Reflections on the Mid-Term Review (MTR) of the 10-Year Framework and Strategies

“As more countries gradually enter the Islamic financial space, it is incumbent on Islamic financial bodies and institutions to guide and assist novice regulatory systems in designing an appropriate strategy. Consequently, in 2007 IRTI and IFSB proposed a 10 Year Framework to follow in developing a country’s own Islamic financial capacity. Dr Hylmun Izhar reviews the Ten Year Framework and explains improvements made over the last few years.”

The most anticipated Mid Term Review (MTR) of the 10-Year Framework and Strategies was recently launched in conjunction with the 11th IFSB Summit, hosted by the Bank of Mauritius. It 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 of the Islamic Financial Services Industry (IFSI) in carrying out the 16 recommendations, taking into account the state of development of the IFSI in the respective jurisdictions. It is important to note that The Ten-Year Framework, which initially consists of 13 core recommendations (Table 1), was first published by the Islamic Research and Training Institute (IRTI) of the Islamic Development Bank (IDB) in collaboration with Islamic Financial Services Board (IFSB) in March 2007. The main idea that underlies the creation of such a document is to have a strategic framework document to systematically study, discuss and propose policy responses for the orderly development of the IFSI. It was primarily expected that the Ten-Year Framework document could ultimately provide a general blueprint or guideline for new and existing Islamic finance jurisdictions in designing and developing their national plans and major initiatives as part of their financial sector development policies.

The Ten-Year Framework Document: How did it come into being?

The idea of preparing such a strategic framework document was first considered during the Seminar on Challenges Facing the Islamic Financial Industry, held on 1 April 2004 in Bali, Indonesia. The seminar, which was jointly organised by IRTI and IFSB was held in conjunction with the meeting of the IFSB Council hosted by Bank Indonesia. As a follow-up on the issues discussed in the seminar, IRTI and IFSB undertook a joint initiative to address the challenges in a systematic manner in the form of a comprehensive document. Subsequently, the preparation of the document was formally initiated by IRTI and IFSB.

As a first step, a number of leading specialists and practitioners were requested to prepare technical papers on various themes. These were presented in a technical workshop jointly organised by IRTI and IFSB, held on 31 May-1 June 2005 in Dubai, hosted by the Dubai Financial Services Authority. Subsequently, IRTI and IFSB jointly organised a policy dialogue on the same theme on 22 June 2005 in Putrajaya, Malaysia, which was facilitated by Bank Negara Malaysia. A drafting committee was formed as a result, which held three meetings and finalised a draft document. The draft document was distributed by IFSB to solicit feedback from its members and other interested parties. It was also discussed in the Islamic Bankers’ Forum held on 28 May 2006 in Kuwait, jointly organised by IRTI, IFSB and the General Council for Islamic Banks and Financial Institutions (CIBAFI). At its final meeting held on 17 August 2006 in Kuala Lumpur, Malaysia, the drafting committee reviewed all the comments and the feedback received and reached a consensus on the revised document.

Recommendations for the Development of Various Components of the IFIS

1. Facilitate and encourage the operation of free, fair and transparent markets in the Islamic financial services sector.
2. Enhance the capitalization, efficiency and resilience of Institutions offering Islamic financial services (IIFS) to ensure that they are on a par with international standards and best practices.
3. Enhance the access by all population segments to financial services.
4. Ensure Shari’a compliance and the effectiveness of corporate governance.
5. Develop the required pool of specialized, competent and high-calibre, human capital and ensure utilization of state-of-the-art technology.
6. Promote the development of standardized products through research and innovation.
7. Comply with the international prudential, accounting and auditing standards applicable to the IFSI.
8. Develop appropriate legal, regulatory and supervisory frameworks that could effectively cater for the specificities of the IFSI and ensure tax neutrality between IIFS and their conventional counterparts.
9. Develop a comprehensive and efficient infrastructure for the IFSI for inter-bank liquidity management as well as for Islamic capital markets.

1. Promote public awareness of Islamic financial services.
2. Strengthen and enhance collaboration among the international Islamic financial infrastructure institutions.
3. Foster collaboration among countries that offer Islamic financial services.
4. Conduct initiatives and enhance financial linkages to integrate domestic IFSIs with regional and international financial systems.

Why Mid-Term Review (MTR)?

In 2013, IRTI and IFSB initiated a mid-term review of the Ten-Year Framework (“Mid-Term Review”) as more than half of the period had passed since its publication in 2007. The Mid-Term Review was aimed at assessing the impact of macroeconomic events, monitoring progress in implementing the recommendations, and to propose additions or modifications to the recommendations to guide the industry. Such a pivotal effort was considered crucial due to the increasingly challenging economic and financial environment as well as significant developments taking place on the international financial landscape, particularly after the 2008 global financial crisis. More importantly, the effort was to ensure that the Ten Year Framework document remains relevant as a platform for various Islamic finance jurisdictions to assist them in orchestrating the future direction of the industry. Therefore, throughout the process of conducting the MTR, the following objectives were targeted:

• To assess the impact on the respective Islamic finance segments arising from the development of the global financial system post-crisis;
• To examine the progress and current status of the priorities and initiatives suggested in the Ten-Year Framework and Strategies;
• To identify the gaps involved in implementing the priorities and initiatives; and
• To assess the need of a re-orientation of such priorities and initiatives.

The Mid-Term Review thus seeks to both assess progress made by the industry in implementing the 2007 recommendations and amend the recommended Ten-Year Framework in light of external developments since its publication.

In conducting the MTR, IRTI and IFSB were supported by a number of prominent research institutions and have engaged with leading regulators, market players, academicians and Shari’a scholars through various intensive discussions during the round-tables held in Qatar, Malaysia and Turkey whereby IRTI and IFSB had an opportunity to obtain further insights from key stakeholders and the panel of the Review Committee.

MTR’s Key Findings:

Following in-depth research and engagement with key stakeholders in the industry, the MTR document has efficaciously generated the following key findings:

1. The industry has shown growth and resilience, with growing market share and profitability, an expanding number of institutions, and numerous industry-level initiatives underway, reflecting customer confidence in the sector, whose concept is proven in many markets.

1. Macroeconomic events or external factors have brought both challenges and opportunities to the sector, which has not been immune to the effects of the global financial crisis, the approach to financial regulation, the strength of partners and counter-parties, and the value of assets and investments. Nevertheless, some countries have acted as important centres of growth as the global economy stumbled. Political developments in recent years have also made several countries more open to Islamic financial services. Technological innovations such as branchless financial services are now available and can allow the industry to broaden its future reach.
2. The development of the industry has varied by sector, while estimates of its total asset size and growth rate vary significantly (either near or well above US$1 trillion). As a key example, Islamic micro-finance has transitioned from a concept with isolated case studies to a fledgling sector across multiple markets. Moreover, although the market values of certain Shari’a-compliant instruments have shown mixed performance due to overall capital market challenges, and Shari’a-related challenges remain, the breadth and sophistication of such instruments has improved.

What are the Distinct Features of MTR?

Inevitable modifications on the original document have therefore been made, in order to reflect the current status of the IFSI, which distinctively characterises the current MTR document; is explicated as follows:

1. Introduction of three additional recommendations (in addition to the existing 13 recommendations in the original document); which state:
   1. (Recommendation no. 14): Develop an understanding of the linkages and dependencies between different components of Islamic financial services to enable more informed strategic planning to be undertaken.
2. (Recommendation no. 15): Foster and embrace innovative business models, including new technologies and delivery channels, in offering Islamic financial services.
3. (Recommendation no. 16): Strengthen contributions to the global dialogue on financial services, offering principles and perspectives to enhance the global financial system.

Introduction of 3-pillar framework, namely Enablement, Performance, and Reach. While the original document categorized the recommendations into institutional and infrastructural, the new categorisation emphasises more on the outcome desired from the framework. While the first pillar (enablement) was meant to reflect fostering conditions for the industry to thrive, the second pillar (performance) was set up to essentially enhance the effectiveness of institutions active in the industry, and the third increase the commitment in expanding the set of potential beneficiaries in the industry.

• Development of Key Performance Indicators (KPIs) to help address weaknesses and monitor progress in a more focused manner. As mentioned earlier that progress made on the original recommendations has been mixed. For instance, many countries have adopted international standards specific to Islamic financial services; however, many have not yet fully done so. At this mid-term juncture, most recommendations require greater focus from various countries in order to reach the aspirations envisioned. Metrics for tracking progress, which initially were not articulated, are now considered crucial for assessing progress. Consequently, the MTR proposes a set of Key Performance Indicators (KPIs), for which different countries are urged to set national targets.

• Establishment of a stronger Implementation Plan to be undertaken by a range of stakeholders. Amongst the stakeholders, it is suggested that the role of central banks and governments are especially important in driving implementation.

• Identification of 20 Key Initiatives which have been synthesised and prioritised based on their potential impact and the feasibility of implementation.
  • The 20 key initiatives are classified based on the three pillars of the framework – Enablement, Performance, and Reach; summarised below:

Enablement:

• Integrate Islamic finance into national development plans
• Introduce national Islamic financial services master plans
• Enhance regulatory implementation and enforcement

• Harmonise, where possible, regulation and regulatory frameworks across borders
• Adopt and strengthen national Shari’a governance frameworks
• Where mandates overlap, align the positions of industry bodies
• Link Islamic financial markets across borders
• Form a “Technical Assistance and Linkage Network”
• Form regional working groups
• Foster information-providing institutions that support the provision of Islamic finance.
• Incorporate Islamic finance data in statistical and official reporting.

Performance:

• Institute centralised R&D for Islamic financial products in addition to the decentralised R&D.
• Establish diversified financial institutions.
• Demonstrate the industry’s distinctive value proposition.
• Fund public infrastructure projects to build Islamic capital markets.

Reach:

• Revitalise zakah and awqaf for greater financial inclusion and make them an integrated part of Islamic financial system.
• Ensure that regulations allow for the use of new technology to provide affordable services.
• Engage with newly-opened markets.
• Foster the financing of a wider set of economic sectors.
• Brand Islamic financial services for wider markets.

In a nutshell, an integrated framework portraying distinct features of the MTR document is illustrated in Figure 1.

It is vividly depicted in Figure 1 that the spirit of three main pillars – namely enablement, performance and reach – permeates into the 16 core recommendations, implementation plan and identified key initiatives in order to achieve the desired outcome.

Lessons Learnt:

The world consists of a diverse group of nations, which span a range of regions, cultures and stages of economic development in which Islamic law, common law, and civil law jurisdictions are adopted.

In conducting the Mid-Term Review, it was observed that diverse views were particularly salient in regard to:

• Whether countries should have specific laws for Islamic financial services or rather fit Islamic structures into a single set of financial services laws;
  • Whether countries should adopt national-level Shari’a boards or retain Shari’a governance solely at the institutional level;
  • Whether central banks should allow conventional institutions to offer Islamic financial services;
  • Whether the adoption of international standards specific to Islamic finance is essential; and
  • Whether product standardization should be a policy objective or not.

While the diversity of use in these areas is appreciated, a key underlying theme is that a supportive public policy stance is essential for enabling the industry to reach its full potential. Different countries have been successful under various models; each choice brings benefits and drawbacks. Nevertheless, a strong and supportive public policy stance can help contribute to greater confidence that energies the private sector.

The MTR, therefore, does not seek to prescribe specific approaches to the choices above. It does, however, urge various jurisdictions to deliberate carefully on these matters and form well-considered strategies. The MTR also indicatively suggests that Islamic financial services offer benefits to the people and economies at large, and advocate thoughtful strategies on how best to avail of these benefits.