Language
English
English
Degree
M.Sc
Select type of work
CIS Program Old
CIS publications
No
CIS Thesis
Yes
Student Name
Latheef, Safrina
Year of Graduation
2015
CIS Library Call Number
Thesis QFIS IF 2015/1
QF Thematic Areas
CIS Program
Abstract
| One of the distinctive features of an Islamic Bank is the presence of Profit-Sharing Investment Accounts (PSIA) on its funding side as opposed to interest bearing deposits in conventional banks. Its theoretical underpinnings require that the return on assets financed by the funds be shared on a pre-agreed ratio while in normal cases, losses be borne by Investment Account Holders (IAH) unless proven to be a case of gross negligence or mismanagement of funds, in which case it becomes the responsibility of the bank as the working party. This partnership characteristic is incorporated in the standards of the Islamic Financial Services Board (IFSB) as the "standard formula" of Islamic banks' capital adequacy ratio (CAR). However in practice, sharing of actual returns and bearing of entire losses by IAH is a far cry from reality. Owing to regulatory and market pressures Islamic banks are compelled to smooth their returns according to the market, sometimes at the expense of their shareholders, giving rise to "Displaced Commercial Risk" (DCR). The IFSB addresses this risk and proposes a methodology for measuring this risk sharing by the shareholders as a value of 'alpha' (a) which is incorporated into the CAR through its "supervisory discretion formula'. The supervisors have the distinction to allocate an appropriate value of a based on their judgement of the actual risk status of PSIA and the overall strength of the bank whether this alpha is a real reflection of the DR in the respective jurisdictions is the main subject of this study. While doing so the study aims to draw attention to the unique features of PSIAs, its evolution, management and the DR associated with it from the perspective of capital adequacy because any risks borne by the shareholders on the PSIAs have to be reflected in the capital ratio. Since the CAR is highly sensitive to the value of alpha, empirical analysis is conducted on Islamic banks in a couple of jurisdictions using the IFSB methodology to evaluate if the supervisory imposed alpha reflects the actual risk sharing in Islamic Banks in the respective jurisdictions. The study also aims to evaluate the adequacy of the IFSB methodology in the estimation of DER. The study outcome suggests there is ambiguity in addressing PSI as 'Mudaraba based' instrument when in practice none of the unique features of a Mudaraba contract is upheld in the form of modern PSIA. Also, due to DCR, the treatment of PSIA varies in different jurisdictions which affect the capital adequacy of Islamic Banks. The study also finds some discrepancies in the IFSB methodology which may have supervisory implications. |
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