Tuesday, May 6, 2008

The Challenge of Islamic Finance (Part 1):

For those of us involved in the space becoming more and more known as 'Islamic' Finance - the future remains unclear and murky. While assets under management and the nominal size of participation in this industry increases exponentially, we are discovering that less and less of the conventional financial system is changing. So what effect, if any, is Islamic Finance having? Since its humble beginnings in the 1960's, what has changed? More importantly, what has not, even though we think it must?

The most important change perhaps has been that financial practitioners and professionals have become accepting of the idea that Islam has quite a bit to say about our economic lives. The notion that guidance from Above is not limited to the spiritual realm is, while obvious, deeply revolutionary. Having this idea accepted by staunchly secular institutions such as states, governments, banks, investment houses and other corporations is not an inconsequential change.

What has not changed though, is the substance of how capital is created or even how it is allocated. Money is primarily created as debt or credit by banks, and access to credit determines wealth to a great degree. This inflationary cycle has not changed, and is unlikely to change given our trajectory. Much of the impact of Islamic Finance has taken place at the microeconomic level - the macroeconomic and global financial systems remain unchanged and impervious. Our welfare is still subject to the vagaries and machinations of Central Bank musings on interest rates. More importantly, all mankind is subject to taxation through the inflation inherent in paper money.

The challenge before us then, is real, complex and demands hard work. In other words, it seems almost insurmountable. This has caused a variety of reactions. Some have redefined the challenge to make it something more manageable - elevating form over substance. Others have redefined the space within which they operate - lending vs. investing.

Let us however, make no mistake about what is ultimately required. There must be a genuine alternative to borrowing money on interest in order to finance purchases and operations. The system must reward risk-sharing between parties as opposed to the transfer of risk to borrowers. Only then can we say that Islamic Finance provides a credible choice. This is the challenge that lies before us, not the replication of conventional outcomes through apparently 'Islamic' means.

To be continued ...

Industry News:
1. I think Jeff Rubin (Chief Economist at CIBC) has a political future ... always seems to say what people want to hear rather than what they should ... he thinks subprime will have no effect on the TSX ... http://www.advisor.ca/news/article.jsp?content=20071108_152122_5120

2. Excellent column on how accounting rules are about to shine the light in places where few companies want any attention paid ... an excellent contrast to Rubin's theory ... http://www.theglobeandmail.com/servlet/story/LAC.20071109.RKOZA09/TPStory/Business

3. As was suggested here ... the Banks were indeed hiding something ... CIBC fesses up ... http://www.reportonbusiness.com/servlet/story/RTGAM.20071109.wcibc1109/BNStory/robNews/home

4. Some interesting research on how pension assets move (or don't move) towards SRI ... http://www.cfo.com/article.cfm/10065699/c_10098290?f=ThisWeekInFinance110907

Economic News:
1. As China takes in more and more of EuroBonds instead of US treasury Bills, the CDN $ reaches $1.10 ... http://www.reportonbusiness.com/servlet/story/RTGAM.20071107.wloonie1107/BNStory/Business/home?cid=al_gam_mostview

2. Gold at $1000? ... Just my humble opinion but try $2000 ... the US will have to inflate its way out of subprime and negative home-equity issues ... http://www.reportonbusiness.com/servlet/story/RTGAM.20071107.wrgold1107/BNStory/energy/home?cid=al_gam_mostview

3. Definitely did not predict this one ... even though it is so obvious. Hedge funds have been borrowing in yen (at 0.25%/yr) to invest in US treasury Bills (paying 4%/yr) for so long now that I did not remember to question ... just adds to the already perfect storm for the US$ ... http://www.reuters.com/article/newsOne/idUSL0964162820071109?sp=true

Islamic Finance:

1. Details on the two Wealth Management products from Dubai Islamic Bank that were discussed here a couple of weeks ago ... http://www.alhudacibe.com/newsletter/1-15nov/international_news_1.html


1. Do you find yourself managing a succession of small and not-so-small crises? ... Is your business prone to crises or is it more a matter of there not being a plan for 'predictable surprises'? ... Decrease these risks to gain a better handle on the organization ... (a bit long on theory but a solid argument) ... http://hbswk.hbs.edu/item/4531.html

2. Some very good reading ... a response to the view that organizational structures and information flow do not matter to company profitability and success ... http://www.reportonbusiness.com/servlet/story/RTGAM.20071102.r-strategy-maly05/BNStory/robAtWork/home

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