Risk Management for Islamic Banks. Imam Wahyudi

be a real object and capable of being handed over. The renter receives benefit (usufruct) from the object being rented. In Islamic finance, the ijarah contract (leasing) entered into by the bank can only be of the form of operating lease, not of capital lease. With regards to the asset, the bank can either own the asset whose benefit (usufruct) will be rented out, or the bank could enter into an ijarah contract with the first party, to then rent it out to the second party (this is called a parallel ijarah) as long as the first party does not stipulate that the asset cannot be entered into a second ijarah contract.

      History of the Islamic Bank

      An early experiment in modern Islamic banking was initiated by Abdul Aziz Ahmad El-Najjar through Myt-Ghamr Bank, established in 1963 in Egypt. With assistance in capital from King Faisal of Saudi Arabia, the Myt-Ghamr Bank was considered successful in combining German banking management with Islamic finance principles and translating that into banking products that are suitable for rural areas mostly oriented toward the agricultural industry. Due to political reasons, the Myt-Ghamr bank closed in 1967.

      Initial ideas on the establishment of Islamic banks internationally began in an OIC conference in Kuala Lumpur in 1969. The participants agreed on several things, the first being that every profit must be based on the principle of profits and loss sharing, and if not, the profit would fall under the category of usury, which is prohibited in Islam. Secondly, it was recommended that an Islamic bank free from the usury system be established quickly, and that in the interim, before the establishment of such a bank, the conventional banks would still be allowed to operate as long as it were a matter of emergency. Based on the recommendations from the Islamic Economy Conference in Mecca, the Islamic Development Bank (IDB) was established in 1975. IDB had an important role in fulfilling the financing needs of Islamic countries to build infrastructure and actively provide with an interest-free guarantee based on the country's capital. The establishment of IDB also motivated many other countries to establish Islamic financial institutions.

      The first Islamic bank established was a private one. Built by a group of Muslim businessman from various countries, the Dubai Islamic Bank was established in 1975. In 1977, two more Islamic banks were established: Faysal Islamic Bank in Egypt and Sudan, and Kuwait Finance House established by the Kuwaiti government. Bahrain Islamic Bank was established in 1979. Philippine Amanah Bank was established in 1973, based on a presidential decree, and Muslim Pilgrims Savings Corporation was established in 1983 in Malaysia. At the beginning of the 1980s, various countries hosted emerging Islamic banks of two general types: Islamic commercial banks and Islamic investment institutions.

      Global Islamic Banking Entities

      The banking system in a country could not stand alone only by relying on banking institutions and regulators in domestic level. There are some organizations at the global level that have roles in providing guidance regarding best practices for the banking industry and regulators in every country. It also applies to Islamic banking, for which there are some global organizations such as IDB, IFSB, and AAOIFI, and other organizations that have different roles and functions. Those organizations synergize to maintain the banking practice so that it still runs in accordance with syari'ah principles and good governance.

      Islamic Development Bank (IDB)

      IDB is an international financial institution established to follow-up on the results of the conference that finance ministers from various Islamic countries held at Jeddah in December 1973. Based on the results of the meeting of the Board of Governors on July 1975, the IDB was officially in operation on October 20, 1975. The purpose of the establishment of the IDB was to assist the social and economic development of its member countries and Muslim society, according to Islamic principles. IDB also provided loans and capital for projects and productive enterprises, as well as financial assistance to member countries in other forms for the purpose of social and economic development. IDB was given the authority to receive deposits and to mobilize financial resources through the appropriate Islamic mode. Other than that, IDB was also responsible for assisting international trade promotions, especially for capital goods, among the member countries; providing technical assistance for member countries; and providing training facilities to support the development of the application of Islamic principles in Muslim countries.

      Accounting and Auditing Organization for Islamic Financial Institutions (AAOIFI)

      The AAOIFI was established in 1990; it is an independent, international organization supported by 200 member institutions from 45 countries, covering central banks, Islamic financial institutions, and other financial institutions in the Islamic banking and finance industry. As of this writing, AAOIFI has already published 50 standards for accounting, auditing, ethics, and other syari'ah standards. Even if they are not binding, with the publication of the standards it is hoped that all Islamic financial institutions and regulators managing how Islamic finance is practiced in each countries apply a uniform standard. The purpose of the establishment of AAOIFI was to develop accounting, auditing, governance, and ethics for various activities of Islamic financial institutions to make sure that they are in accordance with Islamic principles as well as international standards and practices; to reconcile accounting procedures and policies used in Islamic financial institutions with the same standards and interpretations used in their conventional counterpart; and to issue a syari'ah standard in relation to the concept and application of a syari'ah supervisory board in each Islamic financial institution to prevent contradiction and inconsistencies between fatwas and their application.

      Islamic Financial Services Board (IFSB)

      The IFSB is an international organization drawing up the principles, guidance, and standards in the banking, insurance, and capital market sectors with the purpose of supporting stability within the Islamic financial industry. IFSB concentrates on the establishment of risk management, capital adequacy, corporate governance, and transparency standards, as well as market discipline for Islamic financial institutions. IFSB was established in November 2002 and started operating in 2003; it is headquartered in Kuala Lumpur, Malaysia. IFSB is the result of a long and extensive consultative process that lasted more than two years between the governors and senior employees of central banks and monetary authorities of various countries, with support from IDB, the International Monetary Fund (IMF), and AAOIFI. The purpose of the formation of IFSB is to develop a new standard or adopt an existing one and give a recommendation on how to implement it; to provide an effective guide on effective governance and supervision; to establish cooperation between international standard-setting bodies with its member countries; to improve and coordinate the initiative in developing instruments and procedures; to develop instruments and procedures for the efficient management of risk and operations; to encourage cooperation between member countries; to facilitate capacity-building and the development of human capital; to research Islamic financial institutions, as well as publish the results of such studies and surveys; and to build a database of Islamic financial institutions and banking, as well as expertise in the industry.

       Fatwa Committee in International and Domestic

      The development of Islamic banking cannot be separated from the role of the fiqih-experts (ulama) in issuing fatwa or opinions with regards to products, procedures, and operations that are in accordance with the syari'ah principles. There are some differing schools in the application of Islamic syari'ah, and this may give the impression that some of the fatwas issued contradict each other. To address the problem, the Islamic Fiqh Academy was established on January 1981 in Jeddah, supported by the Organization of Islamic Cooperation (OIC) as an international conduit for countries with a Muslim majority. The Islamic Fiqh Academy published various guides on moral issues; included within those are medical ethics, socioeconomic issues, and problems like finance. In the economic field, this fatwa committee will publish rules (that are called fatwa) so that the product and the operations of an Islamic bank are in accordance with the principles of the Islamic syari'ah.

      Other than on the international level, every country also possess a fatwa committee that is usually called the National Syari'ah Board. This national fatwa committee has a prerogative right in deciding on a syari'ah compliance issue or independent fatwa; the regulators do not intervene and leave to the market