Applying the stringent banking standards from the “Basel II” agreement on Islamic banks in Lebanon and the Arab world will be a challenge due to the specialized nature of the Islamic banking system, speakers at a banking conference said on Wednesday.
The Basel II agreement, which is expected to enter into force by the end of 2006, imposes stringent new standards on banks around the world, which will have to increase their capital adequacy ratios and apply a more thorough rating of operation and market risk to avoid receiving low credit ratings from international agencies.
Islamic banking is a specialized branch in the industry as it conducts all its operations without the use of interest, which is banned by Islamic sharia law as a form of usury, or riba.
The Basel II agreement, which is an update to the “Basel I” agreement of 1988, has not so far provided any special standards for Islamic banks, which have come under pressure following the Sept. 11, 2001 attack on the United States. A number of Western countries imposed restrictions on some of the world’s Islamic banks, saying that some of the perpetrators of Sept. 11 used these banks to finance their attack.
“The new Basel II standards, which will become mandatory to all banks around the world, apply to banks in general and do not address the characteristics of only particular banks, such as Islamic banking,” Joseph Torbey, president of the Union of Arab Banks, said at the opening session of the three-day conference on Basel II Standards and Islamic Banking.
He added: “It is important for Basel II to take these special characteristics into consideration, particularly as Islamic banking has expanded into regional and international markets over the years.”
Islamic banks around the world have achieved an annual growth rate of 15 to 20 percent over the last few years, and currently have $262 billion in combined assets, Torbey said. Roughly 265 Islamic banks collectively handle investment portfolios worth $400 billion, and have $202 billion in deposits and $13 billion in capital, he added.
“The new Basel framework for capital adequacy is both an opportunity and a challenge to the Arab banking industry, but the challenges it imposes are far greater than the available opportunities,” Torbey said.
“These standards will make it difficult for Arab banks in general to attract international capital flows due to our low credit ratings if these ratings ever existed,” he said, adding that the “standards will also impose new capital adequacy ratios due to the new risks, particularly operational risk.”
Currently, Islamic banking in Lebanon is confined to three banks, two of which have yet to start operating, as well as some “Islamic windows” offered at traditional commercial banks.
Al-Baraka Bank Lebanon is the country’s first Islamic bank, which opened in 1992, and was followed this year by the Arab Finance House, a joint venture between Gulf and Lebanese investors. Arab Finance House, which is majority-owned by the Qatari Islamic Bank, has opened two banks, one for commercial Islamic banking and another for investment Islamic banking, but both have yet to offer services.
However, the number of Islamic banks in Lebanon is expected to increase after Parliament passed an Islamic banking law this week that has long been in the making.
Walid Alameddine, head of the Banking Control Commission in Lebanon, said that the commission monitors the operations of Islamic banks in Lebanon in the same manner as it monitors the other 60 commercial banks.
“Due to the characteristics of Islamic banking, the Banking Control Commission has to monitor many risks related to Islamic banking products, in the same way it monitors the products of normal banks, particularly loans,” said Alameddine. He added that “investments in Islamic financial products have their own risks and the commission has to monitor these investments by removing the restrictions imposed by the banking secrecy law, etc.”
Islamic banks in Lebanon currently work under the fiduciary law of 1996, but parliamentary endorsement of the Islamic banking law will facilitate their operations and allow the commission to better supervise them.
Alameddine said that monitoring the banking industry’s management of financial risk requires a greater number of financial risk officers who have the ability to asses the bank’s operation and market risks.