled from various RSAs’ websites, and annual ﬁnancial reports of Islamic banks. In terms of USD worth, the Islamic banking sector across jurisdictions registered diverse performances (see Chart 1.2.4). In some key jurisdictions such as Iran, Sudan and Turkey, the USD value of the Islamic banks declined signiﬁcantly due to exchange rate depreciation. The Islamic banking sector in some other systemically important Islamic banking jurisdictions such as Djibouti and Palestine were valued at much less in USD terms than, for instance, the Islamic banking sectors in Indonesia and Turkey, which are not yet systemically important. Chart 1.2.4 Domestic Islamic Banking Assets (USD billion) and Domestic Islamic Banking Market Share (%) (2021) 600 USD billion Market Share Islamic Banking Assets 4Q’21 (LHS) 4Q’21 Market Share 500 100% 90% 80% 70% 400 60% 50% 300 40% 200 30% 20% 100 10% 0 Senegal Kyrgyzstan Tanzania South Africa Maldives Kazakhstan Sri Lanka Afghanistan Nigeria Bosnia & Herzegovina Algeria Lebanon Tunisia Djibouti Thailand Palestine Libya UK Kenya Iraq Sudan Oman Brunei Jordan Egypt Pakistan Indonesia Turkey Bangladesh Qatar Bahrain Kuwait UAE Iran Malaysia Saudi Arabia 0% Source: IFSB Secretariat workings based on PSIFIs, data culled from various RSAs’ websites, and annual ﬁnancial reports of Islamic banks. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 17
In terms of Islamic banking assets , the industry is still very much concentrated among the top ﬁve jurisdictions. This is despite a decrease in their cumulative share of Islamic banking assets to 75.4% as at end-4Q’21 (4Q’20: 83.0%) due to a decline in the assets ﬁgure for Islamic banking in Iran. Saudi Arabia accounted for 30.6% (3Q’20: 28.5%), increasing its relative share and further strengthening its position as the key leading Islamic banking jurisdiction. While Iran’s share of global Islamic banking assets dipped and accounted for 17.0% [4Q’20: 28.6%], improvements were recorded in the other three jurisdictions. Speciﬁcally, Malaysia accounted for 11.2% (4Q’20: 11.1%), the UAE for 10.0% [3Q’20: 8.7%], and Qatar for 6.6% (4Q’20: 6.1%), making up the top ﬁve jurisdictions in 2021. The other countries in the top 10 Islamic banking jurisdictions, in order of share of global Islamic banking assets, were Kuwait, Bahrain, Turkey, Bangladesh and Indonesia (see Chart 1.2.5). Chart 1.2.5 Jurisdiction Share of Global Islamic Banking Assets (%) (2021) Iraq (0.4%) Oman (0.7%) Jordan (0.9%) Sudan (0.4%) Egypt (1.3%) Brunei (0.4%) Pakistan (1.3%) Libya (0.3%) Others (1.5%) Palestine (0.2%) Indonesia (1.9%) Bangladesh (2.7%) Turkey (2.9%) Saudi Arabia (30.6%) Bahrain (3.3%) Kuwait (6.3%) Iran (17.0%) Qatar (6.6%) UAE (10.0%) Malaysia (11.2%) Source: IFSB Secretariat workings. 18 ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
1 .2.1 Islamic Banking Assets Across Regions The GCC countries’ Islamic banking assets share remains the highest and increased to 57.6% (4Q’20: 53.2%) of global Islamic banking assets. The region registered a growth in Islamic banking assets of 23.7% y-o-y to end 4Q’21 with a value of USD 1,212.5 billion (3Q’20: USD 979.9 billion) (see Chart 1.2.6). Except for the UAE, all the GCC countries recorded increased asset size in 2021.18 The region’s dominance is expected as all the GCC countries have a systemically important Islamic banking sector that plays a key role in the various economic transformation and diversiﬁcation agendas in the region. Moreover, the USD value of the Islamic banking assets has not been affected by exchange rate volatility on account of the ﬁxed peg exchange regime adopted in the region. Chart 1.2.6 Regional Islamic Banking Assets (USD billion) (2019–21) 1400 USD billion 2019 1200 2020 2021 1000 800 600 400 200 0 GCC SEA MESA Africa Others Source: IFSB Secretariat workings based on PSIFIs, data culled from various RSAs’ websites, and annual ﬁnancial reports of Islamic banks. The MESA region’s Islamic banking assets value continued its downward trend. Despite increased value of assets in key regional markets such as Bangladesh and Pakistan, the region’s Islamic banking assets value of USD 477.1 billion at the end of 4Q’21 (4Q’20: USD 499.0 billion) accounted for 22.7% (4Q’20: 27.1%) of global Islamic banking assets. It declined by –4.4% y-o-y, due mainly to the lower value of Iran’s Islamic banking assets following the continuous depreciation of the Iranian Rial.19 The economic and political situations in both Lebanon and Afghanistan are other factors that affected the Islamic banking asset growth potential in the region. 18 19 This excludes assets of the Islamic banking windows in the UAE. This may ease if the ongoing nuclear negotiations between Iran and the P5+1 (China, France, Russia, the UK, the US and Germany) under the Joint Comprehensive Plan of Action (JCPOA) yield a favourable outcome. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 19
The SEA region ’s Islamic banking assets value continued its growth at an increased rate of 10.3% y-o-y (4Q’20: 7.4%) to reach USD 287.5 billion at end-4Q’21 (4Q’20: USD 260.6 billion). The region’s share of global Islamic banking assets as at end-4Q’21 was 13.7%. The region comprises two systemically important jurisdictions: Malaysia and Brunei. The share of Islamic banking in Indonesia, despite being non-systemically important domestically, remains quite substantial and thus contributed to the total assets value of the Islamic banks in the region. Although the strengthening of the USD against most regional currencies is expected to continue to weigh on the growth of Islamic banking assets in the region, the impact is envisaged to be mild on the back of increased prices for oil, commodities and technological products as the main exports from the countries tracked in the region. Increased digital transformation activities spurred on by the COVID-19 pandemic are also expected to bolster the growth of Islamic banking assets in the region. Turkey and the countries from Europe and the CIS region classiﬁed as “Others” registered a slower growth of Islamic banking assets of 11.3% y-o-y as at end-4Q’21 (4Q’20: 16.4%). At the end of 4Q’21 the region’s assets reached USD 68.8 billion (4Q’20: USD 61.8 billion) and accounted for 3.3% of global Islamic banking assets. This was mainly on account of the slower growth in assets, in USD terms, registered by the participation banking sector in Turkey, which, despite being affected by the depreciation of the Turkish Lira, represented 2.9% of the global Islamic banking assets as at end-4Q’21. The asset value of the Islamic banking sector in the UK and among the CIS countries in USD terms remained flat during the period. The Islamic banking assets of the Africa region recorded the highest growth rate among the ﬁve regions. The region registered a y-o-y assets’ growth rate of 35.0% [4Q’20: 27.1%] to end 4Q’21 at USD 58.2 billion (4Q’20: USD 43.1 billion). This was due mainly to the establishment of new Islamic banking institutions and to increasing awareness of Islamic banking, leveraging on the huge untapped market across the region. Nonetheless, the Africa region still accounts for the lowest share of global Islamic banking assets, at 2.8% (4Q’20: 2.3%). Inflation and exchange rate devaluation affected the USD value of Islamic banking assets in the region amid a slow economic recovery from the pandemic. 20 ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
1 .2.2 Overview of Islamic Banking in Key Markets Analysis of country-level annual growth rates shows that, in USD terms, 10 jurisdictions, including seven that are systemically important, out of 19 for which data were available achieved double-digit asset growth rates in the year up to 4Q’21. While Brunei, the UK, and the UAE recorded marginal y-o-y decline, Turkey’s participation banking domestic negative asset growth reflected the high depreciation of the Turkish Lira during the period. Both Afghanistan and Sudan registered an extremely high decline in y-o-y Islamic banking assets growth of –73.7% and –58.4%, respectively.20 A similar pattern in direction, but not necessarily in magnitude, was registered for both ﬁnancing and deposit growth. While in the former a double-digit increase was registered in three out of 17 countries, in the latter, two digits growth was recorded in seven countries, out of the 17 for which data were available (see Charts 1.2.2.1, 1.2.2.2 and 1.2.2.3). Chart 1.2.2.1 Islamic Banking Assets Annual Growth Rates for Various Countries (%) (4Q’21) 40% 35% 30% 25% 20% 15% Qatar Palestine Pakistan Oman Nigeria Morocco Malaysia UK UAE Saudi Arabia -10% Indonesia Bahrain -5% Bangladesh 0% Kuwait Brunei 5% Turkey 10% Source: IFSB Secretariat workings based on PSIFIs. Chart 1.2.2.2 Islamic Banking Aggregate Financing Annual Growth Rates for Various Countries (%) (4Q’20–4Q’21) 35% 25% Qatar Saudi Arabia Palestine Pakistan Oman Morocco Malaysia Kuwait Indonesia Brunei Bangladesh -5% Bahrain Iraq Turkey 5% UAE 15% -15% Source: IFSB Secretariat workings based on PSIFIs. 20 Afghanistan and Sudan were not included in Charts 1.2.2.1, 1.2.2.2 and 1.2.2.3 due to the scale used. Nigeria was also excluded in Chart 1.2.2.2. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 21
Chart 1 .2.2.3 Islamic Banking Aggregate Deposit Annual Growth Rates for Various Countries (%) (4Q’20–4Q’21) 26% 24% 22% 20% 18% 16% 14% 12% 10% 8% 6% 2% Saudi Arabia Qatar Palestine Pakistan Oman Morocco Malaysia Kuwait Brunei Indonesia -6% Bangladesh -4% Bahrain 0% -2% UAE Turkey 4% Source: IFSB Secretariat workings based on PSIFIs. GCC Region Countries Except for the UAE Islamic banking sector, which recorded a negative y-o-y growth of –1.8%, other GCC countries’ Islamic banking sectors recorded improvements in assets in USD terms. Speciﬁcally, the Islamic banking sector in Saudi Arabia, Oman and Qatar registered double-digit annual growth in assets of 18.2%, 13.3% and 12.6%, respectively. The Bahraini Islamic banking sector recorded a 5.5% y-o-y growth in assets as at end-4Q’21 (see Chart 1.2.2.1). The increased assets in the GCC region were achieved due to, among other reasons, a higher penetration of Islamic banking via digitalisation and a supportive regulatory environment that aligns with the economic diversiﬁcation vision of the governments in the region. The GCC region’s Islamic banking segment also beneﬁted from relative advancement in terms of technological innovations and supporting infrastructure and regulation. These were helpful in driving the industry’s expansion in the midst of adjusting to the COVID-19 lockdown measures. Islamic banking assets in the GCC also grew on account of a number of M&As across the region. For instance, in the UAE, Dubai Islamic Bank fully acquired Noor Islamic Bank; while in Saudi Arabia, notable mergers included those between Saudi British Bank and Alawwal Bank, and the creation of Saudi National Bank from the merger between National Commercial Bank and Samba Financial Group. In Qatar, there was a merger between Masraf Al Rayan and Al Khalij Commercial Bank. In Oman, there was also the acquisition of Alizz Islamic Bank by Oman Arab Bank in 2020, wherein the former retained the status of an independent full-fledged Islamic bank. The Central Bank of Oman also approved the commencement of due diligence on a proposed merger between Bank Nizwa and Sohar International Bank. The various M&A initiatives enhanced Islamic banks’ operational synergies in terms of human capital and digital transformation, as well as the funding requirements needed for their participation in huge corporate deals and large infrastructural projects relating to ESG, technology, healthcare, and the development of small and medium-size enterprises (SMEs) as part of the economic diversiﬁcation drive in the region. Speciﬁcally, in terms of ﬁnancing, the Omani Islamic banking sector registered a double-digit growth of 11.6% (see Chart 1.2.2.2). While the Islamic banking sectors in Saudi Arabia, Qatar, Kuwait, and Bahrain registered single-digit growth rates of 8.7%, 4.8% and 1.9% y-o-y, respectively, that of the UAE registered negative growth of –2.2% y-o-y as at end-4Q’21. The fact that assets growth declined in the UAE Islamic banking sector explains the decline in ﬁnancing. The converse is also true in other GCC countries, where the positive growth rate for ﬁnancing reflects the positive growth for assets. 22 ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
Islamic banks in the region also enjoy stable funding , especially from customers’ deposits, as consumer spending improved due to the reopening and recovery of the economy. Deposits of the Saudi Islamic banking sector grew by 13.0%, with non-remunerative funding (current account, wadī`ah) accounting for a larger chunk. In Oman, deposits also improved, by 16.8% as at end-4Q’21, due to an increase in remunerative deposits via proﬁt-sharing investment accounts (PSIA) (see Chart 1.2.2.3). SEA Region Countries The Indonesian Islamic banking sector recorded the highest y-o-y growth rates in the SEA region in terms of assets, ﬁnance and deposits. Speciﬁcally, assets grew by 12.6% y-o-y in 4Q’21, whereas the Islamic banking sectors in Malaysia and Brunei registered a y-o-y single-digit growth rate of 5.9% and a decline of –1.5%, respectively, as at end-4Q’21 (see Chart 1.2.2.1). The growth in Islamic banking assets in the SEA region was due to the supportive regulatory environment, which offers a level playing ﬁeld with conventional banking, and to economic reopening and recovery despite the challenging economic environment caused by a resurgence in COVID-19 in the region. The prospects for further growth of the assets of the SEA Islamic banking sector would be driven by the huge untapped market, especially in Indonesia, via increased digitalisation. Bank Negara Malaysia (BNM) also recently granted operating licenses to ﬁve digital banks, including two21 under the Islamic Financial Services Act 2013. Other favourable factors include the proposed merger between two full-fledged Islamic banks in Malaysia22 and the establishment of a new Sharī`ah bank, PT Bank Syariah Indonesia, and the planned conversion of two regional ﬁnancial institutions to Sharī`ah banks in Indonesia.23 In terms of ﬁnancing, Islamic banks in Indonesia recorded a 5.5% y-o-y growth. In Malaysia and Brunei, ﬁnancing growth was 4.1% and 4.0% y-o-y, respectively (see Chart 1.2.2.2). Financing growth in the region was driven by the extension of regulatory forbearances. Household and other consumer ﬁnancing provided mainly on the basis of murābahah and ijārah, especially for housing ﬁnancing, increased during the period. The growth of ﬁnancing to the private sector in general and for working capital in particular remained below their pre-pandemic levels but improved on the back of the reopening of the economy and the relaxation of lockdown measures. The Islamic banking sector in Brunei and Indonesia also registered double-digit deposit growth of 14.1% and 12.3%, respectively, in contrast to the single-digit growth of 6.0% registered by the Malaysian Islamic banking sector as at end-4Q’21 (see Chart 1.2.2.3). The deposit growth rate was due to the increasing share of remunerative funding sources, mainly murābahah and commodity murābahah in Malaysia and PSIAs in Indonesia. The deposit growth was also supported by increasing precautionary savings by both businesses and households amid the uncertain business environment due to a resurgence of the pandemic in both countries. In contrast to the above three SEA countries, in Thailand the sole Islamic banking institution recorded a drop in the Islamic banking asset share, accounting for 0.4% (Q4’20: 0.5%) of the country’s domestic banking share. This was due to the impact of COVID-19 on the operational efﬁciency of the Islamic Bank of Thailand. Being a specialised ﬁnancial institution with a mandate to cater for Islamic ﬁnancial services in the country, the Islamic bank has been limited to operating only in areas with a sizeable Muslim population. As such, it has relied on state support to manage its balance sheet challenges over the years through forbearances on non-performing assets and signiﬁcant liquidity injection by the government. 21 22 23 These are AEON Financial Service Co., Ltd., AEON Credit Service (M) Berhad and MoneyLion Inc. consortium, and KAF Investment Bank consortium. The proposed merger is between Malaysia Building Society (MBSB) and Permodalan Nasional (PNB). Bank Pembangunan Daerah Riau Kepri and Bank Nagari. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 23
MESA Region Countries The Iranian banking sector remains 100 % Islamic and is the second-largest Islamic banking market after Saudi Arabia. In local currency terms, the sector recorded increased assets; however, due to currency translation exposure as a result of economic sanctions that weakened its currency exchange rate, the sector was worth USD 357.42 billion as at end-4Q’21 compared to the USD 405.31 billion reported in SR 2020.24 With the exception of Sri Lanka, countries in the MESA region recorded an increased share of Islamic banking assets as at 4Q’21 compared to a year earlier. Assets of the Islamic banking sector in Bangladesh, Pakistan and Palestine registered improved double-digit growth performances of 20.9%, 30.6% and 12.1%, respectively, as at end-4Q’21. In Bangladesh, the growth was due mainly to strong public demand. The consequential expansion of the industry was reflected in a 26.6% y-o-y increase, or an additional 389 new branches/windows, as at 3Q’21. Also, policy support by the Bangladesh Bank provided opportunities for Islamic banks to participate in raising funds for infrastructural and industrial projects. In Pakistan, Islamic banking assets growth was due to increased investment, as well as to ﬁnancing activities that also grew during the period especially in terms of the partnership-based contracts of mushārakah and diminishing mushārakah. Speciﬁcally, ﬁnancing by the Bangladesh and Pakistan Islamic banking sectors grew by 30.2% and 32.6% y-o-y, respectively. In contrast, the Palestine Islamic banking sector registered a slower ﬁnancing growth of 8.0% as at 4Q’21. In terms of deposits, while Bangladesh recorded a slower positive growth of 8.9% y-o-y, Pakistan and Palestine registered increased y-o-y growth rates of 24.2% and 11.9%, respectively, over the same period. It is noteworthy that the State Bank of Pakistan (SBP) unveiled its strategic plan for the Islamic banking industry in that country which, among other objectives, will signiﬁcantly increase the Islamic banking share of domestic banking to 30% by 2025.25 In addition, in its bid to enhance liquidity management and investment opportunities for Islamic banks in the country, the SBP also introduced a Sharī`ah-compliant standing ceiling facility as well as open market operations.26 The ﬁnancing facility, which is based on mudārabah, is also meant to enhance the effectiveness of monetary policy. In contrast to the other MESA countries, Afghanistan recorded a sharp negative growth in assets of –73.0% in 4Q’21. The sector also recorded a negative growth in both ﬁnancing and deposits of –16.1% and –92.0%, respectively. This deterioration can be attributed to the consequences of the political impasse in the country, which crippled economic activities in many ramiﬁcations. This perhaps impeded Afghanistan’s Islamic banking sector growth with a share of 13.2% (4Q’20: 12.4%), as it moves closer to becoming a systemically signiﬁcant jurisdiction. This feat is envisaged to be realised very soon, as some conventional banks in Afghanistan have indicated a keen interest in transitioning to Islamic banking.27 24 25 26 27 24 To ensure consistency across sectors in this report, the exchange rate used for Iran is that stated by the Securities and Exchange Organization (SEO) in its Iran quarterly fact sheet, available on its website. An exchange rate of IRR/USD = 233,777 for 2Q21 was used. https://www.sbp.org.pk/departments/pdf/StrategicPlanPDF/Strategic-Plan-2021-25.pdf State Bank of Pakistan, Domestic Market & Monetary Management Department (DMMD) Circular No. 24 of 2021. https://www.sbp.org.pk/dmmd/2021/C24.htm#:~:text=In%20exercise%20of%20the%20powers,Institutions%20(IBI)%20and%20enhance%20the Such banks include Afghan United Bank, Afghanistan Commercial Bank and First Microﬁnance Bank Afghanistan (FMFB-A). https://www.islamicﬁnancenews.com/daily-cover-story-afghan-commercial-bank-prepares-for-full-islamic-conversion-of-portfolio.html ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
Africa Region Countries The share of Islamic banking assets in the Africa region was relatively low in 2021 , although it also registered an increase. The region has witnessed several developments highlighting its signiﬁcant potential for the Islamic banking industry. While new full-fledged Islamic banks are being licensed to commence operation, a few notable conventional banks have also established Islamic banking windows. Currently, there are over 80 institutions offering Islamic ﬁnancial services in Africa.28 The Sudanese Islamic banking sector was worth USD 9.1 billion as at end-4Q’21, compared to USD 14.3 billion as at end-4Q’20. Speciﬁcally, the Sudanese banking sector also registered a sharp decline of –58.4% in asset growth, while ﬁnancing declined by –66.2% and deposits by –59.7, in 4Q’21. This negative growth in the Sudanese banking industry was due to depreciation of the exchange rate from 55 Sudanese Pounds to the USD to around 375 Pounds at the start of 2021, as well as to the political impasse in the country that affected economic recovery along with a low vaccination rate. The Islamic banking sector in Libya, and the non-interest banking (NIB) sector in Nigeria, recorded asset growths of 10.0% and 38.3% y-o-y in 4Q’21, respectively. In the case of the latter, asset growth was driven by the establishment of Lotus Islamic Bank which was granted an operational licence in 2021 by the Central Bank of Nigeria (CBN). The fact that the Islamic banking sectors in both Nigeria and Libya are still in a nascent stage and account for a small share of domestic banking perhaps explains the sector’s slower growth despite the increased revenue from oil during the period under review. The NIB also registered increased growth in terms of ﬁnancing, at 64.6% y-o-y, and in deposits, at 68.3% y-o-y, as at end-4Q’21. The growth rate was achieved despite depreciation of the Nigerian currency, as the economy gradually reopened and recovered amid an increasing rate of COVID-19 infection due to the Delta variant and the low vaccination rate.29 Europe and the CIS Region Countries In Turkey, the share of the participation banks continued to grow in Turkish Lira terms, with participation banking assets, ﬁnancing and deposits recording double-digit y-o-y growth. This is due mainly to the fast growth registered by the state-owned participation banks. However, unlike in the previous year when the sector recorded an asset growth rate of 23.8% in USD terms, Turkish participation banks registered a negative growth of assets of –8.2% in 4Q’21. As at end-4Q’21, the sector’s value of USD 54.4 billion (4Q’20: USD 59.3 billion) represented 5.9% (4Q’20: 7.2%) of the total domestic banking assets. Similarly, the ﬁnancing and deposit growth rates of 31.5% and 20.1%, respectively, reported in 4Q’20 contrast to the –15.4% and –3.1%, respectively, recorded in 4Q’21. Within the Central Asia region, the Islamic banking sector in Kazakhstan constitutes 70% of the region’s total Islamic banking assets. However, domestically and as in 2020, Islamic banking assets still account for less than 1% of the total Kazakhstan banking industry as at end-Q4’21. Digitalisation and strong government support are expected to provide a major boost to Islamic banking in the country. Attention to the development of a regulatory framework for Islamic banking has also been a key focus in the Kyrgyz Republic. Improvements in the legal and regulatory frameworks, such as in areas of risk management and corporate governance, have supported the growth of Islamic banking assets. Such developments contribute to a positive outlook in the republic for stable growth of the Islamic banking sector to improve its existing 1.5% market share. 28 29 Moody’s Investors Service (2020), Cross-Sector – Islamic Finance: GCC and Malaysia Will Drive Growth across Sharī`ah-Compliant Products in 2020, March, pp. 1–19. As at 3Q’21, conﬁrmed cases of COVID-19 infection increased by 20.4% q-o-q, while only 0.9% of Nigeria’s population was fully vaccinated. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 25
1 .3 Islamic Capital Market: Sustained Resilience Amid Retained Concentration 1.3.1 The market continued a steady upward growth trajectory in 2021, supported by a resilient global risk appetite and favourable external conditions, despite the emergence of fast-spreading variants of COVID-19. outstanding reached USD 775 billion in 2021 (see Chart 1.3.1.1), representing a y-o-y growth of 12.5%. The overall issuances by end-2021 also maintained momentum, with a y-o-y growth of 4%, reaching USD 185.4 billion. While there were country-speciﬁc variations in the level of issuances in 2021, the overall global trend for the market remained positive. Chart 1.3.1.1 Global 200 Issuances and Outstanding Trends (USD billion) (2004–21)* Issuances (USD billion) Outstanding (USD billion) Issuances 180 Outstanding 800 700 160 600 140 500 120 100 400 80 300 60 200 40 100 20 0 0 2004 2005 Source: Reﬁnitiv. 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021 *2020 ﬁgure restated The increase in global issuances was supported by an increase in corporate issuances, while sovereign issuances slowed slightly (see Chart 1.3.1.2). While sovereign issuances have consistently dominated the market, with the corporate market generally less active in most countries with the exception of Malaysia, the trend has been changing in recent years. The corporate market has seen strong growth momentum, although issuance rates have been affected by the pandemic, and the gap between sovereign and corporate issuances is rapidly closing, indicating a potential for corporate issuers to outpace sovereign issuances in the medium term. The growth trend for corporate issuances has been influenced by a number of factors. First, issuers have been looking to take advantage of the current global liquidity before monetary tightening policies come into effect. Second, it is indicative of an improvement in the challenges facing corporates in issuing , including some jurisdictions providing incentives or a more facilitative environment for the issuance of . 26 ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
Chart 1 .3.1.2 Issuances by Issuer Type (%) (2021) Multilateral Organisations (14%) Sovereign (44%) Sovereign Corporate Multilateral Organisations Corporate (42%) Source: IFSB estimates based on data from Reﬁnitiv. The main hindrances for corporate issuers have generally been the higher cost of issuance of , the smaller size of corporate issuers, the complexity of the issuance process when compared to bonds, and reliance on bank-based ﬁnance rather than the capital markets. Corporate issuance tends to be stronger in jurisdictions where there is a facilitative environment, such as the Malaysian market, where account for 70% of total corporate bond/ issuances in the country since 2017. The increasing number of corporate issuances may also be due to the low-interest rate environment as well as to higher funding needs for corporates during the pandemic, which also saw a boom in corporate bond markets, as larger corporates sought to secure funds to meet short-term liquidity shortfalls and cover operational expenses, amid declining revenues. issuances from multilaterals also increased. This included short-term issuances from the International Islamic Liquidity Management Corporation (IILM) to support liquidity management in the IFSI, and medium-term issuances from the Islamic Development Bank (IsDB) that will be utilised for the development mandate of the bank – for instance, its wide-ranging response to ﬁnancing the recovery from the pandemic for its member countries. The IsDB’s sustainability will be used to ﬁnance/reﬁnance green and social development projects. The largest sovereign issuers by domicile remain the same as in the previous year, with Saudi Arabia continuing to be the biggest sovereign issuer in 2021, followed by Indonesia, Malaysia and Kuwait (see Chart 1.3.1.3(a)). While the volume of sovereign issuances from Saudi Arabia saw an increase in 2021, issuances from Indonesia, Malaysia and Kuwait saw a decline compared to 2020. The contraction in sovereign issuances in some jurisdictions may be attributable to recovering economic activity and lower pandemic-related spending and higher oil prices. However, some government funding needs still remain to support economic recovery, and infrastructure and economic development projects. Exceptionally, Saudi Arabia, Qatar and Oman increased their sovereign issuances in 2021, while Bahrain, Kuwait and the UAE saw a more subdued issuance. Saudi sovereign issuance has, in particular, been reinforced by the launch of the country’s “ Issuance Program” in 2017 to help diversify the state budget funding base. Overall, sovereign issuances are expected to remain signiﬁcant, as maturing will need to be reﬁnanced particularly by the top three issuers, which will lead to an increase in overall gross issuance. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 27
Chart 1 .3.1.3(a) Sovereign Maldives (0.8%) Issuances by Jurisdiction of the Originator (%) (2021) Bangladesh (0.7%) Nigeria (1.0%) Brunei (0.6%) United Kingdom (1.1%) Jordan (0.5%) Bahrain (1.2%) Gambia (< 0.1%) Oman (2.8%) Qatar (3.4%) Turkey (3.5%) Kuwait (5.3%) Saudi Arabia (41.6%) Malaysia (17.8%) Indonesia (19.6%) Source: IFSB estimates based on data from Reﬁnitiv and regulatory authorities (excluding Iran, due to data limitations). Chart 1.3.1.3(b) Corporate Bangladesh (0.6%) Qatar (0.8%) Indonesia (2.2%) Issuances by Jurisdiction of the Originator (%) (2021) Egypt (0.3%) Nigeria (0.04%) Oman (0.03%) Bahrain (3.0%) Kuwait (3.5%) UAE (6.5%) Malaysia (43.9%) Turkey (11.4%) Saudi Arabia (27.8%) Source: IFSB estimates based on data from Reﬁnitiv and regulatory authorities (excluding Iran, due to data limitations). 28 ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
There were a number of new entrants to the market in 2021 and the return of issuers from jurisdictions that are not core Islamic ﬁnance markets (see Chart 1.3.1.3(a)). The Government of the Maldives issued its debut international sovereign amounting to USD 200 million, with a ﬁve-year maturity. The United Kingdom issued its second sovereign in 2021, valued at USD 653.9 million with a ﬁve-year maturity. The UK’s ﬁrst sovereign issuance was in 2014. Nigeria also returned to the sovereign market with a USD 600 million issuance. Bangladesh, which issued its maiden sovereign in December 2020, continued sovereign issuances in 2021. Corporate issuance volume increased in 2021. Malaysia remains the largest corporate issuer in terms of overall volume of issuances, followed by Saudi Arabia and Turkey (see Chart 1.3.1.3(b)). On the whole, across most jurisdictions, corporate issuances saw an increase in 2021. In terms of new entrants, 2021 saw the ﬁrst corporate issuance from Nigeria, a USD 24 million, seven-year . Overall, Saudi Arabia was the leading sukūk issuer in 2021, followed by Malaysia and Indonesia (see Chart 1.3.1.4). Regionally, the GCC accounted for about 48% of the total volume of issuances in 2021, supported by the increase in issuances from Saudi Arabia, overtaking South-East Asia as the largest regional issuer, the latter accounting for 42% of issuances due to a drop in issuances across the three main issuers from the region as well as from issuers outside of these two main regions (2020:30 SEA – 44%, GCC – 44%). Collectively, the two regions account for 91% of global issuances in 2021 (2020: 83%; 2019: 84%). Chart 1.3.1.4 Total Issuances by Domicile* (%) (2021) Nigeria (0.4%) Brunei (0.3%) United Kingdom (0.5%) Maldives (0.3%) Bangladesh (0.5%) Jordan (0.22%) Oman (1.2%) Egypt (0.1%) Bahrain (1.8%) Gambia (0.02%) Qatar (1.8%) UAE (2.7%) Turkey (6.9%) Saudi Arabia (33.5%) Kuwait (8.3%) Indonesia (15.8%) Malaysia (25.7%) Source: IFSB estimates based on data from Reﬁnitiv and regulatory authorities (excluding Iran, due to data limitations). *Excludes issuances by multilaterals. 30 For comparability, 2020 references have been adjusted to exclude Iran, due to limited data availability in 2021. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 29
Chart 1 .3.1.5 Global Issuances by Sector (%) (2021) Consumer Staples (0.4%) Communication Services (0.4%) Materials (0.3%) Utilities (1.3%) Real Estate (1.4%) Consumer Discretionary (0.3%) Energy (1.8%) Industrial (4.3%) Government (49%) Financials (40%) Source: IFSB estimates based on data from Reﬁnitiv and regulatory authorities. The volume of investment-grade31 international issuances is also increasing, with investment-grade issuances in 2021 comprising USD 39.6 billion or 33% of total issuances, compared to USD 25.9 billion or 16% of total issuances in 2020. This total included issuances from Indonesia, Malaysia, Bahrain, UAE, Saudi Arabia and multilateral organisations. About 17% of investment-grade were USD-denominated international issuances. High-yield international issuances amounted to around 7% of total volume of issuances in 2021 compared to 4% in 2020. The sectoral distribution for issuers has not changed signiﬁcantly, with ﬁnancial sector issuers still making up the largest proportion of issuers next to issuances by governments. The collective issuance across these two sectors continues to comprise 90% of total issuances during the year (see Chart 1.3.1.5). Out of the ﬁnancial sector issuers, around 14% are Basel III regulatory capital issuances by banks, of which 91% were issued from the GCC region (see Charts 1.3.1.6(a) and 1.3.1.6(b)). Chart 1.3.1.6(a) Basel III-Compliant Issuances (USD million) (2021) 6,000 USD million Chart 1.3.1.6(b) Basel III-Compliant Issuances by Country (USD million) (2021) 4,000 USD million Additional Tier 1 5,000 Tier 2 3,000 4,000 2,000 3,000 2,000 1,000 1,000 0 Additional Tier 1 Capital (Basel III) Tier 2 Capital Source: IFSB estimates based on data from Reﬁnitiv. 31 30 (Basel III) Saudi Arabia Kuwait UAE Qatar Turkey Malaysia Source: IFSB estimates based on data from Reﬁnitiv. The common deﬁnition for investment-grade issuances is a BBB or higher rating on S&P and the equivalent from other agencies. The volume of investment-grade issuances was determined as per the classiﬁcation on the Reﬁnitiv database. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
The secondary market still faces liquidity challenges , although the outstanding value of has risen to USD 776.2 billion. The supply–demand gap for still persists in most markets due to institutional investors following buy-and-hold strategies for investments, which limits liquidity in secondary markets. However, the continued growth of the primary market has the potential to close this gap and to improve liquidity in secondary markets over the long term. 1.3.1.1 Sustainability-Related Sustainability-related issuances32 have continued to grow in both existing and new markets. Sustainability-related amounted to USD 5.3 billion, of which USD 1.6 billion or 29% were green . While the number of sustainability-related issued was lower than in the previous two years, the overall size of issuances was signiﬁcantly higher. On the other hand, the number of green issuances increased compared 33 to 2020 (see Chart 1.3.1.1.1). Green comprised 34 out of the 38 sustainability-related issuances in 2021, but with relatively smaller average issuance sizes, making the total size of green issuances lower than in the previous year. outstanding reached USD 775 billion in 2021 (see Chart 1.3.1.1), representing a y-o-y growth of 12.5%. The overall issuances by end-2021 also maintained momentum, with a y-o-y growth of 4%, reaching USD 185.4 billion. While there were country-speciﬁc variations in the level of issuances in 2021, the overall global trend for the market remained positive. Chart 1.3.1.1.1 Sustainability-Related 6,000 Issuances (2017–21) Amount Issued (USD million) Number of Issued 60 5,000 50 4,000 40 3,000 30 2,000 20 1,000 10 0 0 2017 2018 2019 Source: Reﬁnitiv. 2020 Sustainability-related 2021 No. of Sustainability-related Sustainability-related issuances were led by the IsDB, Indonesia and Malaysia34 (see Chart 1.3.1.1.2). The the proceeds of which are intended to be used to ﬁnance green and social IsDB issued a USD 2.5 billion development projects. The Malaysian government also issued its maiden sustainability , amounting to a total of USD 1.3 billion, which included a USD 800 million sustainability tranche, that was also the ﬁrst USD sustainability issued by a sovereign. The proceeds of the are intended to be used for eligible social and green projects aligned to the UN’s Sustainable Development Goals (SDGs). 32 33 34 Sustainability-related as referred to in this report include any type of issuances. objectives, also including green issued speciﬁcally to support climate-related or environmental projects See Box Article 1. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 instrument that is issued to achieve predeﬁned sustainability or ESG 31
Chart 1 .3.1.1.2 Sustainability-Related 3,000 Issuers (USD million) (2021) USD million 2,500 2,000 1,500 1,000 500 0 IsDB Indonesia Malaysia Bangladesh Turkey Source: IFSB estimates based on data from Reﬁnitiv. Indonesia issued a USD 750 million green tranche as part of its USD 3 billion issue in the ﬁrst half of 2021. New sustainability-related issuers in 2021 also included Bangladesh and Turkey. A Turkish bank issued a USD 350 million sustainability-related Tier 2 , the world's ﬁrst regulatory capital Tier 2 ESG . The net proceeds of the issuance are intended to be used to ﬁnance and/or reﬁnance eligible green and social projects in accordance with the bank's Sustainable Finance Framework. A corporate in Bangladesh also issued that country’s ﬁrst green in 2021 (also its largest ever private-sector issuance), the proceeds of which will fund solar projects. Demand for sustainability-related investments is increasing, further supporting more issuances by both sovereign and corporate issuers. Additionally, the need to fund green and sustainability transition projects will spur the increasing issuance of sustainability-related in the near future. During 2021, sovereign entities in Saudi Arabia and Oman introduced sustainability-related debt frameworks. Saudi Arabia’s sovereign wealth fund also announced its plans to issue its ﬁrst green debt deal, with borrowing linked to sustainability. The Capital Market Authority of Oman, in July 2021, issued a framework for sustainable and responsible investment (SRI) bonds and , with the aim of consolidating and enhancing earlier regulations. The rules are intended to enable the issuance of sustainability-related, green, blue35 and social , as well as of waqf-linked . These developments are likely to encourage sustainability-related issuances from Oman. Moreover, the Qatar Financial Centre indicated that sovereign green bond and issuances can be expected soon, while the Turkish Ministry of Treasury and Finance is also in the midst of developing a sustainable ﬁnance framework to facilitate the issuance of ESG bonds and in international markets. Other newer issuers such as Egypt may also enter this market, with that country’s Financial Regulatory Authority recently approving amendments to the Capital Market Law to include the regulation of bonds and related to SDGs, as well as granting a 50% reduction in regulatory fees for the issuance of SDG-related debt. 35 32 issued to raise capital to ﬁnance marine and ocean-based projects that have positive environmental, economic and climate beneﬁts. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
Malaysia also has a number of well-established incentives in place to encourage green ﬁnancing, through the SRI and Bond Grant Scheme by Malaysia’s Securities Commission (SC) to cover the costs incurred by issuers for independent review of issuances under the SC’s SRI Framework and bond issuances under the ASEAN Green, Social and Sustainability Bond Standards. A tax deduction is also provided to issuers for the costs of issuing under the SRI Framework. These initiatives have supported signiﬁcant green and SRI issuance by corporates in Malaysia.36 In January 2022, the Saudi National Bank issued a USD 750 million debut sustainability , the proceeds from which will go towards projects that meet the criteria of the bank’s Sustainable Finance Framework, including renewable energy facilities. This was followed by Saudi Arabia’s Riyad Bank, which issued a USD 750 million sustainability as part of its ESG programme. Riyad Bank’s sustainability was also an Additional Tier-1 , which is the ﬁrst of its kind globally (following Turkey’s Tier-2 ESG in 2021), and saw 4.3 times oversubscription, with demand reaching USD 3.2 billion. The Capital Markets Board of Turkey (CMB) issued “Guideline on Green Debt Instruments, Sustainable Debt Instruments, Green and Sustainable in February 2022. The Guideline is based on the International Capital Markets Association’s (ICMA’s) Green Bond Principles. It will be applicable for sustainability-related, green and blue issuances. In order to promote the market, CMB has also granted a 50% reduction in its regulatory fees for issuances in accordance with the Guidelines. 36 See Box Article 2. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 33
Box Article 1 : Islamic Finance, SDGs and Climate Change – An Aligned Spectrum Contributed by: ISLAMIC DEVELOPMENT BANK
The Islamic Development Bank (IsDB) recognises that climate change is one of the major challenges in the way of achieving sustainable development and has made climate change action one of its key institutional mandates. In 2019, the IsDB made an ambitious commitment that by 2025, at least 35% of IsDB operations will be in climate ﬁnance. Already, during the period 2013–17, IsDB climate ﬁnance amounted to USD 4.72 billion, accounting for 19% of total IsDB approvals during this period. In 2018 and 2019, 42% and 25%, respectively, of IsDB project ﬁnancing were committed to climate ﬁnance. Game-changing Islamic ﬁnance instruments include , instalment sales, , leasing (ijārah), takāful and Islamic social ﬁnancing instruments such as sadaqah, waqf, zakāh, and also Islamic microﬁnance which can be used as a means to address SDGs and Paris Agreement goals. Islamic Finance to Address SDGs and Climate Challenges The IsDB published in 2019 its Sustainable Finance Framework, which provides a model for Islamic banks and ﬁnanciers seeking to align their ﬁnancing with the SDGs across their ﬁnancing portfolios. This innovative framework was developed in accordance with the four components of the Green Bond Principles 2018, Social Bond Principles 2018 and Sustainability Bond Guidelines 2018, and has allowed the bank to successfully issue a one billion-euro green (Islamic equivalent of bonds) in 2019 for low-carbon, climate-resilient green and social investments and operations in IsDB member countries, and a USD 2.5 billion sustainability in 2021, the largest of their kind. To compare, the total ESG issuance in 2020 was a record USD 4.6 billion. Islamic principles in general promote social trust, cooperation and solidarity. Following such principles, Sharī`ah-compliant ﬁnance products have been developed over time to ensure that all investments are good for the community and do not cause harm. Hence, Islamic ﬁnance products are well suited to sustainable development goals (SDGs) impacts. These products’ characteristics, which include being asset-backed, ethical, sharing risks equitably and being subject to good governance, are in line with the environmental, social and governance (ESG) considerations that are increasingly taken into account by ﬁnancial institutions to ensure responsible investments and the sustainability and societal impact of their investment. A new generation of Islamic ﬁnance institutions is seeking to provide a range of products to accompany vulnerable communities in SDG-aligned projects through economic empowerment, while ensuring that these communities are adequately equipped and empowered. This is done by strengthening their capacities, identifying and addressing climate risks in their activities, accessing markets or building partnerships. By funding economic empowerment projects with high potential value chains and calibrating the intervention points in order to reach the greatest number of beneﬁciaries, these institutions can build resilience at the local level and address climate vulnerabilities through customised projects. The commitment from IsDB to reach at least 35% of climate ﬁnance by 2025 involves green infrastructure investments, notably in renewable energy, climate-resilient agriculture, and urban, water and transport sectors. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 35
Direct investments through IsDB ’s traditional ﬁnancial products such as instalment sale, or leasing (ijārah) have helped the bank to ﬁnance renewable energy, clean transportation, energy efﬁciency, climate-smart agriculture and agroforestry, sustainable water and wastewater management, and creation of green jobs, among others. These green assets can be further utilised to back up the issuance of future green to sustain the momentum of a "virtuous cycle" of greening the ﬁnancial system. Another promising area for environmentally and socially responsible Islamic ﬁnance is venture capital ﬁnancing (restricted ) for micro and small businesses, which had been pioneered by IsDB through the Youth Employment Support (YES) programme which facilitated ﬁnancing to youth micro and small businesses through a risk-sharing model. Economic empowerment for poverty alleviation provides opportunities to fulﬁl Sharī`ah principles by achieving the SDGs, while reducing environmental and climate vulnerability of poor people. Islamic Social Financing (ISF) ISF broadly comprises charitable traditional Islamic instruments such as sadaqah (charitable giving), waqf (endowments and trusts) and zakāh (obligatory almsgiving). The Islamic Development Bank Institute (IsDBI) (formerly the Islamic Research and Training Institute) has led efforts to develop a model law of waqf for Muslim countries, which has already formed the basis of waqf legislation in Senegal and will be replicated in countries that plan to have dedicated waqf laws. In the ﬁeld of zakāh, IsDBI has helped Maldives design a legal framework for zakat mobilisation and distribution in recent years. ISF represents an enormous potential to address SDGs and alleviate the impacts of climate change. For instance, it has been estimated that the annual zakāh contributions only amount to around USD 300 billion resources across the Islamic world. The Global Muslim Philanthropy Fund for Children (GMPFC) was launched in 2019 and is the ﬁrst fund focused on Muslim giving launched by the United Nations Children's Fund together with the IsDB. The fund is speciﬁcally designed to ﬁnance life-saving 36 humanitarian aid and is in response to the child-related SDGs, including climate action, in the 57 member countries of the Organization of Islamic Cooperation. Waqf constitutes a potentially important source for more climate and environment friendly ﬁnance. “Green” waqf could help directly engage in the provision of goods and services for climate change mitigation and adaptation and could be established as dedicated entities for conservation of natural resources, waste management and other such activities. They can also be dedicated for research and development purposes to advance technological improvements and associated cost beneﬁts or be used to help increase consumer awareness and action on climate change. The Awqaf Properties Investment fund (APIF) is a fund managed by IsDB which participates in the ﬁnancing of waqf income generating commercial and residential real estate properties to enhance the ﬁnancial sustainability of its beneﬁciaries and support their social and charitable activities. An example is the Fujairah Welfare Association (FWA), which approached APIF to ﬁnance the building of the Nama Commercial and Residential Building (NCRB) in the UAE. Revenues from rentals of the building not only helped pay out the loan provided by APIF, but also funded many humanitarian projects and beneﬁted over 9 million victims of poverty, unemployment and natural disasters. Islamic microﬁnance institutions (MFIs) are already ﬁnancing clean energy products and low-cost climate adaptation measures to address flood, water scarcity or agriculture needs. Islamic MFIs have speciﬁcally relied on zakāh, sadaqah and waqf to absorb administration costs to make their loans affordable to clients. These Islamic social funds can become substitutes for subsidies in absorbing the incremental costs when ﬁnancing clean technologies and adaptation measures for the poor, hence providing Islamic green lines of ﬁnance. Some MFIs are also using zakāh-based guarantee funds to mitigate their risks. This was pioneered by the Islamic Corporation for the Development of the Private Sector (ICD). ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
Lastly , ﬁntech has the potential to contribute to addressing climate hazards and natural disasters. Islamic ﬁntech companies are increasingly present in the ecosystems, although there are some barriers that need to be lifted for wider spreading. Examples include crowdfunding platforms that match sadaqah, zakāh and waqf donors with credible charity partners. Campaigns funded through such platforms include activities that are eligible for climate ﬁnance, such as borehole construction in water-stressed areas, or access to low-cost, clean energy. Remittances through Islamic ﬁntech can also support households in adapting to climate hazards or acquiring low-cost clean energy technology. Here again, the IsDBI is leveraging its intellectual capital and collaborations to develop blockchain-based innovative solutions guided by the principles of Islamic economics to enable suitable development in IsDB member countries. In the ﬁntech sphere, following the successful awarding of three ﬁntech patents, and a fourth patent under development, the Institute in 2021 started exploring the capitalisation of the awarded patents: 1. An innovative blockchain system that seamlessly integrates credit reporting, credit rating, credit insurance and incentives for repayment. 2. A blockchain-based voucher (or token) that allows governments, for example, to privatise selected public services (such as schools and hospitals) and directly subsidise disadvantaged groups while maintaining their inclusive support. 3. An innovative and environment-friendly consensus algorithm as a major infrastructure component of a highly efﬁcient and secure blockchain platform, allowing members to validate the transactions of other members in return for others validating theirs. 4. A stabilisation system for ﬁnancial assets and cryptocurrencies as a proactive, self-sustaining solution, expected to incorporate different technologies such as blockchain and artiﬁcial intelligence (AI). Tools and Metrics for Climate Risks Management and Impact Measurement To better communicate on results and scale up impact ﬁnancing, it will be important to ensure that SDG impact metrics and reporting are agreed upon that are both Sharī`ah-compliant and in line with international standards. By developing tools to support the measurement of SDG impact indicators, including GHG accounting or climate risks screening tools for SDG13, Islamic ﬁnancial institutions will be in a better position to demonstrate the impact of their investments and attract borrowers for their different ﬁnancial products. With a mandate involving advisory services on Islamic ﬁnance, IsDB has an excellent opportunity to promote ESG standards, greenhouse gas (GHG) accounting, and climate risk management frameworks in developing countries' commercial and Islamic ﬁnance institutions. This will support the deployment of billions of dollars in green Islamic ﬁnance for communities and small and medium-size enterprises. Already, the IsDB is supporting the General Council for Islamic Banks and Financial Institutions (CIBAFI) in reinforcing the role of IFIs in supporting climate action by developing tools suitable to IFIs to track and monitor GHG emissions of their operations. In the future, further support could be provided to help identify their exposure to climate risks, which would allow them to draw up strategies and action plans to address and manage IFIs’ exposure to such risks and to develop or strengthen their overall ESG frameworks. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 37
Box Article 2 : Sustainability in Malaysia Contributed by: SECURITIES COMMISSION MALAYSIA
Over the past 30 years , Malaysia has made tremendous progress in cementing its position as a global centre for Islamic ﬁnance. The country positioned Islamic ﬁnance as a key focus area and, in the process, Malaysia has built a distinguished track record for innovative Islamic ﬁnance products and services. With the concerted efforts of various stakeholders such as the government, ﬁnancial regulators and industry players, the Islamic ﬁnance landscape in Malaysia has progressed from a domestically driven industry to a prominent international centre. On that journey, the Securities Commission Malaysia (SC) had propagated early on the role of the capital market in supporting the sustainability agenda. The importance of sustainable development has been globally recognised, as reflected by the ongoing initiatives and commitments undertaken to address social and environmental issues by various nations, including Malaysia. To this end, the efﬁcient mobilisation of funds and investments for sustainability in the capital markets plays a vital role in ensuring the global sustainable development needs are adequately supported. The SC has long been cognisant of the need to promulgate and develop sustainable ﬁnance, and, along with the increasing awareness of sustainable investments and ﬁnancing, this augurs well for Malaysia, as Islamic ﬁnance – and, in particular, the Islamic capital market (ICM) – has been a natural ﬁt for sustainability. This is evidenced by the commonalities underlying sustainability and Islamic ﬁnance principles such as social responsibility, inclusiveness, equitable sharing of risks and shared societal beneﬁts among others. Acknowledging this unique proposition, the SC has introduced several regulatory initiatives to establish an ecosystem conducive for the development and growth of sustainable ﬁnance including green ﬁnancing through the ICM. The SC also continue to play an active role in developing Sustainable and Responsible Investment (SRI) at the regional level. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 unique proposition, the SC has introduced several regulatory initiatives to establish an ecosystem conducive for the development and growth of sustainable ﬁnance including green ﬁnancing through the ICM. The SC also continue to play an active role in developing Sustainable and Responsible Investment (SRI) at the regional level. One of the most signiﬁcant developments of the sustainability agenda in Malaysia, is the introduction of the SC’s SRI framework in 2014, which is widely considered as a pioneering regulatory development that integrates Islamic principles with those of SRI. The SRI framework facilitates the ﬁnancing of eligible SRI projects encompassing natural resources, renewable energy and energy efﬁciency, community and economic development and Waqf properties or assets. Given that Waqf is unique to Islamic ﬁnance and a key priority for the SC, the SRI framework provided the catalyst to elevate Waqf by including it as one of the eligible SRI projects. The SRI framework also forms part of the SC’s developmental agenda to facilitate the creation of an ecosystem conducive for SRI investors and issuers which is aligned to the rising trend of green and social impact bonds that have been introduced globally to promote SRI. Following the launch of the SRI framework, Malaysia witnessed key “ﬁrsts” comprising the issuance of the inaugural social in 2015, which was aimed at improving the quality of education by funding the development of trust schools in Malaysia, and the launch of the world’s ﬁrst green in 2017 to ﬁnance the construction of large-scale solar photovoltaic power plants. This led to greater traction in issuers seeking funding for projects especially in the green sector. SRI in Malaysia have been issued to ﬁnance a range of projects, mainly green buildings, hydropower and water treatment. To complement the SRI framework and accelerate the issuance of SRI as a fundraising instrument for sustainable projects, the following incentives were introduced: 39
• Tax deduction: Tax deduction of the expenditure incurred on the issuance or offering of SRI approved or authorised by or lodged with the SC for the year of assessment 2016 until the year of assessment 2025. • The Green SRI Grant Scheme (2018): The MYR 6 million (USD 1.44 million) grant was established by the SC to assist issuers in defraying up to 90% of the external review costs for green SRI , subject to a maximum of MYR 300,000 (USD 71,778.96) per issuance. • Expansion of Green SRI Grant Scheme (2021): The grant was expanded to also include all issued under the SRI framework and bond issuances under the ASEAN Green, Social and Sustainability Bond Standards and renamed as SRI and Bond Grant Scheme. To further strengthen the SRI ecosystem, the SC developed the Sustainable and Responsible Investment Roadmap for the Malaysian Capital- Market (SRI Roadmap). The SRI Roadmap charts the strategic direction to drive domestic and regional efforts to build greater momentum for the SRI segment. The ﬁve-year SRI Roadmap identiﬁed 20 strategic recommendations to facilitate a vibrant SRI ecosystem towards positioning Malaysia as a regional SRI centre. This consists, among others, of widening the range of SRI instruments, increasing the SRI investor base, building a strong SRI issuer base, instilling strong internal governance culture, and designing an information architecture in the SRI ecosystem. Following the issuance of the SRI Roadmap, the SRI framework was revised to ensure greater alignment with international standards in terms of enhanced disclosure, reporting requirements and the role of the external reviewer. Central to the revision is the expansion of eligible SRI projects. The revised SRI framework is designed to be versatile, as it provides for the issuance of green, social and sustainability and, hence, provides greater ﬁnancing options for issuers. The following are details of the eligible SRI projects under the revised SRI Sukūk framework: OBJECTIVES 40 Conserve the use of energy Improve the quality of life of the society Preserve and protect the environment and natural resources Promote the use of renewable energy Reduce greenhouse gas emission Address or mitigate a speciﬁc social issue or seek to achieve positive social outcomes ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
Renewable energy Affordable housing Energy ef ﬁciency Employment generation Pollution prevention Access to essential service Management of living natural resources & land use Socioeconomic advancement and empowerment Eco-efﬁcient/circular economy adapted products Affordable basic infrastructure Clean transportation Food security Sustainable water & wastewater management Terrestrial/Aquatic conservation Eligible SRI Projects GREEN Climate change adaptation Green building WA QF SO CI AL Globally, Malaysia is a leading issuer of corporate SRI . There have been 21 SRI issuers between 2015 and 2021 in Malaysia, with total corporate SRI issuances amounting to approximately MYR 8.3 billion (USD1.99 billion). In light of the various commitments made by Malaysia towards sustainable economic development, including being a signatory to the Paris Agreement, the country continues to support sustainable projects through sovereign issuances. In 2020, the Government of Malaysia had issued the ﬁrst-of-its-kind, fully digital Prihatin, initiated in response to the Malaysian public’s interest in participating in the rebuilding of the country during the COVID-19 pandemic, including for social causes. This issuance was also a landmark transaction, bringing ﬁnancial technology (ﬁntech) to the public and corporates as the facility allowed the public and corporates to subscribe via online banking channels, making it seamless for Malaysians to contribute through digital modes. The issuance is testament to the country’s aim to accelerate a transformative change towards an inclusive economy through the ICM, while utilising the advent of ﬁntech for increased efﬁciency. In 2021, Malaysia also issued the world’s ﬁrst sovereign USD sustainability to fund sustainability projects. The proceeds are used for eligible social and green projects aligned to the United Nations’ Sustainable Development Goals. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 Development of waqf properties or assets The role of Islamic ﬁnance and the ICM in economic growth and development has become increasingly pronounced, especially over the past three decades, and is expected to remain as the country charts its recovery path to build a sustainable future. There remains a tremendous opportunity for investments and funding as Malaysia pursues its net-zero greenhouse gas (GHG) emission aspiration by 2050 as announced at the United Nations Climate Change Conference (COP26) in 2021. Moving forward, the SC will continue to leverage on the strength and advances of the Malaysian capital market to further harness its potential. The Capital Market Master Plan 3 (CMP3) will serve as a strategic framework for the capital market’s growth, taking into consideration the next phase of development that includes, among others, transforming Malaysia into a regional SRI hub, which is aligned with the ICM agenda to establish the country as a regional centre for Shariah-compliant SRI. In this aspect, the CMP3 has placed emphasis on expanding the reach of the ICM to the broader stakeholders of the economy by way of supporting the sustainable development agenda through building an enabling ICM ecosystem for Islamic social ﬁnance as well as impact investing. The ICM holds much potential for sustainability sukuk as SRI innovations in the past have demonstrated ICM’s capability in facilitating the intermediation of capital formation for commercial purposes, while also contributing to positive outcomes for society and the environment. 41
1 .3.2 Islamic Funds The total assets under management (AuM) of Islamic funds grew by 6% from the previous year (see Chart 1.3.2.1). There was also a 30% increase in sustainability-related Islamic funds from 2020, comprising USD 6.9 billion in AuM. In terms of the size of AuM versus the number of funds, the improvement in the scale of Islamic funds that was observed in 2020 continued into 2021, although there is signiﬁcant room for further development in this regard. In 2021, about 0.1% of total Islamic funds held USD 1 billion or more, collectively comprising 38% of total AuM, whereas about 42% of Islamic funds held less than USD 10 million, collectively comprising only 1.1% of total AuM. While the growth rate of Islamic funds was moderate, with only single-digit growth in 2021, Islamic funds have seen an overall higher growth rate compared to conventional funds. For example, over a ﬁve-year period, Islamic funds had an 84% nominal and 13% annualised growth rate compared to a 68% nominal and 11% annualised growth rate for conventional funds over the same period.37 Chart 1.3.2.1 Growth in Assets under Management and Number of Islamic Funds (2008–21) USD billion 120 No. of Funds AuM 2,100 No. of Funds 100 1,600 80 1,100 60 600 40 100 20 0 -400 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021 Source: IFSB estimates based on data from Reﬁnitiv for 2019–21.38 Data for the years 2008–18 are from Bloomberg database as per previous reports. Data from Iran are excluded due to limited data availability. Core domiciles for Islamic funds remain unchanged, although the overall share of core markets has contracted slightly, signalling the growing size of other markets. Offshore markets such as Jersey and Luxembourg are also growing, with funds in the third-largest domicile for Islamic funds – Jersey – including a series of Sharī`ah-compliant commodity exchange-traded funds (ETFs). On the whole, growth prospects in Islamic AuM in both well-established and new jurisdictions remain strong as the global appetite for Islamic funds continues to rise. Some non-core Islamic ﬁnance countries such as Canada, Australia, Russia and the US are welcoming newly established Islamic ETFs within their jurisdictions. 37 38 42 Fitch Ratings Islamic funds data excludes pension funds and insurance funds. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
Chart 1 .3.2.2 Islamic Fund Assets by Domicile (%) (2021) Ireland (1.3%) Cayman Islands (0.8%) Kuwait (1.5%) UAE (0.5%) Others (1.2%) Pakistan (1.8%) Indonesia (2.3%) South Africa (3.1%) United States (5.2%) Saudi Arabia (35.2%) Luxembourg (5.9%) Jersey (13.4%) Malaysia (27.7%) Source: IFSB estimates based on data from Reﬁnitiv and regulatory authorities. Data for Iran are not included due to limitations in data availability. 1.3.3 Islamic Equity Markets The global equity markets, for the most part, experienced constant growth in 2021, although with occasional pull-backs. Although uncertainties continued in 2021 alongside persistently high inflation and a supply chain crisis, the equity markets “climbed a wall of worry”, with investors driving up asset prices. Major indices ended the year at all time-highs despite continued uncertainties related to the emergence of new variants of COVID-19, inflation, policy direction and other geopolitical factors. Major indices rose by double digits, with the S&P 500 closing at a weekly all-time high on 24 occasions. One key trend in the equity markets in 2021 was a sector rotation from growth to value stocks, as investor sentiment moved away from high-growth stocks in the technology sector, which did well during the pandemic, towards defensive and cyclical stocks in sectors beyond technology, which performed better in 2021 than they had in the past. The rotation is still ongoing, with growth stocks being abandoned while cyclical and defensive sectors such as energy and ﬁnance were performing at record highs in early 2022. Chart 1.3.3.1 Ten-Year Historical Performance (2012 – Feb 2022) 350 Basis Points 300 250 200 150 100 50 0 2012 Source: S&P. 2013 2014 2015 2016 S&P Global 1200 ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 2017 2018 2019 S&P Global 1200 Sharī`ah 2020 2021 2022 Data have been rebased at 100. 43
Islamic indices experienced similar movements to the conventional market , but again outperformed their conventional counterparts in 2021, further increasing the gap between the returns of Islamic and conventional indices (see Chart 1.3.3.1). The growing differential between the performance of Islamic and conventional indices has been bolstered by the strong performance of the technology sector during the pandemic, to which Sharī`ah indices have the biggest exposure (over a third, or 35%, of the components of Sharī`ah indices are comprised of technology stocks), as well as due to the constituents of Islamic funds being generally less leveraged. In terms of sector performance for Sharī`ah indices, the energy sector (which was the worst-performing sector in 2020) had the highest returns in 2021, followed by the real estate and information technology (IT) sectors. Sector-wise, across most sector-speciﬁc indices, the Sharī`ah indices performed better than the equivalent conventional indices, the sole exceptions being the consumer discretionary and consumer staples sectors. The impact of the ongoing rotation in the equity markets, particularly on the comparative performance of Islamic versus conventional indices, remains to be seen. Chart 1.3.3.2 Sector Allocation and Sector Performance (2021) 40 Sector Allocation (%) Sector Performance (%) 52 -8 5 -18 0 -28 Source: S&P. Real Estate 10 Utilities 2 Energy 15 Materials 12 Consumer Staples 20 Communications Services 22 Industrials 25 Health Care 32 Consumers Discretionary 30 Financials 42 Information Technology 35 S&P Global 1200 S&P Global 1200 Sharī`ah S&P Global 1200 Returns S&P 1200 Sharī`ah Returns The performance of equity markets in 2022 depends on the materialisation of downside risks or the easing of current global challenges. Emerging market equities face a number of potential downside risks, including the slowdown in China, monetary tightening across other emerging market economies to contain inflationary pressures, and the impact of the Russia–Ukraine war. 1.3.4 Islamic Capital Market Growth Outlook in 2022 While the beginning of 2022 has been characterised by higher oil prices and lower ﬁscal deﬁcits for the GCC, sovereigns from the region are still expected to continue to issue sukūk to fund economic diversiﬁcation and climate-transition projects, among other programmes. Banks and corporate issuers are also expected to continue market, as investor appetite for remained robust even during the to support the growth of the pandemic. Sustainability-related issuances are also expected to grow, as an increasing number of Islamic ﬁnance jurisdictions have introduced frameworks to support such issuances. In 2020 and 2021, corporate activity in some jurisdictions that typically had strong corporate issuances had more subdued issuances, due to the effects of the pandemic. As the pandemic restrictions ease in 2022 and countries return to normal, more companies are expected to tap into the Islamic capital markets. In addition, about USD 80 billion-worth of will be maturing in 2022, which are likely to be reﬁnanced. 44 ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
1 .3.4 Islamic Capital Market Growth Outlook in 2022 While the beginning of 2022 has been characterised by higher oil prices and lower ﬁscal deﬁcits for the GCC, sovereigns from the region are still expected to continue to issue to fund economic diversiﬁcation and climate-transition projects, among other programmes. Banks and corporate issuers are also expected to continue to support the growth of the market, as investor appetite for remained robust even during the pandemic. Sustainability-related issuances are also expected to grow, as an increasing number of Islamic ﬁnance jurisdictions have introduced frameworks to support such issuances. In 2020 and 2021, corporate activity in some jurisdictions that typically had strong corporate issuances had more subdued issuances, due to the effects of the pandemic. As the pandemic restrictions ease in 2022 and countries return to normal, more companies are expected to tap into the Islamic capital markets. In addition, about USD 80 billion-worth of will be maturing in 2022, which are likely to be reﬁnanced. Going into 2022, the global economy continues to adjust to continuing challenges such as rising inflation and supply chain crises. Within this broader context, while Islamic ﬁnance continues to develop on several fronts, it is also faced with several downside risks. Supply chain disruptions and energy price volatility, among other things, create greater uncertainty around inflation and policy direction. As advanced economies lift policy rates, risks to ﬁnancial stability and to the capital flows, currencies, and ﬁscal positions of emerging market and developing economies (where most Islamic ﬁnance markets are concentrated) may emerge, especially with a signiﬁcant increase in debt levels in the last two years due to the pandemic. Tighter external ﬁnancial conditions due to less accommodative monetary policies by advanced economies in 2022 could result in capital flows away from emerging markets and developing economies. Without corresponding tightening, it will also increase the burden on foreign currency issuers, both public and private. Other global risks may also emerge given that geopolitical risks remain high, including the impact of the Russia–Ukraine war which caused an immediate spike in global oil prices, as well as an increasing incidence of cyber risk and climate-related risks such as major natural disasters. Factors affecting the stability and resilience of the Islamic capital market are discussed further in Chapter 2. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 45
1 .4 Takāful: Sustained Growth and Contribution 1.4.1 Takāful Market Growth Trends39 The overall takāful sector’s direct contributions increased by 4.8% y-o-y to USD 24.2 billion40 in 2020,41 after a signiﬁcant decline (–14.8%) in 2019. The decline was attributed to signiﬁcant changes in the exchange rate (USD) used to denominate Iranian data.42 Over the past 10-year period (i.e. 2011–20), global takāful contributions have grown by an estimated compound average rate of 4.72% (see Chart 1.4.1.1). Chart 1.4.1.1 Trend of Global Takāful Contributions (USD million) (2011–20) (USD million) 30,000 CAGR = 4.72 | USD 25,000 24.20 billion 20,000 15,000 10,000 5,000 0 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 Source: IFSB Secretariat workings based on data culled from PSIFIs, various RSAs’ websites, annual ﬁnancial reports of takāful ﬁrms and other publicly available sources. Chart 1.4.1.2 Share of Takāful Sector’s Business Relative to Insurance Sector (%) (2020) 0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100% Saudi Arabia 100.0% Iran 100.0% Sudan 100.0% Brunei 45.8% Kuwait 39.3% Malaysia 23.9% Bangladesh 14.4% Palestine 14.4% Maldives 14.0% Oman 13.9% Pakistan 12.6% Bahrain 12.0% Jordan 12.0% Egypt 10.2% UAE 10.2% Qatar 7.9% Turkey 5.6% Tunisia Indonesia Sri Lanka 4.8% 3.4% 1.2% Kenya 0.6% Nigeria 0.4% Source: IFSB Secretariat workings based on data culled from PSIFIs, various RSAs’ websites, annual ﬁnancial reports of takāful ﬁrms and other publicly available sources. 39 40 41 42 46 The takāful market includes Saudi Arabia (which is based on the cooperative model), Iran and Turkey, whose country authorities have declared the model adopted to be Sharī`ah-compliant. The estimated amount includes contributions written from primary takāful companies, including takāful windows wherever it exists, but excludes retakāful contributions. The estimate is derived from the country-level data collected from the IFSB’s PSIFIs database, which provides a standardised set of data collected from the takāful sector’s supervisors of its members. For those jurisdictions whose data are not available in the database, we used data from publicly available sources. In this regard, this report uses what the IFSB judges to be the best and most complete available data from a total of 24 jurisdictions. Iran suffered signiﬁcant foreign exchange depreciation and inflation in 2019 as a result of sanctions. This affected, to some extent, the value of contributions reported after being denominated in USD to allow for cross-country comparisons. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
Chart 1 .4.1.3 Contribution of Top Seven Takāful Markets (2020) Percentage USD million 120 12,000 Percentage Share of Takāful Contribution to Insurance Sector Takāful Contribution Volume in USD (Million) (RHS) 100 10,000 80 8,000 60 6,000 40 4,000 20 2,000 0 0 Saudi Arabia Iran Sudan Brunei Malaysia UAE Indonesia Source: IFSB Secretariat workings based on data culled from PSIFIs, various RSAs’ websites, annual ﬁnancial reports of takāful ﬁrms and other publicly available sources. Chart 1.4.1.2 illustrates countries where takāful direct contributions as a percentage of the insurance sector’s total premium were above 2% in 2020. The chart also indicates that three countries – namely, Iran, Saudi Arabia and Sudan – operate a wholly Islamic insurance market, whereas other countries operate Islamic insurance alongside the conventional insurers. The top seven markets, which generated roughly 95% of the overall contributions, are Saudi Arabia, Iran, Sudan, Brunei, Malaysia, UAE and Indonesia (see Chart 1.4.1.3). General takāful constitutes the lion’s share (82.6%) of total contributions in 2020, estimated at USD 22.4 billion. Chart 1.4.1.4 Takāful Contributions by Key Region (USD million) (2019–20) 14,000 USD million 2020 12,000 2019 10,000 8,000 6,000 4,000 2,000 0 GCC Middle East and South Asia South East Asia (SEA) Africa Source: IFSB Secretariat workings based on data culled from PSIFIs, various RSAs’ websites, annual ﬁnancial reports of takāful ﬁrms and other publicly available sources. Chart 1.4.1.4 illustrates takāful contributions and the market share in four regions – namely, the GCC (43.2%, USD 12.72 billion), the Middle East and South Asia (42.0%, USD 11.36 billion), South-East Asia (11.2%, USD 3.02 billion) and Africa (2.03%, USD 0.55 billion). ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 47
The GCC Region Saudi Arabia accounted for the largest share of the GCC tak āful market in 2020. Due to COVID-19 pandemic constraints, the takāful sector in the GCC experienced a marginal growth of 1.5% in gross contributions written, worth USD 12.72 billion in 2020.43 Although the region maintained its prominence as the largest takāful market in 2020 with a share of 52.3% of the overall contributions, the underlying factors and the scale of this growth vary across the countries. Kuwait registered the highest contributions growth (5%) in 2020 among those countries that recorded a slight growth in contributions written – namely, Saudi Arabia (2.3%), Oman (1.1%) and Qatar (0.1%) – whereas takāful contributions fell marginally in the UAE (–0.5%) and Bahrain (–0.3%). The motor and health lines of business represent a large part of takāful operators’ portfolios in the region, accounting for over 80% of total gross contributions in 2020.44 Contributions from the motor line fell in 2020 when compared to previous periods due to a fall in the sale of new cars and consumers’ preference to convert motor comprehensive cover to third-party cover or to reduce add-on cover.45 Takāful operators in the majority of the GCC countries expanded their coverage to the holders of health policies to cover all tests and treatment costs of COVID-19 patients. Saudi Arabia, the largest takāful market in the region, recorded a 2.9% decrease in contributions from the motor line, whereas the health line grew but at a slightly slower pace (1.6%) during the period. Family takāful is relatively small compared to the general takāful business in the GCC. In 2020, family takāful accounted for less than 20% of total takāful contributions, and for 0.3% of the penetration rate reported for life insurance in the GCC. In Saudi Arabia, the share of total contributions derived from family takāful business (known as protection and savings) increased to 19.5% in 2020 (2019: 17.9%). Similarly, Oman reported a signiﬁcant growth in family takāful contributions of 28.7%, to USD 31.6 million (RO 12.158 million), in 2020, compared to USD 24.5 million in 2019. In the post-pandemic era, business lines that offer a class of long-term protection and savings products have become more relevant to families in the region, following increased awareness of the need for families to prioritise ﬁnancial protection, security and stability. The takāful sector’s performance in 2020, to a large extent, reflected the market scenarios after 1Q’20 and a series of regulatory and supervisory initiatives and stimulus packages addressed to the sector to overcome the consequences of the pandemic. In addition, the sector’s performance showed the ability of individual operators to implement contingency plans to counter the repercussions of COVID-19, to support resilience and to ensure business continuity. The operators in these countries have improved their ﬁnancial performance and proﬁle signiﬁcantly over the past few years due to changes in motor ratings brought about by new regulations and mandatory medical/health covers for all citizens, residents and visitors. The regulatory framework for the takāful sector has improved in the majority of the countries in the region in recent years. Different measures are being introduced. In particular, the introduction of risk-based capital regimes in some of these countries has prompted a greater emphasis on technical proﬁtability, as volatile equity and property investments could require higher solvency capital charges. In Saudi Arabia, the pressure on solvency, which is creating uncertainty about the ability of some operators to continue as a going concern, has led the sector’s supervisory authority (Saudi Central Bank) to increase minimum capital requirements for operators to USD 133.3 million (SAR 500 million).46 However, various strategic options, including capital restructuring and a possible- 43 44 45 46 48 According to calculations from the IFSB Secretariat. Ibid The GCC takāful sector's performance report 2021, Moody's Investors Service Eleven of the 29 cooperative insurance companies registered accumulated loss ratios to paid-up capital ratios of over 20% at the end of 2021.The solvency ratio of some of the insurers reached a negative 48.08% at the end of 2021 (31 December 2020: 45%). ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
merger , were considered by those companies’ boards of directors. Essentially, the measure has triggered M&A negotiations involving 10 companies, as a result of which two mergers came to fruition in 2020 and another was concluded in February 2021.47 Similar high-proﬁle M&A activities have occurred recently in other parts of the region – namely, UAE48 and Bahrain.49 It is thought that the various M&A deals will be positive for the stability of the industry and that stronger players would emerge. Kuwait’s insurance sector has seen the introduction of new regulations and the establishment of an Insurance Regulatory Unit effective from 1Q’20, which is expected to help improve oversight of the sector and support its growth over the medium term. The impact of the pandemic on the assets portfolios of Kuwaiti operators was substantial following the volatility of ﬁnancial markets in 1Q’20, to the extent that cash collection and liquidity are areas of concern in 2Q’20. Likewise, the Capital Market Authority (CMA) of Oman has introduced two frameworks to its regulatory regime – namely, the Risk Based Capital Framework and a comprehensive Sharī`ah Governance Framework for institutions offering Islamic ﬁnancial services (IIFS) in the country. These regulations, among others, require takāful operators to reinsure with retakāful companies unless a prior approval is obtained from the Sharī`ah Supervisory Committee and the CMA. In addition, the CMA’s supervisory regime includes a set rule that differentiates payments of contributions/premiums between corporate and retail customers. Oman is unique among the GCC countries in respect to catastrophic risks. Climate-driven catastrophic events have become both more frequent and more severe in recent times. For instance, in October 2021, Cyclone Shaheen caused loss of life, and damage to infrastructure and properties estimated at around USD 130 million.50 The frequency and scope of economic losses in recent years present an opportunity for an uptake of risk by takāful operators in Oman. Overall, the GCC has over 75 takāful operators, including 31 Saudi-listed cooperative insurers and 12 operators in the UAE. The prospects for these operators are nonetheless healthy, supported by an improving regulatory and supervisory regime, an increase in oil prices, infrastructure development, and a widening of compulsory retail covers, particularly in the case of motor and medical/health lines, as well as a growing demand for family protection products post-pandemic.51 Moreover, the reopening of the tourism sector and the hosting of mega-events, such as Expo 2020 and the FIFA World Cup 2022, are factors that will set the market on the path of steady growth for the foreseeable future. The average insurance penetration in the region of roughly 1.1% of GDP indicates potential for growth, especially in the family business segment which is still underpenetrated. 47 48 49 50 51 https://www.sama.gov.sa/en-US/EconomicReports/Financial In the UAE, Gulf Insurance Group’s acquisition of AXA’s Middle East business and Dar Al Takaful’s acquisition of Noor Takaful. In Bahrain, the merger between Solidarity and t’azur (Bahrain operations only), which was completed in 2021. In 2018, BKIC increased its stake in Takaful International by acquiring an additional stake to reach 81.94%. In an earlier deal (late 2016), Solidarity Bahrain acquired Al Ahlia Insurance by purchasing a majority stake in the ﬁrm for USD 28.4 million (BHD 10.7 million). The estimated damage from Cylone Shaheen was less than that caused by Cyclone Gonu in 2007 and Cyclone Mekunu in 2018. Am Best’s Market Segment Outlook, “Gulf Cooperation Council Insurance”, November 2021. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 49
The MESA Region In the Middle East and South Asia region , contributions were up marginally (by 1.29% y-o-y) in 2020 (USD 11.36 billion), representing 42.0% of the overall contribution. The constituent countries are diverse – namely, Iran, Jordan, Palestine, Pakistan, Bangladesh, Sri Lanka and Maldives. Iran is the largest market in the region, with contributions rising slightly (by 2%) in 2020 y-o-y to USD 4.96 billion, representing 88.7% of the region’s total contributions for the year.52 Iran had suffered signiﬁcant foreign exchange depreciation and inflation in 2020 as a result of economic sanctions imposed on the country in recent years. Invariably, this has affected the value of contributions and growth reported after being denominated in USD to allow for cross-country comparisons.53 Besides Iran, only Sri Lanka experienced a slight growth (+0.6%) in contributions in 2020; contributions shrank in Jordan (–2.8%), Pakistan (–3.9%), Palestine (–4.1%), Maldives (–8.2%) and Bangladesh (–8.6%). Mandatory third-party auto policy (MTPL) tops the list, accounting for one-third of the total contributions in 2020 in Iran, Jordan, Palestine, Sri Lanka and Maldives. In Iran, for example, mandatory MTPL has been a vital source of income for insurance companies; in the year under review, it grew in value by 30%, with a 5.45% increase in the number of policies. MTPL was followed by health and long-term family business (life). In contrast, contributions generated from family business constituted a large proportion of total contributions in Bangladesh (at 92%) and Pakistan (at 69%). On the other hand, the signiﬁcant drop in takāful contributions experienced in Bangladesh was due mainly to the decision to make MTPL optional rather than mandatory, despite being the major source of contributions in the general business segment. In Pakistan, the decline in contributions can be associated with higher cost of the business. The surge in market share of family takāful contributions in Iran, Jordan and Pakistan may well indicate a change in consumer behaviour during the pandemic.54 Takāful companies in these countries took several measures to support consumers and businesses against the ﬁnancial and health difﬁculties caused by the COVID-19 pandemic. For instance, the sector’s supervisors in Iran mandated that operators extend medical and health protection coverage to COVID-19–related medical bills, leading to payment of USD 63 million (IRR 16.7 trillion). This has led to a surge in the market share of family business by 3 pp to USD 364 million (IRR 109.2 trillion) from 4.5 million policies in the year under review. Similarly, in Jordan, the priority given to personal ﬁnancing by Islamic banks and institutions as part of the support measures during the lockdown period contributed to the marginal growth in family takāful. Further, the 8.1% growth in family business reported in Pakistan in 2020 is largely attributed to signiﬁcant increases in contributions due to the renewal of policies by window takāful operators. 52 53 54 50 The exchange rate quoted by the Securities & Exchange Organization of Iran for Q4’20 (USD / IRR: 268,254 / 820,289) is used to denominate total direct contributions as at year ended 2020 (IRR 820,289 billion). See https://en.seo.ir/Upload/Editor/Files/FactSheet-2020-Q4%20-%20Final.pdf Actually, in the local currency, the Iranian market contributions increased by 37.9% y-oy during the ﬁscal year 2020–1 to IRR 820,289 billion (from IRR 602,201 billion in 2019). Central Insurance of Iran, Annual Report 2020/21; Jordan Insurance Federation, Annual Report 2020; “Growth of Family Takāful Business Post-Pandemic in Pakistan and Beyond”, IFN News, 17 February 2021. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
The SEA Region Countries with a prominent tak āful sector in South-East Asia are Malaysia, Brunei Darussalam and Indonesia. Takāful contributions in these countries grew by 7.1% in 2020, reaching USD 4.69 billion (2019: USD 4.38 billion). The 2020 growth rates for these countries are: Brunei, 10.9%; Malaysia, 8.5%; and Indonesia, 3.1%.55 Malaysia dominates the takāful sector in this region, with contributions representing 71% of the total contributions, estimated at USD 3.34 billion in 2020.56 During the same period, the 9.2% surge in contributions from family takāful business, to USD 2.48 billion, generated close to three-quarters of takāful contributions in Malaysia. Similarly, family takāful contributions in Indonesia grew by 5.1% to USD 1.05 billion in 2020, representing 86% of total contributions. These growth rates outstripped the 3.1% y-o-y growth reported by their conventional counterpart.57 General takāful business in Malaysia grew by 6.6% y-o-y in 2020 with contributions of USD 862 million. In contrast, contributions from the same segment in Indonesia experienced a decline due to a contraction (29.6%) in the motor business line, being the consequence of a signiﬁcant dip (48.3%) experienced in automotive sales in Indonesia in 2020.58 Motor and ﬁre coverages have remained the dominant class of business in Malaysia, rising by 6.4% and 4.6% y-o-y, respectively, in 2020. Other classes of business with a modest share of contributions are medical and health (9.5%), engineering (2.8%) and liability (1.1%). In Brunei, unlike in other countries in the region, general takāful dominates the sector, accounting for 80% of the total contributions in 2020. Motor lines in Indonesia showed a marginal decline (–0.4%), due to a contraction of the comprehensive motor business in that country, while the health line, the country’s second-largest business line (23.8%), fell by –6.8% in 2020. Property and ﬁre showed 9.4% growth; while marine, aviation and transportation were the highest contributors to growth, with 44.3%.59 The sustained growth recorded in each of the constituent countries in the region is the positive outcome of supervisory relief measures and forbearances taken in the wake of the pandemic outbreak, and subsequently. Measures taken in this regard include options to defer payment of family takāful contributions for three months, restructuring of takāful contracts, waivers of fees and charges, and accelerated claim processes.60 These measures were extended beyond 2020, and new ones were introduced to further reduce the ﬁnancial burden on takāful participants and to help consumers gradually resume their contributions payments.61 Growth of the takāful sector in Malaysia is expected to remain steady in 2022 and beyond, with continuous supportive policies and increasing awareness and understanding of takāful products among the Muslim-majority population.62 The rise of digital channels has presented opportunities for other takāful product lines to reach wider segments of the community, beyond the motor line which shows a 22% growth in the online channel in 2020 and represents 96% of all takāful products bought online.63 Similarly, in Indonesia and Brunei, the adoption of a digital model will continue to play an important role in making takāful products more accessible. Furthermore, the Indonesian authority is pursuing the Sharī`ah Unit Separation Work Plan, under which the Sharī`ah business units (SBUs) of conventional insurers are expected to completely spin-off by 2024. This will help to address the structural constraints facing the sector, which at present is highly fragmented, comprising 42 takāful SBUs and three retakāful windows operating alongside 13 full-fledged takāful companies and one retakāful company. 55 56 57 58 59 60 61 62 63 The ﬁgures are estimated based on data compiled from the Monthly Highlights and Statistics of the respective supervisory authorities (Bank Negara Malaysia, Otoritas Jasa Keuangan and Brunei Darussalam Central Bank). IFSB Secretariat workings. The ﬁgures are estimated based on data compiled from the Monthly Highlights and Statistics of OJK, the Indonesian supervisory authority. The Association of Indonesia Automotive Industries (GAIKINDO), 2020. Otoritas Jasa Keuangan (OJK), Indonesia Insurance Statistics 2020. Bank Negara Malaysia, Annual Report 2020; OJK, Annual Report 2020; and Brunei Darussalam, Annual Report 2020. Bank Negara Malaysia, Annual Report 2020. Fitch Ratings Indonesia, Takaful Dashboard, 2021. Malaysia Takaful Association, Annual Report 2021. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 51
The Africa Region The African market is dominated by Sudan64 and , to some extent, Egypt, although there are smaller presences in Tunisia and Kenya, Nigeria, Senegal, South Africa, the Gambia, Mauritania, Zambia, Libya and Algeria.65 Takāful contributions in Egypt experienced a double-digit growth of 32.14% y-o-y in 2020 to end at USD 137.11 million (2019: USD 103.76 million).66 Similarly, takāful contributions in Tunisia grew by 10% to USD 48.25 million (TND 130.5 million) in 2020, despite a 3% decline in the overall economy. The sector’s growth may be explained by measures taken by countries’ supervisory authorities to preserve its growth trend during the COVID-19 crisis. General takāful is the dominant business in both the Egyptian and Tunisian markets, accounting for more than two-thirds of the total contributions in 2020, whereas family business constituted roughly one-third of the total contributions for the year. The FRA projected that the takāful market in Egypt will improve over the foreseeable future, given a large population of 100 million with low insurance penetration of 0.6% in 2019 (one of the lowest rates in the emerging markets market) combined with an improved regulatory environment. The FRA’s new Uniﬁed Insurance Law, which repealed the existing law issued in 1981 and 1975, regulates insurance activities and the supervision and control of insurance companies. Morocco’s takāful sector supervisory authority (ACAPS) has published regulations relating to Islamic insurance which have taken effect since October 2021. The authority has licensed two additional takāful operators, increasing the number of takāful operators to ﬁve (four takāful subsidiaries and one reinsurance window). The creation of a window is only permitted for reinsurance companies in the case of takāful. Meanwhile, Algeria’s insurance authority (CNA) has granted two takāful licenses following the new regulation that sets out the conditions and modalities for operating takāful business.67 The regulation allows takāful business to be conducted either by an insurance company carrying out such business exclusively or by an insurer opening a takāful window. Takāful operators or windows must have certiﬁcates of compliance for Islamic insurance products issued by the National Sharī`ah Fatwa Authority for the Islamic ﬁnance industry. The four takāful companies that have operated in Nigeria over the past four years still account for less than 1% of the insurance sector premium in 2020, a lower percentage than what was reported for Kenya where there is only one takāful operator but a larger insurance market overall. Nigeria has a very low insurance penetration, even by the standards of economies with a similar per-capita GDP. The growth in premiums in recent years has not kept up with inflation. The sector is also undergoing major restructuring, following new capital requirements announced by the regulator that have come into effect since 31 December 2020.68 As a result, six insurers announced their intention to merge and a further seven announced they would raise new capital. 64 65 66 67 68 52 Sudan data were also not available, but because they are material to the overall total, we made use of estimated data based on 2018 data and projected growth trends based on the previous years’ data (i.e. after adjusting for inflation), solely for the purpose of arriving at the overall total. Quantitative information was not available for many of these countries and was therefore not included in this report. According to data from the Egyptian Financial Regulatory Authority’s (FRA) Annual Report, 2020. The new regulation was set in Executive Decree No. 21-81 of 23 February 2021. National Insurance Commission, Nigeria. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
Other Markets The tak āful sector in Turkey has shown resilience to economic challenges amid the COVID-19 pandemic. Total contributions from the takāful sector, otherwise known as participation insurance, increased by 24.2% to USD 573.5 million (TRY 4.27 billion) in 2020, albeit still a low market share of 5.2% of the overall insurance sector total premium income (TRY 85.58 billion). The Turkish insurance sector mirrors the economy. The Turkish economy grew by 1.8% in 2020, ranking it as the second-fastest-growing G20 country after China. This growth was attributed to a large economic stimulus programme offered through credit channels, together with loose monetary policy and regulatory measures. General takāful accounted for 92.4% of the contributions, while the remaining 7.6% was accounted for by family takāful. Motor was the most dominant line of business as of 2020, representing 61% of the total contributions, followed by general losses at 19.7% and accident and health at 7.1%. The sector’s growth momentum in terms of contributions has been increasing since 2015, with CAGR estimated at 21%. However, the same policies (i.e. loose monetary policy and a large economic stimulus programme) that contributed to a strong recovery undoubtedly also gave rise to high inflation and currency depreciation. The impact of the currency devaluation on the market was signiﬁcant, contributing to a slowdown in contributions growth on a USD basis compared to previous years. Compared to EU benchmarks, Turkey’s insurance market is largely underpenetrated and lags in density.69 The sector possesses the right opportunities for improvements over the coming years, supported by the country’s young and growing population amid sustained economic growth. The Islamic private pension system (IPPS), a new development in the Islamic insurance sector in Turkey, reached 12.6 million participants and a fund size (including the state contribution) of TRY 170.1 billion as at end-2020.70 As of the same date, the share of Islamic pension funds of total pension mutual funds in Turkey was approximately 18%. Presently, there are six full-fledged Islamic insurance companies,71 two full-fledged Islamic pension companies, and one Islamic reinsurance company operating in the sector. In addition, there are 10 private pension companies that offer both Islamic pension and other funds services. The Insurance and Private Pension Regulation and Supervision Authority (IPRSA) is currently considering a proposal for the establishment of a new Islamic insurance company in 2022. By the end of 2022, it is expected there will be 12 private pension companies, seven Islamic Insurance companies and four insurance pools operating in the Islamic insurance and pension sector. 69 70 71 In Turkey, non-life penetration is only 1.1%, compared to the EU average of 3.1%, while lags in density is USD 110 in Turkey compared to the European average of USD 983. This include 6.9 million participants and a fund size of TRY 158.3 billion (including the state contribution), in addition to the 5.7 million employees and a fund size of TRY 11.8 billion (including the state contribution) that were automatically enrolled into the system. Application for Islamic insurance window operation ended in Turkey in 2021. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 53
Box Article 3 : Global Islamic Financial Industry Outlook in 2022 Contributed by: FITCH RATINGS
The Islamic ﬁnance industry continues to be a growth story, with its size estimated to have crossed USD 3 trillion at end-2021. The industry is also expanding and diversifying its products offering, including ESG-linked , which speaks to its rising maturity. Regulators in a number of countries are also increasingly focusing on Sharī`ah governance. However, the industry continues to face challenges which, depending on the jurisdiction, include limited public awareness and conﬁdence in the Sharī`ah-compliance of Islamic products, limited product offering, regulatory hurdles, lack of standardisation and lack of Islamic liquidity management products, along with other macroeconomic and industry-speciﬁc headwinds. In this article, we aim to share Fitch’s outlook on the key pillars of the Islamic ﬁnance industry: , Islamic banks, Islamic funds and takāful (Islamic insurance). We also have a special focus on ESG-linked and developments in key markets. Please note the ﬁgures reported in this article are based mainly on Fitch Ratings' data sources and calculations which may be different in some aspects from the main data used in this report. Global Market: A Resilient Trajectory volumes in 2022 are expected to grow and remain a key ﬁnancing source in core Islamic ﬁnance markets. Growth will be anchored by robust Islamic investor appetite, funding diversiﬁcation goals, and Islamic-ﬁnance development agendas in a number of countries. Downside risk stems from higher oil prices reducing a number of sovereigns’ funding needs, Accounting and Auditing Organization for Islamic Financial Institutions (AAOIFI)-standards compliance complexities, traditional risks such as interest-rate rise, lower global investor appetite for emerging-market debt, and political risk. Total issued in 2021 grew by a strong 36.1% y-o-y. Central banks, governments and multilateral institutions dominated issuance. The growth was despite AAOIFI standards implementation challenges, COVID-19 disruptions, and higher oil prices. Non-core market sovereigns such as the UK, Maldives and Nigeria also issued . EUROPE AFRICA ASIA 6 Islamic Finance-Based Issuers 6 Issuers $7.1bn Volume of Sukūk Issuance 2 Programmes/SPV’s 2 Islamic Finance-Based Issuers 7 Islamic Finance-Based Issuers 60 Issuers $28.5bn Volume of Sukūk Issuance 12 Programmes/SPV’s EUROPE Fitch Ratings Islamic Finance Coverage ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 22 Islamic Finance-Based Issuers 90 Issuers Issuance $96.9bn Volume of 50 Programmes/SPV’s 55
, Conventional Bonds Issuance in Key Islamic Finance Jurisdictions 800 700 USD billion (%) Sukūk (LHS) Bond (LKS) Sukūk % of total (RHS) 40 35 600 30 500 25 400 20 300 15 200 10 100 5 0 0 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021 Source: Fitch Ratings. Bloomberg The changes have credit implications that could affect issuers’ liquidity, credit proﬁles and ratings. While standardisation may be achieved in the medium to long term, these changes have added complexity to the already complicated instrument. AAOIFI-linked changes have broadly stabilised since Q3’21, but it is uncertain if there will be more changes in 2022. Fitch-rated outstanding volumes increased by 15% CAGR between 2015 and 2021, reaching USD were 132.4 billion. About 80.1% of Fitch-rated investment grade. The overall outlook also improved with the share of issuers on Negative Outlooks falling to 8.8% in Q4’21 (Q4’20: 23.4%). Defaulted volumes remain tiny at 0.2% of gross issued as at end-2021 and include the 2021 default by Serba Dinamik Holdings Berhad (Fitch: RD) and PT Garuda Indonesia (unrated by Fitch). Legal precedent for effective enforcement is lacking in many -issuing jurisdictions, with Sharī`ah requirements potentially adding complexities to default resolution. The Rise of ESG-Linked The nexus between the world of ethical ﬁnance and Islamic ﬁnance is strengthening with innovative issuances seen, such as green, sustainable and transition . In 2021, ESG-linked volumes expanded by 17.2%, reaching USD 15 billion, or 2.4% of global . Fitch rates more than 90% of all hard-currency ESG-linked , with 97% of rated-volumes being investment grade. A key development in 2021 was that revised terms and clauses were added to new and existing documents to comply with AAOIFI standards. Green & Sustainability 6,000 Issuance by Year (USD million) USD Millions 5,000 4,000 3,000 2,000 1,000 0 2017 2018 2019 2020 2021 Source: Fitch Ratings. Bloomberg 56 ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
ESG-linked are likely to remain a prominent theme in 2022 –3, with volumes driven by the number of sovereigns in Muslim-majority countries and by multilateral development banks – in particular, the Islamic Development Bank. Growth will be anchored by funding diversiﬁcation goals and by issuers seeking to tap into rising global investor demand for ESG-linked bonds and . The format is preferred by issuers over the conventional bonds format to attract the signiﬁcant Islamic investor base in regions that can only invest in Sharī`ah-compliant securities. However, so far, an issuer’s decision to launch an ESG-linked product is driven mainly by the international investor appetite for such products and is not yet driven primarily by local or regional investor considerations. A number of Muslim-majority countries such as Saudi Arabia, Malaysia, UAE, Bahrain and Turkey have also set net-zero emissions targets as part of the 2021 United Nations Climate Change Conference (COP26). If followed up with policy actions, this would require sizeable funding, part of which could be met through . ESG-linked The segment faces key challenges in core markets, including a lack of cost incentives for ESG-linked and bond issuers and an immature ecosystem, with regulations and market infrastructure still being developed. To ignite growth, especially in the GCC region, government support in the form of cost incentives, supportive regulations, increased awareness and adequate infrastructure are required. Incentives from the government can support growth. A notable example is Malaysia, where sustainable and responsible investment (SRI) issuers are granted cost and tax incentives under the SRI and Bond Grant Scheme, which was expanded in 2021. Supported by the scheme, Malaysia houses the largest number of active ESG-linked globally, at 156 instruments out of 167 ESGglobally, at end-2021 (93% of all issues). ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 Islamic Banking Outlook GCC Islamic Banks: Fitch Ratings’ outlook for the GCC Islamic banks is neutral, reflecting a modest economic recovery and higher oil prices. Fitch expects continued proﬁtability pressures. Asset quality is not expected to deteriorate sharply following the end of forbearance measures. Capital buffers and liquidity are expected to remain stable and adequate for the risks. All Long-Term Issuer Default Ratings (LT IDRs) assigned by Fitch to Islamic banks in the GCC are investment grade; 88% are driven by potential sovereign support, reflecting the strong record of sovereign support in these countries and the sovereigns’ relatively high ratings; 12% by the banks’ stand-alone creditworthiness as of December 2021. Differences in IDRs mostly reflect differences in sovereign ratings. We expect further M&A activity as many Islamic banks have weak franchises, lacking strong competitive advantages, particularly in pricing, the cost of funding and growth opportunities. M&A may also create new Islamic national or regional champions. Most Islamic banks globally will be affected by the transition from interbank offered rates (IBORs) to overnight risk-free rates (RFRs). Islamic banks will face uncertainties similar to those faced by conventional banks. However, Islamic banks will face the additional complexity of needing to ensure Sharī`ah-compliance throughout the transition process. Saudi Arabia in Focus: Saudi Arabia has the largest proportion of Islamic banks’ ﬁnancing (82%) of any country that allows conventional banks to operate alongside Islamic banks. We expect the banking sector to remain well capitalised and liquidity to remain strong. Saudi Islamic banks remain well placed in the banking sector with larger retail franchises supporting higher margins, a lower cost of funding and better asset quality. 57
Higher oil prices and still soft lending growth should ensure that liquidity remains at reasonable levels in all GCC banking systems in 2022 , particularly in Saudi Arabia and the UAE, although there will not be a return to the levels seen before the 2014 fall in oil prices. Fitch’s downgrades of Saudi Arabia have reflected increased regional geopolitical and military tension and a revised assessment of the vulnerability of its economic infrastructure. Rare upgrades have been linked to acquisitions by stronger banks. Bank funding represented nearly 98% of Saudi corporates’ capital structure in 2021, with the remainder being funded by equity and debt instruments. The share of Islamic lending in bank funding to corporates was 85% in 2021. We expect the large Islamic banking sector to drive domestic issuance growth. Islamic banks beneﬁt from the Ministry of Finance’s Saudi riyal-denominated programme in deploying their excess liquidity. Bahrain in Focus: Bahrain’s Islamic banking sector growth (including Islamic windows) is expected to continue apace in 2022–23, following strong momentum in 2021, likely driven by the steadily rising public demand for Islamic products and the expected improvement in the operating environment. This follows rising oil prices, higher real GDP growth, the easing of COVID-19-related restrictions and the expected rises in interest or proﬁt rates. Islamic banking continues to have signiﬁcant importance in Bahrain, with its market share rising to 38.8% of domestic banking system assets and 17.8% of total banking system assets (including foreign assets) at end-2021. Islamic banks’ total assets expanded by 8.1% in 2021, at a faster pace than conventional banks’ total asset growth of 4.2%. The total Islamic banking sector assets reached USD 38.6 billion, or about 100% of Bahrain's GDP, supported by the mainstream relevance of Islamic products, increasing residential mortgage ﬁnancing, a wide branch and digital banking network, a supportive Islamic ﬁnance ecosystem and the presence of Islamic liquidity-management tools. 58 Mergers and acquisitions continue to be prominent in Islamic banks. Bahrain's share of global Islamic banking assets remains small at 3.5% at end-Q3’20, according to the Islamic Financial Services Board (IFSB), due mainly to the economy’s small size. However, it was higher than Indonesia's (2.1%) and Turkey's shares (3%), both of which have larger economies. Oman in Focus: The Islamic banking sector in Oman is likely to sustain its positive trajectory in the short to medium term despite a number of structural challenges. Growth will be driven by growing awareness, strong retail demand for Islamic products, supportive regulations, and a strong push from the Islamic windows of conventional banks. An improving operating environment, expected positive real GDP growth, higher oil prices, the easing of coronavirus restrictions, and the rise in interest or proﬁt rates will also support growth in both Islamic and conventional banking. The Islamic banking sector’s ﬁnancing growth topped 11.6% y-o-y in 2021, in contrast to the conventional banking sector’s 3.1%, with a compounded annual growth rate of 9% in 2017–21. Surging public demand and the low-base effect propelled the growth. As a result, the market share of Islamic banking and Islamic windows increased to 15.2% at end-2021 (end-2020: 14.3%), with total assets of OMR 5.9 billion (USD 15.3 billion). The Central Bank of Oman is developing a medium-term strategy for the Islamic banking sector, including a lender of last resort facility for Islamic banking entities, with a Sharī`ah-compliant deposit insurance scheme. Key structural challenges persist mainly due to Islamic liquidity management products, as well as non-availability of a Sharī`ah-compliant lender of last resort facility and deposit insurance. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
Malaysia in Focus : Fitch Ratings expects the growth of Islamic ﬁnancing in Malaysia to pick up modestly in 2022 as the economic recovery accelerates (2022F GDP growth: 6.5%, 2021E: 3.6%) and as asset quality becomes clearer as COVID-19 pandemic relief measures are unwound. Adequate loss-absorption buffers supported by further proﬁtability recovery should keep Islamic banks' credit proﬁles stable. Substantial public demand for Islamic products and long-standing government and regulatory support will also continue to support the sector in 2022. Islamic ﬁnancing continued to underpin the Malaysian banking sector's growth in 2021, expanding at a faster pace than conventional loans (8.3%, compared to 2.3%). Growth was driven primarily by mortgages and other household ﬁnancing, while demand for working-capital ﬁnancing across sectors has also improved as the economy has reopened – a trend we expect to continue in 2022. Islamic Banks’ Market Share Rose Further 40 (%) (%) 37 35 35 25 25 29 28 20 15 34 31 30 38 29 31 10 5 0 20 end-2017 end-2018 Source: Fitch Ratings. BNM end-2019 end-2020 end-2021 Share of Islamic to sector ﬁnancinga (LHS) Share of Islamic to sector assetsa (LHS) Islamic banks’ gross ﬁnancing growth (RHS) Conventional banks’ gross loan growth (RHS) Bank Negara Malaysia's (BNM) Financial Sector Blueprint 2022–6 targets wider adoption of sustainable ﬁnancing, which is also referred to as value-based intermediation (VBI) ﬁnancing in Malaysia. Islamic banks have led in this segment, with VBI-aligned ﬁnancing accounting for 26% of Islamic ﬁnancing approved during 2017–20. We expect the proportion to increase in line with growing public attention on VBI. Indonesia in Focus: We expect the Shari’ah banking sector's ﬁnancial performance to improve in 2022, helped by a recovery in economic activity and extended regulatory forbearance on loan classiﬁcations to end-Q1’23. This will support the banks' asset quality and proﬁtability metrics by giving them more time to deal with lingering problem ﬁnancing caused by the pandemic. Medium-term growth drivers include continued support from government policies and regulations, the greater availability of Islamic liquidity-management products and increased digitalisation. Resilient Financing Growth 12.0 (%) (%) 20 10.0 16 8.0 12 6.0 8 4.0 4 2.0 0 -4 0.0 2017 2018 Source: Fitch Ratings. OJK 2019 2020 9M2021 Islamic ﬁnancing as % of industry total (LHS) Islamic banks’ gross ﬁnancing growth (RHS) Conventional banks’ gross loan growth (RHS) ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 59
The plan to convert three regional Indonesian lenders into Shar ī`ah banks in 2022 will raise the market share of Islamic banks in the near term. We estimate the conversions could raise the proportion of Sharī`ah ﬁnancing to around 9% of the banking industry from 7.1% – equivalent to USD 28.1 billion – at end-Q3’21. Key challenges to sector development include the limited awareness, understanding and demand for Islamic products, even though Indonesia has the world’s largest Muslim population. The smaller capital base of Islamic banks, limited product offerings, still-developing branch and digital banking networks, and limited skilled staff are other obstacles. Turkey in Focus: Islamic (participation) banks in Turkey accounted for 7.8%, 6.9% and 10.5% of end-2021 banking sector assets, loans (ﬁnancing) and deposits, respectively. Market shares have risen in recent years with the entry of three state-owned Islamic banks and the segment’s above-sector-average growth. Medium-term prospects are reasonable given the strategic importance of Islamic banking in Turkey and its large, untapped Muslim population. The government’s aim is for participation banking to account for 15% of banking sector assets by 2025. Growth could be supported by a possible new participation law targeting product standardisation. Fitch-rated Turkish Islamic banks’ ratings are sensitive to a sovereign downgrade and our view of government intervention risk. The operating environment also remains a key sensitivity given high segment dollarisation and pressure on capitalisation amid market volatility. Bangladesh in Focus: A recent policy push by the government to develop Islamic ﬁnance could, if sustained, spur the industry’s growth. We believe the Islamic ﬁnance sector has the potential for signiﬁcant growth over the medium term, supported by strong bottom-up public demand for Islamic products and the country’s robust economic prospects. Bangladeshi authorities have approved a number of conventional banks for conversion into Islamic banks in the last few years, stimulating the sector’s expansion. Islamic banks (by total assets) constitute over 95% of the country’s Islamic ﬁnance industry, which we estimate reached over USD 48.1 billion by end-Q2’21. Within Bangladesh’s banking sector, Islamic banks accounted for around 27% of deposits, 28% of loans and advances, and 49% of remittance handling. 60 However, long-standing constraints have posed challenges to Bangladesh’s Islamic ﬁnance sector. These constraints include the lack of comprehensive regulations governing the industry and weak enforcement of ﬁnancial regulation in general, a dearth of Islamic liquidity-management and investment products, limited incentives from regulators for issuers, a lack of standardisation in the country’s Islamic ﬁnance sector, limited skilled human capital, and inadequate use of ﬁntech solutions by stakeholders. Nigeria in Focus: Islamic banking, referred to as non-interest banking (NIB) in Nigeria, is a niche but growing segment with its market share rising to 0.7% in Q3’20 (Q3’19: 0.3%) and total assets of about USD 732 million, according to the IFSB. The rising market share is stimulated by Central Bank of Nigeria (CBN) approving the establishment of a number of NIBs in the last few years. In 2021 and 2019, the CBN granted licences to Lotus Bank Limited and TajBank Limited to operate as NIBs which, along with Jaiz Bank (B-/Stable), brings the number of full-fledged Islamic banks to three. The number of NIBs is set to rise. In 2021, CBN granted approval-in-principle for Sterling Bank Plc to spin off its Islamic window into a stand-alone NIB. Fitch has a neutral outlook for Nigerian banks. Business volumes and earnings will continue their slow recovery in 2022, driven by moderate loan growth buoyed by gradually improving operating conditions. Fitch forecasts real GDP growth of 2.8% in 2022 compared with an estimated 2% in 2021 and –3% in 2020. These developments are expected to moderately support Islamic-banking growth in Nigeria. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
The Islamic ﬁnance industry in Nigeria is expected to continue its moderate growth trajectory in 2022–3. Growth will be driven by top-down government support for the sector, asset growth by newly established Islamic banks, issuance by the federal government, and enabling regulations. The industry is, however, still nascent and the key to cementing its market share is to address long-standing constraints, including limited bottom-up public demand, the Islamic banks’ small capital base, and the limited branch and digital banking network. Demand is also impeded by segments of the public strongly opposing the government’s use of Islamic products. Islamic Funds Outlook Assets under management (AUM) in Islamic mutual funds have increased substantially, having peaked at around USD 130 billion at end-Q2’21 before slipping to around USD 120 billion at end-2021. Fitch Ratings estimates that the growth rate of Islamic funds (84% nominal/13% annualised) has exceeded that of the broader global mutual fund industry (68% nominal/11% annualised), based on the latest comparable data from Lipper and ICI Global for the ﬁve years to end-Q3’21. Saudi Arabia, Malaysia Dominate Islamic AuM Luxembourg (6%) USA (6%) Indonesia (3%) Others (8%) Saudi Arabia (34%) Malaysia (29%) Jersey (14%) 4Q21 ﬁgures on USD terms | Source: Fitch Ratings. Lipper ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 Saudi Arabia and Malaysia remain the pre-eminent Islamic fund domiciles worldwide, reflecting strongly established local markets. Offshore markets, such as Jersey and Luxembourg, also have nascent Islamic fund markets relative to the conventional funds market. Jersey is an Islamic exchange-traded fund (ETF) hub, where multiple commodity ETFs (notably gold ETFs) claim Sharī`ah status. Luxembourg has a broader Islamic mutual fund base. Luxembourg in Focus: We expect the Luxembourg Islamic mutual funds industry’s (MFI) strong growth momentum will continue in the short to medium term, supported by the government’s consistent promotion of Luxembourg as a Western hub for Islamic ﬁnance and as an international ﬁnancial centre in general. The country’s favourable regulatory, legal and tax framework supports the establishment, administration and cross-border distribution of Islamic funds and augments their growth. Luxembourg is leading the European Islamic fund industry, with 30 Sharī`ah-compliant funds by end-Q3’21, composed of mainly mutual funds. In contrast, Ireland has 16 Islamic funds, consisting of both mutual funds and ETFs, and the UK has about ﬁve funds, mainly pension funds. The Islamic MFI in Luxembourg has grown by 122% over the past six years, with total AUM of USD 6.7 billion by end-Q3’21, making Luxembourg one of the top ﬁve countries in this segment globally. Takāful Outlook Takāful remains the smallest segment of the global Islamic ﬁnance industry, with its share of the total worth of the global IFSI reaching 0.8% in 2020 based on IFSB data. In a number of markets, takāful contributions and its domestic market share have been growing over the last few years. Takāful and insurance in general are at different stages of development in various Islamic ﬁnance markets, and practices differ from one country to another. For example, in Saudi Arabia, insurance is provided by insurance companies operating in accordance with the principles of cooperative insurance, which states that the provisions of the- 61
articles of incorporation should not be inconsistent with the provisions of the Islamic Shari ’ah. But in the UAE, Malaysia and Pakistan, takāful is the dominant form of Islamic insurance. Takāful growth is mostly driven by regulatory push – for example, health and motor insurance in Saudi Arabia and the UAE. face competition from conventional insurance companies, many of which are more established. This is in addition to the challenges that the insurance industry in general faces, which is in its early stages of development in most Organization of Islamic Cooperation (OIC) countries compared to developed markets. Takāful companies face a variety of challenges that vary from one country to another. Some of these challenges include Sharī`ah standardisation, developing regulatory and governance frameworks for takāful, lack of political will, conﬁdence and awareness of Islamic ﬁnance in general and takāful speciﬁcally, and the availability of retakāful (Islamic reinsurance). Takāful companies also continue to - Nevertheless, the takāful sector has potential to keep growing over the medium to long term driven by rising maturities of the insurance market in general and growing awareness of takaful, especially given its low penetration rate in many countries where Islamic ﬁnance is active. Malaysia in Focus: Malaysia is the third-largest takāful market globally, according to the IFSB, with a vibrant Islamic ﬁnance ecosystem that includes Islamic banks, Sharī`ah-compliant corporates, Islamic fund managers and halal industries that seek takaful products. We expect the country's takāful industry to continue its sound growth in 2022 and to improve penetration rates, business models and technology capabilities amid higher takaful awareness, digitalisation innovation and government initiatives. General Takaful vs Conventional Market Share 25,000 (MYR million) (%) 18 20,000 15 15,000 10,000 12 5,000 9 0.0 2016 2017 2018 General insurance (LHS) 2019 2020 General takāful (LHS) 1H20 1H21 % share of takāful (RHS) Note: based on gross direct premiums/contributions Source: Fitch Ratings. BNM The takāful industry’s sound contribution growth has been led by family takāful, rising by 46.7% in H1’21 (2020: 7.08%). General takāful grew by 13.5% in H1’21 (2020: 4.61%). Family and general takāful outpaced life and non-life insurance growth of 23.9% and 3.5%, respectively. A boost in public awareness of takāful products, supportive government initiatives, the easing of COVID-19 movement restrictions and a recovering economy propelled the sharp growth in contributions. Market shares of general and family takāful were 17.3% and 41.9%, respectively. 62 ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
Indonesia in Focus : Indonesia’s takāful sector continues to expand, with market share at 9.0% of the country’s overall insurance market in November 2021 (November 2020: 7%). The large rise in Sharī`ah insurance market share was caused by a 41% y-o-y increase in life Sharī`ah products. In contrast, conventional life insurance expanded by only 3%. The increase in the share of Sharī`ah insurance was propelled by growing awareness and demand for takāful products, government support for the Islamic ﬁnance industry, the easing of COVID-19 movement restrictions, and a recovering economy. Sharī`ah Insurance Market Share 40 (%) (%) 20 38 37 35 35 15 34 31 31 29 30 29 10 28 25 25 5 0 20 end-2017 Source: Fitch Ratings. BNM end-2018 end-2019 end-2020 end-2021 Share of Islamic to sector ﬁnancinga (LHS) Share of Islamic to sector assetsa (LHS) Islamic banks’ gross ﬁnancing growth (RHS) Conventional banks’ gross loan growth (RHS) We believe the long-term growth potential is positive, reflecting Indonesia having the largest Muslim population globally, government support, low insurance penetration (2020: 3.2%), growing awareness and an economic recovery. (Fitch forecasts real GDP growth of 6.8% in 2022.) We expect takāful operators to maintain sufﬁcient capitalisation given business expansion through the economic recovery and the upcoming ASEAN Framework Agreement on Services, while also managing claims and strengthening takāful capacity amid the pandemic. For further information on Fitch’s Islamic ﬁnance ratings, visit ﬁtchratings.com/site/islamicﬁnance ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 63
2 .0 ASSESSMENT OF THE SOUNDNESS AND RESILIENCE OF THE ISLAMIC FINANCIAL SYSTEM 2.1 Islamic Banking: Recovery Amid Uncertainty This ﬁrst section of the chapter assesses the soundness and resilience of Islamic banking for the period 4Q’20 to 4Q’21 across IFSB member jurisdictions.72 In many cases, across many ﬁnancial soundness indicators and jurisdictions, there were notable improvements; in some cases, levels that hadn’t been seen since before the pandemic were recorded – a testament to the effectiveness of the various COVID-19 policy support measures introduced since 2020. While some of these measures have been either partially or completely withdrawn, the Islamic banking sector sustained its recovery momentum in 2021 due to economic reopening in many jurisdictions and the generally improving global economic condition. Nonetheless, the resilience of the global Islamic sector needs to be viewed with a cautious optimism given the uneven economic recovery and heightened uncertainty. Notable tailwinds include increasing potential for a further resurgence in the pandemic amid uneven access to and distribution of COVID-19 vaccines, and the effect of any escalation in the military conflict between Russia and Ukraine. Other factors include rising inflation and further ﬁnancial tightening and other prudential and structural peculiarities along both country and regional divides. The following subsections present a global analysis, as well as region-by-region analyses, of the soundness of the Islamic banking industry across IFSB member jurisdictions. The analysis is based on various key indicators73 from the IFSB PSIFIs database highlighted in Figure 2.1.1. Figure 2.1.1 Key Indicators for the Assessment of Islamic Banking Resilience Proﬁtability Liquidity Funding Structure Financing Exposures Asset Quality Capital Adequacy Leverage 72 73 64 • Return on Assets • Return on Equity • Net Proﬁt Margin • Cost-to-Income Ratio • Financing to Deposit Ratio • Liquidity Coverage Ratio • Liquid Assets to Short-term Liabilities Ratio • Net Stable Funding Ratio • Foreign Currency Funding to Total Funding • Foreign Currency Financing to Total Financing • Economic Sector Exposure of Financing • Non-Performing Financing • Non-Performing Financing Coverage • Capital Adequacy Ratio • Tier-1 Capital to Risk-Weighted Asset Ratio • Leverage Ratio Differences may be observed in the ﬁgures contained in this section and those reported in IFSI Stability Reports of previous years. Such differences arise from backdated inclusion of data from new jurisdictions in this year’s report, as well as from revisions of previously reported data in PSIFIs by some jurisdictions. In a few instances, indicators data based on calculations by respective RSAs have been used where such are available and more current. Due to non-availability, some key jurisdictions are not included in the assessment. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
2 .1.1 Proﬁtability The proﬁtability level of the global Islamic banking industry improved further in 4Q’21, surpassing its pre-pandemic level. This improvement was due to diverse reasons across jurisdictions, including normalisation of operating income, relatively low y-o-y provisions for credit losses, increasing demand for Islamic banking products, etc. Speciﬁcally, on average, the stand-alone Islamic banks74 recorded a rate of 1.6% as at 4Q’21 (4Q’20: 1.5%) for return on assets (ROA) and 16.7% as at 4Q’21 (4Q’20: 13.9%) for return on equity (ROE) (Chart 2.1.1.1). Both the average ROA and ROE of global Islamic banking compare favourably with those of conventional banks75 in the various IFSB jurisdictions, as well as with banks in the advanced economies. For instance, as at end-4Q’21, the ROA of banks in the United States remained flat at 1.1%, while ROE increased by 1.5pp to 11.0%.76 Chart 2.1.1.1 Global Islamic Banking Weighted Average ROA and ROE (1Q’19–4Q’21) 4% 18% 16% 3% 14% 3% 12% 2% 10% 2% 8% 6% 1% 4% 1% Weighted average ROA 0% 1Q’19 2Q’19 3Q’19 4Q’19 1Q’20 2Q’20 3Q’20 4Q’20 Weighted average ROE (RHS) 1Q’21 2Q’21 3Q’21 2% 0% 4Q’21 Source: IFSB Secretariat workings based on PSIFIs. Four indicators were used to assess the aggregate proﬁtability performance of the Islamic banks across jurisdictions. These include ROA and ROE for the full-fledged Islamic banks only, and net proﬁt margin (NPM) and cost-to-income (CTI) ratios for the entire Islamic banking sector in the countries covered (see Charts 2.1.1.2 to 2.1.1.5). 2.4% 0.1% UK UAE Turkey Sudan Saudi Arabia Qatar Palestine Pakistan Oman -0.8% Nigeria Malaysia 0.2% 0.8% 1.4% 1.4% 2.0% 1.3% 1.0% 0.7% 1.5% 1.7% 2.2% 0.9% 1.1% 0.8% 0.7% 0.6% Libya Kuwait Iraq Indonesia Brunei Bangladesh 0.5% 1.0% 1.6% 1.7% 1.0% 1.5% 1.7% 1.0% 0.9% 0.9% Bahrain 0.4% 1.4% 2.4% 3.4% 3.5% 4Q’21 3.2% 4Q’20 4.9% Chart 2.1.1.2 Islamic Banking Average ROA for Stand-Alone Islamic Banks by Country (4Q’20 and 4Q'21) Source: PSIFIs. 74 75 76 “Stand-alone Islamic banks” refers to full-fledged Islamic banks and Islamic subsidiaries of conventional banks but excludes Islamic windows of conventional banks. This comparison does not control for the likely effects of whether PSIAs are treated as on-balance-sheet or off-balance-sheet, nor for the effects of applying the IFSB alpha on the equity of Islamic banks on the required equity capital as the denominator in the computation of the ROE. For the sake of further clarity, in general, restricted proﬁt-sharing investment accounts (RPSIA) are off-balance-sheet because they are not considered an element of the Islamic bank’s ﬁnancial position since the Islamic bank does not have an unconditional right to use or dispose of these funds. However, in accordance with new consolidation standards in International Financial Reporting Standard 10 (IFRS 10), RPSIA that are controlled by institutions offering Islamic ﬁnancial services (IIFS) and which affect the income of the IIFS as a result of that control should be treated as on-balance-sheet. https://www.bankregdata.com//allIEmet.asp?met=ROE&den=aa ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 65
66 50 .0% 50.2% 4Q’20 43.4% 45.3% 36.8% 34.3% 24.9% 49.7% 43.3% 50.7% 50.6% 47.5% 74.8% 69.2% 62.2% 56.9% 49.1% 48.9% 44.5% 36.6% 40.3% 76.4% 75.1% UK UAE Turkey Sudan Saudi Arabia Qatar Palestine Pakistan Oman -1.0% Nigeria Malaysia Libya Kuwait Iraq Indonesia Brunei Bangladesh 3.7% 6.8% 20.4% 27.4% 23.1% 27.9% 20.7% 36.2% 47.2% 51.2% 45.1% 53.8% 46.9% 40.1% 56.5% 50.4% 43.6% 39.3% 35.1% 39.4% 37.9% 40.6% 41.4% 39.6% 33.8% 29.6% 23.0% 32.1% 24.9% 36.0% 35.8% 29.9% 23.6% 19.1% 14.6% 4Q’20 UK UAE 13.3% 12.9% 48.8% 39.9% 30.8% 29.9% 54.8% 54.9% 45.2% 52.5% 54.5% Bahrain UK UAE Turkey Sudan Saudi Arabia Qatar Palestine Pakistan Oman -6.2% Nigeria Malaysia Libya Kuwait Iraq Indonesia Brunei Bangladesh Bahrain 13.6% 1.2% 2.4% 20.2% 16.6% 20.2% 16.6% 19.4% 15.0% 16.2% 17.4% 13.0% 8.5% 15.3% 9.8% 11.7% 13.2% 17.0% 10.2% 6.0% 1.7% 0.9% 13.0% 10.6% 22.9% 20.4% 13.6% 10.8% 4.7% 39.3% 39.2% 41.7% 54.1% 80.7% 67.7% 4Q’21 Turkey Sudan Saudi Arabia Qatar Palestine Pakistan Oman Nigeria Malaysia Libya Kuwait Iraq Indonesia 52.7% 51.6% 4Q’20 Brunei Bangladesh Bahrain Chart 2.1.1.3 Islamic Banking Average ROE for Stand-Alone Islamic Banks by Country (4Q’20 and 4Q’21) Source: PSIFIs. Chart 2.1.1.4 Islamic Banking Net Proﬁt Margin by Country (4Q’20 and 4Q’21) 4Q’21 Source: PSIFIs. Chart 2.1.1.5 Islamic Banking Cost-to-Income Ratio by Country (4Q’20 and 4Q’21) 4Q’21 Source: PSIFIs. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
The Gulf Cooperation Council (GCC) Islamic banks registered improved y-o-y earnings performance as at 4Q’21,77 in most instances surpassing their pre-pandemic levels. This was due (among other reasons) to the growth in non-funded income and reduction in the cost of risk, provisioning and impairment losses as the general economic situation in the region improved due to reopening of economic activities amid increasing revenue from oil and the lower impact of inflation. In contrast, the Islamic banking sector in the Middle East and South Asia (MESA) region faced proﬁtability pressure arising from the effects of the pandemic, reduced earnings from remittances, and rising inflation and operational costs. Speciﬁcally, while the full-fledged Islamic banks in Pakistan saw a decline in terms of ROA, ROE and NPM, those of Afghanistan and Iraq registered worsening proﬁtability based on all four indicators during the period under review. Both of these jurisdictions had fragile economies prior to the pandemic and have been faced with its effect along with political uncertainty, falling output, inflation and increasing poverty. In the South-East Asia (SEA) region, Islamic banking’s proﬁtability performance improved in both Malaysia and Indonesia. This is despite the fact that provisioning increased in anticipation of increased post-forbearance credit defaults and weakened economic activity amid the imposition of nationwide containment measures to curb the resurgence of COVID-19. The improved earnings performance was due to the normalisation of income, increased revenue (especially on both ﬁnancing and fee-based activities), and improved efﬁciency due to lower funding costs – a reflection of customers’ increasing preference for liquid deposits. The only exception is the Bruneian Islamic banking sector, which registered a declining proﬁtability performance due to increased operating cost as reflected in the CTI, thus subsuming the effect of increased revenue and reduced provisioning within the same period. The proﬁtability performance of the jurisdictions in the Africa region was mixed. The proﬁtability performance was driven by reduced provisioning and a moderate growth in revenue, especially on ﬁnancing, as economic activity gradually gathers momentum in Nigeria. In addition to an increase in provisioning, the political impasses in Sudan and Libya, along with the effects of the pandemic, also affected proﬁtability performance. In contrast to those of the Islamic banking in the United Kingdom, the participation banking sector in Turkey registered improved performance across all four proﬁtability indicators. This performance was driven mainly by increased provisioning, increased funding costs, repricing of ﬁnancing, modest growth in net operating income (especially fee-based), and the moderate course of deposit rates. 77 Except for the Islamic banking sector in Qatar in terms of ROA, ROE, and CI. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 67
2 .1.2 Liquidity The liquidity position of the Islamic banking sector fluctuated but remained strong across various jurisdictions during the review period. In many cases, liquidity indicators improved y-o-y, satisfying regulatory thresholds, and in some instances were back to their pre-pandemic levels. This was due to the positive outcome of the various liquidity support measures adopted across jurisdictions to mitigate the effect of liquidity pressure due to the pandemic, reopening and recovery of the economy, increased public-sector deposits, and cash inflows from both households and businesses due to the gradual suspension of payment moratoria. Some jurisdictions, especially those with a healthy pre-pandemic liquidity buffer, were also able to manage liquidity pressure arising from the reintroduction of lockdown measures due to another wave of COVID-19. In contrast, some other jurisdictions experienced tightened liquidity due to rising inflation and slow economic recovery amid low vaccination rates and an increasing rate of COVID-19 infections, political uncertainty and the lack of liquidity management instruments. Four indicators78 were used to assess the aggregate liquidity performance of the Islamic banks across jurisdictions (see Charts 2.1.2.1 to 2.1.2.4). Chart 2.1.2.1 Liquidity Coverage Ratio for Stand-Alone Islamic Banks by Country (4Q’20 and 4Q’21) 4Q’21 3.7% UK UAE Turkey Sudan Saudi Arabia Qatar Palestine Pakistan Oman -1.0% Nigeria Malaysia Libya Kuwait Iraq Indonesia Brunei Bangladesh Bahrain 6.8% 27.4% 23.1% 20.4% 36.2% 47.2% 51.2% 45.1% 40.1% 53.8% 20.7% 27.9% 39.3% 46.9% 43.6% 35.1% 39.4% 40.6% 37.9% 41.4% 29.6% 39.6% 33.8% 23.0% 32.1% 24.9% 23.6% 19.1% 56.5% 35.8% 36.0% 14.6% 29.9% 50.4% 4Q’20 Source: PSIFIs. 50.2% 43.4% 45.3% 50.0% 36.8% 24.9% UK UAE Turkey Sudan Saudi Arabia 13.3% Qatar 12.9% 34.3% 49.7% 43.3% 50.7% 50.6% 47.5% Palestine Pakistan Oman Nigeria Malaysia Libya Kuwait Iraq Indonesia Brunei Bangladesh Bahrain 4Q’21 62.2% 44.5% 56.9% 49.1% 48.9% 36.6% 40.3% 39.9% 30.8% 29.9% 48.8% 54.8% 69.2% 74.8% 75.1% 4Q’20 54.9% 45.2% 52.5% 54.5% 52.7% 51.6% 76.4% Chart 2.1.2.2 Net Stable Funding Ratio for Stand-Alone Islamic Banks by Country (4Q’20 and 4Q’21) Source: PSIFIs. 78 68 These include the liquidity coverage ratio (LCR), net stable funding ratio (NSFR), ﬁnancing-to-deposit ratio (FDR), and liquid assets to short-term liabilities ratio (LASLR) for the entire Islamic banking sector. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 70 .6% 56.5% 115.7% 93.4% 127.7% 101.6% 138.3% 129.5% 194.4% 164.2% 189.4% 4Q’20 19.4% 20.4% 25.4% 28.1% 103.7% 102.8% 74.9% 48.5% 44.9% 95.2% 79.5% 60.6% 35.4% 24.7% 39.4% 52.5% 35.4% 40.7% 17.3% 23.7% 25.7% 85.2% 144.5% UAE Turkey Sudan Saudi Arabia Qatar Palestine Pakistan Oman Nigeria Morocco Malaysia Iraq Indonesia Bangladesh 69.1% 73.8% 51.2% 60.1% 90.6% 95.5% 65.8% 42.9% 96.9% 92.8% 66.8% 110.7% 105.7% 76.5% 63.3% 56.8% 98.7% 100.7% 96.9% 65.7% 76.3% 82.4% 104.6% 87.5% 176.9% 180.9% 166.3% 170.9% 4Q’20 UAE Turkey Sudan Saudi Arabia Qatar Palestine Pakistan Oman Nigeria Malaysia Libya Kuwait Iraq Indonesia Brunei Bangladesh Afghanistan Chart 2.1.2.3 Financing-to-Deposit Ratio by Country (4Q’20 and 4Q’21) 4Q’21 Source: PSIFIs. Chart 2.1.2.4 Liquid Assets to Short-Term Liabilities Ratio by Country (4Q’20 and 4Q’21) 4Q’21 Source: PSIFIs. 69
The GCC Region In the GCC region , the liquidity position of the Islamic banks remained healthy in 2021. This was due to the stable funding from non-proﬁt deposits, especially from the public sector amid increasing government revenue from rising oil prices, and a retail focus that reduced funding concentration. The reopening and recovery of economies across the countries in the region also boosted deposit growth. Speciﬁcally, both the LCR and NSFR of the GCC countries79 were above the 100% threshold. Some of these countries also have a high FDR, which, while indicating their active role in ﬁnancial intermediation, may also suggest the susceptibility of their Islamic banking sectors to liquidity pressure in the event of unexpected contingencies. While Islamic banks in both Qatar and Oman registered a y-o-y increase in LASLR, those of Kuwait, Saudi Arabia and the UAE recorded a y-o-y decline. This may not necessarily be a reflection of the short-term structural funding gap experienced, as the ratio fluctuated during the period. Overall, the liquidity position of the GCC Islamic banks is expected to remain stable on the back of healthy liquidity buffers and a sizeable high-quality liquid asset (HQLA) that can be easily deployed to meet short-term liquidity needs. The GCC Islamic banks also enjoy stable sovereign funding support amid an increase in oil revenues, further economic reopening globally, and the growth of the non-oil economy in the region. Moreover, in Oman, the initiative of the Central Bank of Oman (CBO) to create central bank Sharī`ah-compliant liquidity tools, including a lender-of-last-resort facility for Islamic banking entities, is expected to enhance liquidity management and the design of a Sharī`ah-compliant deposit insurance scheme to boost deposit growth. Also, in the UAE, the liquidity position of the Islamic banking sector will strengthen due to the extension of the Zero Cost Funding (ZCF) facility to June 2022.80 The SEA Region In the SEA region countries, the Islamic banking sector’s liquidity situation remained stable and supportive of their intermediation role. Although the FDRs for both Malaysia and Indonesia declined marginally y-o-y, they remained high during the period. The LASLR also declined in Brunei and Indonesia but increased in Malaysia. All banks in Malaysia were also reported to have met the threshold of 100% for the LCR and to have increased their holdings of HQLA.81 Similarly, banks in Indonesia were reported to have registered LCR and NSFR results above the regulatory minimum, with Islamic banks well surpassing the 4.5% macroprudential liquidity buffer threshold in the country and investing their surplus funding in HQLA such as tradable government securities.82 Banks in the region remained highly funded by customer deposits, which increased due to the preference of businesses and households for liquid deposits and precautionary savings amid the economic uncertainty brought about by new waves of the COVID-19 pandemic. The Islamic banks also maintained a high liquidity buffer and have beneﬁted from various liquidity support initiatives by the government to reduce liquidity pressure. The liquidity outlook of the Islamic banks in the region is expected to remain resilient. This is hinged on an expected increase in deposits as a stable source of funding. Moreover, the economies in the region have been gradually reopening and recovering from the impact of the resurgence of the pandemic and repayment moratoria- 79 80 81 82 70 Relevant data was only available for Kuwait, Oman and Saudi Arabia. The TESS programme also allows banks to reduce NSFR to 90%, to increase the advances to stable resources ratio (ASRR) to 110%, and to treat the ZCF facility as a stable funding source. Bank Negara Malaysia, Financial Stability Review Second-Half 2021. bnm.gov.my. Bank Indonesia, Financial Stability Review No. 37, September 2021. https://www.bi.go.id/en/publikasi/kajian/Documents/Financial-Stability-Review-No.37-September-2021.pdf ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
are gradually being suspended . Also, the Islamic banks in the region rely less on an external deposit funding structure and, as such, are less susceptible to the effects of ﬁnancial tightening of foreign currency and exchange rate volatility, especially due to the implications of the conflict in Ukraine. RSAs in the region have also put in place measures to further strengthen Islamic banking liquidity. For instance, Bank Negara Malaysia’s decision to lower the statutory reserve requirements (SRR) ratio by 100 basis points to 2%, as well as to permit principal dealers to use both Malaysia Government Securities (MGS) and Malaysia Government Investment Issues (MGII) of up to MYR 1 billion for the purpose of meeting SRR requirements, have been extended until 31 December 2022.83 The planned implementation of stable funding requirements by the BNM was also phased in order to avert potential disruptions to lending activities. Both Bank Indonesia (BI) and Otoritas Jasa Keuangan (OJK) are committed to providing support to the Islamic banks in Indonesia via a short-term liquidity assistance programme offered by the RSAs. This is in addition to quantitative easing via liquidity injection into the banking industry and other initiatives aimed at deepening the ﬁnancial market. In Brunei, the liquidity position of the sector is expected to improve due to the I-Bills, which are also eligible as collateral under the Brunei Darussalam Central Bank (CBDC) Sharī`ah-compliant funding facilities.84 The MESA Region In the MESA region, the liquidity position of the Islamic banking sector in Bangladesh, Pakistan and Palestine remained healthy, with both LCR and NSFR above the 100% threshold. In Pakistan, despite recording a decline in both LCR and NSFR, the Islamic banking sector in the country recorded improvement in FDR. The improvement was due to growth in deposits as both households and businesses reduced their spending and increased precautionary savings amid economic uncertainty. Moreover, the State Bank of Pakistan’s initiative of providing an efﬁcient banking service for Pakistanis in the diaspora via the Roshan Digital Account (RDA) has been very effective, attracting about USD 1.3 billion as at 2Q’21.85 The effect of the SBP policy to reduce the liquidity reserve requirement is another factor contributing to the improved performance. Both Bangladesh and Iraq registered slow growth in liquidity performance of their Islamic banking sector in 2021. In Bangladesh, this was due to (among other things) the decline in remittances (especially from the GCC) following the outbreak of the Delta variant of COVID-19 which necessitated travel restrictions for migrant workers in the GCC, Malaysia and Indonesia. In Iraq, the FDR declined the relatively low ﬁnancing growth compared to deposit growth, which was facilitated by signiﬁcant growth in the proﬁt-sharing investment account. Unlike in other MESA jurisdictions, and due to the excess liquidity in the Islamic banking sector, the FDR of full-fledged Islamic banks in Afghanistan as at 4Q’21 is the lowest among the jurisdictions covered in this report. The outlook for the liquidity position of the Islamic banking sector in the region is mixed. In Pakistan, Palestine and Bangladesh, the outlook seems favourable on the back of an excess liquidity buffer as reflected in both the LCR and NSFR ﬁgures. Moreover, in both Pakistan and Bangladesh, remittances inflow is expected to increase as the economic recovery in the GCC improves further due to rising oil revenue to fund huge infrastructural projects. The Islamic banks in both countries also have limited foreign currency exposure; as such, exchange rate volatility may not pose an immediate funding threat. Bangladesh Bank’s (BB) recent issuance of sovereign investment on behalf 86 of the government also provides a needed additional tool for liquidity management by the country’s Islamic banks. 83 84 85 86 This policy has created a liquidity injection of about MYR 46 billion into the banking system. These facilities have a 14-day tenor and are issued weekly to licensed banks only at a zero-coupon based on the wakālah bil ujrah structure. State Bank of Pakistan, Mid-Year Performance Review of the Banking Sector. https://www.sbp.org.pk/publications/HPR/H1CY21.pdf Hitherto, the Islamic banks in Bangladesh could only participate in the Bangladesh Government Islamic Investment Bond (BGIIB) to meet a liquidity shortage by selling the securities via mudārabah short-notice deposit accounts at a provisional rate which is subject to adjustment after the ﬁnalisation of accounts and rate of proﬁt of concerned Islamic banks. The Bangladesh government, on the other hand, could not borrow from the Islamic banks via the BGIIB due to the lack of Sharī`ah-compliant investment projects. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 71
The challenging liquidity position of Afghanistan ’s Islamic banks may also persist. This is due to the pre-existing liquidity challenges in the Islamic banking sector in Afghanistan given the maturity mismatch between PSIAs and non-remunerative deposits – often on a short-term basis – as the main source of funding on the one hand, and the relatively long-term nature of ﬁnancing on the other. The lack of money market instruments – and especially of sovereign – which can play an effective role in mopping up excess liquidity in the Islamic banking sector may aggravate the liquidity management problem in the period ahead. Other factors include a domestic political impasse, international economic and political sanctions despite a high reliance on external funding, the effect of tightening ﬁnancial policies in developed economies amid low domestic economic recovery, and the impact of the conflict in Ukraine. In Palestine, despite the improved liquidity performance, the limited intervention capability of the Palestine Monetary Authority in the absence of a national currency and comprehensive monetary policy tools will continue to challenge the ability of the Islamic banking sector to cope with the economic implications of the COVID-19 pandemic. Moreover, the irregular remittance of clearance revenues by the Israeli government to the Palestinian government, and the decision of the latter not to receive incomplete clearance funds from the former due to political disagreements on a number of issues, may continue to place a severe liquidity strain on the economy. In Pakistan, the government’s increased reliance on banks to ﬁnance its budget will provide more investment opportunities in government securities for Islamic banks as they manage their excess funding. The fact that Iraq is also an oil-dependent economy should, ideally, provide a favourable outlook, as oil revenue increases due to the conflict in Ukraine. However, the fact that there are currently no Sharī`ah-compliant liquidity instruments in its Islamic ﬁnancial market that could be leveraged on in the event of a liquidity shock highlights the country's liquidity vulnerability. Among the Africa region countries, the FDR for the NIB sector in Nigeria was among the highest in the report. The LASLR, on the other hand, declined as at 4Q’21. The high FDR perhaps reflects improvement in both deposit and Sharī`ah-compliant ﬁnancing due to a gradual reopening and recovery of the economy. However, the NIB sector's liquidity management capacity was also impeded by the lack of Sharī`ah-compliant instruments, which puts it at a disadvantage compared to the country's conventional banks. Nonetheless, as the NIBs are mainly funded by retail deposits, the outlook is favourable as the economy reopens and recovers amid increasing oil revenue and a hugely untapped market. The NIB sector, being nascent, also has limited exposure to foreign currency liquidity shocks despite the high volatility that may result from a tightening ﬁnancial condition due to the conflict in Ukraine and soaring global inflation. In Sudan, the FDR registered a decline due to the negative growth of both deposits and ﬁnancing in 2021 as a result of slow economic recovery, political instability and the strain of so many years of currency overvaluation. The high dependence of the Sudanese Islamic banking sector will also put further strain on its liquidity as global ﬁnancial conditions tighten. The expected liquidity and investments from the entry of foreign banks and investors into the country’s banking system based on the Central Bank of Sudan’s announcement in early 2021 of the commencement of conventional banking in the country has been greeted with hesitation on account of the political impasse and economic uncertainty due to the pandemic. 72 ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
The “Others” Region The Turkish participation banking sector registered a high and improving liquidity position. Both the LCR and LASLR recorded y-o-y improvements, although the FDR recorded a decline. The Turkish participation banking sector has strong liquidity buffers against possible liquidity shocks, and their balance sheet structures are sturdy enough to manage any interest and exchange rate risks. The increase in banks' total and foreign exchange (forex) liquid assets continues to support the liquidity outlook of the sector. Forex liquid assets of the banking sector have a high capacity to cover short-term forex foreign debts. 2.1.3 Foreign Funding and Financing Structure The proportion of both foreign currency funding and foreign currency ﬁnancing vis-à-vis the total funding and total ﬁnancing of the global Islamic banks, respectively, remained relatively unchanged during the period under review. The marginal difference observed between the foreign exchange funding and ﬁnancing proportions in 4Q’20 has only marginally narrowed as at 4Q’21 (see Chart 2.1.3.1). This narrowing gap, albeit marginal, reflects the diverse net foreign exchange exposures across jurisdictions moderated by their state of economic recovery, exchange rate regimes, political stability, remittances incentives and digitalisation, and the effectiveness of the stabilisation measures to ensure capital inflows across jurisdictions. Chart 2.1.3.2 shows the proportion of foreign currency funding (ﬁnancing) in total funding (ﬁnancing) in the various jurisdictions indicated. Chart 2.1.3.1 Global Islamic Banking Average Foreign Currency Funding and Financing as a Proportion of Total Funding and Financing (1Q’20 and 4Q’21) 11.5% 11.2% 11.5% 11.5% 11.9% 12.3% 12.0% 11.1% 7.8% 7.6% 7.5% 7.9% 7.6% 7.7% 7.4% 2Q’20 3Q’20 4Q’20 1Q’21 2Q’21 3Q’21 4Q’21 7.2% 1Q’20 Weighted average foreign currency funding to total funding Weighted average foreign currency ﬁnancing to total ﬁnancing Source: PSIFIs. Chart 2.1.3.1 Global Islamic Banking Average Foreign Currency Funding and Financing as a Proportion of Total Funding and Financing (1Q’20 and 4Q’21) 0.4% Foreign currency funding to total funding 4Q’21 -0.8% 0.9% 3.4% UAE Sudan 0.7% 1.1% Pakistan 0.8% 0.6% Oman 1.0% Malaysia Kuwait 1.5% 1.7% Indonesia Brunei 1.6% 1.4% 1.7% 0.9% Bangladesh Afghanistan 1.0% 0.5% 1.0% 0.9% 3.2% Foreign currency ﬁnancing to total ﬁnancing 4Q’21 Source: PSIFIs. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 73
In the GCC region , the Islamic banking sector in both Kuwait and the UAE registered an increased proportion of foreign currency funding compared to foreign currency ﬁnancing as at 4Q’21. The Omani Islamic banks have the lowest foreign exchange exposure in the GCC, and in contrast, a higher proportion of foreign currency funding compared to foreign currency ﬁnancing. The net foreign exchange positions of the banks in the GCC are not expected to generate any signiﬁcant foreign exchange risk given that the local currencies are pegged to the USD. Moreover, the central banks in the region ensure that unhedged foreign currency positions beyond a solvency- or liquidity-threatening threshold for any bank are subject to regulators’ approval. In the MESA region speciﬁcally, and generally for all the countries indicated, Afghanistan’s Islamic banking sector registered the highest foreign currency funding and ﬁnancing levels. This foreign exchange funding level reflects a forex position above the ±40% limits for overall forex position and the ±20% limits on individual currency position set by the Da Afghanistan Bank (DAB). It is important that the bank’s foreign position is brought to within the regulatory limits, especially given the volatility of its currency, the Afghanistan Afghani, given the political instability and economic sanctions facing the country. Bangladesh Islamic banks recorded a higher proportion of foreign currency funding’s share of total banking sector funding. This was due to the increase in remittance inflows from the GCC and Europe as economic recovery in both regions improved. Moreover, there were also incentives to encourage wage earners to use formal channels of remittances to ease the effect of the diversion experienced in the early days of the pandemic when informal remittance channels proliferated. Pakistan’s Islamic banks, on the other hand, recorded a lower share of foreign currency ﬁnancing of the total banking sector ﬁnancing in the country. This was notwithstanding the SBP’s streamlining of the procedure and simplifying the regulatory requirements involved in foreign exchange matters. For instance, the SBP launched the foreign exchange Regulatory Approval System (RAS) as a one-stop digital platform for both the banks and their customers to conduct their forex transactions in a seamless and efﬁcient manner. The proportion of foreign currency funding of the Islamic banks, compared to total Islamic banking sector funding, remains one of the lowest among countries covered in the report. This was notwithstanding the increase in remittances inflow, especially from the GCC, on account of the economic recovery in the region and the initiatives by the SBP (e.g. exempting inflow remittances from withholding tax) and by the RDA to aid a hassle-free banking service for Pakistanis in the diaspora. In the SEA region, the Islamic banking sector in Brunei registered the highest proportion of foreign exchange funding and ﬁnancing in relation to the entire domestic banking industry in the country. The pegging of the local currency to the Singaporean dollar87 has, nonetheless, kept foreign exchange risks manageable by leveraging on Singapore’s deep and developed ﬁnancial markets. In both Indonesia and Malaysia, excessive forex volatility was mitigated via foreign exchange interventions and necessary adjustments to external shock through a foreign exchange net open position. In Indonesia, for instance, the foreign currency net position is expected to strengthen on the back of BI’s stabilisation measures to ensure foreign capital inflows to provide foreign currency liquidity through reduced foreign currency reserve requirements, relaxing the threshold on spot transactions with an underlying worth increased from USD 25,000 to USD 100,000 per month to attenuate foreign currency liquidity pressure. In Malaysia, the foreign exchange net open position is expected to be sustained given the reforms going on in the country’s foreign exchange market – for instance, the exemption granted to exporters from converting forex proceeds below MYR 200,000 per transaction, and permission to extend hedging of foreign ﬁnancing obligations from the previous maximum period of 12 months to the duration of the underlying tenure. 87 74 The Currency Interchangeability Agreement (the Agreement) between Brunei Darussalam and Singapore was established in 1967 to promote monetary cooperation between the two countries. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
Sudanese Islamic banks registered one of the highest y-o-y changes in foreign currency funding . Sudan, which moved to a market-determined exchange rate, has also been faced with political instability that grounded economic activities during the period. These high ﬁgures are worrying, as they could potentially stymie the intermediation role of Islamic banks in Sudan to fund economic growth. This is because mobilising foreign currency funding and ﬁnancing may prove more difﬁcult as global ﬁnancial conditions tighten and foreign exchange flows may be directed to jurisdictions considered to be safe havens. 2.1.4 Financing Exposure The pattern of the full-fledged Islamic banks’ and Islamic banking windows’ ﬁnancing activities remained largely similar to that witnessed since 2018. Except for a slight switch in proportion, the ﬁnancing exposure remained concentrated in the real estate, household, and wholesale and retail trade sectors, followed by the construction sector. (See Charts 2.1.4.1 and 2.1.4.2 for the sectoral composition of ﬁnancing exposure by country.) Chart 2.1.4.1 Weighted Average Percentage of Financing and Non-Performing Financing to Selected Economic Sectors (4Q’21) 35.0% Weighted Average % of Financing to Selected Economic Sectors 30.0% Weighted Average Sectoral % of NPF 25.0% 20.0% 15.0% 10.0% 5.0% 0.0% Real Estate Manufacturing Household/Personal Wholesale, Retail and Trade Construction Agriculture Source: PSIFIs and IFSB Secretariat workings. Note: Countries included: Bahrain, Bangladesh, Indonesia, Kuwait, Malaysia, Oman , Pakistan and Saudi Arabia. Chart 2.1.4.2 Islamic Banking Sectoral Composition of Financing by Country (4Q’21) 1% 2% 1% 11% 4% 3% 30% 6% 28% 4% 24% 5% 11% Bangladesh Real Estate Brunei Manufacturing 13% 11% 6% 3% 52% 63% 6% 40% 66% 54% 5% 7% 28% 22% 5% 5% 5% Bahrain 1% 8% 37% 24% 8% 19% 23% 10% 27% 3% 1% 27% 4% 8% 4% 5% 4% 9% 1% 9% 1% 1% 3% Indonesia Kuwait Household/Personal Malaysia 8% 13% 3% Oman Wholesale, Retail and Trade 1% Pakistan Qatar Construction Saudi Arabia Agriculture Source: PSIFIs and IFSB Secretariat workings. Values shown in chart 2.1.4.2 are rounded up to the nearest whole number. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 75
In the GCC region , Islamic banking sector ﬁnancing exposure remained concentrated mainly in the household and personal ﬁnancing sector in Bahrain, Oman, Saudi Arabia and Kuwait. While ﬁnancing exposure to the real estate sector remained one of the key sectors receiving ﬁnancing in the other GCC countries covered, it is highest in Qatar (see Chart 2.1.4.2). The Qatar real estate market has since rebounded from the slowdown due to COVID-19. The recovery is expected to improve due to the reopening and recovery of the economy, supportive government legislation to protect the rights of residential building investors, expanding population due to an influx of expatriates attracted by job opportunities, and the positive effect of the hosting of the FIFA World Cup in 2022. As at 4Q’21, the concentration of ﬁnancing facilities by the Islamic banks in Bahrain to speciﬁc sectors continued the trend from the previous year, with real estate still the highest-ﬁnanced sector (26.7%). This result was due to a relaxation of the ﬁnancing-to-value ratio for new residential houses during the period as part of measures by the Central Bank of Bahrain (CBB) to support lending activities by the banks at the outbreak of the pandemic. Compared to Q3’20, ﬁnancing to the real estate sector increased by 8.7% y-o-y. Financing to the household sector accounted for 23.9% (Q3’20: 16.8%), while the wholesale and retail trade and manufacturing sectors received a lower 3.7% (Q3’20: 11%) of total ﬁnancing in the Bahraini Islamic banking sector. Murābahah remained the main ﬁnancing instrument used by both the retail and wholesale Islamic banks in the country, at 51.0% and 65.3%, respectively. The retail Islamic banks also used ijārah for 28.6% of their ﬁnancing during the period. In Oman, 39.7% of the ﬁnancing exposure of Islamic banks was to the household and personal ﬁnancing sector (also called the retail sector) as at end-4Q’21. The main component is housing ﬁnance for individual use, which is less risky and collateralised by the underlying property. Although the real effect of the economic contraction on such borrowers will become discernible once forbearances are unwound, the CBO expects it to be within an acceptable range on the back of the favourable economic condition brought about by an oil price surge and economic reopening and the return of expatriates to the country. The construction sector accounted for the second-highest portion of Sharī`ah-compliant ﬁnancing among Omani Islamic banks, at 13.2%, while the manufacturing sector accounted for 8.1%. Although ﬁnancing to both the construction and manufacturing sectors declined, no signiﬁcant vulnerability of the Omani Islamic banks to the sectors is envisaged. Both sectors are key to the country’s economic transformation agenda, which is expected to gather steam due to increased oil revenue. The main Islamic ﬁnancing instruments used by the Islamic banks in Oman during the period were diminishing mushārakah (49%), ijārah (24%) and wakālah (14%). In Saudi Arabia, the household and personal ﬁnancing sector accounted for 52.2% of Sharī`ah-compliant ﬁnancing as at end-4Q’21, representing a 6.7% y-o-y increase. A rapidly expanding demand for mortgage ﬁnancing by households as per the government’s “Vision 2030” project is expected to further attract ﬁnancing to this sector in the years ahead. The real estate sector, as expected, also accounted for an increased 13.1% of total ﬁnancing as economic activity picked up due both to supportive government initiatives to increase home ownership and to the beneﬁts from the introduction of the real estate transaction tax (RETT)88 introduced in the kingdom. While the manufacturing sector accounted for 7.3% of total ﬁnancing, the wholesale and trade ﬁnancing and construction sectors accounted for 7.5% each. Both sectors are also expected to build momentum as the economy further reopens and in line with the sustainability of and diversiﬁcation to a non-carbon economy. The main ﬁnancing instruments used by the full-fledged Islamic banks in Saudi Arabia were murābahah (69%), tawwaruq (19%) and ijārah (11%). The Saudi Islamic banking windows, on the other hand, used tawarruq for 59% of their ﬁnancing, 27% via murābahah and 11% through ijārah. 88 76 The RETT, which is intended to give a boost to the real estate sector, is ﬁxed at 5% of real estate transactions and applies to all such transactions in lieu of the value added tax. The government gave a commitment to pay the RETT on behalf of Saudi nationals who are buying their ﬁrst home worth up to SAR 1 million. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
In Kuwait , the household and personal ﬁnancing sector accounted for a 27.4% share of the ﬁnancing exposure of Islamic banking in the country as at 4Q’21. This was due to increasing consumption and travel as the economy reopens and recovers from the pandemic. Moreover, a large proportion of the workforce is employed in the public sector, whereby job security and a stable household income helped to prevent default, thus creating lower perceived risk of the sector. Also noteworthy is the effect of the extension of payment moratoria to those affected by the pandemic and of the passage of the loan guarantee law in the country in 2021. The real estate sector accounted for a 22.2% share, as it beneﬁted most from the ﬁnancing extended to the corporate sector. Moreover, it recovered from a decline in terms of the number of residential and commercial apartments sold due to the pandemic as a result of generational shift and increasing disposable income. The wholesale and retail trade ﬁnancing sector accounted for 8.1% of the ﬁnancing exposure of the Islamic banks in the country and improved marginally during the period due to the risk perception, notwithstanding the passage of the loan guarantee law in the country. In the SEA region countries, ﬁnancing exposure was mainly to both the household and real estate sectors in 2021. Speciﬁcally, the ﬁnancing exposure of the Islamic banking sector in Brunei as at 4Q’21 was 28.3% to the household sector and 24.4% to the real estate sector. The pick-up in the real estate sector was due to the increase in housing purchases and structural home improvements observed since 2019, and which has since further improved due to the full economic reopening since Q2’20, given that Brunei has recorded only a few imported cases of COVID-19 since then. Other sectors to which the Islamic banking sector in Brunei has a notable exposure include construction (11.1%) and manufacturing (9.6%). Financing provided to the real estate sector dominated the Indonesian Islamic banking sector as at 4Q’21. Speciﬁcally, 28.5% of the total Sharī`ah-compliant ﬁnancing was advanced to this sector. The distribution could be explained by BI’s campaign that urged the country’s banks to continue to lower their ﬁnancing rates in order to help stimulate economic activity. Moreover, ﬁnancing-to-value on housing ﬁnancing was increased to 100% on both residential and business properties. The sector also beneﬁted from the eased restrictions on the operation of malls prior to the resurgence of the Delta COVID variant in Q3’21, which had a temporary effect on the improvement in real estate rentals and ﬁnancing repayments for that property segment experienced since Q2’20. The household sector also received a share of 22.7% as at 4Q’21, an increase of 12.9% y-o-y which was due to the relaxation of down-payment requirements on automotive ﬁnancing from March to December 2021. The wholesale and trade ﬁnancing sector also attracted a 10.9% share as at end-4Q’21 on account of the effect of the government’s placement of funds in selected commercial banks to increase ﬁnancing to the SMEs and other labour-intensive ﬁrms affected by the pandemic. The household sector remains that to which the Islamic banks in Malaysia have the most ﬁnancing exposure as at end-4Q’21. Speciﬁcally, 63.2% of the Islamic banks’ ﬁnancing was extended to the household sector. This was due to the increase in personal ﬁnancing on account of the automatic ﬁnancing repayment moratorium, and to increased auto and mortgage ﬁnancing. For instance, sales and service tax incentives were granted for auto purchases from 15 June 2020 until 30 June 2021. Although the complementary effects of the repayment assistance facility on the debt-servicing capacity of borrowers cannot be discountenanced, the fact that households’ ﬁnancial asset growth is higher than that of debt also indicated that their repayment capacity had been influenced by other means. Up until Q3’21, the commencement of a COVID vaccination campaign and the low number of cases of new infections recorded led to the relaxation of the movement control order. Consequently, improvements were recorded in the manufacturing and wholesale and retail trade sectors, which jointly accounted for 10% of the ﬁnancing exposure of Islamic banks in Malaysia, while exposure to the construction and real estate sectors as at end-3Q’21 stood at 4.6% and 4.4%, respectively. The front-loaded provisions and the ﬁnancial stability of the Islamic banks ensured that continuous ﬁnancing was provided to both households and businesses during the resurgence of the Delta variant in Q3’21. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 77
In the MESA region , especially among the Islamic banks in Bangladesh and the full-fledged Islamic banks in Pakistan, the manufacturing sector accounted for the largest share of Sharī`ah-compliant ﬁnancing. Speciﬁcally in Bangladesh, the manufacturing sector accounted for 36.8% of Sharī`ah-compliant ﬁnancing as at 4Q’21. This was due to the prominence of the sector for the country’s economic development on the back of competitive labour costs, large quantity of garment exports, and expansion into the leather, automobile and pharmaceutical industries. The wholesale and retail trade sector accounted for 30.4% of total Sharī`ah-compliant ﬁnancing as at end-4Q’20 amid economic reopening and recovery. The most-used Islamic ﬁnancing instruments during the period were murābahah (45.1%) and bai-muajjal (23.5%). A similar pattern is observed in Pakistan, where the largest share of the Sharī`ah-compliant ﬁnancing of the Islamic banks was to the manufacturing sector, at 66.5% as at 4Q’21. The household sector accounted for 18.6% of Sharī`ah-compliant ﬁnancing, while the wholesale and retail trade sector also recorded a marginal improvement to end-4Q’21, with a share of ﬁnancing of 8.9%. These sectors were very central to the economic recovery measures of the SBP. In fact, as part of its policy responses to COVID-19, an Islamic Temporary Economic Reﬁnance Facility scheme was launched in March 2020 to provide concessionary Sharī`ah-compliant ﬁnancing to stimulate investment in manufacturing activities with the exception of the power sector. Diminishing mushārakah was the most-used ﬁnancing instrument and accounted for 30.8%, while mushārakah and murābahah accounted for 22.2% and 9.1%, respectively. 78 ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
2 .1.5 Asset Quality Due to the various forbearance measures put in place across jurisdictions, the asset quality of Islamic banks and windows measured by the average non-performing ﬁnancing (NPF) ratio remained somewhat flat for most of the period from Q2’20 to Q2’21 (see Chart 2.1.5.1). However, this should be viewed with caution as implying a true reflection of the cost of risk, as the NPF marginally improved to 1.9% in 4Q’21. As highlighted in later sections of this report for each country, declining or stable NPF may also portend hidden vulnerability to asset quality issues. These issues may only start to manifest as forbearance measures are suspended and could morph into structural legacy problems that could both infringe the resilience of the global Islamic ﬁnancial system and stymie the speed of economic recovery across jurisdictions, especially those where Islamic banking is systemically important. The sectoral composition of both ﬁnancing and NPF varied greatly between countries and regions, and the weighted average may not reflect a balanced view of global economic sector exposures for Islamic banking across different jurisdictions. Such speciﬁc exposures are shown on a country-by-country basis in Chart 2.1.5.2. Chart 2.1.5.1 Global Islamic Banking Average Gross Non-Performing Financing to Total Financing (1Q’19–4Q’21)89 2.7% 2.4% 2.4% 2.4% 2.5% 2.5% 1Q’19 2Q’19 3Q’19 4Q’19 1Q’20 2Q’20 2.8% 2.7% 3Q’20 2.7% 4Q’20 1Q’21 2.6% 2.6% 2Q’21 3Q’21 2.3% 4Q’21 Source: IFSB Secretariat workings based on PSIFIs.. Chart 2.1.5.2 Islamic Banking Average Gross Non-Performing Financing to Total Financing by Country (4Q’20–4Q’21) 7.1% 4.0% 3.5% 3.4% 2.9% 3.5% UK UAE Turkey Sudan 1.9% 1.5% Saudi Arabia 1.8% Qatar 1.6% 3.3% 2.5% Palestine 3.2% 2.7% Pakistan 1.9% 1.8% Oman 3.4% 5.2% Nigeria 1.4% 1.3% Malaysia 1.9% 1.5% Kuwait 3.1% Indonesia 2.6% 4.8% 4.1% Brunei 4.0% Bangladesh 3.9% 6.4% Bahrain 4Q’21 6.9% 7.8% 8.2% 4Q’20 Source: PSIFIs. 89 Average non-performing ﬁnancing to total ﬁnancing calculation is based on data from jurisdictions contributing to the IFSB’s PSIFIs database (excluding Afghanistan, Egypt, Iran, Iraq, Jordan, Kazakhstan, Lebanon and Libya) due to data limitations. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 79
Chart 2 .1.5.3 Sectoral Composition of NPF of Islamic Banking by Country (4Q’21) 9% 23% 1% 14% 5% 0% 11% 42% 19% 7% 16% 30% 34% 39% 22% 11% Real Estate 23% 39% 18% Bahrain 4% 20% 19% 11% 20% 7% 1% 5% 7% 8% Bangladesh Manufacturing 14% 7% Indonesia Household/Personal 0% 22% 19% 12% 18% 3% 31% 0% 16% 16% 12% 17% 19% 3% Malaysia 0% 0% Oman Wholesale, Retail and Trade Pakistan Construction 20% 7% Saudi Arabia Agriculture Other Source: IFSB Secretariat workings based on PSIFIs. Values shown in chart 2.1.5.3 are rounded up to the nearest whole number. In Bahrain, the asset quality of the Islamic banks sustained its improvement recorded since 4Q’20 through 4Q’21 with the non-performing ﬁnancing ratio90 declining to reach 6.4%, as at end-4Q’21. The improvement in asset quality was a result of improved economic conditions amid increasing oil price revenue and the country’s reopening of its economy. Bahrain’s real estate and household sectors jointly accounted for 22% of NPFs, while the wholesale and retail trade and manufacturing sectors accounted for 19% and 20%, respectively, of the total NPF of the Bahraini Islamic banks. The stress testing conducted by the CBB to assess the likely effect of the deferral scheme in Bahrain reveals that the impairment in deferred ﬁnancing will start to accumulate a month after the forbearance measure is withdrawn. The asset quality of the Omani Islamic banking sector continued its gradual improvement streak, seen since Q3’20. Although commencing from a relatively low base compared to other GCC countries such as Bahrain and the UAE, Oman’s NPF decreased every quarter up to 4Q’21 to reach 1.81% (Q3’20: 1.93%). The provision for NPF has also seen a signiﬁcant increase during the period. The real estate sector accounted for the largest share of the NPF at 23%. Furthermore, as in other countries in the Middle East and the GCC region, most non-contact-intensive sectors such as manufacturing, construction, and wholesale and retail trade, which accounted for up to one-ﬁfth of total Islamic banking NPF in Oman, have rebounded back to their pre-pandemic levels.91 Considering the relatively low NPF despite the implementation of IFRS 9, the Omani Islamic banking sector’s asset quality is expected to remain strong. It is anticipated that as economic conditions improve further, the NPF of the Islamic banks, despite being low, will reduce further, especially given that the policy responses of the CBO have provided signiﬁcant support for the households amid adequate provisions frontloaded by the banks. The results of the stress test conducted by the CBO indicate that even during adverse scenarios, and a resulting increase in NPFs, the required regulatory capital of the banks in the country will still be higher than the threshold. Although commencing from a low base, the NPF of Saudi Arabia’s Islamic banking sector has been fluctuating since 3Q’20 to reach 1.5% as at end-4Q’21. The relatively lower NPF was due to the Islamic banks’ retail focus and increased provisioning. The forbearance measures have also been very effective at keeping the NPF within a manageable range. Based on sectoral distribution, the construction sector and the wholesale and retail trade90 91 80 The computation of the NPF is based on Islamic banking operations and relates to assets that are booked within Bahrain. As such, the NPF of overseas subsidiaries and branches of Bahrain Islamic banks is not considered. International Monetary Fund (2021), Regional Economic Outlook Update. Middle East and Central Asia. https://www.imf.org/en/News/Articles/2021/04/27/na042821-4-questions-about-debt-and-ﬁnancing-risks-from-covid-19-in-mena ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
sector accounted for 22 % and 23% of the Saudi Islamic banks’ NPF, respectively. Other sectors, in order of proportion of NPF, are the manufacturing sector at 20% and the household sector at 16%. These sectors are highly linked to the pandemic-induced prevailing economic conditions, which have been improving on the back of economic reopening and recovery, increasing oil revenue and the activities relating to “Vision 2030”. The NPF of the UAE’s Islamic banking sector deteriorated throughout the period under review, albeit at a declining rate, to reach an NPF of 7.1% in 4Q’21. Provisioning also declined during the period. Perhaps the positive effect of the economic reopening and rising global oil prices is yet to reflect on the key sectors accounting for the largest chunk of the NPF. For instance, the UAE Islamic banking sector’s exposure to the real estate sector was weakened by oversupply and by a fall in demand due to challenging economic conditions, lockdowns and the increasing shift to virtual workspaces at the outbreak of the pandemic. Nonetheless, the asset quality outlook is expected to improve due to front-loaded provisions for NPF which, despite remaining flat y-o-y, also provided adequate coverage for the credit risk. Moreover, it is expected that the impact of economic recovery activities, including the waiver of lockdowns, the resumption of economic activity, and other prudential measures put in place in the country under the TESS programme, would yield a positive effect moving forward. Brunei’s Islamic banking sector’s NPF declined throughout the period under review. Speciﬁcally, the NPF declined up to 4Q’21 to end at 4.1% (4Q’20: 4.8%). Although the largest share of ﬁnancing is to the household sector, the NPF remained lower. Based on the provision for NPF, which recorded continuous improvement for most of the period, the asset quality outlook seems favourable. The downstream sector has also witnessed gradual improvements and Brunei has reopened its economy since Q2’20. Both factors, in addition to the monetary policy measures put in place by the Brunei Darussalam Central Bank (BDCB), are important to the favourable outlook for the asset quality of the country’s Islamic banks. The asset quality of the Indonesian Islamic banking sector remained stable due to the regulators’ relaxation of the policy on bank ﬁnancing restructuring and repayment deferral. Speciﬁcally, the NPF increased up to 2Q’21 before declining up to 4Q’21 to end the period at 2.6%, which is less than its pre-pandemic level. Based on sectoral composition, 22% of the NPF of Indonesia’s Islamic banking is to the real estate sector. Other sectors with relatively high NPFs are construction, manufacturing, and wholesale and retail trade. These sectors have been directly affected by the COVID-19–induced economic contraction. The increased loan provisioning puts the Islamic banking sector in a better position to weather the storm in the event of asset deterioration once the regulatory forbearances are suspended. Moreover, the partially relaxed ﬁnancing classiﬁcation that allows banks in the country not to immediately reclassify restructured ﬁnancing as substandard has seen the NPF ratios continue to decline during the period. The asset quality outlook, very much like that of the entire banking system in Indonesia, depends on how quickly the economic situation and (by extension) credit conditions improve. The soundness of the current asset quality position of the Islamic banking sector, which as at 4Q’21 remained within desirable policy levels, will also be tested by the extent of non-provisioned losses in the sector when policy relaxation is ended in March 2022. The asset quality of the Islamic banking sector in Malaysia remains healthy. Although commencing from a low base of 1.4% in 4Q’20, Malaysia’s NPF ratio fluctuated and declined marginally to 1.3% as at end-4Q’21. The resurgence of the pandemic in Q3’21, which necessitated reintroduction of various restriction measures, affected both businesses and households. Nonetheless, provisions by Islamic banks increased over the period due to (among other factors) the approximately 40% overlay by banks in excess of the provisions based on the expected credit losses (ECL) model. This was necessary against future credit losses to ensure continued resilience against a potential rise in impairments given the increasing uncertainty surrounding the recovery phase of the pandemic amid a resurgence when repayment assistances measures are gradually being suspended. The targeted repayment assistance measures extended to both households and SMEs to manage cash-flow issues have been very effective in ensuring that the impairments from the household sector to which the Islamic banks have 65% exposure do not increase post the automatic blanket moratorium. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 81
The BNM takes note that credit risk is still an issue , as the proportion of Stage 292 household ﬁnancing for the entire banking industry increased by 2.4 pp to 9.7% between 2H’20 and 2H’21. However, the Islamic banks, like their conventional counterparts, will be faced with the challenge of incorporating forward-looking information into the measurement of ECL given factors such as uncertainty, relief measures and general economic recovery, and the absence of the requisite recent repayment data needed for assessment. Notwithstanding the expected challenging situation, Malaysia’s Islamic banks remain resilient against credit risks. The vaccine campaign in Malaysia has been very helpful in relaxing restrictions and improving the business environment, with positive implications for quickening business recovery and repayment capabilities. Moreover, the fact that the banks have front-loaded and continue to adjust their provisioning and have enhanced their credit monitoring practices and staging classiﬁcations, etc. implies that adequate measures are being put in place to mitigate any potential elevated credit risks during the recovery phase of the pandemic. The average NPF ratio for Bangladeshi Islamic banking declined slightly throughout the review period to end 4Q’21 at 3.9%. The largest share of the NPFs was accounted for by the wholesale and retail trade sector, which accounted for 42%. This was followed by the manufacturing sector, with 34%. The slight improvement in asset quality can be linked to the policy measures by the Bangladeshi Bank, especially those relating to the moratorium facility provided to borrowers on ﬁnancing, and increased provisioning during the period. The BB had already noted an increase in required provisioning – a provision maintenance ratio of 91% in the banking sector. Notwithstanding the effectiveness of the various supporting measures put in place by the BB to reduce the impact of the pandemic on borrowers, there is a possibility of hidden vulnerability, as poor assets are expected to start manifesting as forbearance measures are gradually lifted. The Islamic banking sector in Pakistan recorded improved asset quality in 2021. The NPF decreased over the period under review to end 4Q’21 at 2.7%. Provisioning also increased during the period. The sectoral NPF also reflected sectoral ﬁnancing, as the manufacturing sector accounted for the largest share of the NPF at 66%. Other sectors with a lower but notable share of the NPF are the household sector (19%), and wholesale and retail trade (4%). The SBP granted permission as well as regulatory relaxation to the banks to consider the deferment, rescheduling or restructuring of ﬁnancing upon request by borrowers.93 For the principal ﬁnancing amount, restructuring was allowed until March 2021 and this and other measures have proven effective in sustaining the favourable asset quality outlook of the Islamic banks in Pakistan. Palestinian Islamic banks registered deteriorating asset quality performance during the period under review. The NPF of the sector deteriorated to 3.3% in 4Q’21. The provisions for NPF have also been on a steady decline during the period under review. The various support measures introduced by the Palestine Monetary Authority, such as allowing borrowers the possibility of postponing the payment of their obligations with multiple options (e.g. overdraft, restructuring, rescheduling, a temporary tawarruq ceiling for Islamic banks), have (at least in the interim) helped to keep asset quality deterioration at a manageable level. The NIB sector in Nigeria recorded asset quality improvement to reach 5.2% in 4Q’21. This NPF was, however, higher than the 5.0% threshold set by the CBN. This was due to the Central Bank of Nigeria regulatory forbearances, which allowed banks to temporarily restructure or reschedule ﬁnancing to those businesses and households that were most affected by the COVID-19 pandemic. Against a declining provisioning over the four quarters under review, the NPF of the NIBs requires monitoring. The participation banks in Turkey registered improved asset quality performance throughout the period under review. The sector recorded a reduction in NPF to reach 2.9% as at end-4Q’21, while provisioning increased from 79.5% to 85.0% during the same period. The improved performance in NPFs of the Turkish participation banks- 92 93 82 For an explanation of the various stages of recognising ECL, see: https://www.pwc.com/gx/en/audit-services/ifrs/publications/ifrs-9/ifrs-in-depth-expected-credit-losses.pdf State-Bank (sbp.org.pk) ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
could be explained by the decision of the Banking Regulation and Supervision Agency (BRSA) to extend the period of Stage 2 and NPL classiﬁcation flexibility that was in effect until 3Q’21, along with debt restructuring and instalment deferral practices. Moreover, the CBRT’s gradual tightening of monetary policy and the reduction in the maturity of consumer loans since 3Q’20 helped to reduce ﬁnancing growth and, by extension, the NPFs. Even when these measures were being gradually suspended in 3Q’21,94 increased provisioning, a strong increase in credit volume and the rapid recovery in economic activity are expected to provide the requisite boost to keep the NPF within manageable limits.95 2.1.6 Capital Adequacy The capital structure of the Islamic banking industry remained stable and strong in the current reporting period. The average total and average Tier-1 capital adequacy ratios (CARs) of the global Islamic banking industry as at end-4Q’21 were 18.2% and 16.2%, respectively (see Chart 2.1.6.1). Chart 2.1.6.1 Global Islamic Banking Average Capital Adequacy Ratios (1Q’19–4Q’21) 18.2% 18.2% 18.3% 18.6% 18.4% 18.1% 18.2% 18.2% 18.3% 17.8% 18.4% 17.1% 16.0% 16.1% 16.1% 16.2% 15.9% 16.1% 16.4% 16.0% 16.2% 16.2% 3Q’21 4Q’21 15.7% 15.1% 1Q’19 2Q’19 3Q’19 4Q’19 1Q’20 2Q’20 Weighted average total capital 3Q’20 4Q’20 1Q’21 2Q’21 Weighted average Tier-1 capital Source: PSIFIs. The Islamic banking industry across many jurisdictions entered the pandemic-induced crises with stable CARs and Tier-1 capital to risk-weighted assets (RWA) ratios that were also well above the IFSB’s and respective jurisdictions’ regulatory thresholds. There are a couple of countries, however, where both of these regulatory capital ratios show worryingly low levels on average, implying almost certainly that some Islamic banks in those jurisdictions have signiﬁcantly lower ﬁgures. Perhaps some of these Islamic banks may be hovering on the brink of failure, with possible knock-on effects to other banks. The various policy measures put in place across jurisdictions have also helped to ensure that the regulatory capital ratios do not decline below the regulatory minimum on account of the outbreak of the COVID-19 pandemic. Country-by-country representations of the CAR and Tier-1 capital ratios are shown in Charts 2.1.6.2 and 2.1.6.3, respectively. 94 95 For instance, the suspension of the 90-day overdue period for loans to be classiﬁed as NPLs (now 180 days) and of the 30-day overdue period for loans to be classiﬁed as loans under close monitoring (now 90 days). In March 2020, the BRSA increased the payment deferral period for NPFs from 90 days to 180 days until 31 December 2020. The period for the delayed payment of Stage 2 loans was also increased, from 30 days to 90 days. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 83
Chart 2 .1.6.2 Islamic Banking Average Total Capital Adequacy Ratio for Stand-Alone Islamic Banks by Country (4Q’20–4Q’21) 18.8% 18.3% 20.1% 18.1% 18.8% 17.8% 4Q’21 UK UAE Turkey Sudan Saudi Arabia Qatar Palestine Pakistan Oman Nigeria Malaysia Libya Kuwait Indonesia Brunei Bangladesh Bahrain 7.1% 11.5% 19.5% 19.4% 19.1% 18.5% 15.7% 15.2% 16.0% 16.9% 16.6% 14.5% 18.1% 17.0% 21.1% 20.0% 18.6% 18.2% 17.7% 18.6% 21.6% 19.2% 17.9% 12.8% 17.9% 12.7% 17.8% 25.7% 4Q’20 Source: IFSB Secretariat workings based on PSIFIs. Chart 2.1.6.3 Islamic Banking Average Tier-1 Capital Adequacy Ratio for Stand-Alone Islamic Banks by Country (4Q’20–4Q’21) 17.3% 16.8% 17.0% 18.9% 14.4% UK UAE Turkey 7.3% Sudan Saudi Arabia Qatar Palestine Pakistan Oman Nigeria Malaysia Libya Kuwait Indonesia Brunei 4Q’21 6.0% 14.3% 17.7% 17.7% 18.0% 17.5% 14.3% 14.3% 12.8% 13.2% 16.0% 13.5% 17.9% 16.8% 21.0% 19.9% 14.8% 14.6% 15.9% 16.9% 20.0% 19.0% 17.9% 8.6% Bangladesh Bahrain 7.6% 16.4% 16.0% 24.3% 4Q’20 Source: IFSB Secretariat workings based on PSIFIs. The GCC countries’ Islamic banking industries remained well capitalised, with regulatory capital ratios well above the thresholds set by the Basel Committee on Banking Supervision (BCBS) and the IFSB, as well as the regulatory minimum set by the respective RSAs.96 Reasons for the improved performance vary across the countries in the region. For instance, in Oman, the increase in CAR was derived from the internal generation of capital from retained earnings due to an increase of Islamic banks’ income during 2021. In Saudi Arabia, this was mainly a result of the growth in risk-weighted assets (RWAs) that outpaced the growth in total capital. An analysis of capital components indicates that the Saudi Islamic banking sector continues to maintain an excellent quality of capital, as common equity Tier-1 (CET1) capital accounts for 91.1% of the regulatory capital. The sector is expected to register a further capital growth, as a leading Islamic bank in Saudi Arabia, Al Rajhi Bank, has received approval from the CMA of Saudi Arabia to raise capital of USD 11 billion to enhance its operational efﬁciency, growth and capacity to support the kingdom’s “Vision 2030”. 96 84 For instance, while the Central Bank of Bahrain set 12.5% and 10.5% for both the CAR and Tier-1 Capital to RWA ratios, the Central Bank of Kuwait has lowered the CAR requirements to 10.5% from 13% by allowing banks to utilise their capital conservation buffers. Risk weights for SMEs were also lowered, from 75% to 25%. The minimum requirement prescribed by the Central Bank of Oman was 13.5%, which was reduced to 12.25% in March 2020 to counter the economic effect of the COVID-19 pandemic in Oman. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
In the SEA region , Brunei’s Islamic banking sector has shown a declining trend of the regulatory capital ratios during the period under review. Notwithstanding the decline, the regulatory capital of the Islamic banking sector is well above the regulatory minimum of 10.0% set by the Brunei Darussalam Central Bank. The Islamic banking sector in Indonesia continues to report CARs well above the regulatory minimum requirement. This was due to the build-up in regulatory capital as proﬁtability increased. This performance has indicated the capacity of Islamic banking in Indonesia to withstand balance sheet shocks and unexpected losses, especially from COVID-19. Similarly, the Malaysian Islamic banking sector continued to report stable and consistent capital above the regulatory minimum. The improvement in earnings from operations has enabled banks to preserve healthy capital buffers. Moreover, Bank Negara Malaysia has raised lending limits and reiterated that capital and liquidity buffers can be drawn down by banks. In the MESA region, despite registering a slow growth, the regulatory capital of the Islamic banks across the countries remains higher than their respective regulatory thresholds97 as at end-4Q’21. The slow growth could be attributed to reduced retained earnings due to rising NPFs and the need to keep higher loss provisions. More speciﬁcally, in Pakistan, expansion in advances contributed to an increase in credit RWAs, while Islamic banks’ regulatory capital increased at a relative lower pace of 9.1%. An analysis of capital components indicates that Islamic banks in Palestine continue to maintain an excellent quality of capital, with a Tier-1 capital account for 91.2% of the regulatory capital and 14.3% of RWAs. The improving trend in CAR for the NIB sector in Nigeria continued in 4Q’21 to end the quarter at 18.1%. The CAR for the NIB sector was well above the 10% threshold set by the CBN and the 15.5% registered by the entire banking system as at end-Q3’21. In contrast, the Sudanese Islamic banking sector registered a decline in CAR due to an increase in RWAs, which was more than offset by the increase in total qualifying capital of the banks. Though the Sudanese banks are yet to begin compliance with Basel III, they are nonetheless undercapitalised. Their capital buffers are deemed to be fragile, given upward pressure on RWAs due to devaluation of the Sudanese Pound as well as limited economic growth prospects amid political instability. The participation banking sector in Turkey recorded a decline in regulatory capital indicators during the period under review. At end-4Q’21, the CAR and Tier-1 capital to RWA ratios were 18.8% and 14.4%, respectively. Notwithstanding, the regulatory CAR was above both the regulatory threshold of 8.0% and the targeted threshold of 12.0% set by the BRSA. The decline in CAR was due to the growth in RWAs by 31.4% compared to the end of 3Q’20 amid the increase in ﬁnancing by 16.7% during the same period. The growth in income slowed to 9.1%, showing there was a lower support from income to build up the capital base compared to the faster growth in ﬁnancing. 97 In Bangladesh, the minimum requirement is set at 10.0% with at least 6.0% as Tier-1 capital ratio. In Pakistan, the regulatory benchmark is 11.5%, while in Palestine it is 13%, including a capital conservative buffer of 2.5%. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 85
2 .1.7 Leverage The leverage ratio98 is a measure that acts as a supplement to risk-based capital requirements in order to help restrict the build-up of leverage and to prevent damage to the ﬁnancial system and the economy as a result of any deleveraging process. As per the BCBS and IFSB standards, the leverage ratio is applicable at the level of 3%. The regulatory leverage ratio was reported by 15 PSIFI-participating jurisdictions, all of which (apart from Sudan) have exceeded the 3% requirement (see Chart 2.1.7.1). The leverage ratio of the Sudanese Islamic banks dropped to 1.8% at the end of 4Q’21 compared to 2.0% at the end of 4Q’20, due mainly to the steep depreciation of the Sudanese Pound. Generally speaking, Islamic banks are less prone to engaging in highly leveraged products, because Sharī`ah requires in principle that all ﬁnancing be linked to transactions in the real economy – that is, production and trade transactions and activities. Similarly, there are restrictions on debt trading and engaging in products involving undue and excessive speculation (gharar). At the same time, risk-sharing means of raising funds are encouraged. The combination of these measures seriously limits the leverage effects in Islamic ﬁnance, although it does not completely eradicate this phenomenon. Only to a limited extent do Islamic banks use return-paying deposits to leverage their capital. Although they may use unremunerated current accounts for this purpose, with few exceptions such current accounts do not constitute the bulk of an Islamic bank’s funding. Unrestricted PSIAs have historically been one of the major sources of funds for Islamic banks. Similarly, Islamic banks do not become involved in transactions involving gharar or other leveraged transactions, such as collateralised debt obligations or resecuritisations. Nonetheless, there are a few practices and transactions that may involve Islamic banks in leveraged transactions. Some offer a commodity murabahah transaction (CMT) for liquidity ﬁnancing to their customers as well as for raising deposits. Reverse CMT-based deposits are a form of leverage, which, together with CMT-based term ﬁnancing, has the potential to create unlimited debt in the system. Based on the factors highlighted above, the IFSB considers it prudent that RSAs that are yet to implement the leverage ratio requirements in their jurisdictions are highly encouraged to do so. Chart 2.1.7.1 Islamic Banking Leverage Ratio by Country (4Q’20–4Q’21) 9.3% 10.2% 13.6% 8.1% 7.8% 7.5% 7.4% UK UAE Turkey 2.0% Sudan Saudi Arabia Qatar Palestine Pakistan 1.8% 5.0% 5.3% Oman Nigeria Malaysia Libya Kuwait Indonesia Brunei Bangladesh Bahrain 12.8% 13.1% 12.7% 12.8% 11.7% 13.6% 12.1% 6.6% 6.0% 7.9% 7.0% 9.9% 9.2% 10.2% 6.8% 7.1% 5.5% 5.4% 4.2% 9.2% 8.3% 10.6% 4Q’21 10.6% 4Q’20 Source: PSIFIs. 98 86 Leverage ratio = Tier-1 capital / total exposure. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
2 .2 Assessment of the Islamic Capital Market’s Resilience and Stability The global ﬁnancial system was fairly resilient in 2021, with favourable external ﬁnancial conditions, due largely to continuing policy support. However, the extraordinary policy measures have also created global concern that they may create unintended risks for ﬁnancial stability, such as a rise in excessive risk taking and stretched valuations as well as elevation of ﬁnancial vulnerabilities across countries. The possible repricing of risk and an abrupt tightening of ﬁnancial conditions could exacerbate the existing ﬁnancial vulnerabilities and affect conﬁdence in and the stability of the capital markets, particularly in emerging markets. The move towards policy normalisation after COVID-19, especially by advanced economies, could tighten ﬁnancial conditions for emerging and developing markets and result in large portfolio outflows, presenting challenges in fulﬁlling their ﬁnancing needs. Alongside this risk, emerging markets may also be exposed to rollover risk, if domestic inflation and global long-term interest rates continue to increase. Many corporates also emerged from the pandemic highly indebted, which may present the risk of increasing defaults or the need for restructuring as policy support is retracted in 2022. Alongside these developments, the impact of the evolving geopolitical risks can present implications for the stability of the ﬁnancial markets as a whole and for the Islamic capital markets, especially if downside risks materialise. In particular, the war in Ukraine and the sanctions on Russia with the resulting impact on global commodity prices can present challenges for the markets, including an overall impact on growth, on equity prices, and on oil and gas prices (although the latter may be positive for some Islamic ﬁnance jurisdictions). The policy impact is less clear. Global interest rates may continue to rise to curb inflation, but policymakers may also hold off a little longer until the impacts are seen. The following sections assess the resilience in 2021 of Islamic capital market segments, including sukūk, Islamic funds and equity markets, and the possible implications and considerations going forward. 2.2.1 Supported by a continuation of accommodative policies, the market remained resilient in 2021, with major issuers remaining active and total outstanding reaching a new historical high. Foreign currency-denominated issuance remained largely consistent with the previous year (2020: local currency 70%; foreign currency 30%), supported in part by the large size of issuances, but also indicating sustained global market conﬁdence in the market, despite a prolonged pandemic that slowed down the easing of restrictions globally (see Chart 2.2.1.1). Foreign currency issuances were from Saudi Arabia, Turkey, Indonesia, UAE, Qatar, Bahrain, Kuwait, Oman and Maldives. Corporate issuers accounted for 64% of total foreign-denominated , although 95% were from ﬁnancial sector issuers, with only 5% coming from non-ﬁnancial sector corporates. While an increase in foreign currency debt presents the need to keep in view the debt-servicing levels of respective issuers, 59% of the foreign currency issuances in 2021 were from jurisdictions whose currencies are pegged to the USD, presenting limited foreign exchange risk. Additionally, just over half of foreign currency issuances in 2021 were investment-grade issuances. High-yield accounted for 20% of issuances, which included primarily corporate issuers and two sovereign issuers – Maldives and Oman. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 87
Chart 2 .2.1.1 Sukūk Issuances by Market (2021) 73% 27% Local currency/domestic issuances Foreign currency/international issuances Source: IFSB estimates based on data from Reﬁnitiv. The US dollar was the largest currency of issuance in 2021, owing to the large size of foreign currency issuances market, contributed to a signiﬁcant in that currency. Malaysia, with a well-established and strong domestic volume of local currency issuances, followed by Saudi Arabia, which has also continued to issue a signiﬁcant volume of local currency–denominated via the National Debt Management Centre’s unlimited SAR-denominated programme. Indonesia also saw both corporate and sovereign issuances denominated in Indonesian Rupiah, which comprised around 78% of all from Indonesia during the year (see Chart 2.2.1.2). Chart 2.2.1.2 Issuances by Currency (2021) QAR (1.6%) EURO (0.09%) TRY (1.6%) Others (2.3%) KWD (2.4%) IDR (7.8%) USD (34.2%) SAR (23.0%) MYR (26.2%) Source: IFSB estimates based on data from Reﬁnitiv. and bond markets is a good indicator of the ability to maintain The development of strong local currency ﬁnancial stability by reducing currency mismatches, particularly for jurisdictions where the currency is not pegged to the USD. Heavy dependence on foreign currency debt can have stability implications by making countries more vulnerable to large currency depreciation. A wider local base of institutional investors for domestic issuances, such as that resulting from the pension system and Islamic capital market development in general, can further contribute to the deepening of domestic markets and therefore their stability. However, markets across all jurisdictions generally remain illiquid and the domestic investor base is often narrow, with large investors adopting buy-and-hold strategies that limit liquidity as well as effective price discovery. 88 ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
Chart 2 .2.1.3 Maturity Trend of All New Issuances (2011–21) 2021 2020 2019 2018 2017 2016 2015 2014 2013 2012 2011 0% 20% 40% Source: PSIFIs. < 1 year 60% 80% 1-3 years > 3-5 years 100% > 5-10 years > 10 years In terms of the maturity trend of issuances, the volume of short-term issuances (with a tenor of less than 1 year) dropped compared to the previous year, while medium-term (with tenors of between 3–5 years and 5–10 years) increased. The trend indicated a reduction in issuance for liquidity purposes, particularly due to liquidity facilities being provided by central banks that were adequate to ease market constraints resulting from the pandemic. Additionally, an increase in the level of liquidity in GCC banks as a result of the rise in oil prices further reduced a issuances. The issuance of short-term was largely need for short-term liquidity management contributed by the IILM, Malaysia, Kuwait, Turkey and Bahrain. Indonesia, Bangladesh, Brunei and Gambia also issued short-term in 2021. Table 2.2.1.1 Demand Comparison for Selected Sukūk Name SA Global Ltd 6/24; 06/26; 6/31 Malaysia Airports Holdings Bhd 2/26; 12/28; 12/31 Malaysia Wakala Warba Tier-1 Bhd 4/31; 4/51 Ltd Perp SME Development Bank Malaysia Bhd 7/26 Indonesia Green Ahli United AT1 EI 6/26; 6/31; 6/51 Ltd Perp Company Ltd 11/2 Islamic Development Bank (IsDB) 10/2699 Issued in 2021 Issue Size (USD million) Issuer Type Tenure (Years) Rating Oversubscription (Times) 6,000 Corporate 3-10 A (Fitch) 20.0 192 Corporate 5-10 AAA (RAM) 9.0 1,300 Sovereign 10 A3 (Moody’s) 6.4 250 Corporate Perpetual Unrated 4.3 118 Corporate 5 AAA (MARC) 3.6 3,000 Sovereign 5-30 BBB (Fitch) 3.4 600 Corporate Perpetual BB+ (Fitch) 3.0 500 Corporate 5 A+ (Fitch) 2.4 1,700 Multilateral 5 AAA (Moody’s) AAA (S&P) AAA (Fitch) 1.7 Source: Various sources. 99 The IsDB Sukūk 10/26 oversubscription of USD 1.7 billion was based on original issuance size of USD 1.5 billion. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 89
Of the total number of issued in 2021 , 56.6% were offered with a maturity of more than ﬁve years. This rate indicated that remained favoured by long-term investors seeking to diversify their portfolio in Sharī`ah-compliant instruments. While issuance with maturities of 10 years or more experienced a slight contraction in 2021 compared to the previous year, longer-term issuances generally remained signiﬁcant. The relatively favourable ﬁnancing conditions that continued into 2021 encouraged issuers (both public and private) to lock in long-term ﬁnancing across the rating spectrum. In terms of rollover risk, around USD 56.85 billion will mature within the next ﬁve years, which may induce reﬁnancing risks for some issuing countries if global economic conditions worsen and may emerge as a challenge to ﬁnancial stability. A robust demand for was indicated by the number of issuances that were oversubscribed in 2021 (see Table 2.2.1.1). The continuing high demand for indicated investor conﬁdence in and a strong appetite for despite continuing market uncertainty. Issuers with sound creditworthiness proved to be able to retain investors’ interest and to secure external funding, with exceptional rates of oversubscription for issuances such as Saudi Aramco’s debut USD , which drew an oversubscription of 20x. Several Islamic ﬁnancial institutions also issued Basel III-compliant Additional Tier-1 in 2021 and the market responded positively as indicated by the oversubscription rates observed. Strong interest was also demonstrated by investors towards sustainability-related . This was reflected by successful issuances of sustainability-related from both sovereign and private issuers. Moving forward, this trend is likely to continue, considering a strong commitment by global leaders and industry players towards sustainability and climate-related initiatives as well as an increasing appetite of investors for ethical and sustainable investments. In addition to robust investor appetites for , the share of investment-grade in total outstanding has increased (see section 1.3), while the negative outlooks for issuers are decreasing.101 However, there is still a concern that issuers with unfavourable credit quality or underlying vulnerabilities may ﬁnd it more difﬁcult to sustain their operations once governments’ accommodative policy support is withdrawn as the world moves towards policy normalisation. Hence, regulators should carefully examine their responses and measures during the recovery stage to avoid creating unnecessary ﬁnancial distress, particularly where vulnerabilities have been built up, including high corporate debt. The Financial Stability Board (FSB) report on COVID-19 support measures in April 2021 identiﬁed debt overhang as a signiﬁcant risk that could arise from prolonged policy support measures. Debt overhang of corporates can slow down economic recovery of jurisdictions and pose risks to ﬁnancial stability in a number of ways, including underinvestment by viable corporates due to excessive indebtedness, misallocation of resources by ﬁnancing unviable corporates, and lower productivity. There might also be a risk of widespread defaults and insolvencies, giving rise to ﬁnancial stability risks. In terms of policy approaches to addressing debt overhang issues, the FSB highlighted in a Discussion Paper102 issued in 2022 examples of approaches to debt overhang of non-ﬁnancial corporates applied by a number of jurisdictions. The challenges posed by debt overhang issues in a post-COVID-19 environment and possible policy approaches have also been discussed in several papers published by other international organisations, including the Organisation for Economic Co-operation and Development (OECD),103 IMF,104 World Bank,105 G30106 and European Systemic Risk Board (ESRB).107 100 101 102 103 104 105 106 107 90 Excluding perpetual . Fitch Ratings. FSB (2022), Approaches to Debt Overhang Issues of Non-ﬁnancial Corporates. OECD (2021), Insolvency and Debt Overhang Following the COVID-19 Outbreak: Assessment of Risks and Policy Responses. IMF (2021), Insolvency Prospects among Small-and-Medium-Sized Enterprises in Advanced Economies: Assessment and Policy Options. World Bank (2021), The Calm before the Storm: Early Evidence on Business Insolvency Filings after the Onset of COVID-19. G30 (2020), Reviving and Restructuring the Corporate Sector Post-Covid: Designing Public Policy Interventions. ESRB (2021), Prevention and Management of a Large Number of Corporate Insolvencies. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
A number of restructurings and defaults were announced in 2021 , including PT Garuda Indonesia’s default on its USD 500 million after it failed to meet its obligations post-restructuring in the prior year, as well as Serba Dinamik Holdings Berhad, which defaulted on its USD 222.22 million . Another issuer from Malaysia, MEX II Sdn Bhd which is a privately owned Malaysian highway concessionaire, was also declared as defaulted after investors rejected its proposal for restructuring and deferment of payments due on 31 December 2021. Earlier, in October 2021, its group company, MEX I Capital Bhd, also requested to restructure its mushārakah , which was approved. The higher-than-normal number of defaults and restructurings in 2021 present some concern that even more defaults will materialise as the favourable conditions over the past two years created by pandemic-related policy measures are reversed. It is also noteworthy that many -issuing jurisdictions are still lacking in terms of providing effective legal enforcement mechanisms to deal with cases of default. The lack of clarity and certainty for restructuring and resolution is just one obstacle the IFSI needs to address in order to develop the market and establish investors’ conﬁdence. In recent years, greater diversity in the use of Sharī`ah-compliant contract types and a more balanced distribution between different contract types has been observed. In 2021, wakalah-based contracts constituted the largest share of issued, followed by murābahah-based, hybrid and ijārah-based . The increase in wakalah-based issuances was contributed to by issuances from the IsDB and Dubai Islamic Bank, as well as by sovereign issuances from Malaysia and Indonesia. Malaysia also contributed to a large proportion of murābahah issuances. While the utilisation of mudarabah contracts has grown more recently due to the increase in issuances of AT1 by Islamic banks, the overall use of proﬁt-sharing contracts in general is still low compared to ﬁxed-return contracts, which are more desirable to the market, especially during times of turbulence and increased uncertainty. Chart 2.2.1.4 Issuances by Structure (2021) Mudārabah (5.3%) Mushārakah (0.8%) Others (7.2%) Wakālah bil istithmar (27.3%) Ijārah (16.9%) Hybrid (17.7%) Murābahah (24.8%) Source: IFSB estimates based on data from Reﬁnitiv. issuances in 2021 continued to be well balanced across regions, with The geographic distribution of strong interest from both regional and international markets. While issuances attracted strong domestic and regional subscription rates, as well as signiﬁcant allocation to other core Islamic ﬁnance regions, there was also notable interest from investors in non-Islamic jurisdictions, such as Europe/US and other markets, including for sustainability-related . ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 91
Chart 2 .2.1.5 Geographical Distribution of Selected FAB Papers Issued in 2021108 Company Ltd 1/26 IsDB 10/26 IsDB 3/26 Malaysia Wakala Bhd 4/51 Malaysia Wakala Bhd 4/31 0% 20% 40% 60% Source: Various sources. 80% 100% MENA Asia EMEA Europe US/Others International While there are data gaps in terms of investor distribution in the market, based on the limited data available, fund managers showed substantial interest in long-term issuances, including sustainability-related issuances. Central banks, as well as banks, showed a strong preference for investment-grade USD issuances, consistent with the past trend. Chart 2.2.1.6 Investors’ Breakdown of Selected Papers Issued in 2021 IsDB 3/26 IsDB 10/26 Malaysia Wakala Bhd 4/51 Malaysia Wakala Bhd 4/31 0% 20% 40% Source: Various sources. 60% Banks/Private Banks Fund Managers 80% CBs/SWF 100% Others During the 2011–21 period, the yields for the majority of outstanding (79%) were between 1.5% and 5% (see Chart 2.2.1.7). However, compared to the previous year, the trend has shifted to lower yields in 2021 (whereas the majority of outstanding were concentrated in the 3–5% yield bucket in 2020). This shift in trend could be due to several possible reasons, including increasing investor conﬁdence in markets and the increasing flow of funds into the market, which is pushing down yields. Another contributing reason may have been the improvements in credit ratings for issuers in 2021. Chart 2.2.1.7 Outstanding Volume of by Yield Bucket (%) (2011–21) > 10 > 5-10 > 3-5 > 1.5-3 < 0-1.5 0% 20% 40% 60% Source: IFSB estimates based on data from Reﬁnitiv. 108 92 EMEA (Europe, Middle East and Africa). ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
2 .2.2 Islamic Funds The Islamic funds market remained resilient despite the prolonged pandemic and ongoing uncertainty in 2021. The performance of Islamic funds is largely dependent on the performance of the assets they manage (including the performance of the Sharī`ah-compliant equities and that the funds invest in). Thus, the overall growth and resilience trends seen across the and equity markets in 2021 have also been reflected in the Islamic funds market. Financial stability issues related to Islamic funds are also comparatively more limited compared to their conventional counterparts, due to the absence of riskier fund categories, including hedge funds and stable net asset value money market funds, as well as the overall smaller size of the funds segment. The asset size composition of Islamic funds did not demonstrate any signiﬁcant change compared to 2020 (Chart 2.2.2.1). The issue of scale of funds continues to remain a challenge for the Islamic funds segment. Chart 2.2.2.1 Number of Islamic Funds by Asset Size (USD million) (2017–21) 2021 33.2% 2020 32.2% 2019 32.4% 30.5% 2018 33.3% 30.2% 2017 27.4% 21.1% 26.5% 38.3% 18.2% 23.0% 18.2% 22.1% 13.9% 23.4% 13.0% 30.9% Source: IFSB estimates based on data from Reﬁnitiv. 20.4% < USD5mln > USD25mln-USD95mln 10.4% USD5mln-USD25mln > USD95mln Chart 2.2.2.2 Islamic Fund Assets by Asset Class (2021) Mixed Allocation (4.2%) Others (0.2%) Real Estate (5.0%) Fixed Income (8.2%) Commodity (14.4%) Money Market (39.5%) Equity (28.6%) Source: IFSB estimates based on data from Reﬁnitiv. Consistent with the previous trend, Islamic funds are mainly concentrated across money market, equity asset and commodity classes, followed by relatively smaller shares distributed across ﬁxed income, real estate, mixed allocation and other funds (see Chart 2.2.2.2).109 Although the trend towards diversiﬁcation across Islamic fund asset classes has continued, it has not yet signiﬁcantly altered the overall asset class mix of Islamic funds. 109 Noting the limitation in data availability, as the databases used may not capture all funds. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 93
From a ﬁnancial stability perspective, effective liquidity management of money market funds (MMFs) (which constitute the largest share of Islamic funds) and other open-ended funds remains the most important concern, particularly in the case of exogenous shocks. Liquidity mismatches could be a potential source of vulnerability, particularly given the higher share of MMFs. MMFs can be susceptible to sudden and disruptive redemptions and may face challenges under stressed conditions, particularly if there are large outflows. Thus, ensuring that there are effective policy options to address such potential vulnerabilities in MMFs remains important to ensure ﬁnancial stability. While the segment has remained largely resilient during the pandemic, strengthening liquidity management is important to ensure that the sector is not vulnerable in the event of large-scale outflows. 2.2.3 Islamic Equity Markets Equity markets maintained a remarkable buoyancy, bolstered by continuing accommodative ﬁnancial conditions despite ongoing uncertainties. While equity markets saw an overall climb during the year, markets saw declines during September in response to concerns about inflationary pressures, supply chain bottlenecks and fears over the bankruptcy of the Chinese property developer Evergrande, which resulted in broad sell-offs in global markets. However, markets rebounded quickly, reflecting a continued strong risk appetite. Chart 2.2.3.1 Returns of Equity Indices 350 300 250 200 150 100 50 0 2012 2013 Source: Reﬁnitiv. 2014 2015 2016 2017 2018 Dow Jones Global Index 2019 2020 2021 Dow Jones Islamic Market World Index Nonetheless, equity markets continue to present concerns of stretched valuations and susceptibility to market corrections. Possible market corrections could be triggered by a slower-than-expected economic recovery or an adjustment in market expectations regarding the prospective policy path to normalisation. The ﬁrst quarter of 2022 was characterised by sell-offs in equity markets due to expectations of a US interest rate hike and worry over rising inflation, with a further sell-off resulting from the Russian invasion of Ukraine. However, the market remained generally more stable than expected in the wake of the Russia–Ukraine war, although it continues to be vulnerable to a correction. While Islamic equity indices continued to outperform their conventional equivalents, emerging market indices underperformed compared to developed market indices in 2021, with China accounting for the bulk of the underperformance. In terms of the recovery of equity markets since the initial crash at the start of the pandemic in 2020, while emerging markets fared better in terms of the size of the initial crash compared to developed markets, both developed and emerging markets indices rebounded from the crash largely in parallel in 2020. However, in 2021, the performances of emerging and developed market Islamic indices diverged, with a weaker performance in emerging market indices across the year (Chart 2.2.3.2), although there was signiﬁcant variability across regions (Chart 2.2.3.5). The underperformance of emerging markets in 2021 stemmed from lower vaccination rates in emerging markets, as well as from a downturn in the Asia-Paciﬁc region, contributed to largely by negative returns in China. On the other hand, Islamic indices in the European region showed positive returns, while the GCC market performed exceptionally well due to the rise in oil prices (Chart 2.2.3.3). 94 ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
Nonetheless , equity markets continue to present concerns of stretched valuations and susceptibility to market corrections. Possible market corrections could be triggered by a slower-than-expected economic recovery or an adjustment in market expectations regarding the prospective policy path to normalisation. The ﬁrst quarter of 2022 was characterised by sell-offs in equity markets due to expectations of a US interest rate hike and worry over rising inflation, with a further sell-off resulting from the Russian invasion of Ukraine. However, the market remained generally more stable than expected in the wake of the Russia–Ukraine war, although it continues to be vulnerable to a correction. While Islamic equity indices continued to outperform their conventional equivalents, emerging market indices underperformed compared to developed market indices in 2021, with China accounting for the bulk of the underperformance. In terms of the recovery of equity markets since the initial crash at the start of the pandemic in 2020, while emerging markets fared better in terms of the size of the initial crash compared to developed markets, both developed and emerging markets indices rebounded from the crash largely in parallel in 2020. However, in 2021, the performances of emerging and developed market Islamic indices diverged, with a weaker performance in emerging market indices across the year (Chart 2.2.3.2), although there was signiﬁcant variability across regions (Chart 2.2.3.5). The underperformance of emerging markets in 2021 stemmed from lower vaccination rates in emerging markets, as well as from a downturn in the Asia-Paciﬁc region, contributed to largely by negative returns in China. On the other hand, Islamic indices in the European region showed positive returns, while the GCC market performed exceptionally well due to the rise in oil prices (Chart 2.2.3.3). Chart 2.2.3.2 Chart 2.2.3.4 350 25 300 20 250 15 200 10 150 5 100 0 50 -5 0 (%) -10 2016 2017 2018 2019 2020 2021 2021 Dow Jones Islamic Market World Emerging Markets Index 3Yr DJIM Developed 5Yr 10Yr DJIM Emerging Dow Jones Islamic Market Developed Markets Index Chart 2.2.3.3 25 300 Chart 2.2.3.5 (%) 20 250 15 200 10 150 5 0 100 -5 50 -10 -15 0 2016 2017 2018 2019 2020 2021 2021 3Yr 5Yr Dow Jones Islamic Market World Emerging Markets Index DJIM Greater China DJIM Asia Paciﬁc Dow Jones Islamic Market Developed Markets Index DJIM Europe DJIM GCC 10Yr Dow Jones Islamic Market Developed Markets Index Source: Reﬁnitiv. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 95
2 .2.4 Islamic Capital Market Stability Outlook 2022 Looking forward, the stability outlook for the ICM will largely be shaped by the pace of economic recovery in Islamic ﬁnance jurisdictions and the materialisation of downside risks. Thus far, policy measures and recovering economic conditions have ensured resilience in the ICM and eased immediate risks to ﬁnancial stability. However, adverse geopolitical developments and other downside risks also have the potential to slow down recovery and exacerbate existing vulnerabilities. As post-pandemic recovery begins, corporate fragility remains high in sectors that were more heavily impacted by pandemic restrictions. Thus, more vulnerable and highly leveraged ﬁrms could be challenged by the scaling-back of policy support, and debt sustainability concerns may emerge in the medium term given debt accumulation during the pandemic. However, short-term risks due to the pandemic have lessened considerably compared to the previous year as a result of improved economic conditions, the easing of pandemic restrictions and a decline in near-term vulnerabilities for sovereigns and corporates, although there is heterogeneity at the country and regional levels. In particular, the recovery in emerging markets, including most of the major Islamic ﬁnance jurisdictions, is likely to be varied. Growing vulnerabilities in major emerging market economies, such as the strains experienced in China, may add to the risks to recovery in some regions. Geopolitical risks that may cause further surges in oil prices can impact ICM growth and slow recovery in some regions while being a positive factor in others. While government action was instrumental in avoiding deeper pandemic-related impacts on economies thus far, there are also concerns that they may have added to medium-term sovereign debt challenges in some jurisdictions, particularly for the more highly indebted countries. The build-up of medium-term vulnerabilities should be an area of attention, particularly where there has been an increase in debt levels in the corporate and public sectors due to the pandemic. These vulnerabilities could unravel in a disorderly manner if markets experience shocks such as an abrupt change in market expectations regarding the pace of policy normalisation, or a premature withdrawal of government support to non-ﬁnancial sectors, or the impact of the current geopolitical instability on markets. The potential for these vulnerabilities to materialise simultaneously and to amplify each other can further increase the medium-term risks to ﬁnancial stability. Policymakers have also recognised this shift towards medium-term risks and are moving from providing short-term support towards addressing ﬁnancial stability vulnerabilities that are further ahead. While ﬁscal, supervisory and monetary policies largely remained supportive in 2021 and early 2022, avoiding strong adverse real-ﬁnancial feedback loops, policy direction is starting to shift from containing the economic impact of the pandemic and ensuring the near-term recovery, to managing the medium-term risks to ﬁnancial stability. As discussed earlier, there is also a growing divergence between emerging and developed economies. Emerging market equities started to underperform global equities over the course of 2021. Adverse developments in emerging markets can potentially lead to spillovers across other markets through a decline in global demand. Some emerging markets also play a key role in global supply chains, and disruptions may also further fuel inflationary pressures. The sharp increase in energy commodity prices has also contributed to rising global inflationary pressures, which poses wider risks to the recovery and to markets. The second half of 2021 saw sharp increases in energy commodity prices due to insufﬁcient supply in combination with low reserves. The sanctions on Russia in 2022 have resulted in a further surge in prices, which can affect industries that rely heavily on these commodities, as well as having a negative impact on growth and weighing on market conﬁdence. Corporate defaults may also be triggered in the event of unhedged exposures. 96 ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
While there has been a widespread rise in inflation rates around the world due to the aforementioned factors , a more persistent high inflation scenario could translate into an untimely tightening of ﬁnancial conditions and slow down economic recovery. Additionally, the buoyant ﬁnancial asset price developments in recent years raise concerns about overvaluation and vulnerabilities from increasing mispricing in some ﬁnancial and tangible assets that might result in market corrections, which can also affect Islamic markets. On the whole, while global risks present potential downside scenarios, the Islamic capital market is expected to remain relatively resilient under adverse conditions given the fundamental Sharī`ah principles it follows, which reduces its exposure to speculative and riskier segments of the ﬁnancial market. The continued growth potential of the ICM is also supported by high investor appetite, reﬁnancing needs and funding diversiﬁcation strategies, as well as by Islamic ﬁnance development agendas in some jurisdictions. However, as discussed above, the outlook is affected by high uncertainty due to geopolitical factors and other downside risks, as well as climate change-related risks that pose several challenges. Climate-related risks remain difﬁcult to assess and measure; they may involve a longer time horizon and are unpredictable as to when they will materialise. In addition, political and security issues also further fuel the vulnerability, uncertainty, complexity and ambiguity of the current condition. Furthermore, these emerging challenges could also bring new opportunities for acceleration in issuance, particularly coming from sovereign entities, multilateral organisations or development agencies, as well as private companies. Aiming at transitioning towards a more sustainable Islamic ﬁnance industry, the aforementioned market can be an attractive alternative. institutions will require signiﬁcant funding for which the ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 97
2 .3 Takāful: Assessment of Resilience This section outlines the assessment of resilience of the takāful sector in 2020 based on two key performance metrics – proﬁtability and underwriting performance – commonly used for the insurance sector. Countries considered are those where the takāful sector has achieved a notable presence.110 Assessment of resilience of the takāful sector is based on takāful operators’ (TOs’) underwriting performance measured by the extent that the underwriting and other operating expenses are curtailed to a lower level than the difference between premium contributions and claims payments. Poor claims management could lead to a rise in loss payments, besides the possible external factors such as the prevailing economic condition, market competition, political interest or catastrophes.111 The assessments are presented in country-level aggregates for proﬁtability and underwriting performance metrics based on 2020 year-end data, and in comparison, with average data of the previous three years (2017–19).112 In addition, the discussion of underwriting performance metrics follows business segments (i.e. general and family business), in order to reflect their peculiarity. However, the same cannot be applied to proﬁtability and earnings performance indicators. This is due to different operating structures across countries (i.e. composite, general and family), and the difﬁculties encountered in data segmentation of some items in the ﬁnancial statements such as expenses and assets in takāful undertakings (TUs) with composite business. Generally, TOs have the overarching goal of growing top-line revenue (contributions) and bolstering bottom-line proﬁtability, the outcomes mostly influenced largely by the macroeconomic environment and other market dynamics. Some of these are within the scope of the operators (i.e. pricing of risk, underwriting discipline and risk management framework), whereas others (e.g. a low investment return environment, catastrophe-related losses and political instability) are not within the industry’s control. The capacity of the takāful sector to build the resilience needed to overcome these challenges will determine its viability over the long term. 2.3.1 Proﬁtability/Earnings Performance The traditional proﬁtability/earning metrics (e.g. return on assets and return on equity) used to assess overall returns and proﬁtability of a conventional insurer over a given period can equally be applied to the takāful market for a similar purpose.113 Therefore, it may be necessary to aggregate the two income statements of a TU (policyholder and shareholder funds) and eliminate any balances between them so as to avoid double-counting. Generally, the takāful sector in a majority of the markets represented in Chart 2.3.1.1 reported positive ROA in 2020, with the exception of Bahrain (–0.02%) and Kuwait (–14.7%). According to the trend shown in the chart, ROA was better than expected in a number of the markets in 2020 compared to the average of the previous three years (2017–19). Lower volume of claims in motor, medical, and property and casualty (P&C) lines as a result of pandemic-related containment measures, offsetting losses from event and travel cancellation, and trade credit business contributed to the improvement in the ROA and the overall proﬁtability of the sector. 110 111 112 113 98 Speciﬁcally, these include the GCC countries (Saudi Arabia, UAE, Kuwait, Bahrain, Qatar and Oman), Middle East and South Asian countries (Iran, Jordan, Pakistan and Bangladesh), and South-East Asian countries (Malaysia, Brunei and Indonesia). A rise in claims payments does not necessarily lead to a rise in the loss ratio, especially, for example, in some circumstances where a rise in earned contributions after retakāful/reinsurance commission could even result in a lower loss ratio. The assessment metrics do not include capital adequacy because the metrics vary dramatically across the markets. Also, the data are not readily available. Liquidity metrics are excluded because liquidity is much less important in takaful compared to the banking sector. Unlike a conventional insurer, a typical takāful undertaking’s income statement has two separate sections (policyholder and shareholder funds). ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
Chart 2 .3.1.1 Return on Assets (%) (2017–19 and 2020) 2017-2019 0.8 Pakistan Saudi Arabia Brunei Pakistan Malaysia Bahrain Kuwait UAE Jordan Oman Qatar Indonesia Bangladesh -14.6 -0.17 2.1 0.9 0.2 0.32 3.3 2.4 1.4 0.0 1.3 3.61 1.8 1.7 4.0 3.0 5.3 7.84 2.9 4.5 3.9 6.0 1.7 5.47 13.0 2020 Source: IFSB Secretariat workings. Bangladesh and Brunei achieved the highest ROA above 5%, and relatively positive growth return was attained in the following countries: Qatar (4.5%), Malaysia (2.4%), Saudi Arabia (2.1%) and Pakistan (0.80%). During the same period, ROA in countries such as Jordan, Indonesia, Iran and Oman declined, compared to the average of the past three years (2017–19), although it remained positive. 2020 2017-2019 8.4 3.7 1.7 0.0 7.5 9.0 Pakistan Saudi Arabia Bahrain Jordan Brunei Kuwait Malaysia Oman Indonesia Qatar Bangladesh UAE -30.2 2.8 5.6 6.0 9.0 14.8 15.5 2.9 2.2 7.8 9.6 12.0 14.0 11.0 8.3 7.2 14.0 26.4 Chart 2.3.1.2 Return on Equity (%) (2017–19 and 2020) Source: IFSB Secretariat workings. The ROE trailed a trend similar to ROA in 2020 across the markets, although with a relatively wider margin ranging from a low of –30.23% to a high of 15.5% (Chart 2.3.1.2). Brunei achieved the highest ROE (26%) in 2020. During the same period, a marked improvement in ROE was shown in Malaysia (15.5%), Bangladesh (13.95%), Qatar (12.03%), Pakistan (8.36%) and Saudi Arabia (7.52%). The UAE (8.25%), Oman (6.05%), Jordan (6%), Iran (5.8%) and Indonesia (2.27%) maintained a positive ROE, but with a slight decline. The ROE trailed a trend similar to ROA in 2020 across the markets, although with a relatively wider margin ranging from a low of –30.23% to a high of 15.5% (Chart 2.3.1.2). Brunei achieved the highest ROE (26%) in 2020. During the same period, a marked improvement in ROE was shown in Malaysia (15.5%), Bangladesh (13.95%), Qatar (12.03%), Pakistan (8.36%) and Saudi Arabia (7.52%). The UAE (8.25%), Oman (6.05%), Jordan (6%), Iran (5.8%) and Indonesia (2.27%) maintained a positive ROE, but with a slight decline.114 114 Note that this does not apply to all countries. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 99
The improvement in earnings in Saudi Arabia in 2020 was a huge turnaround compared to the same period in 2019 , when overall proﬁtability shrank by 11.7%. Similarly, the growth in operating proﬁts in the UAE despite an increase in the market-wide loss ratio in 2020 can be attributed to the improved investment markets combined with low claim frequencies due to pandemic-related lockdowns. Confronted with similar circumstances, TOs in Oman managed to achieve positive returns, but net proﬁt shrank by 15.8% to USD 11.5 million. The general takāful business in Pakistan generated an underwriting proﬁt of USD 162,000 (PKR 26 million) in 2020, on the back of considerable gains in net contribution revenue. During the same period, the surplus reserve in the policyholders’ funds rose by 4.8% due to a signiﬁcant increase in net realised gains on investments, which covered the increases in net takāful beneﬁts and other expenses. The takāful sector in a number of countries, including Malaysia, Jordan and Qatar, beneﬁted from a lower volume of claims in motor and from a modest exposure to pandemic-related claims, leading to a strong improvement in operating performance in 2020. On the other hand, TOs in Kuwait reported that proﬁts plunged by 890.4%, recording a net loss of USD 20.6 million. These unexpected and severe technical losses were attributed to lower business activity, high competition and a sharp decline in asset prices. In the family takāful segment, the overall impact on proﬁtability depends on the extent of an operator’s exposure to mortality or longevity risk.115 Additionally, the investment-linked family products suffered decreased investment returns, which mainly occurred over the ﬁrst half of 2020 (sometimes reaching negative returns); they recovered partially over the second half of the year, albeit less acutely, due to diminishing proﬁt margins. 2.3.2 Underwriting Performance and Risk Sound underwriting performance is mostly determined by a TO’s product pricing decision, risk selection and claims management. It is a key element in determining a TU’s proﬁtability and income generation, especially during a low investment yield environment. The pandemic has forced many TOs to review their strategies and focus on products that guarantee optimum underwriting performance. Usually, takāful products, by their nature, tend to lean towards the retail segment, which was signiﬁcantly affected by the pandemic. However, these products tend to be exposed to lower claims severity as their customers are mainly individuals or SMEs that purchase personal and retail risk coverage, as opposed to large commercial and possibly long-tail risks. Similar to conventional insurers, the indicators used to assess underwriting performance and risks of a typical TU or market are the loss ratio, the expense ratio and the combined ratio. Loss Ratio The loss ratio measures the actual impact of incurred losses on participants’ risk funds (PRF). Under the wakālah and mudārabah takāful models, the PRF is segregated from the operator’s fund. An operator’s goal is to achieve a loss ratio below 100% to prevent the need for qard (although any gap could be partly bridged by investment earnings on PRF assets). Therefore, the sufﬁciency of the PRF to cover the actual losses incurred as measured by the loss ratio is an indication of underwriting performance. Mostly, variabilities in this metric are caused by both externalities, such as economic factors (i.e. market competition, price/underwriting cycles), and catastrophic losses (e.g. natural disasters), including emerging risks such as cyber risk and climate-related risk, among others. Depending on the rates and underwriting pricing, the ratio may increase (decrease) without any signiﬁcant changes in the actual loss experience. 115 100 This is particularly relevant to pure-protection products. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
Chart 2 .3.2.1 Loss Ratio: General Takāful (%) (2017–19 and 2020) 120 2020 100 2017-2019 80 60 40 20 Bangladesh Indonesia Bahrain Pakistan Malaysia Qatar UAE Saudi Arabia Jordan Oman Iran Brunei Kuwait 0 Source: IFSB Secretariat workings. Chart 2.3.2.1 illustrates the loss ratio of general takāful businesses in 13 markets in 2020, in comparison to the average of the previous three years (2017–19). The wakālah takāful sector in Kuwait recorded the highest loss ratio (106.3%), mainly attributed to a large payout for family and household medical expenditures. In addition, the motor line has been a contentious and loss-making line in Kuwait over the past years due to pressure on the rate as a result of competition. This pressure is forcing the operators to underwrite business without proper terms and conditions and risk consideration of the driver. For example, the rate at which motor third-party liability policies are underwritten in Kuwait was very low, most likely the lowest in the GCC. Markets with a high loss ratio in 2020 (as shown in Chart 2.3.2.1) include Bangladesh (90%), Brunei (88.8%), Iran (79%), Pakistan (78.7%) and Jordan (67%). Moreover, these markets experienced deterioration in their loss ratio when compared to the average of the previous three years, reflecting the market situation in the year under consideration – in particular, the decline in the number of takāful subscribers and the slow rate of collection of receivables in the face of increased claims pay-outs (i.e. pandemic-related medical bills). For instance, the net claims from the general takāful segment in Pakistan increased by 8.3% y-o-y to USD 32.5 million (PKR 5.2 billion) in 2020 on the back of increased health claims. As a result, the claims ratio increased signiﬁcantly, from 63.7% in 2019 to 78.7% in 2020. Conversely, the loss ratio in Saudi Arabia, UAE, Malaysia, Qatar, Oman, Jordan and Indonesia declined in 2020 compared to the average of the previous three years, due to a drop in new car sales by about 16% in Saudi Arabia and 35% in the UAE and other GCC markets, leading to reduced insured values.116 To further highlight, the average loss ratio for the takāful sector in Oman decreased by 14.3% y-o-y to 57.2% in 2020 (2019: 68.9%). In absolute amounts, the total claims paid for takāful business fell to OMR 33.78 million in 2020, compared to OMR 39.41 million in 2019. As mentioned earlier, the improvement in underwriting performance in these markets was ascribed to a lower volume of claims in motor and medical lines during the period, which more than offset the decline in contributions due to low sales. However, the improvement in underwriting performance may not continue for long and may not necessarily be an indication of future proﬁtability. This is due to the ongoing recovery and increase in economic activity that has seen road trafﬁc return to pre-pandemic levels, a situation which could increase the loss ratios for the motor books in the future. 116 S&P (2021), GCC Takaful Market Report. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 101
Chart 2 .3.2.2 Beneﬁts/Claims Ratio: Family Takāful (%) (2017–19 and 2020) 100 90 2020 2017-2019 80 70 60 50 40 30 20 10 Pakistan Brunei Oman Malaysia UAE Jordan Saudi Arabia Iran Indonesia Bangladesh 0 Source: IFSB Secretariat workings. Chart 2.3.2.2 shows beneﬁts/claims ratios in the family segment for 10 countries. Half of these countries reported a loss ratio of above 70% in 2020. Bangladesh tops the chart with a loss ratio of 90%, followed by Indonesia (80.43%), Iran (79%), Saudi Arabia (75.9%) and Jordan (71%), with all ratios higher than the previous three years’ average (2017–19). This is attributed to a surge in claims related to COVID-19 and to a rise in the surrender rate due to deterioration of customers’ disposable income during the pandemic. For instance, in Indonesia, the amount of COVID-19–related claims paid in the family segment in 2020 was larger than that paid by life insurance peers, which is attributed to the increased uptake of family and health takāful products compared to conventional products.117 On the other hand, the data available from TOs in Jordan indicates a decrease in total payouts of 16.1%, to USD 579.8 million (JOD 411.1 million), in 2020, despite a 7.7% rise in contributions from the family segment in 2020 as a result of a surge in personal and retail credit ﬁnancing by banks during the peak of the pandemic. Meanwhile, the net claims of the family takāful segment in Pakistan rose by USD 12.91 million (PKR 2 billion) to USD 62.58 million (PKR 10 billion) in 2020 due to an increase in net claims for window TOs that brought the claims ratio for the year to 35.0% (2019: 30.0%). Although a rise in the claims/beneﬁts ratio in Pakistan undermined the underwriting performance for 2020, it is seen as a positive development by the supervisory authority, as it will enhance takāful participants’ conﬁdence in the sector and facilitate greater participation and thus a higher penetration rate. Expense Ratio The expense ratio measures the marketing and administrative expenses incurred relative to contributions written. Gross contributions may be more appropriate as the denominator (rather than earned contributions), as the expenses are incurred prior to and throughout the coverage period. However, different supervisors use different approaches (including both gross and net premiums written or earned). A high expense ratio may be due to a rise in market competition (e.g. high commissions and brokerage fees) or to inflation in the territory of operation.118 Similar to the case of the loss ratio, rates or underwriting pricing is a key determinant. More than half of the markets assessed recorded an upsurge in the expense ratio compared to the average of the previous three-year period, due to a drop in business (especially in motor, as a result of COVID) against the ﬁxed overhead expenses. Charts 2.3.2.3 and 2.3.2.4 illustrate the expense ratio for general and family takāful businesses, respectively. For general takāful business, countries with an expense ratio of 40% and above of gross contributions are Kuwait, Bangladesh, Indonesia and Pakistan. In contrast, the ratio was below 30% in the following markets: Iran (21.3%), Jordan (20%) and Malaysia (14.7%), indicating improved efﬁciency relative to the ratio of the previous years. 117 118 102 OJK Indonesia, Annual Report 2020. If the expense ratio is comparatively higher than those of benchmarked TOs and conventional insurers, the operator needs to examine the probable causes, including (but not limited to) TO fees and agency commission rates. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
Chart 2 .3.2.3 Expense Ratio: General Takāful (%) (2017–19 and 2020) 60 2020 50 2017-2019 40 30 20 10 Iran Qatar Malaysia Oman Jordan UAE Brunei Pakistan Indonesia Kuwait Bangladesh 0 Source: IFSB Secretariat workings. Chart 2.3.2.4 Expense Ratio: Family Takāful (%) (2017–19 and 2020) 40 2020 35 2017-2019 30 25 20 15 10 5 Jordan UAE Indonesia Iran Oman Brunei Malaysia Kuwait Pakistan Bangladesh 0 Source: IFSB Secretariat workings. Family takāful business in Bangladesh and Pakistan registered the highest expense ratio – 34.0% and 33.8%, respectively (Chart 2.3.2.4). In addition, these markets experienced a surge in the ratio compared to the previous periods. Markets with a similar experience are Kuwait, Oman and Iran. However, the expense ratio in the UAE, Malaysia, Brunei and Indonesia showed a decreasing trend, which might be explained by a broad range of cost-saving measures to reduce overhead expenses in marketing and consulting services during the period. For instance, the adoption of a digital model during the peak period of the pandemic allowed operators to directly reach out to their customers in a way that increased sales and reduced underwriting costs, since agents’ commission is one of the biggest contributors to the increase in underwriting costs. Combined Ratio The combined ratio measures the sufﬁciency of contributions revenue to cover the underwriting operations of a takāful fund. A ratio less (greater) than 100% means proﬁts (losses) in the fund during the period. It is most often used in general business, although a similar measure may be adapted to monitor the sufﬁciency of contribution revenue in the family business. Generally, a combined ratio exceeding 100% over two or more years can probably provoke a long-term stability concern. The overall combined ratio nonetheless reflects TOs’ choices regarding marketing, client segmentation, risk selection, pricing and claims administration. As observed in some of these markets, earnings from other sources, such as commission income from retakāful/reinsurers and investment income, offset a rise in the combined ratio in 2020. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 103
Chart 2 .3.2.3 Expense Ratio: General Takāful (%) (2017–19 and 2020) 160 2020 140 2017-2019 120 100 80 60 40 20 Indonesia Bangladesh Malaysia Qatar Saudi Arabia UAE Oman Iran Jordan Pakistan Brunei Kuwait 0 Source: IFSB Secretariat workings. Charts 2.3.2.5 and 2.3.2.6 show the combined ratio in 2020, and an average of the past three years (2017–19) for both general and family business in the selected markets. Countries with the highest ratios are Kuwait (182%), Bangladesh (136%) and Brunei (116.7%). The ratio shows a signiﬁcant surge compared to the average of 2017–19, reflecting a combination of high compensation paid for life and medical insurance and the difﬁculty of collecting insurance premiums from customers. Additionally, the difﬁculty of obtaining retakāful services in some of these markets, especially for medical products, and the slow collection of receivables for new policies and policies in force, are issues undermining the cash flow, liquidity and capital position – and, consequently, the underwriting performance – of some TOs in these markets. On the other hand, the combined ratio showed a declining trend in 2020, relative to the average of the past three years, in Saudi Arabia, the UAE, Qatar, Oman and Pakistan. Much of this stems from changes in the loss ratio, which, to a large extent, was a manifestation of events such as government support for pandemic-related medical treatment, and a lower incidence of accidents as a result of lockdown measures to curb the spread of the COVID-19 pandemic. Chart 2.3.2.6 Combined Ratio: Family Takāful (%) (2017–19 and 2020) 140 2020 120 2017-2019 100 80 60 40 20 Brunei Oman Malaysia Pakistan UAE Jordan Indonesia Iran Bangladesh 0 Source: IFSB Secretariat workings. 104 ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
As seen in Chart 2 .3.2.6, the combined ratio in the family segment showed a rising trend in the majority of the markets compared to the three-year average, with the exception of Malaysia and Brunei where a marked improvement in the combined ratio was registered in 2020, compared to the preceding period. The relative improvement shown in the few markets suggests dynamic underwriting controls and improved underwriting margin during the period under review, whereas the rising trend in the combined ratio as indicated in the majority of the markets demonstrates a weaker underwriting performance. Measures Taken to Improve Proﬁtability and Curb Risks that May Impact on Financial Performance of the Takāful Sector COVID-19 posed considerable threats to the takāful sector’s efﬁciency and stability in 2020. However, so far, the takāful industry has shown flexibility and resilience in facing the pandemic. Supervisory authorities responsible for the takāful sector across countries implemented several measures to manage the multiple risks that may have resulted from a pandemic-induced economic slowdown, with the aim of ensuring the sector remained viable. At the individual level, TOs may have experienced a dip in automobile, and travel and medical policies due to the fall in the purchases of new vehicles, travelling and other events induced by COVID-19 travel restrictions and economic slowdown. Consequently, TOs have implemented a variety of measures, including granting fee/contribution waivers and extending grace periods, in order to mitigate surrenders, retain takāful participants and help those in ﬁnancial difﬁculty. Measures taken to strengthen liquidity buffers include increasing cash buffers, extending terms of repo transactions, raising short-term funds through issuing additional debt instruments ( ), and postponing share buy-backs and dividend distributions. During the period under review, the takāful sector’s proﬁtability was impacted positively by cost savings outcomes from business transformation to new ways of working, such as extended remote working, and reduced overhead expenses in marketing and consulting services. However, proﬁtability was also negatively impacted by increases in other expenses, such as information technology. Given that principles underpinning the takāful model are much oriented towards retail lines, it is expected that the sector will continue to beneﬁt from the widening of compulsory retail covers, such as for motor and medical, and the growing demand for health covers post-pandemic. On the liability side, a key observation of the impact in a number of markets relates to fewer motor claims as a result of movement restrictions, and pandemic-related claims included in the exclusion list (i.e. not being covered under the existing policies). To a varying extent, this has led to improvements in underwriting performance, depending on the mix of business lines in the general segment. However, the takāful sector in some countries – for instance, Bangladesh, Iran, Indonesia and Jordan – witnessed high compensation paid for family and medical covers. On the other hand, the difﬁculty of collecting contributions from customers, in addition to measures such as contributions deferrals and higher claims payment, led to impairment of liquidity positions in some lines of business. Nonetheless, the overall impact on liabilities was assessed to be limited, due to the offsetting effect of lower claims in other business lines. In addition, contributions (premiums) were affected through lower new business volumes. Slow collection of receivables could also become an increasing issue for some operators, depending on their portfolio and customers mix. It is anticipated that contributions collections will remain slow, especially in general business, as private businesses and governments delay their payments in an attempt to manage cash flows. A potential rise in premium contributions receivables was one of the major risks, leading to increasing receivables and potential write-offs, further stressing liquidity, earnings and capital, and, consequently, credit conditions for some TOs, and this may persist in the near term. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 105
On the assets side , the challenge for TOs was to ﬁnd assets with a sufﬁcient yield to maintain asset–liability matching without taking on a signiﬁcantly higher level of risk. Consequently, many TOs implemented various investment portfolio measures over the second half of 2020, following ﬁnancial markets recovery after a sharp drop in the wake of the COVID-19 outbreak. In search of higher-yielding assets because of the low return on cash deposits, some operators shifted their assets mix to increase their exposure to equities or other high-risk assets, which resulted in strong investment performance. Other operators reported asset de-risking – for example, deploying capital on high-quality assets, decreasing credit risk exposures and reducing equity exposures to volatile segments. As a result, some operators were able to reverse some of the unrealised investment losses that had accumulated earlier in the year, which might have constituted a sizeable proportion of shareholder equity.119 Looking ahead, positive impacts on proﬁtability are expected from economic recovery with the easing of lockdown measures. Nonetheless, a high degree of uncertainty about proﬁtability still exists due to a variety of factors, including the risk of higher claims in certain lines of business (such as motor and medical), and ﬁxed distribution costs relative to lower expected new business volumes. Supervisors in many countries have called on operators to increase their loss reserves as part of efforts to enable them to cope better with potential risks amid increasing ﬁnancial market uncertainty. Some supervisors have enhanced requirements on internal control procedures for takāful operators regarding investments so as to assess and monitor the market risks to which an operator is exposed. In many jurisdictions, regulations are already in place that require TOs to have a robust risk management framework that enables them to identify, measure and mitigate the emerging risks and stay operationally resilient. Other supervisory requirements include: public disclosure of solvency reports; a statement of investment orientations (such as in the investment plan and performance objectives); limits on volatility and sensitivity of ﬁnancial instruments; minimum required diversiﬁcation of investments; and the retakāful/reinsurance strategy (describing how retakāful/reinsurance policies must consider diversiﬁcation and the ﬁnancial rating of retakāful/reinsurance operators). Furthermore, some supervisors have shown that TOs intensiﬁed credit risk monitoring during the pandemic (e.g. to a monthly basis), based on the credit risk standard model in their solvency regimes. Others intend to improve the design of the credit risk standard model and monitoring frameworks in order to manage a takāful undertaking’s credit risk, such as having concentration limits in place on the asset, sectoral, geographic, currency, maturity and counterparty levels. Capitalisation of the takāful sector is expected to be strengthened as risk-based capital regulations are introduced across countries, albeit in the short term as this poses some implementation and operational hurdles, including added costs for TOs for M&A in order to achieve the scale required to absorb these costs. The expectation is that growth will remain strong for the sector as a whole in the coming period, as both supervisors and takāful operators intensify efforts towards exploiting opportunities created by the other key risks (i.e. natural catastrophes, climate change and technology disruptions) that would have impacted on the balance sheet and the underwriting performance of takāful undertakings in the coming years. 119 106 IFSB WP-22: Assessing the Effectiveness of the COVID-19 Policy Responses in the Takāful Industry, January 2022. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
3 .0 TRANSITIONING FROM LIBOR TO RISK-FREE RATES IN SELECTED JURISDICTIONS OFFERING IIFS The London Interbank Offered Rate (LIBOR) measured the interest rates that large banks offered when lending to each other on an unsecured basis in the London short-term money market. It represented the average of submissions from a panel of banks and published by ICE Benchmark Administration (IBA), which was regulated by the Financial Conduct Authority (FCA). LIBOR was used in the ﬁnancial world, having been the reference rate that underpinned more than USD 400 trillion of ﬁnancial contracts, derivatives, bonds, loans and other exposures worldwide. LIBOR was calculated for ﬁve currencies (USD, GBP, EUR, CHF and JPY) and for seven tenors in respect of each currency (Overnight/Spot Next, One Week, One Month, Two Months, Three Months, Six Months and 12 Months). This resulted in the publication of 35 individual rates (one for each currency and tenor combination) on every applicable London business day. The most commonly quoted rate was the three-month USD rate, usually referred to as the current LIBOR rate. The rate was calculated using the Waterfall Methodology, a standardised, transaction-based, data-driven, layered method. It utilised eligible transaction data, where available (Level 1), transaction-derived data from historical transactions otherwise (Level 2), if neither was available, then expert judgement was used (Level 3). LIBOR was calculated as of 11.00 every London business day and is normally published by ICE Benchmark Administration Limited (IBA) at 11.55 London time. It was a trimmed arithmetic mean that excluded the highest and lowest quartiles of submissions. Trimmed mean is a method of averaging, that eliminates a small, speciﬁed percentage of the largest and smallest values before calculating the mean. Each panel bank’s submission carried an equal weight, subject to the trimming. LIBOR was often referenced in derivative, bond and loan documentation, and in a range of consumer lending instruments such as mortgages, lease and student loans. The IBA constituted a designated panel of global banks for each currency and tenor pair. For example, 16 major banks, including Bank of America, Barclays, Citibank, Deutsche Bank, JPMorgan Chase, and UBS constituted the panel for USD LIBOR. Only those banks that had a signiﬁcant role in the London market were considered eligible for membership on the ICE LIBOR panel, and the selection process was held annually. Although LIBOR was accepted globally, there were other similar regional interest rates that were popularly followed across the globe. For instance, in Europe, the European Interbank Offered Rate (EURIBOR), in Japan, the Tokyo Interbank Offered Rate (TIBOR), in China, the Shanghai Interbank Offered Rate (SHIBOR), in Malaysia, the Kuala Lumpur Interbank Offered Rate, and Emirates Interbank Offered Rate (EIBOR) in the UAE. In fact, LIBOR has been used for several decades as a global benchmark for interest rates, underpinning derivatives, loans/ﬁnancings, bonds and other ﬁnancial products. Nevertheless, it had several weaknesses, which became more apparent with the Global Financial Crisis of 2007–8. A review set up by the British government120 identiﬁed a number of issues, including that: (i) it was subjective in nature that a shortage of transaction data meant that submissions were largely based upon expert judgement rather than actual transactions; (ii) both banks and the individuals within them had incentives to manipulate the rates, and there had in fact been signiﬁcant manipulation over a period of years; and (iii) there were major weaknesses in governance, which at that time lay with the British Bankers Association. This led to a set of immediate reforms in governance, regulation and calculation, but also to international efforts coordinated by the Financial Stability Board (FSB) to reform benchmark rates.121 120 121 The Wheatley Review of LIBOR: Final Report (publishing.service.gov.uk). FSB, LIBOR and Other Benchmarks (fsb.org). ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 107
The FSB and other standard setters set the objective of transitioning away from LIBOR to more robust benchmarks , and a large amount of detailed work was undertaken. In early 2020, the market turmoil during the COVID-19 pandemic added impetus to the transition. The limited number of market transactions underpinning LIBOR decreased even further, meaning that these rates were almost entirely based on expert judgement.122 The FSB123 has identiﬁed that continued reliance of global ﬁnancial markets on LIBOR poses clear risks to global ﬁnancial stability. In October 2020, it published a global transition map away from LIBOR.124 On 5 March 2021, IBA and the FCA formally conﬁrmed the dates when panel bank submissions for all LIBOR settings will cease, after which representative LIBOR rates will no longer be available. The majority of LIBOR panels ceased at the end of 2021, with a number of key USD settings continuing until end-June 2023125 to support the rundown of legacy contracts only. The extended dates for the USD LIBOR tenors may enable legacy USD LIBOR contracts to mature before LIBOR experiences disruptions, because the transition of these contracts to alternative reference rates will be challenging.126 The FSB encouraged authorities to set globally consistent expectations and milestones that ﬁrms will rapidly cease the new use of LIBOR, regardless of where those trades are booked or in which currency they are denominated. Market participants are to cease new use of LIBOR in all currencies as soon as practicable,127 respecting national working group timelines and supervisory guidance where applicable, and in any case not later than by the end of 2021.128 Continued reliance of global ﬁnancial markets on LIBOR benchmarks, particularly the most widely used USD LIBOR settings, might pose risks to ﬁnancial stability, market integrity and investor protection, litigation and reputational risks.129 Regulators have been urging market participants to replace interbank offered rates (IBOR) with recommended risk-free rates (RFRs), which tend to be backward-looking overnight reference rates compared to LIBOR which is forward-looking.130 In contrast, the issue of backward-looking rates is becoming uncommon with the introduction of CME Term SOFR rates. The CME Term SOFR Reference Rates benchmark is a daily set of forward-looking rates, calculated and published for 1-month, 3-month, 6-month and 12-month tenors. Each CME Term SOFR Reference Rates tenor will start on (and include) the second US Government Securities business day following the publication day and span the corresponding tenor (e.g. 1-month, 3-month, 6-month, 12-month) in accordance with Modiﬁed Following day-count conventions.131 The CME Term SOFR Reference Rates calculation method enables determination of a possible path of overnight rates that is consistent with the observable averages implied by SOFR-based derivative contracts. Intuitively, averages over standard tenors can be directly created once the path of overnight rates is determined. The publication of CME Term SOFR Reference Rates will occur on the next business day following the business day during which futures data sampling takes place. Term SOFR Reference Rates are computed based on a reference period that begins two business days (T+2) after the publication date settlement. Table 3.1 list the key RFRs that will replace the LIBOR in different countries. 122 123 124 125 126 127 128 129 130 131 108 See Bank of England (2020), Interim Financial Stability Report, May. https://www.bankofengland.co.uk/-/media/boe/ﬁles/ﬁnancial-stability-report/2020/may-2020.pdf FSB (2021a), “Transition Away from LIBOR Requires Signiﬁcant Commitment and Sustained Effort from Both Financial and Non-Financial Institutions across Many LIBOR and Non-LIBOR Jurisdictions”. https://www.fsb.org/2021/06/global-transition-roadmap-for-libor-2/ FSB, Global Transition Roadmap for LIBOR (fsb.org). See FCA (2021), “FCA Announcement on Future Cessation and Loss of Representativeness of the LIBOR Benchmarks”, 5 March. https://www.fca.org.uk/publication/documents/future-cessation-loss-representativeness-libor-benchmarks.pdf See Board of Governors of the Federal Reserve System, Federal Deposit Insurance Corporation, and Ofﬁce of the Comptroller of the Currency (2020), “Statement on LIBOR Transition”, 30 November. https://www.federalreserve.gov/newsevents/pressreleases/ﬁles/bcreg20201130a1.pdf IOSCO (2021), The Board of International Organization of Securities Commissions, Statement on Benchmarks Transition. FSB (2021b), Progress Report to the G20 on LIBOR Transition and Remaining Issues. https://www.fsb.org/2021/07/fsb-urges-action-to-complete-the-transition-away-from-libor-by-end2021/#:~:text=In%20June%202021%2C%20the%20FSB, is%20chaired%20by%20Randal%20K See IOSCO (2021), The Board of International Organization of Securities Commissions, Statement on Benchmarks Transition. AAOFI (2021), Research on Alternative Reference Rate, Benchmark Rate for Islamic Finance in Post-LIBOR Scenario. CME (2022), “CME Term SOFR Reference Rates Benchmark Methodology”, CME Group Benchmark Administration Limited. Available at https://www.cmegroup.com/market-data/ﬁles/cme-term-sofr-reference-rates-benchmark-methodology.pdf ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
Table 3 .1 Alternative Reference Rates Currency Current Alternate Reference Rate Transaction Type Administrator USD USD LIBOR Secured Overnight Financing Rate (SOFR) Secured Federal Reserve Bank of NY GBP GBP LIBOR Sterling Overnight Index Average (SONIA) Unsecured Bank of England (BoE) EUR EURIBOR European Short Term Euro Rate (ESTER) Unsecured European Central Bank (ECB) YEN JPY LIBOR Tokyo Overnight Average Rate (TONAR) Unsecured Bank of Japan (BoJ) CHF CHF LIBOR Swiss Average Rate Overnight (SARON) Secured SIX Swiss Exchange When using LIBOR, the rate is ﬁxed at the start of the relevant interest period, and therefore the borrower knows what the interest amount will be for that period. With RFRs, however, the rate is measured on each day over the interest period, and therefore the total interest payable will only be known at the end of the interest period. Compared to LIBOR, which is forward-looking, RFRs are backward-looking overnight rates. This means that, if applied to a calculation period, they can only be determined at the end of that period. This potentially creates an element of gharar in the pricing of Islamic contracts. In contrast, RFRs are considered to be more robust as they are based upon a larger volume of observable transactions. RSAs in jurisdictions offering Islamic ﬁnancial services are also concerned about the transitioning from LIBOR to RFRs, and its impact on the resilience and stability of the Islamic ﬁnance sector. In December 2019, the Islamic Development Bank formed a task force to study and recommend Islamic ﬁnancial return indicators. The Auditing Organization for Islamic Financial Institutions (AAOIFI) formed, in conjunction with other international Islamic ﬁnance organisations such as the IFSB, a working group to, among other things, understand the issues that Islamic ﬁnancial institutions may face when transitioning from the LIBOR, with the aim of developing a comprehensive framework for RFR implementation. The working group aimed to assess the potential models that could be adopted when calculating a Sharī`ah-compliant benchmark. Discussions are still in progress before testing the models and proposing a comprehensive governance guideline. Furthermore, RSAs are also conducting studies on this LIBOR transition and collaborating with international standard-setting bodies to ensure transparency and consistency when adopting alternative rates. Based on the aforementioned insights, this chapter reports a survey of 24 RSAs that are members of the IFSB from 21 countries in Asia, Africa and the Middle East to gather detailed inputs from RSAs and monetary authorities in jurisdictions offering Islamic ﬁnancial services. The survey covers four main areas, namely: (i) identifying the risks that may arise due to the transitioning from LIBOR to alternative RFR; (ii) determining the planned actions and measures taken (to be taken) to mitigate these potential transitioning risks; (iii) proposing alternative rate(s) under consideration as part of transitional arrangements on the abolishment of LIBOR; and (iv) explaining the various suggested models that might be considered when developing Islamic benchmark rates, based on the review of the literature. Potential Risks Identiﬁed in the LIBOR Transition As shown in Figure 3.1, RSAs indicated their relative degree of concern arising from the transitioning from LIBOR to RFR. Notably, proﬁtability calculation and market risk are two main issues identiﬁed as portending potential risks in the transition. The lowest-ranked risks are reputation risk and governance risk. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 109
Figure 3 .1 Potential Risks Related to the Transition from LIBOR to RFRs Proﬁtability calculation and... 63.16% Market risk 57.89% Regulatory issues 52.63% Operational risk 52.63% Liquidity risk 47.37% Sharī`ah risk 47.37% Credit risk 36.84% Accounting issues 26.32% Reputational risk 26.32% Governance issues 21.05% In terms of proﬁtability calculation and pricing, respondents indicated that ﬁnancial institutions may not be fully ready for RFRs calculation due to compatibility issues between the various ﬁnancial systems.132 Considering that LIBOR is used in cross-border transactions, complications might appear when using RFRs on cross-border derivatives transactions due to differences in the methodologies of RFRs across different currencies. RSAs, hence, need time to understand the mechanics involved in RFR and its application. As such, in the interim, valuation of risk may be arbitrary and high.133 Respondents mentioned that the transition from LIBOR to alternative RFRs may increase product price and volatility due to non-consideration of credit risk in RFRs’ pricing strategies. Although the rate of proﬁt can be known at the end of the particular product period,134 possible changes in pricing and proﬁtability calculation will occur due to the abolishment of LIBOR. In the same context, the transition process will oblige international banks to renegotiate the existing contractual agreements with clients. Thus, banks need to have contingencies to mitigate the risk and monitor the situation proactively as the alternative benchmark develops in the global markets. Interestingly, the issue of valuation risk arising from the difference between LIBOR and RFRs will no longer arise given the imposition of spread adjustment on RFRs as a fallback rate.135 Furthermore, large-scale changes in the value of banks’ ﬁnancial assets and liabilities are less likely to occur as the replacement in a ﬁnancial contract of one benchmark rate by another is expected to generally be done on an economically equivalent basis.136 In terms of market risk, it is noticed that the transition process will have comparatively less interruption for IIFS, as their current exposures are not signiﬁcant compared to those of their conventional counterparts. In terms of credit risk, the abolishment of LIBOR will have an impact on how ﬁnancing rates are calculated. In this regard, banks will need to identify LIBOR-impacted models and develop, validate and implement model revisions. Operational and regulatory risks could crystallise if there is a lack of market consensus (conventions) for the development of RFR-based instruments and contracts. Other issues such as non-readiness of the IT system as well as the lack of an adequate administrator might also trigger operational and regulatory risks. The transition from LIBOR to RFRs may therefore also trigger Sharī`ah risk related to uncertainty. Reputational risk may also occur if retail ﬁnancial institutions fail to successfully implement LIBOR’s conversion to RFRs. 132 133 134 135 136 110 As stated by the Central Bank of Bahrain and the State Bank of Pakistan. As stated by the Central Bank of Nigeria. As stated by Bangladesh Bank. The Working Group on Sterling Risk-Free Reference Rates (2020), “Credit Adjustment Spread Methods for Active Transition of GBP LIBOR Referencing Loans”, available at: https://www.bankofengland.co.uk/-/media/boe/ﬁles/markets/benchmarks/rfr/credit-adjustment-spread-methods-for-active-transition-of-gbplibor-referencing-loans.pdf According to the latest updates by the Accounting Experts Group (AEG) of the Basel Committee on Banking Supervision. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
Actions Taken by RSAs to Mitigate Potential LIBOR : Transitioning Risks In order to mitigate the potential transitioning issues, some RSAs have taken various measures: a) Central Bank of Oman: Banks were advised to stop entering into new LIBOR-based ﬁnancial contracts. Moreover, they were advised to formulate a plan to ensure transition from LIBOR to alternative reference rates and to undertake comprehensive review of all direct and indirect LIBOR exposures and identify the steps to be taken to address the risks arising from such exposures, including adaptation of alternative reference rates. b) Saudi Central Bank (SAMA) established an industry-led working group in early 2020 to discuss banks’ preparations for and challenges to LIBOR migration. Banks are also required to provide periodic update reports, containing both qualitative and quantitative information regarding their migration progress. c) Bangladesh Bank (Bangladesh) has issued a circular to allow alternative reference rates such as globally recognised reference and benchmark rates that are adjustable by Bangladesh Bank based on market conditions. d) Palestine Monetary Authority assessed the impact of LIBOR abolishment on ﬁnancial stability. Banks in the country have been advised to intensify their efforts to follow up on relevant regional and international developments relating to the issue and to mitigate their exposure. e) Central Bank of Nigeria identiﬁted that the market is shifting to the secure overnight ﬁnancing rate as a benchmark for setting rates and key derivatives to deal with challenges of the LIBOR. As such, several RFR mechanics are assessed, given that transition to an alternative RFR may also increase the product price’s volatility due to non-consideration of credit risk of the RFR pricing mechanism. f) Central Bank of Jordan revealed that a working group has been formed to move from the LIBOR to alternative reference rates, and to identify the risks related to the transition from the LIBOR for the Jordanian banking sector. In addition, the working group will follow up the decisions and directions of the global regulators regarding the transition, by the end of 2021, to alternative reference rates. g) Central Bank of Kuwait instructed banks not to issue new LIBOR-linked contracts beyond the related cessation dates and to amend those maturing beyond the LIBOR cessation dates. h) Bank of Mauritius left the LIBOR transition to all banks to decide on the alternative rate to be applied. i) Central Bank of Bahrain has instructed ﬁnancial institutions to conduct a gap assessment and prepare an action plan, form internal committees to govern the LIBOR transition process, and assess the impact of the LIBOR transition on their customers, contracts, accounting and other systems. j) Bank Negara Malaysia has taken early proactive measures to ensure the industry transitions smoothly, including setting signposts with an explicit timeline, regular engagements with banks and large corporates, and conducting regular monitoring. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 111
Alternative Rate (s) in Some Regulatory and Supervisory Authorities (RSAs) The survey found that some RSAs have been proactive and considered some domestic reference rates that are in line with IOSCO’s Principles for Financial Benchmarks as a replacement for LIBOR, as highlighted below: a) Saudi Central Bank enhanced the methodology of SAIBOR to better reflect the actual cost of transactions in the markets, taking into account both international best practice and Saudi Arabian wholesale funding for banks. b) Palestine Monetary Authority has tended to use overnight interest rates in the ﬁnancial markets, or any alternative tool that enhances the ability of the central bank to direct interest rates in the market. c) Central Bank of Jordan indicated that SOFR, SONIA, €STR and TONAR can be considered as alternative rates to LIBOR. d) Central Bank of Bahrain indicated use of the International Islamic Financial Market’s (IIFM’s) standard structuring solutions for a new benchmark RFR for murābahah and ijārah transactions. e) Bank Indonesia stated that Islamic ﬁnance requires a close link between the real sector and ﬁnancial markets, and that the benchmark rate needs to refer to real sector activities. f) Bank of Korea has already selected the overnight repo rate of government bonds and monetary stabilisation bonds as its new RFR. g) Central Bank of the Republic of Turkey adopted the Turkish Lira Overnight Reference Rate (TLREF) for its short-term reference rate in any ﬁnancial transaction.137 h) Bank Negara Malaysia’s (BNM’s) Shari`ah Advisory Council resolved that the use of globally accepted RFRs as a replacement for LIBOR is permitted, including compounding methodology in determining the term rate and methods to mitigate gharar (uncertainty) in using average an RFR or a backward-looking term rate.138 For the domestic market, BNM has introduced and administers the Malaysia Overnight Rate (MYOR) starting from 21 September 2021 and the Malaysia Islamic Overnight Rate (MYOR-i) starting from 25 March 2022, which are based on unsecured overnight ringgit interbank transactions. i) 137 138 112 The BNM has a foreign currency alternative reference rate (ARR) and a Ringgit ARR. The former is permissible with proper determination/disclosure of ceiling price and formula to derive a periodic payment to mitigate uncertainty arising from the backward-looking methodology. The latter introduces a new Sharī`ah-compliant ARR (MYOR-i), which allows reference to be made to the domestic conventional term rate on a needs basis, pending the availability of a reliable Islamic term rate. Bursa Istanbul (2019), TLREF Turkish Lira Overnight Reference Rate Rules. https://www.borsaistanbul.com/en/sayfa/2351/tlref BNM SAC, https://www.bnm.gov.my/-/sac-bnm-210th-meeting ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
Alternative Reference Rates for Islamic Finance The ﬁrst option is to encourage the adoption of the globally accepted ARRs, such as SOFR (Secured Overnight Financing Rate) and SONIA (Sterling Overnight Index Average) on the premise that Islamic ﬁnance structures and contracts are valid, since they are Sharī`ah-compliant. In the same context, when ijārah and murābahah contracts are employed, there will be no strict Sharī`ah requirement to use a distinct Islamic benchmark for such transactions to remain halal. However, from the perspective of Sharī`ah compliance practice, some of the RFRs are backward-looking, and this implies that actual payoff commitments in the commodity murābahah or ijārah will not be determinable ex-ante. Nevertheless, if the underlying benchmark is identiﬁed and agreed upon and becomes a norm in the industry, then it can be made admissible on the presumption that it is not excessive gharar (uncertainty) and is based on urf (customary usage) and where the underlying transaction is Sharī`ah-compliant. Alternatively, a ﬁxed proﬁt rate adjusted ex-post with reconciliation and rebate can be used. Table 3.2 Pros and Cons of Using Term ARRs Potential Strengths Possible Challenges Term RFRs are robust, stable and less volatile. Different time period of publishing.139 Term RFRs are based on voluminous underlying transactions. Some ARRs are secured and some are unsecured, causing problems in cross-currency transactions. Greater acceptance in markets where interbank activity involves other than full-fledged Islamic ﬁnancial institutions (IFIs). If the forward-looking rate is not given, the issue of gharar in pricing can occur. The second option is called a bottom-up approach, which is developing an instrument to generate real activity to establish the price. The government can set up a trading corporation to trade commodities and set prices to reflect ijārah bills) the target proﬁt rate which can become a benchmark for issuing Islamic securities (i.e Treasury and affect the other rates of return in Islamic short-term ﬁnancing instruments. Alternatively, the accounting price of capital and weighted average proﬁt rate in commodity trading can be considered. Table 3.3 Pros and Cons of Using the Bottom-Up Approach Potential Strengths Possible Challenges Pricing is based on real economic activity. Such real economy-based pricing does not have a zero floor and can be more volatile. Instrument can be used for monetary functions for the central bank. There is no term premium, meaning that it needs to be added separately. Instrument can resolve liquidity management issues of IFIs. Big transaction volumes cannot be supported if there is an insufﬁcient number of 139 ijārah bills. Banks located in different geographical locations operate in different time zones. Their rates will be published at different times, which might be an issue for Islamic ﬁnancial institutions needing to adopt the appropriate rate in any given ﬁnancial transaction. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 113
The main focus of option 2 is that the transactions and contracts are based on the real economy in substantial and distinctive ways . This will require a paradigm shift in mindset. Nevertheless, choosing distinctive real-economy-based transactions and pricing is expected to reduce displaced commercial risk, which arises due to a perceived similarity in cash flows and pricing of Islamic ﬁnance contracts vis-à-vis conventional interest-based ﬁnance contracts. Nonetheless, this instrument can be used domestically in the national currency and the investment must not be open to foreign investors. This is because if the national infrastructure is used as a subject matter in these Treasury ijārah bills, any default might result in the transfer of signiﬁcant national wealth if the Treasury ijārah bills are not denominated in national currency and are open to foreign investors. The third option is a rental index in medium- to long-term ﬁxed assets ﬁnancing to be used in ijārah and diminishing mushārakah contracts for car and home ﬁnancing. The rental index can be based on inputs such as: (i) useful life of vehicle in kilometres; (ii) tenure of ﬁnancing; and (iii) per kilometre fare in Uber/Grab based on car type or on per-kilometre saving in travelling distance. This can also be followed by selling of assets at their residual value on the basis of market price. Table 3.4 Pros and Cons of Rental Indices Potential Strengths Possible Challenges Asset-speciﬁc pricing benchmark reflects relevant risks. Rental indices may have more fluctuations, be less widely available for suburban/rural regions and expose the banks to asset price risk. With a rise in asset pricing, the bank has the potential to proﬁt from asset price appreciation. There is no term premium. It will have to be added separately. Avoids reference to interest-based benchmarks. With escalating asset pricing, currency depreciation, inflation and other factors, asset prices and rents may go up and affect the consumers’ cost, causing commercial displacement risk. 114 ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
Real-Economy-Based Price , Production and Return Measures Besides the three pricing options identiﬁed above, there are some real-economy-based prices, production and return measures. First is a seasonally adjusted output price index to measure the core inflation (non-food, non-energy) after appropriate smoothing by using a moving average. In the case where costs remain unchanged in a short period of time, an increase in output price will positively affect proﬁtability. Second, for consumer and corporate ﬁnance, the Consumer Price Index (CPI) or Wholesale Price Index (WPI) and commodity price indices in commodity-based trade ﬁnance contracts can also be used. Table 3.5 Pros and Cons of the Output Price Index Potential Strengths Possible Challenges Frequency of data availability is weekly, and is instantaneous for commodities as compared to other real-economy measures. For banks, credit or deferred price is more relevant than spot price. Term premium will need to be added separately. Banks can potentially gain from asset price appreciation and can pre-emptively invest in commodities in jurisdictions There are numerous output price indices, with differences in weights, composition of basket of commodities, base year, frequency of publishing and calculations. where it is allowed. Seasonal adjustment can make price fluctuations smoother. Avoids reference to interest-based benchmarks. Banks are exposed to asset price risk and supply-side factors of the real economy. Third is the stock price index’s variation to capture the historical and futuristic return on assets. By taking into account past, present and future information, stock price represents a substantive measure of performance. In an efﬁcient market, the stock price index is supposed to capture both private and public information. Given that the stock price index is available on an instantaneous basis through daily and tick-by-tick data, it represents a useful measure for evaluating the performance of enterprises. Fourth, a portfolio-based index could be a better measure for risk diversiﬁcation to ensure stability and the adequate representation of different players. For instance, a sovereign index can be constructed comprising stocks of only the selected government-owned enterprises. Since ﬁnancial institutions mostly enter in non-equity-based transactions, such as sale, lease and investment agency, an asset price index constituting issued by government-owned enterprises can be used. In this alternative measure, data can be made available at short frequencies. But, having a sufﬁcient number of government-owned in diverse sectors might be an issue. Furthermore, there may not be enough for each term. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 115
Table 3 .6 Pros and Cons of the Asset Price Index Potential Strengths Possible Challenges Frequency of data availability is instantaneous, as compared to other real-economy measures. For banks, credit or deferred price is more relevant than spot price. Term premium will need to be added separately. Price fluctuations usually reflect historic and futuristic expectations and are triggered by fundamentals in a relatively efﬁcient market. Forward-looking target price calculations based on a dividend discount model, or a variety of methods, cannot give unique answers. Calculations are based on several assumptions and one of the required inputs is the discount rate itself. Asset price indices are not referenced to interest-based benchmarks. In the short term, prices are driven by noise trading, volumes,herding and other anomalies. Thus, banks become exposed to these risks with much less variety of hedging instruments in the Islamic ﬁnance space. Economic Growth Rate: Nominal and Real Fifth, the nominal growth of GDP can be a plausible measure as the benchmark rate in the money market. This means that indexing the instrument based on a nominal GDP growth rate will be appropriate because it is related to production. In the same context, the utilisation of gross regional product can be an even more stable average return in regional economies. However, since the nominal GDP growth takes into account inflation, which is considered a cost-push, the use of real GDP growth plus moving average core inflation growth is an option to be pursued. Table 3.7 Pros and Cons of Output Growth Indices Potential Strengths Possible Challenges If nominal GDP growth rate is used, it includes the effect of inflation and makes the rate more robust. Even if output growth is low or negative, inflation is not and the overall rate (real GDP growth + core inflation) will remain positive. Output growth is not a function of time. Term premium will need to be added separately. If nominal GDP growth rate is used, a multiple or spread can be added to mitigate commercial displacement risk and make the return market competitive. Frequency of data availability is quarterly at best, or monthly for some sectoral indices such as the industrial production index. Avoids reference to interest-based benchmarks and reflects pure economic activities in a comprehensive way, covering the output of all sectors plus prices. Cost of capital based on this measure can be high. Also, production is a function of demand. Demand-side stagnation, intensiﬁed competition, or unfavourable policies or regulations can also affect production. 116 ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
Sixth , the proﬁt rate paid by the government in government contracts and projects can also be explored as a potential benchmark. For instance, the government procures commodities from the agriculture sector. In such commodity operations, the proﬁt rate can be imputed from the transactions. Likewise, governments offer a proﬁt rate to independent power producers and other suppliers. In such transactions, as a monopsony and regulator, the government can influence price and, hence, the proﬁt rate. Such proﬁt rates are strictly and directly based on real-economy-based transactions. However, a term or maturity premium will have to be added, since ﬁnancial institutions are basically interested in the time value of economic transactions, which are intertemporal. There are certain projects where it is possible to launch musharaka and enable proﬁt sharing on a pure pass-on basis, such as railways (yielding fare revenue), airlines (yielding fare revenue), energy production and distribution (yielding sales revenue) and roads (yielding toll taxes), for instance. To cover the possibility of negative net proﬁts, proﬁt calculation can be done at the gross or operating proﬁt level. Again, tier-based proﬁt sharing, along with cost sharing in speciﬁc heads only, will ensure that the eventual ex-post return on investment is close to the target rate. Cost sharing in speciﬁc heads will ensure proﬁt calculation at a relatively gross level to further ensure that the proﬁt sharing goes to the second tier whereby the ﬁnancier has obtained the target return. Table 3.8 Pros and Cons of Implied Proﬁt Rates Potential Strengths Possible Challenges If proﬁt sharing is tier-based, then a target proﬁt rate implied from the proﬁt rate on commercial contracts can be used as a threshold to yield a relatively closer ex-post return that is nearly equal to the target proﬁt rate. Projects vary in risk, maturity and scale. Unlike output growth rates, proﬁt rates on individual contracts, in particular, can have a long range from negative to positive. There are certain projects where the implied proﬁt rate is known to be positive through the contracted prices, such as in energy and construction projects. Such implied proﬁt rates can be used to derive a target proﬁt rate. Ex-post proﬁt rates on short-term and long-term projects are not based on a maturity premium. Therefore, for a term premium, separate adjustments may be required. Avoids reference to interest-based benchmarks and reflects proﬁts on actual commercial transactions. Implied proﬁt rates from commercial contracts may not be universally and transparently available to all market players. Policy Recommendations As the development of Islamic benchmark rates is still ongoing, relevant recommendations are provided for Islamic ﬁnancial institutions (IFIs) to make the transition seamless. They are as follows: (1) Tough legacy contracts must be dealt with to minimise IFIs’ exposure to ﬁnancial risks. (2) IFIs must ensure that a fall-back140 mechanism to an alternative benchmark rate is included in the contract to minimise any value transfer. (3) The technological infrastructure needs to be updated when integrating the newly adopted alternative reference rates, for transparency and security purposes. (4) A comprehensive governance framework is needed to identify, measure, monitor and control ﬁnancial and non-ﬁnancial risks of transition, establishing processes and oversight routines for ongoing management. (5) Islamic banks and regulators need to continue collaborating with Sharī`ah scholars to come up with solutions about various Sharī`ah issues. Furthermore, the substantial interaction between Islamic and conventional institutions cannot be mitigated while IIFS represent a part of the global economic and ﬁnancial sector. Intuitively, issues related to regulatory arbitrage are most likely to emerge. In this regard, much focus is needed on how to mitigate the regulatory arbitrage in a dual banking system so as to ensure the stability and resilience of the Islamic banking industry. 140 “Fall-back” refers to the legal provisions in a contract that apply if the underlying reference rate in the product (LIBOR) is discontinued or unavailable. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 117
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Omar , A., Noor, A. M., Meera, A. K. & Manap, T. A. A. (2010), “An Islamic Pricing Benchmark”, Research Paper No. 17/2010, Kuala Lumpur: ISRA Malaysia. Reserve Bank of Australia (2021), The Transition Away from LIBOR. https://www.rba.gov.au/publications/fsr/2021/apr/box-a-the-transition-away-from-libor.html Ross, S. (1976), “The Arbitrage Theory of Capital Asset Pricing”, Journal of Economic Theory, 13(3), 341–60. Sari, N. M., Mirakhor, A. & Haﬁdzi, M. S. K. (2017), “Replacing the Interest Rate Mechanism in Monetary Policy: Case of Malaysia”, Conference Proceedings: The 1st International Colloquium on Islamic Banking and Islamic Finance, Tarbiat Modares University, Tehran, Iran. Schooling Latter, E. (2021), “LIBOR, Are You Ready for Life without LIBOR from end-2021?”, Speech at City and Financials’ Managing LIBOR Transition Event, 26 January. https://www.fca.org.uk/news/speeches/libor-are-you-ready-life-without-libor-end-2021 Sharpe, W. F. (1964), “Capital Asset Prices: A Theory of Market Equilibrium under Conditions of Risk”, Journal of Finance, 19(3), 425–42. Watson Farley and Williams (2021), “LIBOR Transition, Implications for Islamic Finance”, https://www.wfw.com/articles/libor-transition-implications-for-islamic-ﬁnance/ Zangeneh, H. & Salam, A. (1993), “Central Banking in an Interest Free Banking System”, Journal of King Abdulaziz University: Islamic Economics, 5, 25–36. 120 ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
Box Article 4 : Central Bank Digital Currency (CBDC) Initiatives in Turkey Contributed by: TŰRKÍYE CUMHURÍYET MERKEZ BANKASI ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 121
Introduction Money is an invention of humanity that is utilised in all aspects of human life . More and more, a digitalized way of living has an inevitable consequence for money to manifest itself in digital form. The technological progress around digitalisation and the emergence of numerous implementations/trials in the form of private digital currencies have accelerated efforts of central banks to create their digital form of cash, so called Central Bank Digital Currencies (CBDC). Almost all central banks around the globe are working on CBDC projects. They are researching, developing, testing, piloting and collaborating on this strategic technology to create digital rails that can put money into digital circulation. This article provides an overview of the latest developments in digital payments in Turkey, including Digital Turkish Lira project of the Turkish Central Bank. Payment Ecosystem and Covid Impact on Digitalisation of the Economy Central banks have been providing rails for both wholesale and retail payments through the banking system. Digitalisation of the payment industry has been evolving rapidly and changing the way we pay – not only wholesale payments among ﬁnancial institutions but also retail payments between individuals and businesses. Proper utilisation of the innovative technologies in payments can help many countries to leapfrog ahead in digitalisation of their ﬁnancial services and increase their ﬁnancial inclusion. For central banks and ﬁnancial system regulators, keeping track of the developments in digitalisation, and keeping regulatory frameworks up to date accordingly, is not only an institutional mandate but also a social- 122 requirement to realise the potential beneﬁts of digitalisation for all layers of society. The recent global pandemic brought fundamental challenges in the production, distribution and consumption of goods and services. These challenges further accelerated the digitalisation of economic activity, including the development and utilisation of Instant Payment Systems (IPS) and CBDCs. Digital Payments and Central Bank of the Republic of Turkey (CBRT) Demand for safer, efﬁcient and seamless 24/7 instant electronic payments has surged, and central banks have resumed their roles as innovators in these rapidly emerging technologies. The CBRT responded by launching its “FAST” instant payment system, developed in-house at the central bank, which started its operations in January 2021. FAST has swiftly become part of daily life. Sixteen million customers have used it to transfer money electronically within seconds, without limits at certain times of the day or on certain days of the week. Furthermore, they have been enabled to utilise their national ID number, phone number or email address instead of bank account numbers to receive money. A dedicated department, the Financial Innovation Department (FID), was established in order to consolidate the bank’s digitalisation efforts and to conduct research and development (R&D) to create digital Turkish Lira (DTL). The FID has been enhancing its capacity with engineers, data scientists, experts in machine learning, ﬁnance and digital technologies in order to design the architectural framework for a digital Turkish Lira. A roadmap for technological requirements, economic policy implications and legal aspects has been prepared. This roadmap includes the creation of a platform for cooperation and co-creation with- ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
technology partners and stakeholders in the ﬁnancial sector to guarantee the successful launch of DTL. This will enable the CBRT to assume the role of being the backbone of the digital economy by putting money into full-fledged digital circulation after thorough investigative processes, experiments and pilot testing. The “Digital Turkish Lira Collaboration Platform” was established for this purpose. Major technology providers and technology research institutions have joined with the CBRT for the purpose of creating the technological infrastructure that can deliver throughput, security and the legal requirements of digital Turkish Lira. Permissioned CBDC Network Central Bank • 24/7 • Instant • Accounts linked with - Phone Numbers - Email Addresses • QR Code Payments - Consumer to Consumer - Consumer to Business Fast Payment System Link Transfer between CBDC Wallets and Bank Accounts Private Network Participants Public Network - CBD Distribution Account - Online Payments Based - Online Transfers AML Authority Wallets End Users Token Based - Offline Payments - Offline Transfers Figure 1: Digital Turkish Lira Network ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 123
Through collaboration , this platform is conducting the ﬁrst phase of the pilot study to develop a prototype "Digital Turkish Lira Network" (Figure 1) and to run limited closed-circuit pilot tests. Based on the results of those tests, the CBRT will unveil advanced phases of the pilot study that will reflect a broader participation by extending the platform to include ﬁnancial intuitions and other relevant bodies. It is important to note that the CBRT has not yet reached a ﬁnal decision regarding the issuance of a digital Turkish Lira. The outputs of the ongoing research will shed light on the feasibility and potential beneﬁts of introducing digital Turkish Lira to complement the existing payments infrastructure. The capacity, scalability, interoperability and resilience of different technological alternatives are being investigated in order to decide whether the existing technologies can meet the economic, legal and ﬁnancial requirements of the digital Turkish lira. Conclusion Governments, households and businesses demand safe, resilient, efﬁcient and 24/7 instant payments with ﬁnality. It is important to stress that only sovereign money in the form of cash enables real-time payments with ultimate ﬁnality. Cash as banknotes and coins provides unconditional ﬁnality of debt or due payments. This is a societal function of money that no other alternative can fulﬁl as yet. However, cash would not function in a perfectly digital economy. CBDCs are enhanced cash with digital capabilities. Offline payment capabilities, digital identity systems, integration with existing payment rails and enabling cross-border transfers are challenges for realising the full potential of CBDCs for digital life. CBDC Initiatives and Cross-Border Payments Faster, cheaper, more transparent and more inclusive payments are important for achieving efﬁcient global trade, realising investment potential and ensuring fair distribution of wealth among nations. Cross-border integration of instant payment systems is an important development in that direction and has already started. CBDCs have the further potential beneﬁt of providing additional layers of privacy and security while meeting legal requirements and connecting payments with digital ID infrastructure. In this regard, the BUNA payment platform of the Arab Monetary Fund (AMF) and the BIS initiatives such as Project Nexus and Project Dunbar are ongoing examples of how to cover key issues and challenges in achieving interoperability in IPS and CBDCs. These projects present a useful analytical framework for addressing issues around multilateral cross-border retail payments. 124 ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
4 .0 GLOBAL DEVELOPMENTS: IFSB INITIATIVES AND ACTIVITIES 4.1 Global Developments and Impacts on the IFSI This section of the chapter summarises actions by global standard setters in 2021 and early 2022 that are relevant to the IFSI and to the standard-setting work of the IFSB. The IFSB, being the complementary global standard setter for the Islamic ﬁnancial services industry, monitors closely the work streams of global standard setters, which are naturally an important influence on the direction of its own work. The summaries given here, which are based on public-domain information, do not attempt to be comprehensive surveys of the work of other bodies, but rather to draw out possible implications for the IFSB’s future standards work. More details of all these actions are available through the websites of the relevant bodies.141 Although there have been a small number of very important developments, the flow of key documents from the main standard setters has abated somewhat in 2021. This partly reflects the preoccupation of national and international authorities with the COVID-19 pandemic, but also the gradual completion of the post-GFC work programmes. Standard setters are therefore reducing their focus on creating new standards in favour of placing a greater focus on implementation, although there are exceptions to this pattern – for example, in sustainability and in some areas of technology. In addition, many of the early lessons of the pandemic have been in relation to operational risk and resilience, including the impacts of outsourcing, and much of the work done in these areas applies as much to IFIs as it does to their conventional counterparts. 4.1.1 International Sustainability Standards Board Issues of sustainability and sustainable development are important to the Islamic ﬁnance industry, even more than to the conventional ﬁnance community, because of the ethical principles that provide the foundation and rationale for Islamic ﬁnance. The IFSI Stability Report 2021 noted the proposals by the trustees of the IFRS Foundation for a new Sustainability Standards Board and the signiﬁcant support they had already received from governments and international organisations. These developments culminated in the announcement on 3 November 2021 that the IFRS Foundation would indeed be setting up an International Sustainability Standards Board (ISSB), alongside but independent of the International Accounting Standards Board, to develop a global baseline of high-quality sustainability disclosure standards. It also announced the consolidation into the ISSB of two existing initiatives, and subsequently announced a chair and vice-chair of the new body. In parallel with the organisational developments, the Foundation had been working on prototype climate and general disclosure requirements. These were published for consultation to help the ISSB to produce its ﬁrst standards more quickly that would otherwise have been the case. In fact, the ISSB published its formal draft standards in both these areas in March 2022; both were welcomed by IOSCO, in particular. The IFSB has included limited climate/sustainability-related disclosures in some of its standards, based on those recommended by the Task Force on Climate-Related Financial Disclosures, and is currently working on a guidance note on sustainability in Islamic capital markets. That work will now be able to proceed on the assumption that there will be at least some conventional disclosure standards commanding wide support, though initially not focused on the ﬁnancial sector in particular. New standards from the ISSB will also be taken into account in any future revision of the IFSB’s disclosure standards. 141 See: International Sustainability Standards Board; Financial Stability Board (fsb.org); The Basel Committee – overview (bis.org); OICV-IOSCO – Iosco.org; International Association of Insurance Supervisors (iaisweb.org) and FATF-GAFI.ORG – Financial Action Task Force (FATF). ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 125
4 .1.2 Financial Stability Board (FSB) Lessons Learnt from the COVID-19 Pandemic Last year’s IFSI Stability Report discussed some of the initiatives taken by various bodies, and the FSB in particular, to analyse the lessons of the pandemic. In October 2021, the FSB produced its ﬁnal report, drawing on work by the other global standard setters and external inputs. Although this is badged as a ﬁnal report, it recognises that there will still be lessons to be learnt as the pandemic draws to an end and the global economy recovers. These lessons will no doubt feed into other FSB and standard-setter workstreams and, indeed, a signiﬁcant aspect of the Final Report is its contribution to identifying areas for future work. The report takes a generally positive view of the way the international ﬁnancial system coped with the pandemic, aided by post-GFC regulatory reforms and strong policy measures. However, it draws attention once more to the non-bank ﬁnancial intermediation (NBFI) sector, whose role in ﬁnancial intermediation is growing and which is considered to have some vulnerabilities, particularly in the area of liquidity. This is discussed in more detail below. The pandemic has also raised issues around operational resilience, including cyber resilience; these issues, though important, will generally impact Islamic institutions similarly to conventional ones. In addition, it has accelerated digitalisation in ﬁnancial services, some key issues of which are also discussed below. The FSB also notes that there will be further macroeconomic issues to be discussed in the recovery from the pandemic, including the unwinding of policy measures and the impact of the debt overhang in the non-ﬁnancial corporate sector partly resulting from the support measures implemented in response to COVID-19. The FSB and other global standard setters have a concerted programme to address concerns arising from the growing role of NBFI in intermediation, and its increased interconnectedness with the banking sector. An overall progress report from the FSB was published in October 2021 and summarises the main workstreams. A particular issue is liquidity and its behaviour under stressed conditions. Much of the key work published in 2021 was concerned with collective investment schemes (CIS). A particular issue was how to enhance money market fund (MMF) resilience, given that many of the instruments in which MMFs invest trade in relatively illiquid markets; this would be true also of Islamic MMFs. A report published by the FSB also in October 2021 puts forward a policy toolkit for dealing with liquidity issues in MMFs. Some of the measures evaluated – for example, swing pricing when redemptions are high – would need careful examination from a Sharī`ah viewpoint if it were proposed to apply them to Islamic MMFs. Islamic MMFs are important not only from an investor protection point of view but also because of their use by Islamic banks to manage liquidity given the limited options in some Islamic money markets. Meanwhile, IOSCO published a report on the behaviour of exchange-traded funds under stress and is conducting a joint analysis with the FSB on liquidity management tools for open-ended funds more generally; this is expected to result in a report during 2022. Given the Islamic speciﬁcities – for example, the Sharī`ah restrictions on some liquidity management approaches – it is possible that there may be a future case for IFSB work in this area. 126 ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
Regulation , Supervision and Oversight of “Global Stablecoin” Arrangements In October 2021, the FSB published what was nominally an update on progress in implementation of the high-level recommendations it made a year earlier, but which in fact covered a broader set of developments in the regulation of crypto-assets. The report notes that the current generation of stablecoins are used primarily as a bridge between ﬁat currencies and crypto-assets traded for speculative purposes, rather than being used in traditional payments on any signiﬁcant scale. However, the Committee on Payments and Market Infrastructures and IOSCO have consulted on proposed guidance on how the Principles for Financial Market Infrastructures might apply to stablecoins if used within systemically signiﬁcant payment systems. In June 2021, the Basel Committee on Banking Supervision (BCBS) made proposals as to the prudential treatment that should apply to banks’ exposures to crypto-assets of different kinds, taking a rather conservative view of the risks involved, but at the time of writing it has not published a deﬁnitive standard. The Financial Action Task Force (FATF) has also updated its guidance on the anti-money laundering/combating the ﬁnancing of terrorism treatment of virtual assets. Subsequently, the FSB has also produced an update on the ﬁnancial stability risks from crypto-assets, which at present remain limited though with the potential for escalation. It has indicated that it is beginning work with other standard setters on regulatory and supervisory issues in relation to unbacked crypto-assets. At present, there is no consensus among Sharī`ah scholars on which, if any, crypto-assets are permissible. However, should a consensus emerge, there is clear potential for the IFSB to undertake work in this area. 4.1.3 International Organization of Securities Commissions Much of the work published by IOSCO in 2021 and early 2022 has been analytical or has suggested possible approaches by regulators (regulatory toolkits) rather than deﬁnitive standards. This partly reflects that some potentially important market developments remain in their early stages. Examples of publications of this kind include those on digitalisation of retail marketing and distribution, including the use of social media, and lessons learnt from the use of global supervisory colleges. Recommendations on Sustainability-Related Practices, Policies, Procedures and Disclosure in Asset Management This report, published in November 2021, sets out ﬁve recommendations for securities regulators and policymakers to improve sustainability-related practices, policies, procedures and disclosures in asset management. These are couched in very general terms, and of course relate to only one part of the capital markets, but they will nevertheless be relevant to the IFSB guidance note on sustainability in Islamic capital markets referred to above. 4.1.4 International Association of Insurance Supervisors Roadmap for 2022–3 In January 2022, the International Association of Insurance Supervisors (IAIS) published its 2022–23 Roadmap – effectively, its work programme for those two years. It regards as its key projects the Insurance Capital Standard (ICS), currently in its ﬁve-year monitoring period, and the Holistic Framework for assessing systemic risk in the insurance industry. While there will be limited new work on the ICS itself, there will be revisions to two key core principles, on valuation and capital adequacy. These are not expected to be ﬁnally adopted until 2024, but they may have signiﬁcant implications for the takāful industry and the associated IFSB standards. The IAIS is due to report to the FSB in 2022 on the ﬁrst two years of operation of the Holistic Framework. However, given the limited systemic signiﬁcance globally of the takāful industry, this is unlikely to have important implications for it. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 127
4 .1.5 Financial Action Task Force Unintended Consequences of the FATF Standards In February 2021, the FATF established a project team to analyse and understand better the unintended consequences resulting from the FATF standards and their implementation. This project examines the unintended consequences related to four broad themes: (a) de-risking; (b) ﬁnancial exclusion; (c) undue targeting of non-proﬁt organisations; and (d) curtailment of human rights. A high-level synopsis of the team’s work was published in October 2021 to facilitate discussion with stakeholders during the next phase of the work, which will look at potential mitigating options. Although there are limited, if any, Islamic ﬁnance speciﬁcities in the areas covered by the FATF standards, because of their locations and, sometimes, their role in collecting charitable contributions such as zakat, some Islamic ﬁnancial institutions believe they have suffered unfairly from de-risking in particular. This work will therefore be of particular interest to the IFSI, though it appears unlikely to have any direct impact on the work of the IFSB. 4.2 IFSB Standards, Research and PSIFIs Activities 4.2.1 Update on Standards under Development The IFSB, as an international standard-setting body with the mandate to ensure soundness and stability of the IFSI, currently has nine standards, technical notes and guidance notes under development that seek to achieve the objectives of promoting a more prudent, transparent and resilient IFSI. Islamic Banking Workstream Resolution and Recovery Plan (RRP) for IIFS The technical note aims to help the relevant RSAs and related authorities to establish an effective recovery and resolution framework and appropriate tools for effective implementation of recovery and resolution for IIFS in a manner fully compliant with Sharī`ah principles. This will include setting out the required measures to carry out effective recovery and resolution planning for IIFS, as part of their proactive measures to prepare for any potential stressed situation; supporting and enabling effective resolvability assessments essential for bespoke resolution regimes for the IIFS; and requiring Sharī`ah governance in relation to resolution and recovery planning for IIFS. Technical Note on Sharī`ah-Compliant Liquidity Management Tools The technical note aims to provide harmonised and standardised liquidity management instruments that will meet Sharī`ah rules and principles and which RSAs can transpose into national regulations for the purpose of managing liquidity issues of their IIFS. It is also intended to provide technical guidance on the modus operandi of the speciﬁc Sharī`ah-compliant liquidity management tools, highlight risks associated with these instruments, and assess their implications in relation to liquidity risk management and regulatory capital requirements for IIFS. Guiding Principles on Corporate Governance for IIFS The standard aims to revise the existing standard, IFSB-3 which was issued in December 2006, to incorporate recent substantial developments in other corporate governance global standards to provide an updated and comprehensive framework for corporate governance for Islamic banks. In particular, the revised standard will take into account the updated versions of the G20/OECD Principles of Corporate Governance and the BCBS Corporate Governance Principles for Banks issued in 2015. 128 ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
Technical Note on Macroprudential Tools in Islamic Banking The development of this new technical note aims to provide guidance on adjustments to existing macroprudential tools that may be needed to reflect the speci ﬁcities of Islamic banking contracts. It will address implementation challenges in stress testing and other methods used to identify vulnerabilities in the Islamic banking sector. Several recommendations are also included to enhance the governance arrangements to ensure that the speciﬁcities of Islamic banking are catered for when decisions to apply these tools are made. As most regulators already have established policies and ranges of tools, an approach focusing only on the speciﬁc challenges in the implementation of these instruments to the Islamic banking sector will be used in developing the technical note. Islamic Capital Markets Workstream Guidance Note on Deepening the Islamic Capital Markets The guidance note seeks to promote ﬁnancial stability through deep and liquid Islamic ﬁnancial systems with diverse instruments that will help enhance countries’ resilience to shocks, and in turn, also support the resilience of other parts of the Islamic ﬁnancial services industry by providing a wider range of investments with better price discovery. The guidance note identiﬁes the current gaps and challenges in the development of Islamic capital markets and outlines the necessary preconditions for the development and deepening of Islamic capital markets. It provides 13 recommendations addressing the issues and gaps that were identiﬁed by members. The recommendations are designed to provide a list of best practices and potential areas for consideration in line with domestic regulatory frameworks and policy approaches for Islamic ﬁnance development. Guidance Note on Sustainability-Related Issues and Disclosures in the Islamic Capital Markets (ICMs) The guidance note aims to look at sustainability and climate-related issues that relate speciﬁcally to the IFSB’s mandate of ensuring stability and resilience in the IFSI. In particular, given that ICM instruments are structured differently from conventional ﬁnancial instruments as well as the additional layers of governance involved in Islamic ﬁnance, the guidance note will aim to identify how principles related to sustainability apply to the peculiarities of the ICM and provide guidance on these issues for Islamic capital market regulators. Takāful Workstream Core Principles for Islamic Finance Regulation: Takāful The Core Principles takāful standard aims to provide an international benchmark to promote a sound regulatory and supervisory system for the takāful sector. A fair, safe and stable takāful sector will beneﬁt and protect the interests of participants, beneﬁciaries and claimants, as well as contribute to the stability of the Islamic ﬁnancial system. A hierarchical structure of principles, standards and guidance material, consistent with that of the IAIS Core Principles, is currently under development which, like other IFSB Core Principles, covers the full range of regulatory issues. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 129
Revised Standard on Solvency Requirements for Tak āful The revised solvency standard for takāful undertakings, replacing the existing IFSB-11, is intended to foster conﬁdence among the general public – in particular, takāful participants – in the ﬁnancial stability of the takāful sector. It aims to increase the likelihood that a takāful undertaking would be able to meet all its contractual obligations and commitments; to act as an early warning system for regulatory intervention and immediate corrective action; and to provide a buffer so that even if the takāful participants are to suffer a loss in the event of failure of a takāful undertaking, the impact can be limited or reduced, especially the systemic effects. The standard will take account of developments in conventional standards since IFSB-11 was issued in 2010, especially the IAIS Insurance Capital Standard and the ﬁnalisation of the European Solvency II regime. Conduct of Business for Takāful Undertakings This standard recognises the link between conduct of business and prudential risks, and the signiﬁcant difference between conduct-of-business issues in takāful and those in conventional insurance. It therefore aims to provide comprehensive supervisory guidance to the RSAs within the conduct-of-business environment and to articulate the link between prudential and conduct-of-business risks to strengthen the prudential supervisory framework and practices. Cross-Sectoral Workstream Revised Guiding Principles on the Sharī`ah Governance Framework for IIFS The IFSB and the AAOIFI have partnered to jointly provide a revised set of guiding principles on the key components of a sound and effective Sharī`ah governance system for IIFS. The aim of the standard is to provide a revised set of guiding principles and rules on the key components of a sound and effective Sharī`ah governance framework for IIFS. It sets out 14 principles that seek to improve the quality of Sharī`ah governance by providing comprehensive guidance on minimum and best practices for various elements of Sharī`ah governance; to help RSAs and IIFS fulﬁl their responsibilities towards the various stakeholders regarding Sharī`ah compliance and governance; and to provide greater harmonisation of Sharī`ah governance structures and practices across jurisdictions. The standard will replace IFSB-10, issued in December 2009. 130 ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
4 .2.2 Synopsis of IFSB Research Projects The IFSB has issued ﬁve working papers since the publication of the Stability Report 2021. IFSB working papers are research-based publications intended to lay the groundwork for future standards development and implementation. The papers can be downloaded from the IFSB website. WP-17: EFFECTIVENESS OF MACROPRUDENTIAL TOOLS FOR ISLAMIC BANKING WP-17 applies a quantitative method to assess the effectiveness of a set of macroprudential tools on household credit growth in banking environments with both Islamic banks and conventional banks. A qualitative method based on survey ﬁndings and case studies of two countries – namely, Saudi Arabia and Indonesia – was also used to examine the country-speciﬁc contexts relating to implementation of the macroprudential policy framework. The analysis suggests that Islamic banks also respond appropriately to the implementation of macroprudential policy tools. This demonstrates the importance of macroprudential tools for managing potential risks associated with the high ﬁnancing exposure of Islamic banks. Thus, a relatively high ﬁnancing exposure of Islamic banks to household credit (the real sector), which could probably make them vulnerable to macroeconomic dynamics, can be effectively controlled. WP-20: THE ROLE OF SOCIAL IMPACT IN THE RECOVERY PHASE OF THE COVID-19 PANDEMIC WP-20 addresses the role of social in the recovery phase of the COVID-19 pandemic. Notwithstanding the pandemic has done a considerable amount of economic, social and emotional damage to the global economy and people the world over, the Islamic ﬁnancial system’s resilience, sustainability and contribution during the recovery from GFC of 2008 suggests it will play a crucial role in the recovery from recent events as well. To achieve this, . Islamic ﬁnancial services have a bundle of social ﬁnancial services at their disposal – in particular, social The present working paper, based on extant literature and notable examples of the use of social impact in mitigating the impact of COVID-19, analyses the potential role of social impact in the recovery phase from the perspective of both investors and issuers. The ﬁndings of the study indicate that this role may be a critical one. WP-21: ASSESSING THE EFFECTIVENESS OF COVID-19 POLICY RESPONSES IN THE ISLAMIC CAPITAL MARKET WP-21 focuses on developments in the Islamic capital market during the COVID-19 pandemic. Adopting a conceptual approach, the paper speciﬁcally assesses the performance of the key segments in the ICM. It also considers the experience and measures adopted by the key multilateral and international organisations, as well as the policy responses adopted across IFSB member jurisdictions, with an emphasis on their relative effectiveness. The paper provides an overview of the ICM post-COVID-19 pandemic and the opportunities the pandemic offers to the industry during the recovery phase. WP-22: ASSESSING THE EFFECTIVENESS OF COVID-19 POLICY RESPONSES IN THE TAKĀFUL INDUSTRY WP-22 focuses on developments in the takāful segment of the IFSI during the COVID-19 pandemic, up to August 2021. Based on responses obtained from takāful companies, insurance companies and RSAs across IFSB member jurisdictions, the paper speciﬁcally assesses the performance of takāful companies. It also considers the COVID-19 experience and the measures adopted by both operators and regulators across IFSB member jurisdictions, with an emphasis on their relative effectiveness. The paper provides an overview of the takāful industry post-COVID-19 and of the opportunities the pandemic offers to the industry during the recovery phase. It also provides views of key industry leaders and experts regarding issues highlighted in the survey and offers insights that may be taken into account by policymakers and regulators to support and encourage takāful’s sustainability and growth. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 131
WP-23 : ASSESSING THE EFFECTIVENESS OF COVID-19 POLICY RESPONSES IN THE ISLAMIC BANKING INDUSTRY WP-23 empirically assesses the effectiveness of COVID-19 policy responses in the Islamic banking industry across IFSB member jurisdictions. Speciﬁcally, the paper aims to determine if the various monetary, ﬁnancial and ﬁscal policy support measures used have resulted in the intended outcome of ensuring that Islamic banks remain resilient and complement the functioning of the economy by providing ﬁnancing to the real economy during the ongoing pandemic. Moreover, the paper investigates whether Islamic banks have used the flexibility provided for in the IFSB standards and guidelines to adapt to the peculiarities of the COVID-19 pandemic shock, and whether there are potential Islamic banking sources of procyclicality arising especially from the macroﬁnancial policy measures. The analyses are based on data extracted from the IFSB Prudential and Structural Islamic Finance Indicators from Q1’19 to Q4’20 for 17 jurisdictions. Other data sources include various COVID-19 policy response indexes, IFSB surveys issued during the pandemic, and publications by the IFSB and other standard-setting bodies. Speciﬁcations of a number of panel regression analysis models are tested. Findings indicate that the various COVID-19 policy responses have been generally effective in ensuring that Islamic banks continue to perform their intermediation role of supporting the real economy during the pandemic. Finally, the paper identiﬁes the ﬁnancial stability implications of the ﬁndings and offers suggestions for scheduling the phasing out of policy support measures. 4.2.3 Final Review of the IsDB–IFSB Ten-Year Framework and Strategies Paper The IFSI Ten-Year Framework and Strategies Report, covering the period 2008–18, was ﬁrst issued in 2007, followed by a Mid-Term Review issued in May 2014. The Mid-Term Review discussed the proposed measures to address the gaps or challenges in meeting the objectives of the Ten-Year Framework, as well as the roles of the public and private sectors and other stakeholders in carrying out the key recommendations, taking into account the state of development of the IFSI in the respective jurisdictions. The Mid-Term Review also proposed 16 recommendations, comprising 13 from the 2007 document and three new additions, which are further grouped into three themes, namely: “enablement”, “performance” and “reach”. Additionally, the Mid-Term Review publication identiﬁed a total of 20 key initiatives to support the implementation of recommendations. These initiatives are grouped along the three pillars of the framework: “enablement”, “performance” and “reach”. Importantly, the Mid-Term Review envisioned that the review of the industry-wide progress of the recommendations and key performance metrics would culminate in a ﬁnal review, which essentially marks the completion of the period envisioned by the Ten-Year Framework; hence, the need to embark on this last phase of the Ten-Year Framework to complete the entire project. The ﬁnal review will examine the progress and current status of the priorities and initiatives recommended in the Mid-Term Review across the Islamic banking, Islamic capital markets, takāful and Islamic non-banking ﬁnancial institutions segments. It will assess the effects on the respective Islamic ﬁnance segments of developments in the global ﬁnancial system and propose key recommendations and implementation initiatives for the future direction of the IFSI as a global ﬁnancial ecosystem. The project, which is expected to culminate in a ﬁnal report that will be jointly published by both the IsDB and IFSB, is presently being carried out by a working group comprising staff of both organisations and external consultants. A review committee from the IFSB Technical Committee has also been appointed to provide a technical review at various stages of the project. 132 ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
4 .2.4 Prudential and Structural Islamic Financial Indicators (PSIFIs) Database: A Repository of Global Islamic Finance Data The PSIFIs database consists of a set of aggregate indicators of the ﬁnancial health, soundness, size and growth of the IFSI in a country. The PSIFIs are designed to capture the speciﬁcities of IIFS, while also providing a set of standardised indicators that are broadly parallel to the framework for the ﬁnancial soundness indicators (FSIs) developed by the IMF to help enable global comparability of Islamic ﬁnance statistics and similar conventional ﬁnance statistics. The database project was initiated in 2004 and was developed in phases, primarily with the aim of capturing information on the size, growth and structural features of the Islamic banking system. After completion of four successful phases, the PSIFIs project is now in Phase V under the Medium-Term Plan 2020–22 and has reached a sustainable stage in terms of regular reporting of Islamic banking data. The PSIFIs project currently compiles Islamic banking data from 26 jurisdictions – namely, Afghanistan, Bahrain, Bangladesh, Brunei Darussalam, Egypt, Indonesia, Iran, Iraq, Jordan, Kazakhstan, Kuwait, Kyrgyzstan, Lebanon, Libya, Malaysia, Morocco, Nigeria, Oman, Pakistan, Palestine, Qatar, Saudi Arabia, Sudan, Turkey, the United Arab Emirates and the United Kingdom. Overall, the PSIFIs member countries collectively hold more than 95% of global Islamic banking assets and over 90% of the jurisdictions with a systemically important Islamic banking sector. In Phase V, the IFSB initiated expansion of the PSIFIs database to also cover the takāful and ICM sectors. PSIFIs data on the takāful sector have been disseminated annually since 2020. Similar to the CAMELS analytic framework used for organising prudential indicators for Islamic banking, takāful indicators use a CARMELS framework that has an additional measure for retakāful: Capital Adequacy, Asset Quality, Retakāful (Reinsurance), Management, Earnings, Liquidity, and Sensitivity to Market Risk. Reinsurance, which results in transfer of risk to a reinsurance/retakāful undertaking, is added because it is directly related to the soundness of the operation. Currently, nine RSAs from Bahrain, Brunei Darussalam, Indonesia, Jordan, Malaysia, Nigeria, Saudi Arabia, Turkey and the United Arab Emirates are participating in the compilation of takāful PSIFIs. The inaugural dissemination of PSIFIs data for the ICM sector was completed in 2021 with subsequent disseminations planned to follow annually. The PSIFIs for the ICM sector cover three main areas: , Sharī`ah-compliant equities and Islamic funds. At present, seven jurisdictions – namely, Bahrain, Brunei Darussalam, Indonesia, Kenya, Malaysia, Qatar and Turkey – have joined the PSIFIs database for the ICM sector. In Phase V, the IFSB also started collecting more granular-level data for the Islamic banking sector in the form of detailed ﬁnancial statements (DFS) that cover the aggregated income statements, balance sheets and memoranda items for the Islamic banking sector. DFS data have been disseminated on a yearly basis since 2020. The DFS provides analysts with information that enables them to experiment with different variations of the indicators and to examine other linkages of the accounts with the general economy. The full structural information can also facilitate comparison to microdata from individual enterprise ﬁnancial reports and from various commercial databases that present bank-by-bank reporting. The DFS parallels the IMF’s collection of similar accounts covering full national banking systems (conventional and Islamic combined). ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 133
4 .3 Facilitating the Implementation of IFSB Standards Initiatives Since its establishment, the IFSB has conducted several types of activity that support the implementation of standards in member countries. These activities include: facilitating the implementation of IFSB standards (FIS) workshops, technical assistance (TA), policy advice (PA), an e-learning platform, an outreach programme, the translation of IFSB standards into additional languages, and provision on the IFSB website of frequently asked questions (FAQs) for standards, guidance notes and technical notes. Some of these activities are meant to educate and raise awareness of IFSB standards. Others provide direct support to member RSAs, since technical support is extended during the drafting of policies and regulations to ensure consistency with the IFSB’s standards. The Secretariat also conducts an annual implementation survey to assess the progress made in implementing the IFSB’s published standards and to understand the major challenges and constraints faced in this regard. The feedback received from members helps in identifying strategies that can assist in accelerating and strengthening the process of implementing the IFSB’s standards. In addition to the above activities, the IFSB Secretariat introduced new initiatives in its Strategic Performance Plan 2018–2020 that aim to further enhance the implementation support provided to member RSAs. These newly introduced initiatives include the publishing of an Implementation Guidelines (IG) Report, development of the Impact and Consistency Assessment Programme, building a database of experts in IFSB standards through conducting the Training of Trainers Programme, and publishing FAQs on IFSB standards, guidance and technical notes. The following summary provides further information on the IFSB’s implementation initiatives. 4.3.1 FIS Workshop, Technical Assistance and Policy Advice In 2021, the Secretariat conducted 12 FIS workshops, two capacity-building workshops for market players, and three workshops for RSAs on different IFSB standards, covering the three sectors of Islamic banking, Islamic capital markets and takāful. The Secretariat also ﬁnalised TA and PA to member RSAs in 2021, delivered through a mix of virtual engagements and email communications. 4.3.2 Impact and Consistency Assessment Programme The IFSB Secretariat has been working on the development of an impact and consistency assessment programme (ICAP) for IFSB standards in member countries. In this regard, an ICAP handbook and assessment templates have been ﬁnalised and approved by the task force and the IFSB’s Technical Committee. The ICAP assessment is meant to provide a validated representation of the implementation status of particular member RSAs and to allow the identiﬁcation of any regulatory gaps that might have a serious impact on the ﬁnancial sector in member jurisdictions. It will also allow the IFSB to extend any support required to remedy gaps and to ensure effective implementation of standards. The initiative has the following aims: a. to promote the full and consistent adoption of IFSB standards by identifying provisions in the standards that are not reflected in domestic regulations and practice; b. to assess the current and potential impact of any deﬁciencies for the objectives of the regulator; c. to help member jurisdictions by providing technical assistance to undertake the reforms needed to improve the alignment of national regulations with IFSB standards; d. to assess the impact of implementing IFSB standards on member countries; and e. to ensure that Islamic ﬁnancial institutions and markets in member jurisdictions are effectively regulated and supervised on an equitable basis with conventional ﬁnancial institutions. 134 ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
The introduction of ICAP as one of the main activities under implementation will have several bene ﬁts for both the IFSB and member RSAs. While it will help the IFSB to achieve a vital part of its core mandate, it will allow member RSAs participating in the ICAP programme to build a stable, resilient and high-integrity Islamic ﬁnance sector through complete and consistent implementation of IFSB standards. They will also be encouraged to create a fair and competitive environment where both Islamic and conventional ﬁnancial institutions and markets are provided with a level playing ﬁeld from a regulatory perspective. Initially, the programme will focus on assessing implementation of the Islamic banking standards, and will be extended in due course to the ICM and takāful sectors. Two ICAP approaches will be available: (a) facilitated ICAP, and (b) self-assessment ICAP. A facilitated ICAP involves external parties such as an ICAP team, while a self-assessment ICAP will be controlled internally by the RSA without any involvement by the IFSB. The main outcome of the ICAP will be a ﬁnal assessment report highlighting identiﬁed gaps or deviations in the domestic regulations and providing recommendations on bridging the gaps. Based on the ICAP ﬁndings and results, RSAs will be provided with feedback from the IFSB Secretariat on how to address the gaps and undertake the reforms needed to improve the alignment of national regulations with IFSB standards in the assessed RSA. RSAs will also receive any necessary support from the Secretariat to achieve complete and effective implementation of standards. 4.3.3 Training of Trainers Programme The Training of Trainers (ToT) Programme is an initiative under the Implementation Framework that aims to mobilise subject matter experts (SMEs) in IFSB standards who can be engaged in the IFSB’s activities, such as FIS workshops, TAs and PAs. They are expected to train colleagues within their own RSA and to act as resident consultants on standards implementation. Invitation letters have been sent to all member RSAs, inviting them to nominate qualiﬁed staff to be part of the programme. The Secretariat conducted an extensive technical training for the nominated applicants in 2021, which covered the three sectors of Islamic banking, Islamic capital markets and takāful. Participants were invited to attend the programme based on their specialties and area of expertise. The participants went through an assessment and will be given a certiﬁcate verifying their attendance at the ﬁrst ToT programme. The programme will be held annually, and at the end participants will be certiﬁed as experts to facilitate workshops on IFSB standards. 4.3.4 Implementation Guidelines Another initiative under the Implementation Framework is the Implementation Guidelines (IG) project. The objective of the IG is to show different countries’ experiences in implementing standards and prerequisites for effective implementation, creating an easy pass for member RSAs who want to improve their implementation rates by leveraging on the experience of other member RSAs with high implementation rates. In 2021, the Secretariat published the ﬁrst edition of the Implementation Guidelines project with participation of the Central Bank of Bahrain, the Central Bank of Jordan, the Central Bank of Oman and the Agency of the Republic of Kazakhstan for Regulation and Development of the Financial Market. The Secretariat has also commenced the second IG project for 2021. The second edition of the Implementation Guidelines report will be published with the support of the State Bank of Pakistan, Otoritas Jasa Keuangan (Financial Services Authority of Indonesia), the Central Bank of Nigeria and the Central Bank of Sudan. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 135
4 .3.5 Highlights of the IFSB Standards Implementation Survey 2021 The IFSB Standards Implementation Survey is an annual survey exercise, undertaken by the IFSB, covering IFSB RSA members. Speciﬁcally, the survey helps in assessing the progress made in implementing the IFSB’s published standards by member RSAs, understanding the major challenges and constraints faced by member RSAs in implementing the standards, and identifying the right strategies that can assist in accelerating and strengthening the process of implementing IFSB standards. As in previous years, the survey relies on self-reporting; no veriﬁcation of the responses is undertaken, nor is any assessment made of the completeness of implementation. The IFSB Secretariat has conducted its 2021 Implementation Survey which covers the three Islamic ﬁnance sectors. A total of 38 RSA members participated in the 2021 survey, which was conducted between 26 January and 15 March 2021. Thirty responses were received on the Islamic banking sector, 13 were received with regards to the takāful sector and another 15 were received on the ICM sector. A more detailed composition of the respondents and their sectors of responsibility is illustrated in Chart 4.3.5.1. Chart 4.3.5.1 Regulatory Sectors of the Responded RSAs Regulate Banking and Takāful (5) Regulate Banking and ICM (1) Regulate only Banking (17) Regulate only ICM (7) Regulate only Takāful (1) Regulate all 3 sectors (7) The response rate is still very low compared to the previous year. The consistency of responders is another challenge for the Secretariat in generating accurate data. The Secretariat is developing a new approach to engage with members that are yet to respond and will revise the data accordingly. The respondents indicated that 51% of all key142 IFSB standards (covering all three sectors) have “Complete” status, meaning they have completely implemented those standards. This was followed by “Planning” status at 35% and “In Progress” status at 6%. 142 136 Among the key banking standards are: Risk management (IFSB-1), Corporate governance (IFSB-3), Disclosures to promote transparency and market discipline (IFSB-4, IFSB-22), Capital adequacy (IFSB-2, IFSB-7, IFSB-15), Supervisory review process (IFSB-5, IFSB-16), Shariah governance (IFSB-10), Code of conduct (IFSB-9), Liquidity risk management (IFSB-12, GN-6), Core principles (IFSB-17), and Stress testing (IFSB-13). Key takaful standards are: Guiding principles (IFSB-8), Solvency requirements (IFSB-11), Risk managements (IFSB-14), Retakaful (IFSB-18), Shariah governance (IFSB-10), and Code of conduct (IFSB-9). Key ICM standards are: ICIS guiding principles (IFSB-6), Disclosure requirements (IFSB-19), and Core ICM principles (IFSB-21). ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
Chart 4 .3.5.2 Overall Implementation of IFSB Standards (2021) Not in plan (8%) In Progress (6%) Completed (51%) Planning (35%) Due to the low rate of response from RSAs, the IFSB made a comparison among the consistent members that submitted their survey results in 2020 and 2021 to analyse the changes in the implementation rate. Of the 38 respondents in 2021, 18 also participated in the 2020 survey. Looking at the consistent members, there has been an increase of 7% in “Complete” status, and a decrease of 3% and 4% in “Planning” and “Not in Plan” status, respectively. Chart 4.3.5.3 All IFSB Standards: Consistent Members (2020 and 2021) 5% (2020) 7% (2020) 5% (2021) 3% (2021) 33% (2020) 55% (2020) 30% (2021) 62% (2021) Complete Planning In Progress Not in plan The Implementation Survey report also provides snapshots on the implementation rate for each sector. For the Islamic banking sector, 47% of the standards have been implemented completely by the RSAs that participated in the survey. However, it is observed that there is no signiﬁcant change in implementation status among the consistent members in 2020 and 2021 across all types of completion status. The consistent members include 15 RSAs that participated in both surveys. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 137
Chart 4 .3.5.4 Overall Implementation of Islamic Banking Standards (2021) Not in plan (8%) In Progress (5%) Completed (47%) Planning (40%) Chart 4.3.5.5 Islamic Banking Standards: Consistent Members (2020 and 2021) 4% (2020) 3% (2020) 5% (2021) 3% (2021) 36% (2020) 56% (2020) 37% (2021) 56% (2021) Complete Planning In Progress Not in plan In terms of Implementation rate for the takāful sector, the takāful standards have experienced a remarkable increase from a 55% completion rate in 2020 to 80% in 2021. This can be explained by a new set of respondents that participated in the 2021 implementation survey and has achieved high implementation rates. While considering the consistent members only, the growth is still signiﬁcant at 25%. Chart 4.3.5.6 Overall Implementation of Takāful Standards (2021) In Progress (1%) Not in plan (3%) Planning (19%) Completed (77%) 138 ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
Chart 4 .3.5.7 Takāful Standards: Consistent Members (2020 and 2021) 2% (2020) 19% (2020) 2% (2021) 8% (2021) 10% (2021) 55% (2020) 80% (2021) 24% (2020) Complete Planning In Progress Not in plan In contrast, the ICM implementation rate has shown a drop from 63% in 2020 to 59% in 2021 among consistent members only. There is a decrease of 4% in the “Complete” implementation rate status due to the different responses of the same jurisdiction.143 “Not in plan” decreased by 4%, while both “Planning” and “In progress” increased by 4%. Chart 4.3.5.8 Overall Implementation of Islamic Capital Markets Standards (2021) Not in plan (17%) In Progress (7%) Completed (45%) Planning (31%) 143 The Secretariat received contradicting responses from a few jurisdictions that identiﬁed standards at the “Complete” status in 2020 but changed their responses in 2021 to “Planning” or “In progress” for the relevant standards. This is one reason why the Secretariat is working on changing the survey methodology. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 139
Chart 4 .3.5.9 Islamic Capital Markets Standards: Consistent Members (2020 and 2021) 5% (2020) 11% (2020) 9% (2021) 7% (2021) 63% (2020) 21% (2020) 59% (2021) 25% (2021) Complete Planning In Progress Not in plan Based on the survey ﬁndings, the most implemented standards for the Islamic banking sector are those on Sharī`ah governance, capital adequacy, corporate governance and risk management. The Sharī`ah governance standard was implemented by 21 out of 30 Islamic banking regulators that participated in the survey, which represents a 70% implementation rate. This was followed by the capital adequacy standard at 60%, and by the corporate governance and risk management standards, both with 57% implementation rates. Chart 4.3.5.10 Number of Implemented Islamic Banking Standards by Key Areas by RSA (2021) 21 Sharī`ah Governance 18 Capital Adequacy Risk Management 17 Corporate Governance 17 Liquidity Risk Management 15 Supervisory Review Process 15 Disclosures to Promote Transparency and Market Discipline 13 12 Core Principles 10 Code of Conduct Stress Testing 5 The survey also looked at the challenges faced by RSAs in the implementation of IFSB standards. The top three challenges identiﬁed by the respondents include: the lack of knowledge of Islamic ﬁnance by RSA’s staff (59%); the identiﬁcation of gaps between the existing regulatory framework and IFSB standards (56%); and the length of time required to implement the standards (54%). For the purpose of supporting the RSAs in overcoming the challenges of implementing IFSB standards, the survey also focuses on respondents' views of the potential signiﬁcance of the implementation tools that the IFSB might deploy to assist its members. The most desired forms of support from the IFSB identiﬁed by member RSAs were: facilitating the implementation of IFSB standards through workshops and e-learning (95% of the respondents found this very signiﬁcant), and publishing FAQs (92% found this signiﬁcant). These were followed by- 140 ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
Implementation Guidelines , sharing of experience and e-workshops, with an 89% signiﬁcance rate. The Secretariat compared the results among 17 consistent respondents from the previous survey, which showed an increased request for FIS workshops (from 89% to 95%) and for FAQs (from 79% to 92%). Other tools, such as Implementation Guidelines, sharing of experience and e-workshops, were also more in demand, along with technical assistance and reporting templates (up from 79% to 86%). There was a signiﬁcant increase in ICAP (from 68% to 80%) and in the ToT programme (from 63% to 84%). The demand for e-learning remained unchanged among consistent respondents (95%). Chart 4.3.5.11 Signiﬁcance of Implementation Tools 100% 80% 60% 40% 20% ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 Translation of IFSB Standards FAQs E-Workshops E-Learning ICAP Country/Self-Review Assessment Resident Implementation ToT Program Sharing of Experience (Member RSAs) Implementation Guidelines Assist In Identifying Regulatory Gaps Develop Reporting Templates More Technical Notes Policy Advice Technical Assistance FIS Workshops 0% 141
LIST OF BOXES , TABLES AND CHARTS BOXES 1. Islamic Finance, SDGs and Climate Change – An Aligned Spectrum 2. Sustainability 3. Global Islamic Financial Industry Outlook in 2022 4. Central Bank Digital Currency (CBDC) Initiatives in Turkey in Malaysia FIGURES 2.1.1 Key Indicators for the Assessment of Islamic Banking Resilience 3.1 Potential Risks Related to the Transition from LIBOR to RFRs TABLES 1.1.1.1 Breakdown of the Global IFSI by Sector and Region (USD billion) (2021) 2.2.1.1 Demand Comparison for Selected 3.1 Alternative Reference Rates 3.2 Pros and Cons of Using Term ARRs 3.3 Pros and Cons of Using the Bottom-Up Approach 3.4 Pros and Cons of Rental Indices 3.5 Pros and Cons of the Output Price Index 3.6 Pros and Cons of the Asset Price Index 3.7 Pros and Cons of Output Growth Indices 3.8 Pros and Cons of Implied Proﬁt Rates Issued in 2021 CHARTS 1.2.1 Islamic Banking Share in Total Banking Assets by Jurisdiction (%) (2021) 1.2.2 Islamic Banking Assets in Jurisdictions with an Islamic Banking Sector of Systemic Importance (2021) 1.2.3 Outstanding in Jurisdictions with an Islamic Banking Sector of Systemic Importance (2021) 1.2.4 Domestic Islamic Banking Assets (USD billion) and Domestic Islamic Banking Market Share (%) (2021) 1.2.5 Jurisdiction Share of Global Islamic Banking Assets (%) (2021) 1.2.6 Regional Islamic Banking Assets (USD billion) (2019–21) 1.2.2.1 Islamic Banking Assets Annual Growth Rates for Various Countries (%) (4Q’21) 1.2.2.2 Islamic Banking Aggregate Financing Annual Growth Rates for Various Countries (%) (4Q’20–4Q’21) 1.2.2.3 Islamic Banking Aggregate Deposit Annual Growth Rates for Various Countries (%) (4Q’20–4Q’21) 1.3.1.1 Global 142 Issuances and Outstanding Trends (USD billion) (2004–21) ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
1 .3.1.2 Issuances by Issuer Type (%) (2021) 1.3.1.3 (a) Sovereign Issuances by Jurisdiction of the Originator (%) (2021) 1.3.1.3 (b) Corporate Issuances by Jurisdiction of the Originator (%) (2021) 1.3.1.4 Total Issuances by Domicile (%) (2021) 1.3.1.5 Global Issuances by Sector (%) (2021) 1.3.1.6 (a) Basel III-Compliant Issuances (USD million) (2021) 1.3.1.6 (b) Basel III-Compliant 1.3.1.1.1 Sustainability-Related Issuances (2017–21) 1.3.1.1.2 Sustainability-Related Issuers (USD million) (2021) 1.3.2.1 Growth in Assets under Management and Number of Islamic Funds (2008–21) 1.3.2.2 Islamic Fund Assets by Domicile (%) (2021) 1.3.3.1 Ten-Year Historical Performance (2012 – Feb 2022) 1.3.3.2 Sector Allocation and Sector Performance (2021) 1.4.1.1 Trend of Global Takāful Contributions (USD million) (2011–20) 1.4.1.2 Share of Takāful Sector Business Relative to Insurance Sector (%) (2020) 1.4.1.3 Contribution of Top Seven Takāful Markets (2020) 1.4.1.4 Takāful Contributions by Key Region (USD million) (2019–20) 2.1.1.1 Global Islamic Banking Weighted Average ROA and ROE (1Q’19–4Q’21) 2.1.1.2 Islamic Banking Average ROA for Stand-Alone Islamic Banks by Country (4Q’20 and 4Q’21) 2.1.1.3 Islamic Banking Average ROA for Stand-Alone Islamic Banks by Country (4Q’20 and 4Q’21) 2.1.1.4 Islamic Banking Net Proﬁt Margin by Country (4Q’20 and 4Q’21) 2.1.1.5 Islamic Banking Cost-to-Income Ratio by Country (4Q’20 and 4Q’21) 2.1.2.1 Liquidity Coverage Ratio for Stand-Alone Islamic Banks by Country (4Q’20 and 4Q’21) 2.1.2.2 Net Stable Funding Ratio for Stand-Alone Islamic Banks by Country (4Q’20 and 4Q’21) 2.1.2.3 Financing-to-Deposit Ratio by Country (4Q’20 and 4Q’21) 2.1.2.4 Liquid Assets to Short-Term Liabilities Ratio by Country (4Q’20 and 4Q’21) 2.1.3.1 Global Islamic Banking Average Foreign Currency Funding and Financing as a Proportion of Issuances by Country (USD million) (2021) Total Funding and Financing (1Q’20 and 4Q’21) 2.1.3.2 Islamic Banking Share of Foreign Currency Funding and Share of Foreign Currency Financing as a Proportion of Total Funding and Financing by Country (4Q’20 and 4Q’21) 2.1.4.1 Weighted Average Percentage of Financing and Non-Performing Financing to Selected Economic Sectors (4Q’21) 2.1.4.2 Islamic Banking Sectoral Composition of Financing by Country (4Q’21) 2.1.5.1 Global Islamic Banking Average Gross Non-Performing Financing to Total Financing (1Q’19–4Q’21) 2.1.5.2 Islamic Banking Average Gross Non-Performing Financing to Total Financing by Country (4Q’20–4Q’21) 2.1.5.3 Sectoral Composition of NPF of Islamic Banking by Country (4Q’21) 2.1.6.1 Global Islamic Banking Average Capital Adequacy Ratios (1Q’19–4Q’21) 2.1.6.2 Islamic Banking Average Total Capital Adequacy Ratio for Stand-Alone Islamic Banks by Country (4Q’20–4Q’21) 2.1.6.3 Islamic Banking Average Tier-1 Capital Adequacy Ratio for Stand-Alone Islamic Banks by Country (4Q’20–4Q’21) ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 143
2 .1.7.1 Islamic Banking Leverage Ratio by Country (4Q’20–4Q’21) 2.2.1.1 Issuances by Market (2021) 2.2.1.2 Issuances by Currency (2021) 2.2.1.3 Maturity Trend of All New Issuances (2011–21) 2.2.1.4 Issuances by Structure (2021) 2.2.1.5 Geographical Distribution of Selected 2.2.1.6 Investors’ Breakdown of Selected 2.2.1.7 Outstanding Volume of 2.2.2.1 Number of Islamic Funds by Asset Size (USD million) (2017–21) 2.2.2.2 Islamic Fund Assets by Asset Class (2021) 2.2.3.1-5 Returns of Equity Indices 2.3.1.1 Return on Assets (%) (2017–19 and 2020) 2.3.1.2 Return on Equity (%) (2017–19 and 2020) 2.3.2.1 Loss Ratio: General Takāful (%) (2017–19 and 2020) 2.3.2.2 Beneﬁts/Claims Ratio: Family Takāful (%) (2017–19 and 2020) 2.3.2.3 Expense Ratio: General Takāful (%) (2017–19 and 2020) 2.3.2.4 Expense Ratio: Family Takāful (%) (2017–19 and 2020) 2.3.2.5 Combined Ratio: General Takāful (%) (2017–19 and 2020) 2.3.2.6 Combined Ratio: Family Takāful (%) (2017–19 and 2020) 4.3.5.1 Regulatory Sectors of the Responded RSAs 4.3.5.2 Overall Implementation of IFSB Standards (2021) 4.3.5.3 All IFSB Standards: Consistent Members (2020 and 2021) 4.3.5.4 Overall Implementation of Islamic Banking Standards (2021) 4.3.5.5 Islamic Banking Standards: Consistent Members (2020 and 2021) 4.3.5.6 Overall Implementation of Takāful Standards (2021) 4.3.5.7 Takāful Standards: Consistent Members (2020 and 2021) 4.3.5.8 Overall Implementation of Islamic Capital Markets Standards (2021) 4.3.5.9 Islamic Capital Markets Standards: Consistent Members (2020 and 2021) 4.3.5.10 Number of Implemented Islamic Banking Standards by Key Areas by RSA (2021) 4.3.5.11 Signiﬁcance of Implementation Tools 144 Papers Issued in 2021 Papers Issued in 2021 by Yield Bucket (%) (2011–21) ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
LIST OF ABBREVIATIONS AAOIFI Auditing Organization for Islamic Financial Institutions ACAPS Morocco tak āful sector supervisory authority AFN Afghanistan Afghani APIF Awqaf Properties Investment Fund ASEAN Association of Southeast Asian Nations AuM Assets under management BCBS Basel Committee on Banking Supervision BNM Bank Negara Malaysia CAGR Compound annual growth rate CAR Capital adequacy ratio CBDC Central bank digital currency CBN Central Bank of Nigeria CGA Tunisian Insurance Authority CIS Collective investment scheme CIS Commonwealth of Independent States CPIFR Core Principles for Islamic Finance Regulation CTI Cost-to-income DFS Detailed ﬁnancial statements ECL Expected credit losses ESG Environmental, social and governance ETF Islamic exchange-traded fund FAO Food and Agriculture Organization FATF Financial Action Task Force FCA UK Financial Conduct Authority FDR Financing-to-deposits ratio FRA Financial Regulatory Authority FSB Financial Stability Board FWA Fujairah Welfare Association GCC Gulf Cooperation Council GDP Gross domestic product GFC Global Financial Crisis GMPFC Global Muslim Philanthropy Fund for Children HQLA High-quality liquid assets IAIS International Association of Insurance Supervisors IB Islamic bank IBA ICE Benchmark Administration IBI Islamic banking industry ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 145
IBOR Interbank offered rates ICM Islamic capital market ICS Insurance Capital Standard IsDB Islamic Development Bank IsDBI Islamic Development Bank Institute IFRS International Financial Reporting Standards IFSB Islamic Financial Services Board IFSI Islamic ﬁnancial services industry IIFS Institutions offering Islamic ﬁnancial services IILM International Islamic Liquidity Management Corporation IMF International Monetary Fund IOSCA International Organization of Securities Commissions IPS Instant payment system ISF Islamic social ﬁnancing JCPOA Joint Comprehensive Plan of Action LASLR Liquid assets to short-term liabilities ratio LCR Liquidity coverage ratio LIBOR London Interbank Offered Rate M&A Mergers and acquisitions MENA Middle East and North Africa MESA Middle East and South Asia MFI Islamic microﬁnance institution MFI Mutual funds industry MTPL Mandatory third-party auto policy NIB Non-interest banking NPF Non-performing ﬁnancing NPL Non-performing loans NPM Net proﬁt margin NSFR Net stable funding ratio NZF National Zakāh Foundation OECD Organization for Economic Cooperation and Development OJK Otoritas Jasa Keuangan OPEC Organization of the Petroleum Exporting Countries PSIA Proﬁt-sharing investment accounts PSIFIs Prudential and Structural Islamic Financial Indicators R&D Research and development RFTs Risk-free rates ROA Return on assets 146 ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
ROE Return on equity RPSIA Restricted pro ﬁt-sharing investment account RRP Resolution and recovery plan RSA Regulatory and supervisory authority RWA Risk-weighted assets SAMA Saudi Arabia Monetary Authority SBU Sharī`ah business unit SDG Sustainable Development Goal SEA South-East Asia SEDDK Insurance sectors supervisory authority in Turkey SEO Securities and Exchange Organization SME Small and medium enterprise S&P 500 Standard and Poor's 500 SRI Socially responsible investment TO Takāful operator TOR Terms of reference TOT Training of Trainers TU Takāful undertaking UAE United Arab Emirates VBI Value-based intermediation ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 147
GLOSSARY Commodity Mur ābahah or Tawarruq A murābahah transaction based on the purchase of a commodity from a seller or a broker and its resale to the customer on the basis of deferred murābahah, followed by the sale of the commodity by the customer for a spot price to a third party for the purpose of obtaining liquidity, provided that there are no links between the two contracts. Diminishing Mushārakah A form of partnership in which one of the partners promises to buy the equity share of the other partner over a period of time until the title to the equity is completely transferred to the buying partner. The transaction starts with the formation of a partnership, after which buying and selling of the other partner’s equity takes place at market value or at the price agreed upon at the time of entering into the contract. The “buying and selling” is independent of the partnership contract and should not be stipulated in the partnership contract, since the buying partner is only allowed to promise to buy. It is also not permitted that one contract be entered into as a condition for concluding the other. Fiqh Knowledge of the legal rulings pertaining to conduct, which has been derived from speciﬁc evidence. Ijārah A contract made to lease the usufruct of a speciﬁed asset for an agreed period against a speciﬁed rental. It could be preceded by a unilateral binding promise from one of the contracting parties. The ijārah contract is binding on both contracting parties. Islamic window That part of a conventional ﬁnancial institution (which may be a branch or a dedicated unit of that institution) that provides both fund management (investment accounts) and ﬁnancing and investment that are Sharī`ah-compliant, with separate funds. It could also provide takāful or retakāful services. Istisnā` The sale of a speciﬁed asset, with an obligation on the part of the seller to manufacture/construct it using his own materials and to deliver it on a speciﬁc date in return for a speciﬁc price to be paid in one lump sum or instalments. Mudārabah A partnership contract between the capital provider (rabb al-māl) and an entrepreneur ( ) whereby the capital provider would contribute capital to an enterprise or activity that is to be managed by the entrepreneur. Proﬁts generated by that enterprise or activity are shared in accordance with the percentage speciﬁed in the contract, while losses are to be borne solely by the capital provider unless the losses are due to misconduct, negligence or breach of contracted terms. Murābahah A partnership contract in which the partners agree to contribute capital to an enterprise, whether existing or new. Proﬁts generated by that enterprise are shared in accordance with the percentage speciﬁed in the mushārakah contract, while losses are shared in proportion to each partner’s share of capital. Mushārakah (Sharikat al-’Aqd) A partnership contract in which the partners agree to contribute capital to an enterprise, whether existing or new. Proﬁts generated by that enterprise are shared in accordance with the percentage speciﬁed in the mushārakah contract, while losses are shared in proportion to each partner’s share of capital. Retakāful An arrangement whereby a takāful undertaking cedes a portion of its risks on the basis of treaty or facultative retakāful as a representative of participants under a takāful contract, whereby it would contribute a portion of the contribution as tabarru‘ into a common fund to cover against speciﬁed loss or damage. Sharī`ah The practical divine law deduced from its legitimate sources: the Qurʼān, Sunnah, consensus ( analogy (qiyās) and other approved sources of the Sharī`ah. Sharī`ah board An independent body set up or engaged by the institution offering Islamic ﬁnancial services to supervise its Sharī`ah compliance and governance system. Sharī`ah non-compliance risk An operational risk resulting from non-compliance of the institution with the rules and principles of Sharī`ah in its products and services. 148 ), ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
Certi ﬁcates that represent a proportional undivided ownership right in tangible assets, or a pool of tangible assets and other types of assets. These assets could be in a speciﬁc project or speciﬁc investment activity that is Sharī`ah-compliant. The amount of contribution that the takāful/retakāful participant commits to donate in order to fulﬁl the obligation of mutual help in bearing the risks and paying the claims of eligible claimants. Sadaqah Sadaqah also describes a voluntary charitable act towards others, whether through generosity, love, compassion or faith. Takāful A mutual guarantee in return for the commitment to donate an amount in the form of a speciﬁed contribution to the participants’ risk fund, whereby a group of participants agree among themselves to support one another jointly for the losses arising from speciﬁed risks. Tawarruq A murābahah transaction based on the purchase of a commodity from a seller or a broker and its resale to the customer on the basis of deferred murābahah, followed by the sale of the commodity by the customer for a spot price to a third party for the purpose of obtaining liquidity, provided that there are no links between the two contracts. Urf Urf is an Arabic Islamic term referring to the custom, or 'knowledge', of a given society. Wadī`ah A contract for the safekeeping of assets on a trust basis and their return upon the demand of their owners. The contract can be for a fee or without a fee. The assets are held on a trust basis by the safekeeper and are not guaranteed by the safekeeper, except in the case of misconduct, negligence or breach of the conditions. Wakālah An agency contract where the customer (principal) appoints an institution as agent (wakīl) to carry out the business on his behalf. The contract can be for a fee or without a fee. Waqf A waqf (also known as hubous [‫ ]سوبُح‬or mortmain property) is an inalienable charitable endowment under Islamic law. Zakāh An obligatory ﬁnancial contribution disbursed to speciﬁed recipients that is prescribed by the Sharī‘ah on those who possess wealth reaching a minimum amount that is maintained in their possession for one lunar year. ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022 149
MEMBERSHIP BENEFITS MEMBERS NO 1 FULL MEMBERSHIP BENEFITS ASSOCIATE OBSERVER Be part of a prestigious international organisation with the broadest representation in the IFSI , from 57 countries 2 Attend the IFSB General Assembly 3 Vote at the IFSB General Assembly 4 Attend the IFSB Council Meeting 5 Be a member of the Executive Committee 6 Be a member of the Technical Committee 7 Submit nomination for the IFSB Secretary-General 8 Participate (by invitation) in Working Groups, Task Force and Closed-door discussions for the development of the IFSB prudential standards 9 Ability to comment on the IFSB exposure drafts 10 Request for Policy Advice 11 Receive Technical Assistance 12 Participate in the IFSB workshops (national & regional) and public hearings on exposure drafts at no charge 13 Participate in the IFSB e-Workshops via webinar 14 Participate in the IFSB Capacity Building Program 15 Participate in IFSB Train of Trainer (ToT) Programme 16 Support for IFSI Country Analysis and Self-Assessment 17 Complimentary access to IFSB Standards E-Learning 18 Participate in the IFSB events on a complimentary/priority basis and/or at special members’ rate 19 Collaborate for events, research and publications 20 Receive complimentary copies of IFSB publications 21 Access to materials of IFSB events and meetings and other web-based services at the Members’ Zone of the IFSB website 22 Speaking and networking with other members from 57 countries 23 Host of IFSB Summit (bi-annual land mark event) 24 Hosting IFSB Working Group and Task Force Meetings 25 Participate in IFSB’s Prudential and Structural Islamic Financial Indicators (PSIFIs) Programme * Full Members who are not Council members may attend by invitation. ** For regulatory and supervisory authorities and international inter-governmental organisations only. *** For regulatory and supervisory authorities only For more information about IFSB member, contact membership@ifsb.org or please visit www.ifsb.org 150 ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022
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http ://www.ifsb.org 152 ISLAMIC FINANCIAL SERVICES INDUSTRY STABILITY REPORT 2022