The Edinburgh Companion to Shari'ah Governance in Islamic Finance 9781474436014

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The Edinburgh Companion to SHARI‘AH Governance in Islamic Finance

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The Edinburgh Companion to SHARI‘AH Governance in Islamic Finance

Edited by Syed Nazim Ali, Wijdan Tariq and Bahnaz Al-Quradaghi

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Edinburgh University Press is one of the leading university presses in the UK. We publish academic books and journals in our selected subject areas across the humanities and social sciences, combining cuttingedge scholarship with high editorial and production values to produce academic works of lasting importance. For more information visit our website: edinburghuniversitypress.com © editorial matter and organisation Syed Nazim Ali, Wijdan Tariq and Bahnaz Al-Quradaghi, 2020 © the chapters their several authors, 2020 Edinburgh University Press Ltd The Tun – Holyrood Road 12(2f) Jackson’s Entry Edinburgh EH8 8PJ Typeset in 10 / 12 Adobe Sabon by IDSUK (DataConnection) Ltd, and printed and bound in Great Britain. A CIP record for this book is available from the British Library ISBN 978 1 4744 3600 7 (hardback) ISBN 978 1 4744 3601 4 (webready PDF) ISBN 978 1 4744 3602 1 (epub) The right of Syed Nazim Ali, Wijdan Tariq and Bahnaz Al-Quradaghi to be identified as the editors of this work has been asserted in accordance with the Copyright, Designs and Patents Act 1988, and the Copyright and Related Rights Regulations 2003 (SI No. 2498).

The authors of the book acknowledge and appreciate Qatar Financial Centre (QFC) Authority’s grant to facilitate the shari‘ah governance discourse at the College of Islamic Studies, Hamad Bin Khalifa University in 2017 which contributed to the improvement of the content of this volume.

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Contents

List of Figures and Tables Notes on the Contributors Preface Syed Nazim Ali 1. Introduction: Shari‘ah Governance in Islamic Finance Wijdan Tariq

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1

Part I: Fundamentals of Shari‘ah Governance in Islamic Finance 2. Shari‘ah Governance: Principles and Foundations Ali Muhi Al-Din Al-Quradaghi and Bahnaz Ali Al-Quradaghi 3. Historical Development of Shari‘ah Governance Standards and Guiding Principles Rifaat Ahmed Abdel Karim and Umar A. Oseni 4. Shari‘ah Governance in International Sukuk Markets Aida Othman

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57 75

Part II: Case Studies of Shari‘ah Governance in Practice 5. Bahrain Mohammad Omar Farooq and Ahmed Mansoor Alkhan

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6. Bangladesh M. Kabir Hassan, Md. Hafij Ullah and Ruma Khanam

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7. Egypt Walid Hegazy

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8. India Shariq Nisar and Umar Farooq

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9. Indonesia Rifki Ismal and Wachid Asad

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10. Iran Amin Mohseni-Cheraghlou and Amir Ahmad Zolfaghari

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11. Kenya Hanaan Balala 12. Kuwait Jamshaid Anwar Chattha and Syed Musa Alhabshi 13. Malaysia Mohamad Akram Laldin and Hafas Furqani 14. Morocco Dalal Aassouli 15. Nigeria Umar A. Oseni 16. Pakistan Usman Hayat and Sarwat Ahson 17. Qatar Osama Al-Dereaie, Fuaad Al-Dulaimi, Ebrahim Gamal, Muslehuddin Musab Mohammed and Mohamed Nafeel Mahboob 18. Saudi Arabia Ashraf Gomma Ali, Marjan Muhammad, Beebee Salma Sairally and Safiudin Ahmad Fuad 19. Sudan Ishraga Khattab 20. Turkey Zeynep Topaloglu Calkan 21. United Kingdom and Europe Samir Alamad Part III: The Future of Shari‘ah Governance in Islamic Finance 22. Authenticity of Shari‘ah Applications in Islamic Banks under the Principles of Corporate Governance Abdelrahman Yousri Ahmed 23. Contemporary Shari‘ah Governance Practices: A Perspective from within the Islamic Finance Industry Siraj Yasini 24. Juristic Authority and Financial Expertise: Politics of Translation between Shari‘ah Scholars and Finance Professionals Mahmood Ahmad and Sohaib Khan 25. Reforming Shari‘ah Governance in Islamic Finance for Achieving Sustainable Development Goals Tariqullah Khan 26. The Future of Shari‘ah Governance Zulkifli Hasan Index

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176 187 211 233 249 269 286

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Figures and Tables

Figures 3.1 5.1 5.2 8.1 8.2 8.3 8.4 9.1 12.1 12.2 12.3 13.1 13.2 13.3 14.1 17.1 17.2 17.3 19.1 20.1 20.2 23.1

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Implementation of IFSB standards by regulatory and supervisory authorities for 2016 with a comparison with 2015 Key points relating to shari‘ah governance timeline in the Kingdom of Bahrain (1979–2002) Key points relating to shari‘ah governance timeline in the Kingdom of Bahrain (2008–18) Shari‘ah-compliant stocks in India Assets under management (INR million) as on 31 December 2018 Classification of micro-finance in India GIC Re-Takaful (Wakala-Mudaraba) The infrastructure of Islamic finance in Indonesia Assets of the Kuwaiti banking system The CBK’s approach to regulation and the supervisory review process Shari‘ah governance framework in Islamic bank: the organisation structure Malaysian model for shari‘ah governance framework for Islamic financial institutions In BIMB, the shari‘ah governance framework is represented in the following diagram BIMB internal shari‘ah compliance function Shari‘ah governance process for institutions offering participatory finance products in Morocco Islamic banking assets in Qatar for the period 1990–2008 Islamic banking assets in Qatar for the period 2009–16 (US$ millions) Total banking assets in Qatar 2010–15 (US$ billions) Shari‘ah governance structure in Sudan Authorisation certificate for participation banking operations of Ziraat Participation Bank Authorisation certificate for participation banking operations of Ziraat Participation Bank The three lines of defence model

68 93 93 143 145 148 151 155 188 190 194 216 230 231 239 287 287 288 322 342 343 387

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25.1 Islamic economy paradigm choices 25.2 Transformation of global economic paradigm and the new financial architecture 25.3 Islamic financial architecture in the global context 25.4 The three layers of effective policy implementation 25.5 MDGs regime – conflict a cause of ineffectiveness 25.6 An example of the synchronisation of local aspirations and global targets and goals 25.7(a) Shari‘ah governance layers. 25.7(b) Reforming shari‘ah governance to achieve SDGs using Islamic finance 25.8 Structural risk in the design of sukuk

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Tables 2.1

Main differences between corporate governance and shari‘ah governance 2.2 Main differences between Shari‘ah Council and Shari‘ah Internal Auditor 3.1 The major IFSB standards 3.2 IIFM published standards and standards under development 3.3 Broad categorisation of AAOIFI’s objectives 3.4 Adoption of AAOIFI standards 6.1 Islamic banking industry in Bangladesh 6.2 Islamic finance industry in Bangladesh 6.3 Details of the interviews for data collection 6.4 Current shari‘ah governance regulatory landscape in Bangladesh 6.5 Shari‘ah Board of Islami Bank Bangladesh Limited 6.6 Shari‘ah boards of Islamic banks in Bangladesh as of 2015 6.7 Shari‘ah Board of Fareast Islami Life Insurance Limited 6.8 Shari‘ah boards of Islamic insurance companies in Bangladesh 8.1 Financial regulatory architecture in India 10.1 An overview of Resaalat Qard Hassan bank (2012–16) 12.1 The CBK’s instructions on shari‘ah governance for Islamic banks 12.2 Names of members of the FSSB in Islamic banks 12.3 Twelve key elements of shari‘ah governance practices at Kuwaiti Islamic banks 13.1 Differences between shari‘ah review and shari‘ah audit 13.2 The fourteen shari‘ah standards 13.3 The legal provisions on shari‘ah governance in IFSA 2013 14.1 List of licensed participatory banks in Morocco 14.2 Key features of the Moroccan Shari‘ah Committee for Participatory Finance 14.3 Assessing the shari‘ah governance regime in Morocco 14.4 Key features of the SSC at institutional level in Tunisia Appendix 14.1 Laws and decrees related to shari‘ah governance in Morocco Appendix 14.2 Chronology of participatory finance millstones in Morocco Appendix 14.3 Comparison between Bank Al-Maghrib, AAOIFI and IFSB shari‘ah governance guidelines

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45 51 62 63 65 66 105 106 107 111 115 117 118 119 141 174 193 197 199 221 225 227 235 237 240 241 243 244 245

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figures and tables 15.1 Guidelines on non-interest financial institutions in Nigeria 15.2 Members of the Financial Regulation Advisory Committees of Experts 15.3 Members of Advisory Committee of Experts of three banks in Nigeria Appendix 17.2 Shari‘ah in Islamic finance institutions in Qatar 18.1 Members of IFSB from Saudi Arabia 18.2 Overview of the SSB members in twelve Islamic banks in Saudi Arabia 19.1 Role of key Sudanese institutions in shari‘ah governance 20.1 Participation banks in Turkey 20.2 Shari‘ah board structure of participation banks 20.3 Interest-free finance advisory working committee of TKBB 21.1 IFIs in Europe and their SSCs as of 2017 25.1 Sustainable development goals, global compact principles and principles of responsible investment 26.1 Shari‘ah Governance Framework in the GCC countries 26.2 Shari‘ah non-compliance income of Islamic banks in Malaysia in 2015 26.3 Number of shari‘ah scholars worldwide 26.4 Value-based intermediation framework for Islamic finance 26.5 Proposed enhancement of and transformation of shari‘ah governance

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ix 253 256 259 299 310 312 325 336 339 340 359 414 433 440 441 443 444

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Notes on the Contributors

Dalal Aassouli is an assistant professor of Islamic finance at the Hamad Bin Khalifa University. Prior to this, she was a visiting fellow at the Durham Centre for Islamic Economics and Finance, Durham University Business School. She previously worked at the International Islamic Liquidity Management Corporation (IILM) in Malaysia where she assisted with the establishment of the IILM’s sukuk programme. Before that she held several positions in treasury and corporate finance in Europe. Dalal holds a Master of Science in management from NEOMA Business School, an Executive Master in Islamic finance from Paris Dauphine University and a PhD from ENS de Lyon in France. Rifaat Ahmed Abdel Karim is a world-renowned leader and authority in the Islamic financial services industry (IFSI) both at the professional and academic levels. He has played a pioneering role in the development of Islamic finance, while his leadership in setting accounting, auditing, governance, shari‘ah and regulatory standards has been instrumental in establishing the position of the Islamic financial services industry in the mainstream of global financial services. He holds a PhD from the University of Bath, UK. Mahmood Ahmad is a shari‘ah board member of MCB Islamic Bank Ltd and Allied Bank Ltd (Islamic Banking), Pakistan. His traditional education in the Islamic sciences consists of a Shahādat al-‘Ālamiyyah (Master’s in Arabic and Islamic Studies) and a Takhaṣṣuṣ fi ‘l-Iftā’ (Specialisation in Jurisprudence) from Jamia Dar ul Uloom, Karachi. He also holds an MA in Arabic from Punjab University and, following an MPhil, is currently pursuing a PhD in Islamic banking and finance from the University of Management and Technology (UMT), Lahore. Mufti Mahmood has nineteen years of experience teaching tafsir, hadith and fiqh and is a renowned lecturer and consultant on Islamic finance. He has presented papers at conferences globally and publishes widely on topics pertaining to the shari‘ah, including a two-volume collection of various legal edicts (fatawa) entitled Ashraf al-Fatāwā. Abdelrahman Yousri Ahmed was, at the time of writing this chapter, professor, College of Islamic Studies, Hamad Bin Khalifa University, Doha, Qatar, and is currently professor, Alexandria University, Alexandria, Egypt. He received his PhD in economics in 1968 from the University of St Andrews, UK. From 1968, Dr Yousri taught at the Faculty of Commerce in Alexandria University. He then assumed the head of Department of Economics at several universities, including King Abdulaziz University,

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Jeddah; Beirut Arab University, Lebanon; and Umm Al-Qura University, Mecca. He also worked as the director-general of the Higher Institute of Islamic Research and Economics in Islamabad, Pakistan. Dr Yousri was a co-winner of the Islamic Development Bank Award for Islamic Economics in 1997. Sarwat Ahson is currently the senior programme manager at the Centre for Excellence in Islamic Finance at the Institute of Business Administration (IBA), Pakistan. She has previously taught at the Institute of Business Administration and SZABIST Karachi. Samir Alamad currently works as the head of shari‘ah compliance and product development at Al Rayan Bank, UK. His professional experience includes a PhD from the Aston University Business School in financial innovation and engineering and a master’s degree in Islamic banking finance and management from Loughborough University. Additionally, he is an AAOIFI (Accounting and Auditing Organization for Islamic Financial Institutions) Certified Shari‘ah Adviser and Auditor (CSAA). His key areas of expertise include shari‘ah compliance advisory and supervision as well as structuring and developing all types of shari‘ah-compliant financial products including retail, commercial, corporate, private and hedging products. In addition, he was also involved in structuring sukuk; establishing shari‘ah governance in Islamic financial institutions; managing shari‘ah compliance audit; and coordinating Islamic banking training and human capital development initiatives. Syed Musa Alhabshi is an associate professor at the Institute of Islamic Banking and Finance, IIUM and was previously dean of the Institute of Islamic Banking and Finance (2014), IIUM and dean of the Graduate School of Business, University Tun Abdul Razak (2012–13). He was also engaged as a fellow consultant with Amanie Business Solutions & International Institute of Islamic Finance Inc in providing advisory, research and training services to the Islamic financial services industry. He served as an independent board member of Takaful Ikhlas and currently serves as an independent board member of MNRB Re-Takaful. He also currently serves as shari‘ah committee member of SAC LOFSA, MNRB Retakaful and Bank of Tokyo Mitsubishi Bank. Currently, he is engaged in EPP7 Project on Islamic Finance Education Curriculum Development. In professional education he has jointly designed and developed professional modules on Certificate & Diploma in Islamic Finance for CIMA, UK, and jointly developed professional modules for part two for INCEIF CIFP. On shari‘ah standards he was a member of the team that developed Bank Negara SHARI‘AH (contract) PARAMETERS as well as being part of the ISRA project on SHARI‘AH AUDIT FRAMEWORK. Currently, he is a panel member for the BNM Islamic financing contract standards teaching template. He was also appointed as external review team member and consultant of UAE COMMISSION for Academic Accreditation to review Islamic banking programmes in Dubai and Abu Dhabi. Currently, he is a panel member of the FAA accreditation panel. Previously he was a technical consultant with Centennial Group International in developing Islamic Financial Services Board (IFSB) Prudential Standards. He had served as a member of the Accounting, Auditing and Governance Standards Board of Accounting and Auditing Organization for Islamic Financial Institutions (AAOIFI). He has conducted training in the area of Islamic accounting, finance and banking in both public seminars and in-house training programmes for various financial, audits, supervisory and rating institutions in London, Emirates, Brunei, Malaysia, Mauritius, Singapore and Indonesia.

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Ashraf Gomma Ali is the regional head of shari‘ah and governance at CIMB Islamic, Malaysia where he is responsible for all shari‘ah advisory and research affairs for the CIMB Group. He previously worked at NCB, Saudi Arabia for six years as vice president of shari‘ah assurance where he was responsible for overseeing all policies and procedures in the bank as well as providing shari‘ah advice on all Islamic products across the NCB Group, with particular emphasis on corporate, treasury and capital markets. He previously served as a shari‘ah board member of the only full-fledged Islamic banking subsidiary in the USA (University Islamic Financial) in Michigan, USA. He holds a BSc in finance from the University of Maryland, LLB in shari‘ah from Umm Al-Qura University and Master’s of Islamic Finance Practice from INCEIF. He is also a certified shari‘ah auditor and advisor. S. Nazim Ali is director at the Center for Islamic Economics and Finance and director of the Research Division at the College of Islamic Studies, Hamad Bin Khalifa University (HBKU), Doha, Qatar. He has spent the last thirty years of his career spearheading research in Islamic economics and faith-based initiatives in finance. He founded Islamic Finance Project (IFP) at Harvard University in 1995 and continued as its Director until he joined HBKU in 2014. He was Acting Executive Director of the Islamic Legal Studies Program at Harvard Law School (2011–14). He continues (2014–) his association with Harvard as Visiting Scholar with Alwaleed Islamic Studies Program. He has paid special attention to lines of enquiry that seek to examine and interrogate the frontiers, facilitate research and encourage dialogue among various stakeholders and external discussants. He has played a lead role in organising several conferences and seminars by observing global trends and creating forums for highly intellectual debates. Most noteworthy among them are the biennial Harvard University Forum on Islamic Finance (1997–2014); and the annual workshop at the London School of Economics (2006–17). He led the effort that resulted in the publication of the world’s first academic software database covering the Islamic finance sector. In addition, he has published several papers and monographs, including Fintech in Islamic Finance: Theory and Practice (2019), Takaful and Islamic Cooperative Finance (2016) and Shari’a-Compliant Microfinance (2012), among others. Dr Ali has been actively involved with the US Treasury, The Federal Reserve Bank of New York and central banks in other countries, working to improve understanding of, and address, misconceptions about the Islamic finance industry. He received his PhD from the University of Strathclyde, Glasgow, UK. Ahmed Mansoor Alkhan has extensive experience in the Islamic banking industry in the Kingdom of Bahrain. Dr Alkhan worked as a shari‘ah auditor at the Gulf Finance House (GFH), shari‘ah auditor at Family Bank, head of shari‘ah compliance at Seera Investment Bank and a superintendent at the Central Bank of Bahrain (CBB) in the Inspection Directorate – Islamic banking team. Dr Alkhan also lectures at various universities on topics related to Islamic finance. Dr Alkhan gained his Bachelor of Arts (BA) degree from the University of Wales, UK, Master of Science (MSc) at DePaul University, USA and Doctor of Philosophy (PhD) from the University of Bolton, UK, with distinction in Islamic finance. Wachid Asad is currently pursuing a doctoral degree in Economics at Lancaster University, UK. He holds an MSc in Islamic Finance from Durham University and an MSc in Islamic Economics from University of Indonesia. His research interests include Islamic banking, Islamic behavioural finance, waqf instrument and Islamic applied economics.

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Hanaan Balala is an Oxford University graduate of Lincoln College with a Doctor of Philosophy (DPhil) in law, a Master of Studies (MSt) in legal research and a Bachelor of Civil Law (BCL). She trained as a solicitor in the United Kingdom and has taught law, business and economics at Oxford University. Hanaan studied Islamic shari‘ah and law at the International Islamic University in Malaysia and has written extensively, as well as published, on women’s rights in Islam. Her skills include legal research, Islamic finance, communication skills for lawyers and contract law. Zeynep Topaloglu Calkan was an adjunct assistant professor at Georgetown University. Dr Zeynep Topaloglu Calkan taught money and banking and business economics courses at Georgetown University, Qatar. She received her PhD in economics from the City University of New York. She has ten years of teaching and research experience in financial economics. Previously she was a professor in the Economics Department of Suleyman Sah University, Istanbul. She worked on Wall Street as an economics expert. She served as an economics adviser to the CEO of a leading Islamic bank in Turkey. She was awarded a grant by the Qatar National Research Fund (QNRF) for a research project titled ‘Safeguarding Food and Environment in Qatar’. Jamshaid Anwar Chattha is a former regulator and a member of the Chartered Institute of Islamic Finance Professionals with more than twelve years of direct Islamic financial sector experience that ranges from banking to regulatory policy research, banking supervision and policy implementation. As an Islamic banking expert, he has provided a range of policy advice to the IMF for various central banks through participating in IMF technical missions on banking supervision. He has also conducted technical workshops on Islamic finance for IFSB, IMF, World Bank, IDB, Toronto Centre, Cambridge IFA and AMF. Dr Chattha has hands-on experience in central bank pertaining to Basel II and III and its equivalent IFSB regulatory works and supervision tools for Islamic banks. Prior to joining the Central Bank of Kuwait in 2014, at the IFSB, in his tenure of more than seven years, he was instrumental in drafting, anchoring and managing various IFSB standards and publications such as IFSB-17 (Core Principles, CPIFR, endorsed by IMF in 2018), IFSB-16 (Pillar 2), IFSB-13 (Stress Testing), GN-2 (Risk Management) and financial safety nets such as Working Paper on shari‘ah-compliant LOLR and DIS. Osama Al-Deraie is a shari‘ah scholar based in Qatar. He has extensive experience in teaching, consulting and research in the field of Islamic finance. He received his bachelor’s degree specialising in the science of Hadeeth Al Shareef from the Islamic University of Madinah. Dr Al Deraie obtained his master’s degree from the International Islamic University (Malaysia) and was later conferred his doctorate in Islamic transactions from the University of Malaya. Dr Al Deraie is affiliated with numerous shari‘ah advisory boards of financial organisations in the Gulf, Europe, Asia and Africa. At present, Dr Al Deraie is managing director and chief executive officer of Bait Al Mashura Finance Consultations. Fuaad Al-Dulaimi, Bait Al Mashura, Doha, Qatar holds a BA, an MA in Islamic studies – University of Baghdad – and a PhD from the National University of Malaysia. He has been granted several certificates of appreciation from a number of specialised courses. He is a member of the Islamic International Foundation for economics and finance, has a number of scientific researches and studies, and is currently working in shari‘ah supervision and audit.

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Mohammad Omar Farooq is an associate professor with the Department of Economics and Finance, University of Bahrain. He has a PhD in economics from the University of Tennessee, Knoxville, USA. He was a Ciriacy-Wantrup Postdoctoral Fellow with the Energy & Resources Group at the University of California, Berkeley. In addition to his academic fields, economics and finance, his contribution during the recent decade has focused on Islamic economics and finance as well as Islamic law and jurisprudence. Before joining the University of Bahrain, he was the head of the Centre for Islamic Finance at the Bahrain Institute of Banking and Finance (BIBF) and acting dean, Faculty of Business and Financial Sciences at the Royal University of Bahrain. His scholarly research has appeared in many journals, including Journal of Economic Issues, International Journal of Social Economics, Thunderbird International Business Studies, International Journal of Islamic and Middle Eastern Finance and Management, Review of Islamic Economy, Islamic Economic Studies, ISRA International Journal of Islamic Finance and Arab Law Quarterly. He is also a frequent contributor to various news magazines, writing from a common-ground-seeking, humanity-orientated and problem-solving perspective. Umar Farooq is currently an assistant professor with the Rizvi Institute of Management Studies and Research, Mumbai where he teaches subjects in the domain of finance. In the past, he worked with the Centre for Monitoring Indian Economy as an industry analyst. He also undertook consulting assignments with Deutsches Asienforschungszentrum (DAfz) and Dun & Bradstreet (D&B), India. At DAfz, he developed an economic model for the Malaysian Palm Oil Council (MPOC) to help them understand the potential economic losses it will suffer due to adverse transnational nongovernmental organisations (NGO) campaigns. At D&B, he prepared sectoral reports to apprise its clientele of the prevalent economic risks in various industries of the Indian economy. Academically, Umar Farooq holds a master’s in management studies from the University of Mumbai. He is pursuing doctoral studies from the University of Mumbai. He also received complete scholarship from the University of Luxembourg for a certificate course in law and regulation of inclusive finance. Umar Farooq has published and presented research papers in conferences and has reviewed books. Safiudin Ahmad Fuad is a research officer at the International Shariah Research Academy for Islamic Finance (ISRA), Kuala Lumpur, Malaysia. Previously, he served as a shari‘ah management trainee at the same institution. He has been involved in multiple international projects at ISRA, including empirically based reports on ‘The Role of Sukuk in Islamic Capital Market’ and ‘Islamic Fund Management’ funded by the Standing Committee for Economic and Commercial Cooperation of the Organisation of Islamic Cooperation (COMCEC). He was also involved in the production of ISRA’s Islamic Economics Textbook and the INCEIF-World Bank-ISRA Roundtable on Waqf. Mr Safiudin graduated from the University of Malaya holding a bachelor’s degree in shari‘ah – fiqh and usul (distinction). Hafas Furqani is a researcher at the International Shari‘ah Research Academy for Islamic Finance (ISRA). He also worked as a lecturer at the Faculty of Islamic Economics and Business, State Islamic University (UIN). He obtained his PhD from the Faculty of Economics and Management Sciences, International Islamic University Malaysia (IIUM).

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Ebrahim Gamal, Bait Al Mashura, Doha, Qatar holds a PhD in financial transactions from the University of Malaya. He did his master’s degree in financial and banking sciences. He was a lecturer on Islamic economics and finance at different universities in Yemen. At present, he is head of the research and studies division at Bait Al-Mashura Finance Consultations. Zulkifli Hasan is a former Dean of Faculty of Syariah and Law, Universiti Sains Islam Malaysia (USIM). He is now the Deputy Rector (Student Development and Community Engagement), International Islamic University Malaysia. He has worked extensively in the Islamic finance industry as an advocate and solicitor, as in-house counsel for Bank Muamalat Malaysia Berhad, and as member of Rules and Regulations Working Committee for Association of Islamic Banking Institutions, among many other positions. He was a recipient of a 2014 grant by the J. William Fulbright Foreign Scholarship Board to conduct scholarly research at Fordham University, New York, USA. He is author of the book Shariah Governance in Islamic Banks (Edinburgh University Press, 2012). Dr Hasan received his PhD from Durham University, UK. M. Kabir Hassan is a professor of finance in the Department of Economics and Finance in the University of New Orleans. He currently holds two endowed Chairs-Hibernia Professor of Economics and Finance, and Bank One Professor in Business at the University of New Orleans. Professor Hassan is the winner of the 2016 IDB Prize in Islamic Banking and Finance. Professor Hassan received his BA in economics and mathematics from Gustavus Adolphus College, Minnesota, USA, and MA in economics and PhD in finance from the University of Nebraska-Lincoln, USA respectively. Professor Hassan is a financial economist with consulting, research and teaching experiences in development finance, money and capital markets, Islamic finance, corporate finance, investments, monetary economics, macro-economics, Islamic banking and finance, and international trade and finance. Professor Hassan has done consulting work for the World Bank, International Monetary Fund, African Development Bank, Transparency International-Bangladesh (TIB), Islamic Development Bank, Government of Turkey and many private organisations. Professor Hassan has published nearly 200 papers in refereed academic journals such as in the Journal of Corporate Finance, Journal of Banking and Finance, Journal of Real Estate Finance and Economics, Journal of Financial Stability, Review of Financial Economics, Emerging Markets Review, Accounting Research Journal, Journal of Housing Research, Journal of Business Ethics, Pacific Basin Finance Journal, Journal of Financial Services Research, Financial Review, Quarterly Review of Economics and Finance, Journal of Business, Finance and Accounting, Journal of Economics and Finance, Global Finance Journal, World Development, Thunderbird International Business Review, African Development Review and Journal of Developmental Entrepreneurship. Usman Hayat currently works as the CEO of Audit Oversight Board Pakistan. His interests include sustainable, responsible and impact investing and Islamic finance. He is the lead author of Environmental, Social, and Governance Issues in Investing: A Guide for Investment Professionals, and the literature review, Islamic Finance: Ethics, Concepts, Practice. He is interested in online learning and has directed three e-courses for CFA Institute: ‘ESG-100’, ‘Islamic Finance Quiz’ and ‘Residual Income

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Equity Valuation’. The other topics he writes about are macro-economics and behavioural finance. Previously, he was a content director at CFA Institute. He is a former executive director at the Securities and Exchange Commission of Pakistan (SECP). He has experience working in securities regulation and as an independent consultant. His qualifications include the CFA charter, the FRM designation, an MBA, and an MA in development economics. His personal interests are reading and hiking. Walid Hegazy has more than twenty years of legal experience representing and advising clients on transactions and disputes involving the commercial laws and regulations of many Middle East countries, including: Egypt, UAE, the Kingdom of Saudi Arabia, Qatar and Libya. Dr Hegazy’s main areas of expertise include Islamic banking and finance, project financing, corporate restructuring and corporate governance. Dr Hegazy has SJD (Doctor of Juridical Science) and LLM degrees from the Harvard Law School in Cambridge, Massachusetts. Rifki Ismal, Economist, Department of Islamic Economics and Finance Development Bank Indonesia (Central Bank of Indonesia) became an associate professor in Islamic banking and finance at the Australian Centre for Islamic Financial Studies in 2012. Besides working as an assistant director in the Department of Islamic Banking at Bank Indonesia (Central Bank of Indonesia) since 1997, he has been lecturing at the Faculty of Economics, University of Indonesia (FEUI), in the Graduate School of Management (MMUI). While conducting economic and banking research projects and giving lectures, Ismal served as visiting researcher at the Bank for International Settlements (BIS), Hong Kong in 2006 and as a visiting lecturer in the Master’s of Science Islamic Finance Programme at Strasbourg University, France in 2009. Ismal earned a bachelor’s degree in economics from the FEUI. In 2002 he graduated from the University of Michigan with a master’s degree in applied economics and later received a PhD in Islamic economics and finance from Durham University, UK. Ismal is also an active writer in Indonesian newspapers/magazines as well as a speaker at many international conferences on Islamic banking/finance. He is author of the book Islamic Banking in Indonesia: New Perspectives on Monetary and Financial Issues (2013, Wiley). Sohaib Khan is a doctoral researcher at Columbia University focusing on Islamic law in South Asia, anthropology of finance and translation studies and thinking about legal pragmatism and epistemological incertitude in practices of modern Islamic banking and finance. He is recipient of a fieldwork grant from the Wenner-Gren Foundation for conducting research on ‘From Fatwas to Finance: An Ethnography of Shari‘ah Compliant Banking in Pakistan’, supervised by Dr Brinkey Messick. Tariqullah Khan is currently a professor and coordinator at the College of Islamic Studies’ Islamic Finance programme at Hamad bin Khalifa University. Previously, he worked in the Islamic Development Bank, IRTI since 1984 in different academic and managerial positions, lastly as the division chief of Islamic banking and finance, officiating division chief Islamic economics and development cooperation and was editor of the Islamic Economic Studies Journal. He initiated and implemented a number of global strategic initiatives for the development of Islamic finance. He worked in a number of international advisory teams and working groups concerning the development of Islamic financial services. He has contributed with more than twenty-five highly cited research papers

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in different areas of Islamic finance and developed a number of international flagship conferences in these areas. He has led the CIS academic team in organising three mega international research conferences and coordinated the publication of seven volumes of proceedings. He has twice been elected president of the International Association for Islamic Economics. He also serves on the editorial/advisory board of two leading journals on Islamic economics and finance. Ruma Khanam is a senior officer (on study leave) at Islami Bank Bangladesh Limited in Chittagong, Bangladesh. She is currently a postgraduate teaching assistant in accounting and finance at the School of Business and Economics, Loughborough University, UK. Ishraga Khattab is director of research at the Sudan Academy for Banking and Financial Science (SABF), which was established as a result of joint efforts exerted by the Central Bank of Sudan and commercial and specialised banks to provide banks’ staff with the skills and knowledge required to cope with the banking system and economic and financial transactions in the country. She has been with the SABF since 2008. Ishraga holds a PhD from Brunel University (UK), School of Mathematics and Computer Science. Mohamad Akram Laldin is currently a member of the Shari‘ah Advisory Council of Bank Negara Malaysia, Shari‘ah Advisory Committee of the Employees’ Provident Fund and the Shari‘ah Supervisory Council of the Labuan Financial Services Authority Globally. He holds the following positions: chairman, Shari‘ah Board of the Maldives Monetary Authority; member, Shari‘ah Advisory Board of Yasaar Limited (Dubai); member, Shari‘ah Advisory Council of the International Islamic Financial Market (IIFM) (Bahrain); member, Shari‘ah Advisory of Eco Islamic Bank (Republic of Kyrgyzstan); shari‘ah advisor of Dar Al Takaful (Dubai); and member, Panel of Recognised International Market Experts in Finance (PRIME Finance). He is currently the executive director of the International Shari‘ah Research Academy for Islamic Finance (ISRA). Prior to joining ISRA he was an assistant professor at the Kulliyah of Islamic Revealed Knowledge and Human Sciences, International Islamic University, Malaysia (IIUM). In the period 2002 to 2004, he was a visiting assistant professor at the University of Sharjah, Sharjah, United Arab Emirates. At present, he is member of the Shari‘ah Advisory Council of Bank Negara Malaysia, member of the Shari‘ah Advisory Committee of Employees Provident Fund (EPF), member of Yassar Limited (Dubai) Shari‘ah Advisory Board, member of EAB (London) Shari‘ah Advisory Board and chairman of Islamic Advisory Board of HSBC Insurance Singapore. Dr Akram is also shari‘ah advisor to ZI Shari‘ah Advisory Malaysia, committee member of AAOIFI Shari‘ah Standards, Bahrain and other boards locally and internationally. He is also member of the Board of Studies of the Institute of Islamic Banking and Finance, International Islamic University Malaysia. Mohamed Nafeel Mahboob, Bait Al Mashura, Doha, Qatar holds an MSc in Islamic finance from HBKU-Qatar. His expertise includes Islamic economics and finance, shari‘ah supervision, review and audit. He has contributed in several areas of research, teaching and training, curriculum planning, conferences, managing academic and nonprofit organisations. Currently he is shari‘ah auditor at Bait Al-Mashura and an editor of Bait Al-Mashura International Journal of Islamic Economics and Finance.

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Muslehuddin Musab Mohammed, shari‘ah auditor, Bait Al Mashura, Doha, Qatar Muslehuddin is pursuing a PhD in Islamic economy and finance at Hamad Bin Khalifa University – Qatar. He holds an MSC in Islamic finance from HBKU and a BA in Islamic law from the Islamic University of Madina. He has extensive experience in shari‘ah compliancce audit services besides training and research in Islamic economics and Islamic jurisprudence. He took part in organising more than five international conferences on Islamic economics and finance. He is serving at Bait Al Mashura Finance Consultations as shari‘ah auditor and Islamic finance trainer. Amin Mohseni-Cheraghlou is assistant professor at the College of Islamic Studies, Hamad Bin Khalifa University in Doha, Qatar. Most recently and at the time of writing his chapter in this volume, he was assistant professor at the Department of Economics in American University, Washington, DC. He is also an affiliated scholar with the Faculty of Economics and the Faculty of World Studies at the University of Tehran, Iran. Since 2007, he has provided his consultancy expertise to various departments in the World Bank Group. He writes frequently on topics related to development economics, Islamic economics and finance, and economies of the Middle East. Professor Mohseni is also the co-author of a 2010 book titled The Militarization of the Persian Gulf: An Economic Analysis. He holds a PhD in economics, an MA in international development and a BS in electrical engineering. Marjan Muhammad is head of the Research Quality Office and senior researcher at International Shari‘ah Research Academy for Islamic Finance (ISRA), Kuala Lumpur, Malaysia. In her current capacity, she oversees the quality of research output for projects undertaken by ISRA. She is a member of the Shari‘ah Committee of Maybank Islamic Berhad and member of the Shari‘ah Committee of SME Bank Berhad. She was the editor of ISRA’s three main ISRA textbooks: Sukuk: Principles and Practice (2017), Islamic Financial System: Principles and Operations (2nd edn) (2016) and Islamic Capital Markets: Principles and Practices (2015). She was the project manager for both empirically based reports on ‘The Role of Sukuk in Islamic Capital Market’ and ‘Islamic Fund Management’ funded by the Standing Committee for Economic and Commercial Cooperation of the Organization of Islamic Cooperation (COMCEC). Dr Marjan obtained her bachelor’s degree in Islamic revealed knowledge and heritage (fiqh and usul al-fiqh) from IIUM and graduated from her master’s and PhD degrees at the same university. Shariq Nisar is a professor at Rizvi Institute of Management Studies and Research, Mumbai and received his PhD in economics from Aligarh Muslim University, India. In the past, he worked at Harvard Law School as a senior visiting fellow. Before moving to academics, Shariq spent more than a decade and a half in the Indian finance industry developing financial products and services aimed at improving financial inclusion. He made seminal contributions to India’s financial sector by launching India’s first shari‘ah index at Bombay Stock Exchange, first mutual fund scheme and first venture capital scheme. He played a key role in the design and launch of the shari‘ah index at the Chittagong Stock Exchange, Bangladesh. He made a presentation before the Select Committee of Indian Parliament during the discussion on Insurance Amendment Bill 2015. Shariq co-founded India’s first shari‘ah advisory firm TASIS in 2007 and headed it until 2013. Later, he established India’s first Centre for Alternative Finance at ITM Business School, Mumbai. He has authored three books and more than sixty research

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papers and articles. Shariq is visiting faculty, a consultant, on the board of various companies and a member of the Academic Steering Committee of ICMIF, UK. Umar A. Oseni is chief executive officer of International Islamic Liquidity Management Corporation in Kuala Lumpur. Prior to his current position, Dr Umar A. Oseni was associate professor at the Faculty of Law, International Islamic University of Malaysia (IIUM). He was a visiting fellow at the Islamic Legal Studies Programme of the Harvard Law School in the United States during 2011 and 2012 to conduct research on dispute resolution in Islamic banking and finance. He received his LLB (Hons) in Common and Islamic Law from the University of Ilorin, Nigeria; Master of Comparative Laws (with Distinction), and PhD from IIUM. He was a resource person on Islamic micro-finance at the UN-Habitat Workshop on Land Development in Islam, was appointed as the Special Officer to the Rector of IIUM and was also a council member of the International Centre for Waqf Research, IIUM. He is a member of the following professional bodies: Chartered Institute of Arbitrators UK, International Centre for Dispute Resolution Young & International (ICDR Y&I), Young International Arbitration Group (YIAG), London Court of International Arbitration, Nigerian Bar Association and Association of Professional Negotiators and Mediators. Apart from more than forty publications in leading journals and papers of books, he is a co-author of the first textbook on Islamic finance. Aida Othman serves as a lawyer in the corporate and commercial practice group as well as having been involved in Islamic banking and finance at Zaid Ibrahim & Co. since 2006. Dr Othman started her career with Messrs. Zain & Co. in 1993 as assistant legal officer. In 1995, she joined International Islamic University Malaysia as a lecturer. After that, she became a researcher at United Nations during 1998 and 1999. In 2002, she joined the Harvard University as teaching fellow until 2003 and fellow and teaching assistant during 2005 and 2006. She served as a member of the Shari‘ah Advisory Body at Syarikat Takaful Malaysia Bhd since 6 March 2008 until 6 April 2016. She graduated from the International Islamic University Malaysia with a Bachelor of Law degree in 1992 and a Bachelor of Law (LLB Shari‘ah) degree in 1993. In 1995, she obtained a Master in Law (LLM) from Cambridge University, England and in 2005 she obtained a Doctor of Philosophy from Harvard University, USA. She obtained her post doctorate fellowship from Harvard University in 2006. Ali Muhi Al-Din Al-Quradaghi has a PhD in contracts and financial transactions and master’s degree in shari‘ah and comparative fiqh from the University of Al-Azhar. He is currently the secretary-general of the International Union for Muslim Scholars and vice-president of the European Council for Fatwa and Research. He was a professor at the University of Qatar and has published more than 100 papers and written more than thirty books. Dr Ali is a prominent shari‘ah scholar serving several Islamic financial institutions worldwide both as chairperson as well as board member of various Shari‘ah Supervisory Boards (SSBs). Bahnaz A. Al-Quradaghi is currently working as researcher, College of Islamic Studies, Hamad Bin Khalifa University. She holds a master’s degree in Islamic finance from the College of Islamic Studies and is currently pursuing her PhD studies at the International Islamic University Malaysia. She has presented her work at peer-reviewed

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conferences in Turkey, Egypt, Malaysia and Qatar. She was a key organiser of the ninth and tenth International Conference on Islamic Economics and Finance that were held in Istanbul (2013) and Doha (2015) respectively Beebee Salma Sairally is research consultant at the International Shari‘ah Research Academy for Islamic Finance (ISRA), Kuala Lumpur, Malaysia. She is also the editor of the Scopus-indexed journal published by ISRA, the ISRA International Journal of Islamic Finance. She was among the editors and writers of the following books published by ISRA and the Securities Commission Malaysia: Sukuk: Principles & Practices (2017) and Islamic Capital Markets: Principles & Practices (2015). Previously she worked as economic analyst at the Ministry of Finance and Economic Development, Government of Mauritius (1998–2013); has been a visiting associate professor at the Graduate School of Asian and African Area Studies at Kyoto University, Japan (2007); and worked as a part-time lecturer in banking and finance modules at the University Technology Mauritius (2007–14). Dr Sairally holds a PhD in economics from Loughborough University, UK; master’s in Islamic studies with major in Islamic finance (Distinction) from Portsmouth University, UK; and BSc in economics and finance, University of New South Wales, Australia. Wijdan Tariq is at the Faculty of Arts and Science at the University of Toronto. Previously he worked as an academic researcher at the Centre for Islamic Economics and Finance, College of Islamic Studies, Hamad Bin Khalifa University, a Member of the Qatar Foundation. He was also an adjunct instructor of Calculus at Georgetown University Qatar. Wijdan studied accounting and finance at university and holds an MSc from Lancaster University and a BA (Hons) from the University of Nottingham, UK. Md. Hafij Ullah is a lecturer at Coventry Business School since November 2018. He has previously taught at the University of the Sunshine Coast, Australia; Macquarie University, Australia; and International Islamic University Chittagong, Bangladesh. Hafij Ullah holds a PhD in Accounting and Corporate Governance from Macquarie University, Australia. Siraj Yasini is a senior Islamic banker with 15 years of Islamic finance experience in Shariah advisory, structuring Islamic deals, developing Islamic products and business with regional and international financial institutions. He served corporate, sovereign and Islamic financial institutions’ clients in the Middle East, Europe, Americas, Asia Pacific and Central Asia. Siraj is trained as a shari‘ah expert from Al Azhar University (Egypt) and in finance and legal studies from Boston University (USA). Amir Ahmad Zolfaghari is a PhD candidate in the Faculty of Economics at Allameh Tabatabei University, Tehran, Iran. His PhD dissertation is titled ‘The Effect of Contract Environment in PLS Contracts in Islamic Banking’. He is also a research economist at Sharif University’s Governance & Policy Think Tank.

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Preface

Financial institutions operate based primarily on the trust of their customers and other stakeholders; however, in the aftermath of the global financial crisis, this faith was found to be broken. Since then, states and financial regulators have made several efforts to renew the trust by tightening national regulations, enhancing corporate governance standards and increasing international cooperation as the world realised the risk of contagion. Islamic financial institutions, which began operating in the 1970s, have fast attained a significant size and geographical spread. In many countries, Islamic finance has become part of the mainstream financial system, while many others consider it as just a niche. Extra attention to the governance of any financial institution is natural; however, one characteristic that differentiates Islamic finance from its conventional counterpart is its inherent focus on a particular aspect of governance, referred to as shari‘ah governance. Over the years, several standards-setting bodies such as AAOIFI, IFSB and others have emerged to help Islamic finance institutions achieve the lofty goals of maqasid al-shari‘ah. Islamic finance operates in different and varied legal environments. In some countries like Malaysia, there are specialised Acts to regulate Islamic finance while in other countries, the conventional financial regulators themselves govern these activities. A unique characteristic of all the Islamic financial institutions, however, is the presence and involvement of a shari‘ah supervisory board, comprising scholars and experts responsible for assuring its stakeholders that all the activities comply with the precepts of the shari‘ah. Because of the increased attention to corporate governance, there was a perceived need, predominantly in the academic fraternity, to examine the level of governance in the Islamic financial institutions. This book is a modest attempt to address that need. The debate on shari‘ah governance issues has been an integral part of the Harvard University Forum on Islamic Finance since 1997. Research papers and corresponding discussions on shari‘ah were invariably a part of all the forums, without exception. From the published proceedings of the forums and edited books, it is evident that a significant contribution to the research work in the English language on shari‘ah governance issues emanated from Harvard University publications. When I assumed my current position at the Qatar Foundation, I also brought that legacy with me by

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relaunching the platform, bringing academics, shari‘ah scholars and Islamic financial professionals together. I am genuinely grateful to the College of Islamic Studies (CIS), Hamad Bin Khalifa University (HBKU) for providing me with much-needed support to initiate the shari‘ah scholars roundtable. I feel honoured and grateful to have earned the goodwill and faith of my superiors, colleagues, industry leaders and research staff. Without encouragement and support from them, I would not have accomplished the many things I had envisaged when I joined as director of the Center for Islamic Economics and Finance (CIEF) at CIS-HBKU. The CIS, in association with Qatar Financial Centre (QFC) Authority, organised a roundtable in October 2017 to review key governance issues in the financial institutions. The central theme of the roundtable was to reflect on the regional variations in Islamic financial products, shari‘ah governance systems and fatwas, and to identify why these regional variances occur, as well as to assess future trends. The roundtable is held in an open environment to study and develop the theme and foster research in the field, by bringing the shari‘ah scholars and practitioners together to discuss and present recent developments and challenges surrounding the application of shari‘ah governance and to engage in constructive dialogues. This unique forum has provided an opportunity to participate in constructive dialogue with economists, shari‘ah scholars, social scientists, Islamic financial practitioners and policymakers, to exchange information and ideas. It was this event that inspired the editors to undertake the daunting task of compiling this volume by attracting renowned authors of Islamic finance to contribute chapters documenting shari‘ah governance practices from different parts of the world. This book presents the critical assessment of shari‘ah governance system by dwelling upon the issues faced by the Islamic financial institutions in various countries. It starts with an introductory chapter that provides a useful summary of the work presented in the volume as well as critical issues in the discourse on shari‘ah governance. Part 1 starts with a series of chapters describing the fundamentals of shari‘ah governance, such as the evolution of shari‘ah governance standards over the years, Islamic legal analysis of shari‘ah governance including its philosophical foundations and an overview of shari‘ah governance issues in the Islamic capital market. Part 2 presents detailed real-life case studies and critical analysis of shari‘ah governance practices in more than fifteen different countries and across dozens of banks. Finally, Part 3 presents a critical analysis of the current methods of shari‘ah governance in Islamic finance, suggests areas of reforms and offers directions for future practice and scholarship in the field. This book strives to serve as a standalone comprehensive overview of the historical evolution, current practices and debates, and prospects of shari‘ah governance in the global financial system. This book would not have been possible without the dedicated efforts and support of several individuals for whom I would like to express my deepest appreciation. The College of Islamic Studies and its dean and faculty members have shaped my thoughts over the last few years, and continue to inspire me even today. The ecosystem not only throws new challenges at me but also provides me with a unique platform to interact with the great contemporary thinkers, policymakers and academicians. Most notably, the CIS dean, Professor Emad El-Din Shahin, with his constant trust and unfailing support has provided me with the confidence and motivation to discharge my duties effectively and to expand my role as CIS director of research division. In addition,

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without the support of the Qatar Financial Centre (QFC) Authority, especially Mr Yousuf Al-Jaidah, CEO, Dr Haitham Al Salama, former chief economist at QFC, and Mr Henk Hoogendoorn, managing director, Financial Sector Office of QFC, we would not have been able to compile and edit this important monograph. We are genuinely grateful to the QFC team for their thoughtful support, as they continue to be a great source of strength and encouragement for all CIS endeavours in Islamic finance. I am also genuinely grateful to CIS faculty members for their guidance and support to the Center for Islamic Economics and Finance (CIEF) staff, and it is with their support and encouragement that we have been able to organise mega-events and disseminate knowledge via our publications. Most notably among them are Professor Dr Tariqullah Khan, Professor Dr Abdelrahman Yousri Ahmed, Dr Evren Tok, Dr Mohamed M. El Gammal, Dr Abdulazeem Abozaid, Dr Hossam El-Din Khalil and Dr Dalal Assouli. Likewise, I would like to acknowledge the assistance we have received from M. Muslehuddin Musab Mohammed, Saqib Hafiz Khateeb and Mudassar Baig in the preparation of some chapters. Most notably, I wish to extend my deep sense of appreciation and gratitude to Zul Hakim for reviewing the papers, to Alina Khan for checking the references and also to a number of Islamic finance students who assisted the project, Abdurahman Yesuf, Humera Mahmood and Maimoona Tahir, and Mubarak Mohammed Kabir Musa who has undertaken the final preparation of the manuscript, formatting the texts and redrawing the tables. We are truly grateful to all CIEF staff, student research assistants and other individuals for their assistance. Last but not least, I am grateful to all the contributors of this book who have invested a great deal of time in preparing their papers and following our guidelines, and to my co-editors, Wijdan Tariq and Bahnaz Al-Quradaghi, for putting stupendous efforts into bringing out this book. I hope the readers will find this book an essential addition to the growing body of literature on Islamic banking and finance. This book is the end-product of the dedication and hard work of academicians and professionals spread across multiple continents. I must appreciate their extraordinary commitment and hard work in transforming a mere thought into a reality in the shape of this book. Syed Nazim Ali Research Professor and Director, Research Centre College of Islamic Finance | Hamad Bin Khalifa University

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Chapter 1 Introduction: SHARI‘AH Governance in Islamic Finance Wijdan Tariq

I

slamic finance is an emerging sector of the global financial industry that emphasises that all commercial and financial transactions that take place under the label of ‘Islamic finance’ must comply with Islamic law (the shari‘ah).1 The primary requirement for finance to be considered ‘Islamic’ is that financial transactions must abide by the Islamic prohibition of riba, often translated as interest or usury.2 Other requirements include the avoidance of contractual uncertainty (gharar) and gambling (maysir) or excessive speculation. Furthermore, financing must only be for halal (permissible) purposes and not for haram (prohibited) purposes, such as activities that are considered illicit in Islam. To ensure that Islamic finance transactions – with deal volumes in the billions of dollars per year – and Islamic financial institutions (IFIs) – whose assets exceed $2 trillion by some estimates – comply with the shari‘ah, a governance system is often put in place. This governance system is what is referred to in this volume as ‘shari‘ah governance’. To clarify further what we mean by shari‘ah governance, we refer to the definition used by a leading standard-setting institution in the Islamic finance industry, namely the Islamic Financial Services Board (IFSB). The IFSB defines shari‘ah governance system as: the set of institutional and organisational arrangements through which an institution offering Islamic financial services (IIFS) ensures that there is effective independent oversight of shari‘ah compliance over each of the following processes and structures . . . [the] issuance of relevant shari‘ah pronouncements/resolutions[,] . . . [the] dissemination of information on such shari‘ah pronouncements/resolutions to the operative personnel of the IIFS[,] . . . an internal shari‘ah compliance review/ audit[,] . . . [and] an annual shari‘ah compliance review/audit . . .3 The shari‘ah pronouncements being referred to here are the Islamic legal opinions (fatwas) issued by shari‘ah experts on an IFI’s operations, products and services. While they are referred to as legal opinions, the fatwas emanating from the IFIs are often worded in the form of an endorsement of the product/service in question, and are perceived as a form of ‘halal certification’.4 Indeed, the topic of fatwas is given its due attention by the industry standard-setters and is the subject of an entire shari‘ah standard issued by the Accounting and Auditing Organization for Islamic Financial

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Institutions (AAOIFI) – another leading standard-setting for the industry.5 The question of whether a fatwa is or should be made binding on an IFI is often discussed and debated within the industry. Moreover, it is commonly argued within the industry that the current process of issuing fatwas within the industry lacks transparency and lacks sufficient disclosures, and that there is much room for improvement.6 When enhanced, for instance, through greater disclosures and consultations, it is said that fatwas can be ‘transformed into a proactive tool and method of good governance to respect, educate, and engage communities and stakeholders, effectively consulting and enabling them to participate in discussions regarding their spiritual and material welfare’.7 However, in the absence of an institutionalised process for issuing fatwas that takes into account the full context of the fatwa and its impact on public policy, there is expected to be significant discrepancies in the fatwas issued by different shari‘ah experts that could lead to uncertainties in the market for Islamic finance.8 It is important to recognise from the onset that while we refer to the shari‘ah as ‘Islamic law’, in the context of Islamic finance the shari‘ah does not actually serve as the law. It can be understood as being the source for deriving ethical principles – for finding out from an Islamic perspective what is permissible and what is prohibited. On the other hand, ‘legal validity’ is provided by another legal order that is usually English law in global Islamic finance transactions.9 It is said therefore that in the world of Islamic finance, the shari‘ah is not perceived as the law per se – rather, it is perceived as a source of what is referred to as ‘shari‘ah risk’, that is, the chance that an Islamic finance transaction is challenged on the basis that it does not comply with Islamic law. In finance, law provides transaction security and makes transactions enforceable in court. In Islamic finance, shari‘ah is perceived as a risk that allows the transaction to be attacked on the basis that it did not conform to Islamic legal principles.10 Possible consequences of shari‘ah non-compliance include higher costs, financial losses, liquidity problems, bank runs, bank failure, industry smearing and financial instability.11 Shari‘ah governance can then be thought of as one of the primary means of mitigating shari‘ah risk or, more accurately, ‘shari‘ah non-compliance risk’. The group of shari‘ah experts who review an IFI’s products or services and issue fatwas are commonly referred to within the industry as ‘shari‘ah scholars’.12 However, as discussed in some of the chapters of this volume, their scholarly credentials are often the subject of scepticism by some observers. For the moment, it is important to emphasise that shari‘ah scholars are often tasked with the review of an IFI’s products and services to certify that they comply with the shari‘ah and that the IFI pays its zakah dues on time and in the correct amounts. Often, shari‘ah scholars undertake their review in their role as a member of a Shari‘ah Supervisory Board (SSB) – an organisational unit that is composed of usually three or more shari‘ah scholars who are mandated to review the shari‘ah compliance of an IFI’s products and services.13 The presence of an SSB is one of the most common and visible features that distinguishes IFIs from conventional financial institutions. The shari‘ah board is the key mechanism through which shari‘ah governance is implemented in Islamic finance. In many jurisdictions, the formation of an SSB is mandated by the regulatory authority that issues the IFI its licence to operate. In other jurisdictions, the Articles of Association of the IFI specifies that the IFI will form an SSB, regardless of whether or not the regulator mandates it. Further still, in a few jurisdictions where there is a strong, state-endorsed centralised shari‘ah committee, IFIs can rely on this central shari‘ah board for shari‘ah supervision

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introduction

3

and guidelines and hence would not necessarily need to form their own SSBs and, in fact, may be prohibited by some states from doing so. Perhaps more than differences in Islamic schools of thought, the variations in the types, compositions and operations of shari‘ah boards is influenced by comparative political economy dimensions.14 This is hardly surprising, as it has been shown that even the courts are agents of the incumbent political regime; judges are said to be the political actors, and shari‘ah review is thus a product of regime politics.15 It is also important to mention here that while the SSBs are an important source of reference for deriving shari‘ah rulings in Islamic finance, their work is heavily influenced by the globalisation of business practices and from private actors, such as multinational investment banks, law firms and accountancy firms.16 As such, while the influence of the state is undeniable, Islamic contractual practices have also evolved in the marketplace without governmental intervention. The country case study chapters in this volume illustrate the variations – and, at times, the ambiguities and tensions – that exist with respect to the work, function and influence of SSBs in different jurisdictions. Among commercial banks, it is said that the formation of SSBs began in 1976 when the Faisal Islamic Bank of Egypt was established. This practice was then followed by the Jordan Islamic Bank and the Faisal Islamic Bank of Sudan in 1978, the Kuwait Finance House in 1979, the Bank Islam Malaysia Berhad in 1983 and the Dubai Islamic Bank in 1999. In its early days, the Islamic Development Bank (IDB) did not have a formal SSB, although it did solicit consultation of individual shari‘ah scholars on various issues.17 Having introduced the role of SSBs, we can further add to our definition of shari‘ah governance by describing shari‘ah governance as ‘the system of determining how the shari‘ah board is being controlled and directed for the purpose of shari‘ah compliance’.18 This definition of shari‘ah governance alludes to the control over shari‘ah boards by the IFIs shareholders, management, and Board of Directors (BOD), as well as by the state. To ensure that shari‘ah boards are effective, a clear framework and structure is needed particularly in matters pertaining to its independence, the binding nature of its rulings, its objectivity as well as its full mandate. Therefore, all arrangements associated with the manner by which shari‘ah boards are directed and governed for the purpose of shari‘ah compliance is also a part of the overall shari‘ah governance framework. SSBs exist at a variety of levels and this affects the roles that they assume. We have mentioned that they exist at the level of individual IFIs. These can be considered as internal shari‘ah boards. There also exist external shari‘ah boards. In some countries, external shari‘ah boards are formed at the national level in the form of a centralised shari‘ah committee situated at the national central bank or securities exchange commission. Rather than auditing each individual IFI’s products and services, the primary role of the national shari‘ah committee is usually to issue binding fatwas for the local Islamic finance industry to adhere to. SSBs also exist at the international level, usually with the cooperation of governments of different countries or of IFIs operating in different countries. The most prominent example is perhaps the SSB of the AAOIFI. Their primary role is to draft shari‘ah standards and to give input on accounting and governance standards with the aim of harmonising the practice of Islamic finance. Another example of a shari‘ah board at the international level is the shari‘ah board of the Islamic Development Bank (IDB), which is a multilateral development bank

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that undertakes financing activities throughout the world. Consultant shari‘ah boards are another type of external shari‘ah boards. IFIs may seek the services of a consultant shari‘ah board on an ad-hoc basis for advice on specific issues or products. In case the IFI does not have an in-house SSB, it could use the services of a consultant SSB for the purposes of conducting shari‘ah reviews and issuing fatwas certifying the shari‘ah-compliance of the IFI. Shari‘ah boards are said to ideally be involved in three main roles: the issuance of fatwas via collective legal reasoning (ijtihad),19 supervision (raqabah) and audit (mutabaah).20 As will be discussed in some of the chapters, the degree to which they are actually involved in these areas varies. While AAOIFI – the industry standard-setting organisation based in Bahrain – does not specifically define shari‘ah governance, its governance standards do provide guidelines on shari‘ah supervision and compliance. Its auditing, governance and ethics standards include, among others, standards on: testing for compliance with shari‘ah rules and principles by an external auditor; appointment, composition and report of the SSB; shari‘ah review; internal shari‘ah review; independence of the SSB; and codes of ethics for employees of IFIs.21 These guidelines indicate the issues relating to shari‘ah governance that AAOIFI finds pertinent. AAOIFI also publishes shari‘ah standards that provide detailed Islamic juristic (fiqhi) rules and principles for Islamic financial products to adhere to at a micro-level.22 Moreover, some of the shari‘ah standards – especially Shari‘ah Standard No. (29) ‘Stipulations and Ethics of Fatwa in the Institutional Framework’ – contain guidelines on shari‘ah governance from a more macroperspective. Taken together, the IFSB and AAOIFI standards and guidelines provide an important reference point for stakeholders dealing with the formation of new shari‘ah governance systems and those who work within existing shari‘ah governance systems. It is important to note that the IFSB and AAOIFI standards are not binding on IFIs operating in most jurisdictions. Depending on the circumstance and location of the entity using these standards, the standards can be seen either as a set of strict rules to be followed, best practice guidelines or merely as an insight into the views of Islamic finance insiders on matters pertaining to shari‘ah governance. Yet, while there are variations in the practice of Islamic finance throughout the world due to differences in social contexts, regulations and Islamic legal interpretations, it has become apparent to stakeholders involved in trying to create global Islamic finance hubs that it is important to comply with international shari‘ah standards and not just the opinions of local shari‘ah scholars.23 This volume is not concerned with the fiqhi debates that take place within Islamic finance, but only refers to them when they help explain variations in governance systems or when they pose challenges to the ‘good’ governance of IFIs. The volume focuses more on the systems and processes that aim to ensure that IFIs adhere to the shari‘ah or, at the very least, project an image of Islamic authenticity. As we shall see in the various chapters of this volume, these practices reveal what the IFIs and their most influential stakeholders – such as their clients, managements, shari‘ah scholars, and governments – consider to be sufficient for ensuring Islamic authenticity in the domain of finance. The discussions will also reveal the tensions and debates that occur among the different industry stakeholders and vocal non-industry stakeholders – such as academics – on how far shari‘ah governance can and should go in ensuring Islamic authenticity, and different views on what Islamic authenticity in finance should look

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like. Moreover, the chapters in this volume examine the local experiences in achieving adequate shari‘ah governance vis-à-vis the AAOIFI and IFSB standards, and refer to how the influences of Islamic authenticity, economic competitiveness and globalised finance shape shari‘ah governance in Islamic finance throughout the world.

Importance of Shari‘ah Governance in Islamic Finance It goes without saying that shari‘ah governance is the core mechanism that makes Islamic finance ‘Islamic’. From a business perspective, this is what leads the products of an IFI to be differentiated from conventional finance providers. A conventional financial institution would face significant barriers to entering the Islamic finance market if it does not resort to adopting some form of a shari‘ah governance mechanism.24 Most often, this involves the formation of an institutional SSB or the hiring of shari‘ah scholars as consultants on an ad-hoc basis, for example, for a specific Islamic capital market issuance. For regulators in Islamic finance jurisdictions, it is an important issue because shari‘ah governance helps ensure investor confidence and therefore a stable financial system. For IFIs, constantly ensuring effective shari‘ah governance is critical to the sustainability and survival of the institution in the competitive market for Islamic finance. Effective shari‘ah governance is meant to directly address questions of religious authenticity; this is important because Islamic finance has increasingly come under criticism from many segments of society.25 In recent years, religious authenticity of Islamic finance has received renewed attention in order for Islamic finance to be different from conventional finance and hence be protected from the recurring and devastating crises that global finance is susceptible to.26 Aside from the fact that religious authenticity itself will remain a contested issue, several questions can also be raised as to whether the current practice of shari‘ah governance in Islamic finance sufficiently addresses concerns of religious authenticity.27 In fact, several of the authors in this volume argue for reforms of the current systems of shari‘ah governance for precisely this reason. All the various forms of shari‘ah governance that are currently in practice involve consultation of shari‘ah scholars. Having on board religious scholars serves to provide Islamic finance with the legitimacy that it seeks in Muslim societies. IFIs that can consult the most prominent shari‘ah scholars can appear to be more authentic as compared to competitors. Furthermore, it is claimed that shari‘ah scholars are usually more deeply embedded into their local societies than other Islamic stakeholders such as Islamic bankers or Islamic activists.28 Soliciting shari‘ah scholars, therefore, provides IFIs with credibility and legitimacy among their target population group. In recent years, empirical researchers have sought to determine the economic impact of SSBs. There is some suggestive evidence that the presence of an SSB as well as the reputation of its individual members may perhaps lead to more corporate social responsibility (CSR) disclosures by the IFI.29 The composition of an SSB has been shown to be associated with the IFI’s risk-taking behaviour.30 More specifically, the reported evidence suggests that it is the factors related to SSB composition, for example, the total number of SSB members, the number of top-twenty-ranked SSB members and annual changes in composition of an SSB that leads to changes in the business model of the IFI in terms of loan portfolio risk-taking, and not the other way around.31

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Research has also found that the educational backgrounds of shari‘ah scholars has an influence on the risk profile of Islamic equity indices – risk–return profiles of an Islamic equity index is higher when members of the index’s SSB possess a formal education in economics.32 There is also evidence that seems to suggest that the supervisory role of SSB has a positive influence on an IFI’s performance,33 and that the unique governance structure of IFIs leads to their higher risk-taking and enhanced performance compared to conventional financial institutions.34 The choice of shari‘ah scholars used for conducting shari‘ah reviews of the Islamic capital market product known as sukuk has been shown to have some economic significance. In particular, the reputation of the chosen shari‘ah scholars as well as their geographical proximity to the sukuk issuer has a positive influence on the stock market reaction to news of the issue.35 There also appears to be an association between an Islamic bank’s credit rating and its shari‘ah governance arrangement, although the link admittedly requires further investigation in order to be conclusive.36 Nonetheless, putting together the growing body of data on the subject, it appears that shari‘ah governance does indeed have an economic impact on Islamic financial institutions.

Types of Shari‘ah Governance Systems and Relevant Stakeholders We have mentioned that shari‘ah boards can either be centralised within a local government body or decentralised, meaning that no central shari‘ah body exists. This is the broadest classification that exists: centralised versus decentralised systems. Shari‘ah governance regimes are often further grouped into four broad categories: legally constructed regimes; robust shari‘ah governance regimes; passive shari‘ah governance regimes; and market-driven shari‘ah governance regimes.37 Legally constructed shari‘ah governance regimes are those where the national banking law determines the operations of IFIs, with no supporting SSBs at the national-level or at the individual IFI-level. An example of this is Iran where all banks are governed by the Usury Free Banking Act 1983 and therefore all banks are Islamic according to the law.38 In robust shari‘ah governance regimes, Islamic banking laws would exist that would provide clear guidelines and rules for individual SSBs as well as for the national shari‘ah authority. Malaysia, Pakistan and Indonesia are examples of countries that fall under this classification. On the other hand, passive shari‘ah governance regimes may possess Islamic banking laws and regulations. They may have active SSBs at each IFI. They might even have a national shari‘ah authority based at the central bank, although the role of the national shari‘ah authority is either limited or ambiguous. Examples of countries in this category would be many of the Persian Gulf countries such as Kuwait and the UAE. In a market-driven shari‘ah governance regime, there are no laws specific to Islamic banking. The market determines the form of shari‘ah governance, and usually each IFI will form their own SSB on their own initiative due to market pressures. Examples of market-driven shari‘ah governance regimes include Saudi Arabia and the United Kingdom.39 While such classifications are useful to paint a broader outline, they are not necessarily mutually exclusive and at times do not accommodate and describe some of the intricate differences in shari‘ah governance systems. For example, Morocco is a

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country where there are no individual SSBs for each IFI, while at the same time there is a strong national shari‘ah authority. It would be difficult to classify it either as a robust or a passive shari‘ah governance regime according to the above classification.40 The case study chapters in this volume allude to many of the subtle differences between each country. We have already referred to a number of important stakeholders in the shari‘ah governance landscape, such as the individual SSBs of IFIs, the central shari‘ah boards in different countries, the banking and financial regulators, the industry standardsetters such as AAOIFI and IFSB, the managers and directors of IFIs, the shareholders and employees of IFIs, local courts and other state institutions. It should be noted that there exist other fatwa issuing institutions that, although they do not exclusively focus on Islamic banking and finance, they have been known to issue fatwas on the subject. Among the notable fatwa issuing institutions include the Council of the International Islamic Fiqh Academy of the Organization of Islamic Cooperation (the OIC Fiqh Academy), the Egyptian Office of the Mufti, the Council of Islamic Studies of Al-Azhar (Cairo, Egypt), the Muslim World League and the General’s Presidency of Ifta’ in Saudi Arabia.41 The country case study chapters will refer to Islamic authorities and institutions in different regions of the world. While some authors have suggested that discussing these external institutions is outside of the scope of what is considered to be shari‘ah governance,42 this volume takes the view that such institutions form an important part of the shari‘ah governance landscape. We justify this based on three reasons. First, it has been said that IFIs that do not have their own SSBs tend to rely on the resolutions of these independent fiqh academies for guidance. Second, these entities are often backed by considerable state and non-state support, are able to convene relatively large gatherings of Islamic scholars and are thus able to achieve recognition as Islamic authorities among sizeable sections of the Muslim population. Third, it has been shown that some of these institutions have been preoccupied with issuing fatwas specifically pertaining to banking and financial issues. In particular, during the period 1985 to 1997, more than 50 per cent of the fatwas published by the OIC Fiqh Academy were related to banking and finance.43 The OIC Fiqh Academy had also advised the IDB on many Islamic finance related issues. More recently, in 2009 it issued a fatwa declaring organised tawarruq – an extremely popular and controversial financial arrangement in the Islamic finance industry – as impermissible.44 Thus, these examples illustrate the significance of discussing the role that other non-industry related fatwa institutions play in the shari‘ah governance of Islamic finance.

Key Issues in Discussions on Shari‘ah Governance For shari‘ah scholars, fiqh (Islamic jurisprudence) is central to Islamic finance.45 Yet, one of the most common critiques of Islamic finance is precisely the narrow focus on fiqh when referring to the shari‘ah. In the opening sentence of this chapter, we stated that this volume uses ‘shari‘ah’ to refer to Islamic law. We made this remark at the outset because this is how the word is used by most writers within the field of Islamic finance, the IFIs themselves, the shari‘ah scholars, as well as the standard-setting and regulatory bodies such as IFSB and AAOIFI. However, many critical voices remind us that the shari‘ah is a much broader concept than merely looking towards formal adherence of contracts to Islamic legal precepts. If the only focus is on strict contractual

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compliance, there are issues of social justice that Islam espouses that might be overlooked by IFIs and shari‘ah scholars. The late scholar of Islamic studies Shahab Ahmed wrote: when contemporary Muslims speak of such modern projects as ‘Islamic economics,’ or ‘Islamic banking’ or ‘Islamic finance,’ the ‘Islamic’ value of these modern discourses and practices is overwhelmingly constituted by reference to the principles and prescriptions of the text of the Quran and Hadith as interpreted in the historical fiqh discourse, rather than by reference to, for example, the human and social values expressed in books of akhlaq-ethics (which, it should be noted, routinely contained discussions of economics). The relative conceptual and methodological narrowness of the definitively and self-consciously modern (even ‘cutting-edge’) projects of ‘Islamic economics’ and ‘Islamic finance’ when it comes to thinking about and constructing the value Islamic is highly symptomatic of the thought practices of the modernity of Muslims at large.46 The historical reasons for why the shari‘ah has been reduced to fiqh in contemporary times is beyond the scope of this volume. Some would even argue it is outside the scope of ‘shari‘ah governance’ to discuss this issue because users of the phrase ‘shari‘ah governance’ take for granted the conflation of the words shari‘ah and fiqh. Standards and guidelines of entities like the IFSB leave it to the shari‘ah scholars to define what the shari‘ah is, and – understandably – given their backgrounds in fiqh, they will limit their analysis and review of IFIs to formal adherence to the rules of fiqh. Most regulators in Islamic finance make it mandatory for shari‘ah scholars to have a strong background in fiqh and to possess a university degree in the subject. The anthropologist Daromir Rudnyckyj quotes a Malaysian activist and critic of Islamic banking as saying: The problem with Islamic banks today is that the scholars have only looked to fiqh and ignored the other branches of shariah: tawhid and tasawwuf. Fiqh scholars just look at the rules, but tawhid scholars look at the logic [behind the rules]. Tasawwuf scholars’ specialty is roh [spirit] and questions of intention and sincerity. A fiqh scholar will look at a chicken and only ask if it was slaughtered according to fiqh rules. But a tasawwuf scholar will look at how the chicken was raised, where the money to buy the chicken came from, and so forth. Fiqh is just rules for the sake of rules, whereas tasawwuf is more holistic.47 This critique is phrased in numerous ways in the literature, such as form versus substance, shari‘ah-compliant versus shari‘ah-based and letter of the law versus spirit of the law48 and so on – all usually referring to the same idea. A more recent rendition of this critique is the movement towards making maqasid al-shari‘ah – that is, the aims and intentions of the law – the central methodology or criteria for determining what is shari‘ah-compliant in Islamic finance and what should be impermissible. The maqasid approach would entail actively promoting social welfare and not simply being content with avoiding what is unlawful (haram) or harmful.49 Indeed, prominent and independent shari‘ah scholars have also endorsed this view that the primary purpose of IFIs is the promotion of socio-economic development.50 While much has been discussed

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and said about maqasid al-shari‘ah in Islamic finance books, articles, conferences and shari‘ah roundtables, there is no evidence that this has been taken up by the industry in any serious way. In fact, according to one survey, the majority of shari‘ah scholars who are actively involved with the industry view notions of justice and community welfare as issues that are too broad and beyond the responsibilities of individual IFIs to address and that profit maximisation through halal means is a sufficient target for IFIs.51 Although there are examples of Islamic finance shari‘ah scholars urging for more social responsibility in Islamic investments,52 such examples are usually the exception. A more fundamental critique than the aforementioned one is that IFIs are flawed even in their adherence to fiqhi strictures.53 This stems from the perception that IFIs often attempt to circumvent or bypass some of the Islamic rules of contracts in an attempt to maximise their profits and minimise their risk exposures.54 The most common examples of this are the Islamic financial products based on tawarruq and bay‘ al-‘ina bai al ina, two controversial financial arrangements that have been declared as impermissible by many independent shari‘ah scholars and fiqhi councils, yet remain widely practiced in the industry. The situation is further complicated by the fact that different shari‘ah scholars may reach different conclusions as to the Islamic permissibility of a financial contract based on their own independent legal reasoning. The lack of standardisation of shari‘ah contracts means that there will inevitably be differences of opinion on what is permissible and what is impermissible. The shari‘ah scholars who approve of such controversial products will have jurisprudential reasoning and evidence to justify their opinion, just as those who oppose these products.55 Several chapters in this volume argue that stronger shari‘ah governance frameworks may help prevent such problems – which are foundational to the Islamic financial architecture – from arising in the first place. Indeed, as some of the case study chapters show, a few countries have embarked on initiatives at strengthening shari‘ah governance such as by centralising the shari‘ah committee at the national level, or by introducing stricter standards on the competency requirements for members of SSBs. Malaysia has begun standardising the various shari‘ah-derived financial contracts to avoid the uncertainties and risks that may arise from a difference of legal opinion on Islamic banking products. Such measures are then made even more robust by enacting laws that give certain state-controlled shari‘ah courts or state-controlled Islamic councils the sole jurisdiction or monopoly over determining Islamic cases. Shari‘ah scholars do occupy a somewhat unenviable position. On the one hand, they are viewed as stewards of the religion and have to ensure compliance with the shari‘ah. On the other hand, they are accountable to the IFIs that pay for their services as well as to the industry at large, ensuring its growth, sustainability and competitiveness. Rudnyckyj describes them accurately as follows: They are interstitial figures who must mediate the demands and interests of Islamic finance practitioners, regulators, Islamic economists, and the public at large. Indeed, they are sometimes subject to criticism from all these groups: from practitioners for not working quickly enough, from regulators for being too obscure and idealistic, and from Islamic economists and the public for being economically compromised due to the sometimes generous compensation they receive from Islamic financial institutions.56

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These competing responsibilities make it difficult for shari‘ah scholars to discharge their duties in a manner that balances the expectations of all stakeholders. The issue is often framed as a lack of independence.57 Most recent academic researchers – both Islamic and mainstream economists – believe that the economic incentive ends up being the dominating influence causing the shari‘ah scholars to be most loyal to their IFIs’ economic needs thereby compromising the ‘quality’ of their shari‘ah advice. When a situation arises where there is a trade-off between profits and religious authenticity, the economic incentives mean that profits take precedence, leading to controversial products gaining approval and religious legitimacy. An extraordinary instance of loyalty was once reported where the shari‘ah board defended the management of a bank who were under pressure for their poor performance that led to large losses. Not only did the SSB of the bank publicly reaffirm the bank’s compliance with the shari‘ah, it went a step above and beyond its mandate in stating that the executive management and board of directors undertook the most appropriate financial policies and investment decisions, and that the losses were solely the effects of the 1997 Asian financial crisis. The SSB tried to exonerate the bank’s management from any wrongdoing or incompetence, which in fact was later revealed to be the case after all.58 Admittedly this is a rather extreme example of the SSB’s loyalty to its IFI, but it is not inconceivable that this occurs commonly in private discussions given the sometimes large economic incentives that are involved. This is even more likely given the tenuous position of shari‘ah scholars – they are aware that they could easily be replaced by their IFI if their pronouncements are not favourable to the bank. One shari‘ah scholar was quoted in a survey as saying that ‘it is the BOD (Board of Directors) that are making the decisions [of selecting the SSB members] . . . of course this is not right, because you cannot have independence. You are threatened at any moment. If you do not approve a product, it means ma’salama (farewell).’59 A CEO of one of the largest Islamic banks in Malaysia confirms this reality by saying that the SSB is ‘the least of my worries’ and that if he did not like the fatwa that a shari‘ah scholar gave him, he would ‘just replace him with a new advisor . . . I just get rid of them!’60 Another commonly discussed concern is about the small group of scholars who dominate the industry and the high remuneration levels that they are able to extract due to their supposed monopoly power. Globally, there are very few regulatory restrictions on the number of institutions that a shari‘ah scholar can serve. This has led to a situation where an exclusive group of shari‘ah scholars have dominated the global financial industry by serving on the SSBs of dozens of IFIs. A number of studies exist that confirm this claim.61 In addition to serving for IFIs, many of the same scholars also dominate the shari‘ah advisory services in the Islamic capital markets for issuers of products such as sukuk. Prominent shari‘ah scholars include Taqi Usmani, Nizam Yaquby, Abdulsattar Abu Ghuddah, Mohammed El-Gari, Hussein Hamid Hassan and Mohammad Daud Bakar.62 These scholars exert a great deal of influence over the industry with some viewing them as the ‘gatekeepers’ of the industry.63 Others view them as possessing a monopoly over professional shari‘ah services, due to which they are able to extract significant compensation for their services.64 Mahmoud El-Gamal, a professor at Rice University, describes their work as ‘shari‘ah arbitrage’, merely a form of legal arbitrage.65 There is also the genuine concern of ‘regulatory capture’, as many of these prominent scholars also sit on the SSB of standard-setting bodies such as the AAOIFI. In fact, the scholars who serve on AAOIFI’s shari‘ah board are said to

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be in higher demand due to their ability to reduce transaction times as well as reduce the probabilities of ‘shari‘ah noncompliance risk’.66 All these related factors – shari‘ah arbitrage, the high concentration of scholars and a high potential for regulatory capture – has led to a lucrative business for this elite group of scholars. The lavish lifestyles that Islamic finance shari‘ah scholars live today is claimed to be an unprecedented development for ulema in modern times.67 This has made many outside observers uncomfortable that religious knowledge has been commodified in such a way. Aside from extracting large profits in exchange for their religious knowledge, other criticisms that emanate from this high concentration of scholars include the potential for conflicts of interest and breach of confidentiality rules. Since shari‘ah scholars could be serving multiple IFIs at the same time, there is a high potential for conflicts of responsibilities to occur. The quality of work may suffer as the scholars may be taking on far more responsibilities than they can manage. Furthermore, protection of confidentiality of an IFI may conflict with the goal of ensuring the IFI’s shari‘ah compliance. Shari‘ah scholars often find themselves balancing these different responsibilities and in the absence of clear guidelines, they often find themselves in a dilemma of when to disclose a shari‘ah non-compliance incident to the general public and when to preserve the confidentiality of the IFI’s business processes and products.68 Conflicts of interest could occur where a scholar has a financial interest in ensuring the commercial success of the IFI. This could happen, for instance, if the scholar holds stocks in the IFI that he or she is meant to supervise, or if the scholar has applied for or received personal financing from the IFI. In both cases, there is a conflict of interest between the self-interested shari‘ah scholar and in his or her fiduciary duties towards other stakeholders for ensuring shari‘ah compliance of the institution. The issue of conflicting responsibilities, conflicts of interest and the high compensation levels results in a situation where shari‘ah scholars are perceived as being no longer independent. Their legal opinions are thus viewed as being compromised. Regulators in different jurisdictions have sought different ways of addressing these problems, for example, by limiting the number of institutional affiliations that a shari‘ah scholar can have, by limiting access to credit to an IFI’s SSB members by that same IFI and so on. Most regulators, however, choose not to regulate these issues and leave the market to deal with them. The composition of SSBs is the subject of much discussion, especially the lack of diversity among SSB members. Do members of SSBs have to be Muslim? Can financial experts who are not formally trained in the shari‘ah be part of the SSB? To what extent do women participate in SSBs? Many of the industry regulations indicate that members of the SSB have to be Muslim, but some within the industry have questioned this, arguing that non-Muslim experts of the shari‘ah should also be given the opportunity to utilise their knowledge for the service of the industry. Many participants within the industry are of the view that employees of IFIs must be Muslim. Such views are highly problematic in the globalised world of finance, in most liberal democracies and especially in multicultural societies such as Malaysia.69 Apart from religious affiliation, there are often debates over the professional expertise of the members of the SSB. The issue is whether shari‘ah scholars – who are experts of the ‘text’ (that is, the Qur’an and hadith) – should share their membership of the SSB with experts of the ‘context’, that is, financial economists, lawyers, chartered accountants and so forth, in order to benefit from their greater understanding of contemporary financial issues. Indeed, in other fields of enquiry such as bioethics, it has been observed that biomedical scientists have played

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an important role in shaping the Islamic discourse on bioethics, have shared the same platform as traditional scholars (muftis) in important roundtables, and can therefore be described as ‘co-muftis’.70 Anecdotal evidence suggests that there is not much uptake of secularly trained experts as members of SSBs in Islamic finance. In fact, there appears to be a concerted effort by shari‘ah scholars to protect their turf. Shari‘ah scholars would argue that the financial knowledge that they possess and have access to is sufficient in order for them to form a correct Islamic legal opinion. And in case any issue requires further clarification, the relevant bank staff can provide the necessary expertise to the shari‘ah scholars without necessarily having to be a full-time member of the SSB. Finally, the role of women in SSBs is often discussed. None of the top fifty or so shari‘ah scholars in the global Islamic finance industry is female and their omission from SSBs excludes them from the opportunity of achieving the same degree of influence and financial success.71 A survey of thirty-one IFIs showed that only six of them had female shari‘ah board members, and all of them were based in Malaysia.72 These are all issues that the industry has yet to take any concrete steps in addressing. The lack of diversity among SSB members might potentially affect the quality of shari‘ah governance. There are claims that IFIs use shari‘ah scholars to issue fatwas that serve to rubberstamp the bank management’s decisions – a practice known by various names, such as fatwa shopping, scholar shopping or fishing for a fatwa.73 This is said to be prevalent in cross-border transactions such as sukuk issuances where there is less regulation.74 There are unsubstantiated claims often heard at industry roundtables that even IFIs that have their own SSBs may shop for fatwas from other scholars in case their own SSB does not provide them with favourable fatwas. A particular kind of fatwa shopping is the misuse of older fatwas issued by SSBs that are easily available in today’s Information Age. It is a known principle in fiqh that fatwas can be issued for a particular requestor’s context with respect to their circumstance at any given time and place. It is understood, therefore, that fatwas may have an ephemeral characteristic or may be applicable only in specific cases. As an example, a noteworthy case of a misuse of an old fatwa took place when the Pakistani shari‘ah scholar Taqi Usmani distanced himself from an older fatwa that he had issued with a public statement on his website that read: This is for information of all concerned that I have been receiving correspondence from various places enquiring whether I have authorised any Ijarah contracts of certain financial institution in America, Australia and Canada. As evidence these companies have posted a 15 years old fatwa of mine on their websites. I would very explicitly like to declare the following in this regard: This fatwa was actually issued 15 years ago in peculiar circumstances prevalent at that time in favour of a house financing company, namely, Al-Amin Company based in Jeddah which they had intended to implement at that time. This fatwa is no longer valid. As such, the use of this fatwa by other financial institutions is illegal and misleading. All such companies are requested not to refer to this fatwa nor to use it as their marketing material, and immediately remove it from their websites, failing which they may face legal action at their own cost.75 Another serious criticism relates to the allegation that Islamic bankers may hide certain details of a transaction from their SSB in order to secure a favourable fatwa

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or in order to hide any shari‘ah non-compliant transactions. Harris Irfan, an Islamic investment banker, recalls in his book how a lawyer described a client of his, a Middle Eastern Islamic bank, buying a conventional real estate loan portfolio with conventional leverage: The Western-trained management of the bank instructed the lawyer to change the transaction documents to replace the word ‘interest’ with ‘profit’. They would buy the loan portfolio regardless and put it on the bank’s books for the benefit of the bank’s own balance sheet, otherwise known as the prop trading desk. The Sharia board needn’t be involved, and if any future acquisitions of assets under that loan book were to be flagged in the Sharia certification process, the deals would be disguised to look compliant. In short, bankers were defrauding their scholars and their shareholders.76 This is confirmed by a shari‘ah scholar who was quoted in a survey as saying: Employees sometimes do not provide you with a true picture of the matter, so you decide on something different to what you imagined. You provide your opinion on the information provided and image of the thing. Then after that, you discover that the matter was not like that.77 In the absence of a robust shari‘ah governance framework, regulatory oversight and penalties for such kinds of occurrences, it is likely that banks would take advantage of the information asymmetries that exist between them and the SSB, leaving the SSB in the dark about such incidences. One survey on a small sample of shari‘ah scholars indicates that some of the shari‘ah scholars in the GCC do not have formal contractual agreements with their IFIs. According to one shari‘ah scholar, the lack of formal agreements stems from the early days of Islamic finance when the SSB was conceived to be a voluntary entity composed of shari‘ah scholars working on a pro bono basis. It appears that in some IFIs, this approach continues to exist as in some cases even the remuneration is not known in advance and is considered as a gift.78 The same survey indicates that there is variation in practice – some shari‘ah scholars have detailed terms of reference and contractual agreements with their IFIs while others do not. It seems that the regulatory framework in the local financial jurisdiction has an influence on the formality of the appointment of SSB members. Without contractual agreements with SSB members, there would be ambiguity with respect to the scope of work of SSBs. This could be considered as a bad governance practice and may result in weak compliance in the industry.79 Moreover, if the scope of work is not carefully thought-out and clearly demarcated, stakeholders may have unrealistic expectations of the SSB. For example, it has been suggested that SSBs can play a vital role in controlling financial offences in IFIs because financial crimes, like fraud, manipulation and insider dealing, are prohibited under the shari‘ah. Therefore, ensuring shari‘ah compliance can be extended to prevent the occurrence of such illegal activities. However, it is unlikely that SSB members would have the necessary expertise, resources and regulatory permission to conduct forensic audits. Similarly, and as mentioned before, SSB members and shari‘ah audit departments have been known not

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to address social and human rights issues in their IFI’s investments. For example, they do not consider whether their target investment companies have fair and equitable labour practices or environmentally friendly behaviour. When asked about it in one study, their responses usually suggested that they did not have the capacity to conduct such reviews.80 In early writings of Islamic economists, there were suggestions that auditors operating within an Islamic framework should also monitor and report on issues such as bahkhs (decrease in the quality of the product), tatfif (causing damage to the other party in weights and measures), uqud (contracts), ihtikar (hoarding), khiyanah (embezzlements), israf (extravagance), tanajush (bidding up prices in auction by planting a fake bidder) and speculation.81 In reality, shari‘ah boards only cover issues relating to financial contracts – all the other issues are either beyond their abilities to monitor and report on as well as beyond the mandate given to them by the IFIs, the regulators and industry standards, even though they would clearly constitute issues that affect shari‘ah-compliance. This brings us to the question of the legal status of SSBs. There is a lack of clarity as to whether the decisions of SSBs are legally binding or merely advisory in nature. While some shari‘ah scholars draw their legal legitimacy from national laws that require IFIs to form SSBs, some argue that their legal authority stems from the institution of hisbah that appears in Islamic history. The hisbah is sometimes referred to as the institution of ombudsmanship and can also be used to refer to the notion that individual Muslims have a duty to promote virtuous behaviour and prevent or discourage immoral behaviour in society. However, scholars argue that the hisbah does not suitably apply to the role of the SSB because SSB members are privately contracted and paid to ensure shari‘ah compliance of the IFI whereas the muhtasib (the ombudsman) is more concerned with public matters and is financed by the state.82 Regardless, if the role of SSB members is purely advisory and not legally binding, then it is not conceivable that high levels of shari‘ah compliance will be achieved. Without governing rules that make the SSB’s work legally binding upon IFIs, the management of the IFIs can simply pick and choose which products or issues they want to be referred to the SSB for advice and which ones to make public pronouncements on.83 Legal accountability for shari‘ah scholars remains a controversial issue. For social reasons, shari‘ah scholars are viewed with high esteem by some segments of society and, for this reason, criticism of shari‘ah scholars is not tolerated in some circles. The idea of punishing or imposing legal penalties on shari‘ah scholars for incorrect shari‘ah pronouncements would meet stiff resistance in many societies for this reason. With respect to the fiqhi perspective of the legal liability of ulema for the independent legal reasoning (ijtihad), it is claimed that the majority position among classical Islamic jurists is that the mujtahid (one who conducts ijtihad) is not legally liable for any mistakes made in forming their legal opinions. However, the legal liability being referred to in contemporary financial discussion does not refer to such errors or lapses in shari‘ah opinions; rather, it refers to holding SSB members accountable and responsible for unprofessionalism or incompetence, such as deliberately covering up activities that are not shari‘ah-compliant and not attending SSB meetings.84 An alternative view is that ensuring shari‘ah-compliance is not the sole duty of SSB members, but is the collective responsibility of senior management and directors of the IFI.85 In any case, it would not be possible to impose legal accountability on SSBs if the previously

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discussed issues are not resolved, such as the lack of formal agreements with SSBs, unclear scopes of work, as well as the unbinding, advisory and non-supervisory nature of the SSB’s work. Lack of disclosures is another issue frequently brought up in discussions on shari‘ah governance. A common criticism has been that many IFIs do not publish their SSB’s shari‘ah reports annually.86 Even when they do publish the shari‘ah report, they are said to be superficial and lack disclosures of important information pertaining to SSB member’s tenure, terms of reference, process of shari‘ah supervision, disclosures on the audit process and so on. Some argue that the problem lies with the AAOIFI standards on disclosures and that they are not detailed enough.87 On the other hand, there is also the argument that while guidelines do exist such as the IFSB Standard on Transparency and Market Discipline (IFSB-4), compliance with these guidelines is generally very low.88 Sometimes, disclosures by IFIs are said to be misleading, claiming that the IFIs are completely under the supervision of their SSBs, while surveys have shown that SSBs usually only conduct ex-ante shari‘ah reviews.89 Another study revealed that although IFIs claim that their adherence to the shari‘ah distinguishes them from conventional IFIs in its emphasis on ethics, fairness and justice for all, their disclosures contain few details of actual practices that support these claims.90 In this introductory overview of issues on shari‘ah governance, we must also acknowledge the ‘thicker questions’ that sociologists and political scientists have asked regarding the relationship between shari‘ah governance and the state. On the one hand, it is said that the shari‘ah derives from outside the state and could thus be thought to constitute a private form of regulation. Yet, in practice, numerous countries have embarked on the process of forming centralised shari‘ah boards managed by the state that issue binding Islamic finance related fatwas that are legally enforceable upon all participants in the local Islamic finance industries.91 Centralising shari‘ah governance in such a way is meant to increase legal certainty and harmonise Islamic legal opinions on banking and finance. A natural result of centralising the process of shari‘ah governance is that shari‘ah governance ends up being deeply entangled with the state’s agenda. Various chapters in this volume discuss case studies of countries implementing centralised forms of shari‘ah governance. Despite similar efforts at institutionalising a more centralised mode of shari‘ah governance, the different ways in which this has occurred in different countries reflects specific arrangements and compromises made between the state, market and religious actors.92 For the Islamic finance market in these countries where shari‘ah boards are centralised, the state effectively determines who has the right to determine which Islamic financial products and activities are deemed to be ‘Islamic’. The creation of national shari‘ah boards is also said to result in a politicised process of appointments to national shari‘ah boards in many countries.93 Some Islamic scholars such as Abdullahi An-Na’im caution against the enforcement of the shari‘ah as positive legislation and, in fact, argue that it is impossible to do so due to the nature of the shari‘ah. An-Na’im argues that the shari‘ah ‘as commonly understood by Muslims to mean the divinely ordained way of life, cannot retain that quality once it is enacted by positive legislation’ and that ‘the state cannot enforce any principle of shari’a except through enacting its legislation which would immediately negate its quality as shari’a’.94 Perhaps it is due to these reasons that Lena Rethel, a professor of international political economy, has observed that Islamic

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finance has become submerged within the state’s national development and competitiveness agenda. She writes: [A]t times [an] uneasy balance has been achieved between religious establishment and state power . . . Greater effort is put into building consensus in support of the expanding industry, where traditionally diversity of Islamic thought was at least to some extent celebrated, and perhaps one of the great strengths of Islamic finance in terms of its progressiveness . . . On the one hand, the fact that Islamic financial governance is increasingly bound up with the state apparatus facilitates the embedding of Islamic financial principles throughout capital markets . . . On the other hand, it is precisely this nexus that allows wider Islamic financial principles of equity, mutuality and social justice to be subordinated to national development and competitiveness agendas. The deliberative work of Shariah boards has been curtailed . . . because market practitioners and regulatory authorities are keen to bring new structures to the market in support of the expanding Islamic finance sector. Form seems to have taken precedence over substance.95 So where do these seemingly significant challenges to shari‘ah governance lead to? A significant body of the literature – including the chapters in this volume – is concerned with suggestions on reforms to shari‘ah governance. We have already referred to a few suggestions in the preceding discussion including, for example, limiting the number of SSBs that a shari‘ah scholar can serve on, rigorously scrutinising the credentials of SSB members, ensuring independence of SSBs and internal shari‘ah auditors, diversifying the composition of SSBs, forming centralised SSBs, holding senior management and BODs accountable and so forth.96 Each one of the reform suggestions have their proponents and opponents, both sides arguing their case. We cannot refer to all these discussions here, but in the space that remains, we will very briefly address a few more of the suggestions for reforming shari‘ah governance that are discussed in the literature. One of the main suggestions for reform is related to increasing transparency and disclosures during the shari‘ah governance process. This is particularly directed at the process of issuing fatwas. Often in Islamic finance, fatwas are very brief and do not disclose the means by which the Islamic legal opinion was reached. It has been suggested that one way of increasing transparency in fatwas is by revitalising the Islamic ethic of consultation (known in Arabic as shura). Umar Moghul, an Islamic legal scholar, writes: The principle of consultation informs as to the importance of a critical component of good governance, namely inclusive decision-making in which stakeholders are consulted before decisions are rendered. Good governance produces decisions that are more likely to be broadly valued and intelligent. Consultation could also imply transparency, accountability, and responsibility. In the case of fatwa, an enhanced opinion ‘consults’ stakeholders by informing and educating so as to engage and engender dialogue.97 One can argue that SSBs are already issuing fatwas through a process of consultation among members of the SSB. While that is partly true, it appears that critics such as Moghul are arguing for greater inclusion of other non-shari‘ah experts in the process

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and for greater transparency through the publishing of detailed fatwas that contain the requisite proofs and reasoning. Standards and guidelines of AAOIFI and IFSB do appear to support this call for enhanced fatwas, but anecdotal evidence suggests that compliance with such guidelines is very low.98 One group of researchers has suggested that the formation of an independent nonprofit entity that specialises in the oversight of halal certifiers could mitigate many of the shari‘ah governance challenges that the industry currently faces. They suggest that the host country of such an entity would need to possess an excellent institutional quality, a highly developed financial industry and an open culture. According to these researchers, potential hosting candidates for this body could include Qatar, Canada, Switzerland, the Netherlands or Singapore.99 It should be noted that a similar entity to the one being described does already exist in the form of the Islamic International Rating Agency (IIRA) in Bahrain. It produces shari‘ah quality ratings for IFIs based on a thorough methodology that takes into account shari‘ah governance factors such as the process of appointment of the SSB and the remuneration of the SSB and so on.100 While the goals of the IIRA are ambitious and laudable and their methodology appears rigorous, the problem of independence is not addressed. The IIRA provides ratings to IFIs upon the request of the IFI in exchange for a fee. It is unlikely to expect that the IIRA would give a poor shari‘ah quality rating to its fee-paying client; hence the need for a truly independent, non-profit entity for this purpose. Another suggestion has been to increase the overall level of religious literacy in Muslim societies, particularly on matters pertaining to commerce, finance and trade. This view stems from a quote attributed to Umar ibn al-Khattab, one of the most prominent companions of the Prophet Muhammad, where he is said to have said, ‘No one may buy or sell in our markets unless he has knowledge of the rulings of the Shariah.’101 It could be predicted that a rise in religious literacy levels may result in a lowered demand for shari‘ah advisory services and may make the current form of SSBs altogether redundant. We are not aware of any data depicting trends in religious literacy levels in Muslim societies, although there have been calls for madrasas (Islamic schools) to incorporate modern commerce and trade-related courses in their Islamic curriculums.102 On the contrary, Pew opinion survey results indicate that local and official Imams and Sheikhs in Muslim countries were deemed to be authoritative figures who guide Muslims in different countries to lead their lives. This was reinforced by the views that shari‘ah is mostly divinely revealed and that it should be enforced strictly or based on principles that are interpreted by the same clergy groups vested with sacred authority.103 For the moment, it appears then that Muslim populations are comfortable in relying on the clergy for religious guidance rather than making concerted attempts to increase overall levels of religious literacy.

Outline of Volume This volume contributes to the growing literature on shari‘ah governance in Islamic finance. It is intended to provide the reader with a comprehensive overview of the historical evolution, current practice and debates, and future prospects of shari‘ah governance in the global financial system. The chapters published in this volume come from an eclectic group of authors with diverse backgrounds and experiences, with each of the authors focusing on their unique expertise. As far as possible, we have

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included perspectives from the four broad categories of Islamic finance stakeholders: shari‘ah scholars, Islamic economists, regulators, and practitioners who ‘work in Islamic finance on an everyday basis and are engaged in polemics over what it should be in the future’.104 It is well-known in the field that the authenticity of Islamic finance is contested among these groups of stakeholders – readers would therefore be advised to approach each chapter with these contestations in mind. Two further points are noteworthy in this volume. To the extent possible, authors were invited to submit chapters based on their specific expertise; for the country case study chapters, this meant their geographical expertise as well. For many of the country case study chapters, the authors were resident in that country at the time of writing. As such, we feel that these authors bring a somewhat indigenous perspective to each of the chapters. Second, readers would notice the multidisciplinary nature of the authors that include individuals with training in economics, sociology, banking, law, accounting, traditional Islamic studies and Islamic jurisprudence, among others. This allows the book to view shari‘ah governance through a multidisciplinary lens, with each contributor drawing upon data collection methods and unique writing styles of their fields. We have organised the chapters into three broad parts. In the first part, the chapters provide the reader with a general introduction to shari‘ah governance in Islamic finance. In Chapter 2, Ali Al-Quradaghi and Bahnaz Al-Quradaghi provide a theological account of shari‘ah governance drawing on references to the primary sources of the shari‘ah, namely, the Qur’an and sunnah. It should be noted that Ali Al-Quradaghi is a prominent shari‘ah scholar in the Islamic finance industry and actively serves on the shari‘ah boards of numerous local and international banks. The chapter was originally submitted to this volume in the native language of the authors – Arabic – and was subsequently translated into English with the support of a professional translator. The authors extract principles of governance from the teachings of the Qur’an, such as justice, responsibility and transparency. The authors then proceed to describe the different organs of shari‘ah governance in the Islamic financial industry at the microlevel – such as the shari‘ah boards and shari‘ah auditors – and provide a normative account of how their respective duties should be carried out in light of the overarching principles of governance discussed earlier. The primary author draws upon his religious authority in making his theological arguments. It is also apparent that the recommendations made in the chapter are based on first-hand experiences of working with Islamic financial institutions. Readers will also detect the tensions that the shari‘ah scholar faces in balancing religious authenticity in the reporting of shari‘ah violations committed by the Islamic financial institution with the economic interests of that institution. By acknowledging the modern corporation as a legal person, the authors argue that Islamic moral teachings that state that no harm should be inflicted upon any persons also extend to legal persons such as the corporation. In Chapter 3, Datuk Rifaat Abdel Karim and Umar A. Oseni provide a historical account of shari‘ah governance, starting out with early attempts during the Abbasid era to codify Islamic law, to more recent attempts by the Ottomans to do the same and then more specifically focusing on the evolution of shari‘ah governance standards and guidelines in the Islamic financial industry. Both authors are leading experts of Islamic finance with vast experiences in the field. Datuk Rifaat Abdel Karim was at the helm of two of the key standard-setting institutions in the field, namely the Accounting

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and Auditing Organization for Islamic Financial Institutions (AAOIFI) and the Islamic Financial Services Board (IFSB); therefore, much of the discussion is verified by firsthand experiences with these standard-setting bodies.105 The authors also discuss the efforts of the International Islamic Financial Market (IIFM) in drafting and publishing standard Islamic financial contracts and agreements much in the same vein as the Loan Markets Association (LMA) in London does for conventional loan agreements in Europe or the International Swaps and Derivatives Association (ISDA) does in New York City for the global derivatives markets. Echoing wide-ranging calls for harmonisation of standards in Islamic finance, the authors recommend Islamic finance standard-setters and regulators to take inspiration from the work of the United Nations Commission on International Trade Law (UNCITRAL) that has been effective internationally in harmonising commercial rules based on the needs of different legal systems through Conventions and Rules. Chapter 4 focuses on shari‘ah governance in an important part of the Islamic capital markets known as the sukuk markets, which is often viewed by industry participants as the equivalent of debt capital markets or bond markets. Aida Othman, a senior lawyer in the industry, provides an overview of the standards and guidelines of AAOIFI and IFSB pertaining to effective shari‘ah governance in the sukuk markets. Examples of shari‘ah governance practices are provided from both Islamic as well as secular financial centres where sukuk issuances are common, such as Malaysia, Indonesia, Dubai, Saudi Arabia, Bahrain, the UK and Hong Kong. Aida outlines the challenges that sukuk market participants face pertaining to shari‘ah governance and makes brief references to sukuk issuances that ran into trouble such as the Dana Gas and Goldman Sachs issuances. She argues that the legal and shari‘ah risks as well as economic uncertainty with respect to the valuation of sukuk instruments can be managed effectively if there is a clear and robust shari‘ah governance framework (SGF) in the regulatory architecture of the local jurisdiction where the sukuk is being issued in. The second part of the volume is perhaps the longest part and contains case studies of shari‘ah governance in Islamic finance from seventeen countries that the editors felt are representative of the global Islamic finance industry.106 The chapters appear in alphabetic order by the name of the country/region. Chapter 5 describes shari‘ah governance in Bahrain, a country that for the longest time was perceived to have a first-mover advantage in positioning itself as a leading regional Islamic finance hub. Mohammad Omar Farooq and Ahmed Mansoor Alkhan, both based at the University of Bahrain, carefully document the evolution of shari‘ah governance in Bahrain by relying on primary research data in the form of interviews with the shari‘ah scholars and practitioners who have been involved with Bahraini Islamic financial institutions since the early days of the industry. It is clear from the discussion in the chapter that over the years the Bahraini regulators have gradually played a more direct role in managing shari‘ah governance in the country, culminating in the formation of a centralised shari‘ah board in 2017. It is interesting to note that although Bahrain is viewed as a country that provides a favourable regulatory environment to Islamic finance – for example, by hosting the AAOIFI headquarters – it is still fraught with the familiar legal tensions that Islamic finance faces in other jurisdictions. The authors discuss the example of a Bahraini court case where the judge considered an Islamic finance deal to be ‘in reality an interest-based loan’ and stated that ‘he does not base his rulings on AAOIFI standards and rather bases them on the Bahraini legislative laws’ (Chapter 5).

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Nonetheless, Bahrain has been a leading regional Islamic financial centre for a long time – being referred to as the ‘undisputed Mecca’107 of Islamic finance – and with its unique strengths, including its large base of local and prominent shari‘ah scholars and a relatively robust SGF, it is expected to continue to play an important role in the industry. However, some researchers have indicated that the recent political instability in Bahrain coupled with the rise of regional competitors such as Doha and Dubai may see shifts in the nodes of Islamic finance activity.108 Bangladesh is the subject of Chapter 6. The authors rely on secondary as well as primary data that they collected through semi-structured interviews of members of the Shari‘ah Supervisory Boards (SSBs) of Bangladeshi Islamic banks, and a senior level executive who looks after the Islamic banking activities of the Central Bank of Bangladesh. In the absence of clear guidelines from the regulators, shari‘ah governance in Bangladesh has largely been driven by the initiatives of the individual Islamic banks. The authors note that each Islamic bank has an SSB. Members of SSBs in Bangladesh typically derive their Islamic authority through their links with traditional centres of Islamic knowledge such as Al-Azhar University and the Islamic University of Madinah or through their involvement with local charitable initiatives. The independence of the SSB is a common theme in shari‘ah governance. In Bangladesh, the authors note that SSB members are selected by Boards of Directors (BODs) of Islamic banks based on their existing relationships. One of the interviewees in the study even suggested that members of BODs fund the development of mosques and madrasahs (Islamic schools) and then recruit as members of SSBs imams and teachers who serve these BOD-funded mosques and schools. According to this interviewee, because of their dependence on BOD funding for their livelihood, the SSBs are more easily controlled by the BOD. Moreover, members of BODs frequently serve on SSB as well. Another interesting aspect of shari‘ah governance in Bangladesh is that the industry took the initiative to create the Central Shari‘ah Board for Islamic Banks of Bangladesh (CSBIBB) in an attempt to harmonise shari‘ah governance in the country. Over the years, it has grown to be increasingly influential – the ‘central bank and the courts refer shari‘ah issues to the CSBIBB’ for further clarifications (Chapter 6). It remains to be seen whether the Central Bank of Bangladesh will form their own centralised shari‘ah board, or will regulate, empower and hold accountable the industry-led CSBIBB. Chapter 7 focuses on Egypt, a state and society that has had a complex relationship with Islam in contemporary times and one that holds an important role in Islamic authority throughout the world due to the presence of Al-Azhar University there. Walid Hegazy describes in clear terms the tensions between state, religion and economy there particularly when it comes to banking and finance and how various factors have undermined the development of shari‘ah governance standards in Egypt. In particular, the fatwa of Sheikh Al Tantawy of Al-Azhar wherein he decreed that depositing funds in banks in exchange for periodic returns was legally permissible, meant that the highest body of Islamic authority viewed conventional banks as engaging in permissible activities from an Islamic legal standpoint. According to Hegazy: Egyptian religious institutions’ explicit acceptance of the operation of conventional banks undermines the development of national, coherent shari‘ah governance mechanisms that are integrated into the existing banking legislation. It also raises doubts as to whether the presence of shari‘ah-compliant banks is even necessary. (Chapter 7)

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Furthermore, Hegazy notes that the banking laws fail to explicitly recognise Islamic banks and are thus silent on issues pertaining to shari‘ah governance such as the formation of shari‘ah boards. Despite these serious obstacles, Islamic banking does exist in Egypt in some form, holding a 7 per cent market share. Hegazy provides detailed case studies of shari‘ah governance in Egyptian Islamic banks, such as Faisal Islamic Bank and Abu Dhabi Islamic Bank (ADIB) Egypt, as well as conventional banks with Islamic windows, such as Audi Bank and Banque Misr. Readers will find much information in his original case studies that also rely on interviews with local shari‘ah scholars to back his accounts. He concludes the chapter with concise recommendations for improving shari‘ah governance in the country and the benefit that it would bring to the local economy and financial sector, viewing institutions such as the Central Bank of Egypt and the Egyptian Islamic Finance Association as important in this reform process. Although Muslims are a minority in India, it is the country with the second largest Muslim population in the world (after Indonesia), according to some estimates, being home to more than 200 million Muslims. There is not much available in the extant literature on Islamic finance in India, so the authors of Chapter 8, Shariq Nisar and Umar Farooq, rely more on their first-hand experiences with Islamic finance in industry to document the practices of shari‘ah governance there. For social and political reasons, there appears to have been much resistance to the formation of Islamic finance in India. The authors note a number of legal battles that aimed to prevent the formation of Islamic finance companies on the basis that their establishment would compromise on national principles of secularism. The petitioners also argued that ‘supervision and guidance of the company by a shari‘ah board would be tantamount to conceding regulatory authority from financial regulators to shari‘ah scholars’ (Chapter 8). It is perhaps due to these social tensions that the authors note the inconspicuous nature of shari‘ah governance in India, when they declare in absolute terms that none of the Islamic non-banking financing companies (NBFCs) – except one – had ‘any kind of formal association or relations with any shari‘ah scholar or shari‘ah board and there was absolutely no involvement of any kind of shari‘ah analysis, audit, supervision and certification’ (Chapter 8), despite the fact that most of the initial Islamic finance activity in India was under the NBFCs because of their relatively lower regulatory barriers to entry. The authors also note that none of the Islamic micro-finance institutions in India have any form of shari‘ah governance. Much of the chapter focuses on the Islamic equity funds in India, perhaps due to this being the most active and promising segment of the Islamic finance market in India and also due to the authors own professional interests in the area. Furthermore, fund management is perhaps the only sector of the Islamic finance market in India that has some form of shari‘ah governance in the form of shari‘ah screening for stocks that are shari‘ah-compliant. Chapter 9 focuses on shari‘ah governance in Indonesia, whose experience with Islamic banking dates back to 1991 with the formal establishment of its first Islamic bank. Rifki Ismal and Wachid Asad take us through the Islamic finance landscape in Indonesia, demarcating the various types of Islamic banks, such as the Islamic commercial banks, Islamic banking windows and Islamic rural banks, as well as the various regulatory and pseudo-regulatory institutions that are relevant for shari‘ah governance, namely, the Central Bank of Indonesia, the Indonesian Financial Services Authority, the Ministry of Finance and, most importantly, the Dewan Syariah Nasional (DSN) – the National Shari‘ah Board – which is linked to the Majelis Ulama Indonesia (MUI), an

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organisation in Indonesia that has been granted by the state the status of the highest Islamic authority in the country. The role of a number of other supporting institutions are also discussed in the chapter such as the National Zakat Body and the National Islamic Arbitration Body. Each IFI in Indonesia has its own SSB to ensure that the IFI adheres to the fatwas and rulings of the DSN. Being a large and diverse country with a multitude of Islamic groups and schools of thought, an attempt is made in Indonesia to ensure that all Islamic groups are represented in the DSN through its members; whether or not this is sufficiently achieved is an open question.109 The authors chart the various state laws and regulations related to Indonesian Islamic finance. As is commonly experienced in other countries, there is a degree of confusion and uncertainty with respect to how the legal system deals with shari‘ah-related disputes. Although there are explicit laws in Indonesia that state that any dispute settlements related to Islamic banking should be carried out by the religious courts, the authors note that ‘many individuals and institutions do not acknowledge these laws’ and that ‘many dispute settlements in Islamic banking are still carried out by the conventional courts’ (Chapter 9). Rifki and Wachid outline a number of other challenges to shari‘ah governance in Indonesia, such as the absence of regional shari‘ah boards, which makes it difficult to coordinate communication with the DSN on shari‘ah issues due to the geographical challenges of the large country that is made up of more than 17,000 islands. In Chapter 10, Amin Mohseni-Cheraghlou and Amir Zolfaghari discuss the experience of shari‘ah governance in the Islamic Republic of Iran, a country that claims to have a banking system that is completely shari‘ah-compliant. The authors argue that Iranian banks have not been successful in implementing the guidelines of the RibaFree Banking Act 1983 that was passed a few years after the revolution. More specifically, the authors question whether the Iranian banks comply with the spirit of Islamic law, while conceding that all the Iranian banks do indeed comply with the letter of the shari‘ah. The authors explore tensions surrounding Islamic authenticity of Iranian Islamic finance and provide a rare insight into some of the public debates on Islamic banking in Iran. They also provide some reasons for why these challenges arose in the first place, such as the failure of lawmakers to foresee that the complete Islamisation of the financial system would have required a revision and overhaul of many accounting rules and other procedures. In short, there was no clear roadmap for the Islamisation process. In the face of other more pressing issues, the banks were content with doing the bare minimum to ensure that they comply with the letter of the shari‘ah without being concerned with their genuine alignment with the spirit of the shari‘ah. The authors provide examples of controversial practices of Iranian banks, such as the setting of pre-determined fixed returns on savings accounts, financing arrangements, treatment of late payment penalty fees and preferential treatment towards some customers. Such issues have led to widespread calls in Iran for reforms to the banking system to be more in line with the spirit of the shari‘ah. The authors cite the example of Ayatullah Jawadi Amuli, an influential Iranian cleric, and his emotionally charged criticisms of Islamic banking, which he evokes ‘while shedding tears’. According to some reports, Bank Melli – the largest bank in Iran and one of the largest Islamic banks in the world – tried to appease the cleric but he refused to meet with the bank’s CEO despite several requests. Shari‘ah scholars do not work in the Islamic banking industry in Iran the same way as they do in other jurisdictions – there are no individual shari‘ah boards in Iranian banks because it is seen as redundant since the whole system

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is claimed to be Islamic in the first place. The authors note that the Central Bank of Iran has an in-house Fiqh Council whose role thus far has been purely advisory, but – with the repeated calls for reform – has had its role elevated by a recent parliamentary decision making the Council’s rulings binding on the Central Bank. The chapter concludes with a brief case study of Resaalat Qard Hassan Bank as an example of what the authors claim represents a successful attempt by a private Iranian bank to be genuinely Islamic in its business model and operations. Hanaan Balala discusses the case of Islamic finance in Kenya in Chapter 11 where the government has taken various initiatives over the years with the aim of making Kenya the hub of Islamic finance in East Africa. A snapshot of Islamic finance in Kenya is provided in this chapter by the Capital Markets Authority in Kenya. After the overview of Islamic finance, the author notes the challenges of the industry in Kenya, such as the existence of rampant corruption in the society and lack of knowledge of Islamic finance among the regulatory and judicial stakeholders. To highlight the practice of shari‘ah governance among Kenyan Islamic banks, the author narrates her correspondence with the head of Islamic Banking at Kenyan Commercial Bank (KCB) and uses disclosures from National Bank of Kenya (NBK) to describe the shari‘ah governance process in NBK’s Islamic window. Both banks utilise an SSB for ensuring shari‘ahcompliance and have hired a shari‘ah auditor/coordinator who serves as the link between the SSB and the respective bank. The author notes that there is a lack of independence of the SSB from the banks in Kenya, and there is also a lack of disclosure with respect to the shari‘ah-compliance process. She provides further case studies of legal disputes involving Islamic banks or Islamic banking windows in Kenya, including a case involving Chase Bank Kenya and another case involving National Bank of Kenya. According to the author, both legal cases could have been avoided if proper shari‘ah governance systems were in place and if the guidelines and standards of AAOIFI and IFSB were followed. The author suggests that Kenya could learn from the experiences of more advanced Islamic finance hubs, such as Malaysia, in creating the appropriate SGF. A centralised shari‘ah advisory board based at the central bank appears to be the likely way forward, as was reported to have been happening in neighbouring Uganda. Chapter 12 takes us to Kuwait, a country where Islamic banking has early roots with the establishment of Kuwait Finance House (KFH) in 1977. Jamshaid Chattha – who at the time of writing was the Islamic finance expert at the Central Bank of Kuwait (CBK) – and Syed Alhabshi provide a detailed account of Islamic finance in Kuwait, describing the relevant supporting laws and regulations, and the status of shari‘ah governance in the country. In an early law published by the CBK, it is stipulated that each Islamic bank shall have an independent SSB, comprised of not less than three members, and that in case of a conflict of opinions among members of the SSB concerning a shari‘ah rule, the board of directors of the designated bank may transfer the matter to the Fatwa Board in the Ministry of Awqaf and Islamic Affairs, which shall be the final authority on the matter. The authors describe, in great detail, the latest SGF issued in an instruction on shari‘ah governance by the CBK in 2012 and make note of the fact that the SSB is discussed in line with the overall corporate governance framework of the bank – the BOD, its committees and the executive management all hold an important responsibility in the SGF of the CBK. Judging by the authors’ discussion, the SGF of the CBK is clearly a comprehensive document that appears to address all the most important issues in shari‘ah governance, such as

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board composition, conflicts of interest, accountability, performance appraisals of the SSB and ensuring that fatwas consider social and economic implications (in order to arrive at a ruling that is in line with the maqasid al-shari‘ah). The authors also proceed to analyse the five Islamic banks operating in Kuwait and their compliance with the CBK’s SGF and conclude that disclosures appear to be adequate across all five Islamic banks, with some room for improvement in some areas. Malaysia is often recognised as a leading global hub of Islamic finance. In Chapter 13, Mohamad Akram Laldin and Hafas Furqani provide a detailed overview of the SGF and regulatory landscape in Malaysia, its historical experiences and the implications of the Islamic Financial Services Act 2013 (IFSA 2013).110 The Islamic Banking Act 1983 stipulated that each Islamic bank appoint an SSB. The Central Bank of Malaysia Act 2009 envisaged a greater role for the Shari‘ah Advisory Council (SAC) of the Central Bank – which was established in 1997 – as the highest authority in shari‘ah matters pertaining to Islamic finance. The regulatory framework was further strengthened with the publication in 2010 by the Central Bank (also known as Bank Negara Malaysia or BNM) of the Shari‘ah Governance Framework for Islamic Financial Institutions, which provided the industry with a comprehensive guideline for shari‘ah governance and clarified the roles and responsibilities of the various functional units in IFIs pertaining to shari‘ah governance. The most significant update to these regulations was the IFSA 2013, which repealed and replaced several of the previous acts and laws. IFSA 2013 attracted global attention from industry stakeholders particularly for the strict penalties it imposes on instances of shari‘ah non-compliance stemming from failures in adhering to appropriate levels of shari‘ah governance. Penalties could include prison sentences and a fine up to RM25 million for those individuals in IFIs who are deemed responsible for instances of shari‘ah non-compliance. While the prospect of heavy fines and jail times indicated in the IFSA 2013 has been referred to as ‘ridiculous’ and ‘too extreme’ by a shari‘ah scholar, a regulator at BNM defended the IFSA 2013 claiming that it gave compliance more ‘prominence’ and made it ‘more authentic’.111 A CEO of an Islamic bank in Malaysia has been quoted by the anthropologist Daromir Rudnyckyj expressing that the IFSA ‘gave too much power to the Central Bank. Where is [sic] the checks and balances on the Central Bank?’112 In line with this increasing regulatory control by the BNM over shari‘ah governance, Laldin and Furqani note that since 2013 BNM has issued shari‘ah standards for fourteen of the most widely used contracts in Malaysian Islamic finance. As such, financial regulators in Malaysia are often involved in religious oversight of Islamic banks, addressing religious questions and setting religious standards for the industry.113 The objective of these Malaysian initiatives in shari‘ah governance has been to address the shari‘ah concerns surrounding the practice of IFIs, giving the local industry more authenticity and hence more resilience. To a great extent, the two-tier SGF of Malaysia has been acknowledged by most industry stakeholders as a role model of SGF for other jurisdictions to follow. Even Middle Eastern shari‘ah scholars who often criticise the lenient fatwas of Malaysian shari‘ah scholars laud the regulation and governance of Islamic finance in Malaysia.114 Dalal Aassouli provides readers with the latest developments in the Moroccan Islamic finance industry in Chapter 14. Islamic finance is a much more recent phenomenon in Morocco, with first experiences of Islamic banking beginning in 2010. Shari‘ah governance of Islamic finance in Morocco is influenced by the local context

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and in particular the relationship between the state and Islam. Morocco is a constitutional monarchy and the king of Morocco is also the country’s religious figurehead. The king chairs the High Council of Ulema (‘the Council’), which was established in 1981 and is the only body authorised to issue official opinions on Islamic matters. The fatwas of the Council are binding. In 2015, to foster the development of the Islamic finance industry, a national shari‘ah committee known as the Shari‘ah Committee for Participatory Finance was established under the Council to standardise and harmonise shari‘ah rulings pertaining to the financial industry.115 The committee is composed of nine scholars, five permanent consultative experts and interim advisory experts. Although the complete list of members of the committee is not officially disclosed, Dalal provides a list of members and their brief biographies based on her interviews with local industry stakeholders. A key stated principle governing the fatwa process in Morocco is the compliance of Islamic finance products with both the provisions of the shari‘ah and the maqasid al-shari‘ah. This means that in addition to the legal form of the transactions, other dimensions – such as economic and social aspects – should also be considered. Although shari‘ah governance in Morocco is centralised to a great extent, individual Islamic banks are expected to have an in-house compliance function that ensures that the bank adheres to the central Committee’s fatwas. However, there are no SSBs in Morocco. Dalal concludes the chapter with brief comparisons to shari‘ah governance in neighbouring Tunisia and Algeria, and her assessment of the future direction of shari‘ah governance in Morocco. In Chapter 15, Umar A. Oseni – in his second contribution to this volume – explores shari‘ah governance in Nigeria. The chapter presents case studies of shari‘ah governance practices in Nigeria with a specific focus on different sectors of the Islamic financial services industry in the country ranging from the banking and Islamic insurance (takaful) sectors to the micro-finance and capital market sectors. Oseni identifies various challenges confronting shari‘ah governance in the country, including inadequate human resources and poor understanding of Islamic finance among some local shari‘ah scholars. He argues for the need for further policy reforms to consolidate the existing shari‘ah governance function across different sectors and to introduce compulsory continuing shari‘ah education for existing members of SSBs of Nigerian IFIs. Oseni carefully charts the history of Islamic finance in Nigeria, specifically focusing on how issues of shari‘ah governance were addressed. Similar to the experience of Islamic finance in India, Islamic finance in Nigeria has often faced resistance from some quarters of society. Oseni describes the recent opening of an Islamic bank that faced ‘stiff opposition from Christians in Nigeria’ and led to ‘a maelstrom of religious controversy and debates on religion and secularism across the country’ (Chapter 15). In light of such debates, Oseni reports that the Central Bank of Nigeria (CBN) had released instructions to banks that limits the use of the word ‘Islamic’ in the name of the bank as well as removes any reference to ‘Shari‘ah Councils’ or SSBs and replaces the term with the more secular ‘Advisory Council of Experts’. According to the CBN, ‘non-interest banking’ is not limited to Islamic banking but also includes other forms of banking not based on Islamic principles. Notwithstanding the debates over semantics and tensions with secularism, shari‘ah governance in Nigeria does exist and is ‘no way different from the best practices in shari‘ah governance across the world’ (Chapter 15). Nigeria has adopted a two-tier SGF, with individual Islamic banks having their own ‘Advisory Council of Experts’ and the CBN having its own shari‘ah council with the secular – and

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somewhat vague – title of ‘Financial Regulation Advisory Committees of Experts’. The regulations governing these two councils are very detailed, and Oseni summarises the key points of these laws. Chapter 16 is on shari‘ah governance in Pakistan. Usman Hayat and Sarwat Ahson provide a comprehensive historical and current account of the SGF in Pakistan with relevant extracts pertaining to shari‘ah governance from the respective laws such as the Modaraba Ordinance of 1980, the Modaraba Rules of 1981, Circular 8 of 2012 by Registrar Modaraba, Non-Banking Finance Companies and Notified Entities Regulations of 2008, Takaful Rules of 2012, Shari‘ah Governance Framework for Islamic Banking Institutions of 2015, Sukuk (privately placed) Regulations of 2017, Public Offering Regulations of 2017, Shari‘ah Advisors Regulations of 2017 and the Shari‘ah Governance Regulations of 2018. As such, the chapter serves as a useful reference guide for readers to the SGF and law of Islamic finance in Pakistan. Two key regulators in the Pakistani Islamic finance landscape are the State Bank of Pakistan (SBP) and the Securities and Exchange Commission of Pakistan (SECP). The authors also briefly point to the legal tensions and debates that have existed in Pakistani society over the definitions of bank interest and riba, tracing back to 1969 when the Council of Islamic Ideology recommended modalities for overhaul of the banking system. Other writers have discussed the tussle between the banks, the Federal Shariat Court, the Shariat Apellate Branch of the Supreme Court and the state over the issue of riba.116 In addition, the ulema in Pakistan appear to disagree among themselves with respect to the form that the alternative financial system should adopt. While Islamic banking in Pakistan has grown under the supervision of the shari‘ah scholar Mufti Taqi Usmani – who is considered the grand mufti among the Deobandis in Pakistan – a public disagreement among the Deobandis occurred in 2008 when a group of scholars issued a collective fatwa against contemporary practices of Islamic banks on the grounds that they were deviating away from the Islamic legal form.117 These debates over shari‘ah authenticity in Pakistan may have important implications on Islamic finance, not only in Pakistan, but beyond as well due to the influence of Pakistani or Pakistani-trained shari‘ah scholars on the global industry. Notwithstanding these controversies, Hayat and Ahson refer to a survey that claims that ‘94.5% of banked and 98% of nonbanked respondents believed that riba is bank interest and that it is impermissible in Islam’ and that ‘40% of the respondents were convinced a bank would be shari‘ah compliant with only one shari‘ah scholar, whereas 60% were only confident with a full shari‘ah board’ (Chapter 16). These numbers indicate a huge demand for Islamic finance in Pakistan and an important need for credible and effective SGF, which the SECP and SBP have appeared to have achieved with the latest Shari‘ah Governance Regulations of 2018. Still, a number of challenges to SGF in Pakistan do remain, and the authors describe them in the chapter. Chapter 17 provides a detailed account of the Islamic finance industry in Qatar, home to shari‘ah-compliant assets amounting to US$70.9 billion, which represents 8.1 per cent of the global Islamic banking assets. The authors provide a comprehensive overview and description of Qatar’s Islamic finance landscape and the historical evolution of shari‘ah governance there. The IFIs in Qatar function under the directives of three primary legislative and supervisory entities, namely, (1) Qatar Central Bank (QCB), (2) Qatar Finance Centre Regulatory Authority (QFCRA) and (3) Qatar Financial Markets Authority (QMFA). The foremost authority, QCB, has released

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several circulars as a mandate for IFIs that provide detailed corporate governance principles for IFIs and takaful (Islamic insurance) companies to comply with. According to the authors, for other non-banking and non-insurance Islamic finance companies, however, the instructions are not as detailed and only focus on matters related to the board of directors, executive board and the SSB without giving attention to the aspects of disclosure guidelines, conflict of interest and other fundamental principles of governance. Similarly, QFCRA has provided guidelines on shari‘ah governance in its latest issue of Islamic Banking Prudential Rules 2015 and mandates SSBs to adhere to the shari‘ah standards of AAOIFI in addition to IFSB governance principles. The authors then proceed to analyse the IFIs shari‘ah governance practices in Qatar and find that the shari‘ah governance approach of Qatar IFIs can be divided into three categories: (1) IFIs that have shari‘ah governance matters published within their reports and statements, (2) IFIs that have governance matters published within their reports and statements but do not indicate shari‘ah governance per se and (3) IFIs that have no governance matters published within their reports and statements. The authors acknowledge that the divergence in disclosure practices boils down to a lack of standardisation. They recommend mandatory instructions from the central authorities as a crucial reinforcing drive for the shari‘ah supervision setup of IFIs in Qatar as well as for activating the role of external shari‘ah control and supervision. The authors conclude by calling for the formation of a central body that can coordinate the IFIs’ efforts in working towards an acceptable, standardised framework for shari‘ah governance in the country.118 In Chapter 18, Ashraf Gomma Ali – who previously oversaw shari‘ah assurance at National Commercial Bank (NCB) in Saudi Arabia for a number of years – and his co-authors Marjan Muhammad, Beebee Sairally and Safiudin Fuad – all of whom are academic researchers based at ISRA in Malaysia – explore the SGF in the Saudi Arabian Islamic finance market. The crux of the chapter is ascertaining the impact on shari‘ah governance of the dichotomy in Saudi Arabia between: (1) the legal system of the country that purports to be based on the shari‘ah, prohibits interest-based transactions and prohibits the Saudi central bank from participating in interest-based transactions and (2) the legal framework of the banking system that is silent on the issue of interest-based financing. From a banking regulatory perspective, the central bank of Saudi Arabia – known as the Saudi Arabian Monetary Agency (SAMA) – treats both conventional and Islamic banks the same way. Regulators in Saudi Arabia are hesitant to recognise Islamic banks as being distinct and as being Islamic because of the implication that this may have on other banks that would implicitly be characterised as being non-Islamic and hence illegal according to Saudi law. For this reason, Islamic banks in Saudi Arabia, such as Al-Rajhi Bank, Alinma Bank, Bank Al-Jazira and Bank Al-Bilad do not use the ‘Islamic’ label in their titles. The authors explore how and why the market-based system of shari‘ah governance came into being, whereby Saudi Islamic banks take it upon themselves to impose their own shari‘ah governance system and to establish their own SSBs even in the absence of any regulatory instructions, requirements or guidelines to do so. In fact, the findings of the chapter show that many of the Saudi Islamic banks have attempted to adhere to the minimum requirements of the IFSB and AAOIFI shari‘ah governance guidelines. All of the Islamic banks appear to have their own internal shari‘ah control system. The authors also report interviews that they conducted with two senior shari‘ah compliance managers of Saudi Islamic

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banks to dig deeper into some of the ground realities and perceptions of shari‘ah governance in Saudi Arabia. The interviews shed light on some of the challenges that exist in the absence of an official SGF. Ishraga Khattab relies on her position and experiences at the Sudan Academy for Banking & Financial Sciences to document Sudan’s experiences with Islamic banking and shari‘ah governance in Chapter 19. Sudan is one of the early movers in the field, and along with Iran and Pakistan, it is often cited as one of the countries that has experimented with trying to fully Islamise their economy. While none of these countries have actually achieved this vision as the other chapters in this volume indicate, Sudan’s proactive approach to shari‘ah governance and its centralised shari‘ah board known as the Higher Shari‘ah Supervisory Board (HSSB) are said to have had a large influence on the centralisation of shari‘ah boards in Malaysia, Pakistan and Bahrain – such was Sudan’s influence that the central bank of Malaysia had once appointed the Secretary General of the Sudanese HSSB as a member of its Shari‘ah Advisory Council.119 Ishraga provides a brief overview of the development of Islamic banking in Sudan and the relevant laws. All banks in Sudan are required by the Central Bank of Sudan (CBOS) to adhere to the AAOIFI and IFSB standards. Ishraga explains the roles of the different stakeholders in the Sudanese SGF. She discusses the key challenges pertaining to shari‘ah governance in Sudan, such as issues pertaining to the independence and authority of the HSSB. The chapter provides a number of examples and case studies of shari‘ah governance in practice at Sudanese Islamic banks, which illustrate the approach of Sudanese SSBs in issuing a fatwa, and also the authority of the HSSB with respect to its rulings being binding on the CBOS as well as on individual Islamic banks. Zeynep Topaloglu Calkan writes about shari‘ah governance in Turkey in Chapter 20. While Islamic banking – or ‘participation banking’ as it is known in Turkey – has been practiced in Turkey since the 1980s with the election of Turgut Özal as non-banking financial institutions, it found an even more supportive formal environment following the political ascent of Recep Erdogan and his party. This period witnessed increasing religious freedom in what was previously a staunchly secular Turkish state and society with limited opportunities for religious expression including in the domain of banking and commerce. While Islamic banking benefited from the political dynamics post-2002, it also faced a serious challenge when the failed coup of 2016 led to the shutdown of Bank Asya – one of the most prominent and largest Islamic banks in Turkey – due to its alleged links to the Gülen group.120 Zeynep paints a vivid picture of the practice of shari‘ah governance in Turkey, addressing the legal, political and social challenges that Turkish Islamic finance has faced over the years. One of the strongest aspects of the chapter is its rich discussion of the role of the Turkish ulema in the local banking industry, about which relatively little is written in the English language. Zeynep carefully supports her claims with evidence from both English and Turkish language sources. She provides readers with many examples of shari‘ah governance in practice. While most banks have shari‘ah boards, there is no regulatory enforcement of shari‘ah compliance in Turkey. Nonetheless, Zeynep finds evidence that Islamic banks do adhere to their shari‘ah scholar’s fatwas, even when those fatwas change over time. She gives the example of a shari‘ah scholar nullifying his earlier fatwa, which led to his bank exchanging their portfolio of government securities valued at 1 billion Turkish lira for sukuk upon the publication of the updated fatwa that deemed the

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government securities impermissible for investment. Zeynep also describes numerous debates related to shari‘ah governance in Turkey, including the practice of murabaha products, Islamic credit cards, and late penalty fees. It is clear from the discussion that shari‘ah scholars in Turkey – as do shari‘ah scholars in other countries – play the difficult role of balancing the economic requirements of their respective banks and the need for religious authenticity of the bank’s products, with some of the contentious issues sometimes boiling over into public debates over Islamic authenticity of Islamic banking practices. The Participation Banks Association of Turkey has announced a ten-year strategic plan for participation banking that also includes future plans for standardisation of shari‘ah governance practices, which indicates that Turkey intends on continuing to be an important emerging hub for Islamic finance. Samir Alamad focuses on the United Kingdom and Europe in Chapter 21. While the emphasis in this chapter is on the UK, the author does provide a thorough overview of shari‘ah governance in other countries in Europe such as Germany and France, and provides information on shari‘ah supervisory committees (SSCs) in institutions across Europe. It is clear that the choice of shari‘ah scholars who serve on these committees in these countries is driven by the demographics of the customer base;121 for example, an Islamic bank in Germany has Turkish shari‘ah scholars on its SSC, which signals that this bank is eyeing the Turkish diaspora in Germany as its target consumer market. Financial regulators in Europe have chosen to adopt a hands-off approach to shari‘ah governance in Islamic finance, not too dissimilar to countries in the Muslim world such as Saudi Arabia. One of the central concerns for financial regulators in Europe when it comes to shari‘ah governance has been to clarify the role of the SSB. There was a level of discomfort with the use of the term ‘shari‘ah supervisory board’ that would suggest that the SSB is part of the corporate governance structure and could therefore have significant influence over management’s actions. Instead, IFIs in Europe have chosen to use the title ‘shari‘ah supervisory committee’ (SSC), which suggests that the role of the SSC is merely advisory and that its opinions are not binding on their institutions. This obviously is a weaker form of shari‘ah governance as compared to other Islamic finance hubs. Samir suggests that the presence of an internal shari‘ah auditor at the IFI would signal a stronger culture of shari‘ah governance; however, it is not clear how many IFIs in Europe actually hire internal shari‘ah controllers. Samir provides examples of the challenges that IFIs face in shari‘ah governance. The key challenge is the difficulty of implementing an effective SGF while simultaneously adhering to the requirements of the local financial regulatory authorities. He gives the example of the challenges that savings accounts based on profit–loss-sharing principles have faced. There are also aspects of the Consumer Credit Regulations and European Banking Directive that he points out that make it difficult or impossible to offer shari‘ah-compliant banking products. In Part 3 of the volume, we have brought together chapters that discuss the future of shari‘ah governance in Islamic finance. In Chapter 22, Abdelrahman Yousri argues that the Board of Directors of IFIs should hold the ultimate responsibility for ensuring effective shari‘ah governance, and not – as commonly believed – the SSBs or other shari‘ah professionals. He reminds readers of the basics of the corporate organisation of the firm where a principal–agent relationship exists between the shareholders and the Board of Directors, and not between the shareholders and the SSB. For IFIs, Yousri argues that shareholders and other capital owners such as Investment Account

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Holders (IAHs) should be at equal footing in matters of corporate governance, and that the Board of Directors – being the assigned agent – should ensure that there is a high degree and quality of shari‘ah application within the institution as desired by the IAHs and shareholders. He points to the IFSB guidelines on corporate governance and other industry standards on shari‘ah governance that make fatwas of SSBs binding for the Board of Directors and claims that these standards have mistakenly placed the ultimate responsibility for the effective application of the shari‘ah on the SSB. Yousri cites the widespread incidences of controversial practices in the industry in support of his argument that holding SSBs ultimately responsible is impractical. Such controversies and problems of shari‘ah governance, such as lack of independence of SSBs, conflicts of interest and so on, will continue to linger unless the burden of correct shari‘ah application is shifted to the relevant stakeholder, which is the Board of Directors. This is the main thrust of the Islamic banking governance model that Yousri proposes, which includes other aspects including the introduction of a code of Islamic finance ethics and the establishment of a higher shari‘ah authority – presumably at the central bank level – that would supervise and ensure that the Board of Directors of individual IFIs have the appropriate policies and procedures in place for effective shari‘ah governance. The chapter also discusses some of the pre-requisites for this approach to governance and its implications. Readers may find that the view presented in this chapter is congruous with the approach of regulators in Malaysia in what is perhaps the most comprehensive set of shari‘ah governance regulations in Islamic finance – the IFSA 2013. The IFSA 2013 stipulated jail terms and fines for shari‘ah non-compliance. While these were commonly believed to be directed towards shari‘ah personnel working at IFIs, a member of Bank Negara’s Department for Islamic Banking and Takaful clarified that these penalties would be levied against the members of the board of directors of the bank, not the members of the SSB.122 In Chapter 23, Siraj Yasini, executive director and head of Islamic finance at the Bank of Tokyo-Mitsubishi, conveys his assessment from the perspective of personnel within the IFI on contemporary shari‘ah governance issues and practices, including lines of defence for ensuring shari‘ah compliance, roles of shari‘ah scholars and the standardisation of shari‘ah governance mechanism. Siraj acknowledges that there is a need for a robust shari‘ah governance structure both at the national and the institutional level and commends the efforts that have been exerted by Malaysia in mitigating shari‘ah non-compliance risks. However, Siraj opines that the Malaysian approach has created parallel functions in a single organisation for mitigating risks, which makes shari‘ah personnel responsible for risk management and audit. Such functions require a different skill set, adding unnecessary headcounts for small IFIs and, as a result, slowing down the development of Islamic finance. Siraj proposes a shari‘ah governance structure that is based on the Chartered Institute of Internal Auditors and suggests that IFIs can develop a shari‘ah governance model that follows four lines of defence to ensure shari‘ah compliance: (1) Operational Management, (2) Risk Management and Compliance Functions, (3) Internal Shari‘ah Audit and (4) Shari‘ah Supervisory Board. Each line has specific mandates and directives in ensuring shari‘ah compliance more holistically and efficiently. Siraj also identifies the lack of standardisation and scarce number of shari‘ah experts with in-depth knowledge in banking and finance are obstacles needed to be addressed to ensure a robust shari‘ah governance. He concludes that improvement of the shari‘ah governance mechanism to meet the current reality is

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required to maintain public credence and trust, as well as to ensure its progress in the proper direction. In Chapter 24, Mahmood Ahmad and Sohaib Khan – a Pakistan-based shari‘ah scholar and a Columbia University anthropologist – join forces to discuss the internal challenges within IFIs of ensuring to shari‘ah compliance in its financial products. Although the authors focus specifically on ethnographic cases in Pakistan, the issues being discussed in this chapter are a recurrent theme throughout the global industry and indeed in several chapters of this volume. The authors argue that these internal shari‘ah governance challenges necessarily arise due to the interaction and interdependence of two contrasting groups of experts: shari‘ah advisors and banking professionals. The former group is focused on ensuring adherence to the principles of Islamic commercial law, and the latter group is fixated on efficiency and the maximisation of profits. The conflicts of interests and information asymmetries between these two groups of experts leads to ‘dilemmas of translation’. The authors use ‘translation’ as a ‘broad analytical rubric to highlight linguistic, institutional and ethical factors’ that contribute to the miscommunication and misinformation between the two groups of experts. ‘Translation’ is understood here in its more expansive sense of ‘mutual comprehension, reciprocal obligation, and the sharing of an ethical perspective on the aims and objectives of Islamic finance’. The authors argue that although the shari‘ah governance framework in Pakistan is among the most comprehensive regulatory guides of its kind, it does not appear to foresee the possibility of conflicts of interest between an IFI’s SSB on the one hand and its executive management (and board of directors) on the other. These conflicts of interest may cause the executive management to withhold information from the SSB, which is what can give rise to what the authors refer to as ‘the politics of translation’ leading to ineffective shari‘ah governance. Towards the end of the chapter, the authors offer a few solutions to the problem, for example – and not surprisingly – in the form of further communication and translation. Going forward, this could be achieved not only by enhancing SSB’s knowledge of finance and market practices, but also by requiring the executive management of IFIs to undertake training in Islamic commercial law. In Chapter 25, Tariqullah Khan links the discourse on shari‘ah governance to the global governance discourse pertaining to sustainability and the circular economy paradigm, which he sees as increasingly becoming the dominant global economic paradigm.123 He argues for reforms to shari‘ah governance beyond the current ‘micro approach’ by which he appears to be referring to the inability or unwillingness of the regulators and market participants to look beyond Islamic legalistic forms of compliance and to consider broader issues pertaining to social and human development. He perceives there to be a great deal of overlap and convergence between the Social Development Goals (SDGs) and the local aspirations of people in Muslim societies. A large segment of these local aspirations is perhaps best represented by the maqasid al-shari‘ah according to Tariqullah. For Islamic finance to remain relevant and sustainable, Tariqullah urges regulators and industry players to reform shari‘ah governance so that it incorporates these broader societal issues that are captured by the SDGs and maqasid al-shari‘ah. Towards this end, he outlines a number of steps that need to be taken. First, there has to be a significant paradigm shift, moving Islamic finance away from the linear economy paradigm and to be closer to the circular economy paradigm. Second, the Islamic financial architecture including the banking

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regulatory regimes have to begin incorporating elements of the global development agenda. Third, local aspirations, cultural values, national policies and global goals have to be synchronised. According to Tariqullah, prior development agendas, such as the Millennium Development Goals (MDGs), for example, had failed to a great extent in many Muslim societies due to the inability of policymakers to acknowledge local aspirations and values. The SDGs appear to be more accommodating and appreciative of local contexts. Fourth, and perhaps most provocatively, Tariqullah argues for reforms of shari‘ah governance away from what he refers to as the halal paradigm – that is, the belief that halal is an essential and sufficient requirement for shari‘ah compliance. He argues for a need to acknowledge that while halal is an essential condition for Islamic finance to meet, it is insufficient on its own. By this, he is referring to the need to look beyond strict Islamic legal adherence and to consider the broader maqasid al-shari‘ah. He argues that the halal paradigm leads to ‘structural risks’ because juristic differences will always mean that some scholars may consider a product to be halal while others may consider it haram. The structural risks to the industry also arise because such a narrow focus on being halal ignores society’s overall aspirations and ignores the aims of the global development agenda. He distinguishes structural risks from shari‘ah risks, and argues that in the presence of structural risk, ‘shari‘ah risk becomes irrelevant’ (Chapter 25). Fifth, the design of Islamic financial products that take into account the previous four steps could create financial products that have a greater uptake and acceptance among consumers, could reduce financialisation and could address the sustainability gaps. In Chapter 26, Zulkifli Hasan presents a summarised overview of the global shari‘ah governance framework and practices in key Islamic finance jurisdictions, namely Malaysia, the GCC countries, Indonesia, Pakistan and Sudan. Despite the differences in their shari‘ah governance framework, Zulkifli analyses similar inherent issues found in these jurisdictions as well as the global shari‘ah governance practices. According to Zulkifli, there is (1) a lack of standardisation of global shari‘ah governance practices due to the varying socio-legal environments and market practices across countries, (2) significant differences and deficiencies in the level of transparency and disclosure, (3) shari‘ah scholars’ monopoly despite the increasing number of shari‘ah scholars worldwide and (4) tendencies of IFIs replicating its conventional counterparts. All of these issues need to be addressed prudently to bridge the apparent gap between the existing shari‘ah governance framework and its practices. Zulkifli urges shari‘ah governance practices to chart a path towards becoming one of the important mechanisms in preparing and ensuring IFIs to play more roles in real economic development based on value-orientated Islamic financial practices that focus on the tayyib and ihsan dimensions of having a ‘good and responsible finance’. Furthermore, Zulkifli urges shari‘ah governance practices to remain relevant with the developments happening in the market and leverage on the advancement of technologies to offer an efficient banking system that not only complies with the shari‘ah principles but also echoes the aspirations of Islamic finance. In summary, we hope that the chapters of this book provide readers with a comprehensive grasp of issues in shari‘ah governance from its inception along with the developments taking place in leading global hubs of Islamic finance in our current times. The chapters provide readers with the foundational knowledge of shari‘ah governance principles while also allowing readers to view the discourse from the point of

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view of academicians, practitioners and policymakers. The chapters will also enable readers to identify the inherent challenges and issues of shari‘ah governance practices and appreciate the diverse opinions and recommendations that are often put forward for the enhancement of shari‘ah governance.

Notes 1. Shari‘ah is an Arabic term that has multiple meanings. Shari‘ah is commonly used in reference to the divinely ordained life as revealed in the Qur’an, as epitomised by the teachings of the Prophet Muhammad and as interpreted and reinterpreted – up until the present day – by scholars of Islam. More specifically, in the Islamic finance industry and in this volume, shari‘ah is used to refer to Islamic law and in particular to Islamic commercial laws, regardless of whether they are normative principles or whether they are contained in the positive laws of a state. 2. A fundamental assumption in Islamic finance is that all interest-based transactions fall under the Islamic prohibition of riba. For proponents and participants in the Islamic finance industry, this basic assumption is taken for granted. This volume does not focus on debates on what constitutes riba. Other works discuss this issue extensively, for example: Abdullah Saeed, Islamic Banking and Interest: A Study of the Prohibition of Riba and its Contemporary Interpretation (Leiden: Brill, 1996). For a comparative account of the historical evolution of interest bans in Judaism, Christianity and Islam, see: Ryan Calder, ‘God’s technicians: Religious jurists and the usury ban in Judaism, Christianity, and Islam’, European Journal of Sociology, 57:2, August 2016, pp. 207–57. 3. Islamic Financial Services Board (IFSB), Guiding Principles on Shari’ah Governance Systems for Institutions Offering Islamic Financial Services (Kuala Lumpur: IFSB, 2009), pp. 2–4. 4. Raphie Hayat, Frank Den Butter and Udo Kock, ‘Halal certification for financial products: A transaction cost perspective’, Journal of Business Ethics, 117:3, October 2013, pp. 601–13. 5. Accounting and Auditing Organization for Islamic Financial Institutions (AAOIFI), Shari’ah Standards (Manama: AAOIFI, 2015). See Shari‘ah Standard No. (29) ‘Stipulations and Ethics of Fatwa in the Institutional Framework’, pp. 733–52. 6. For an excellent discussion of contemporary fatwas, see: Umar F. Moghul, A Socially Responsible Islamic Finance: Character and the Common Good (n.p.: Palgrave Macmillan, 2017), Chapter 4, pp. 155–207. 7. Ibid. p. 156. 8. Ahmad Alkhamees, A Critique of Creative Shari’ah Compliance in the Islamic Finance Industry (Leiden: Brill-Nijhoff, 2017), p. 107. Also see: Walid Hegazy, ‘Fatwas and the fate of Islamic finance: A critique of the practice of fatwa in contemporary Islamic financial markets’, in S. Nazim Ali (ed.), Islamic Finance: Current Legal and Regulatory Issues (Cambridge, MA: Harvard Law School, 2005), pp. 133–49. 9. Kilian Bälz, Sharia Risk? How Islamic Finance Has Transformed Islamic Contract Law (Cambridge, MA: Harvard Law School, 2008), Islamic Legal Studies Programme, Occasional Publications 9, September 2008. 10. Ibid. 11. For an in-depth discussion of the factors that may lead to shari‘ah risk, see: Karim Ginena, ‘Shari’ah risk and corporate governance of Islamic banks’, Corporate Governance, 14:1, 2014, pp. 86–103. 12. The word ‘scholar’ in the phrase ‘shari‘ah scholar’ is a direct translation of the Arabic word alim (plural: ulama) that refers to a learned person or an expert. In the context of the Islamic finance industry, the shari‘ah scholar is required to be an expert of fiqh al-muamalat (Islamic commercial law) specifically rather than the shari‘ah in general. See: IFSB, Guiding Principles on Shari’ah Governance, p. 4.

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13. The IFSB-10 defines a shari‘ah board as ‘comprised of a panel of shari’ah scholars who provide shari‘ah expertise and act as special advisers to the institutions’. See: IFSB, Guiding Principles on Shari’ah Governance, p. 1. Similarly, AAOIFI Governance Standard No. 1 refers to it as ‘an independent body entrusted with the duty of directing, reviewing and supervising the activities of IFIs for the purpose of shari‘ah compliance and issuing legal rulings pertaining to Islamic banking and finance’. See: Accounting and Auditing Organization for Islamic Financial Institutions (AAOIFI), Accounting, Auditing, and Governance Standards (Manama: AAOIFI, 2015). 14. Lena Rethel, ‘Economic governance beyond state and market: Islamic capital markets in Southeast Asia’, Journal of Contemporary Asia, 48:2, 2018, pp. 301–21. 15. Shoaib A. Ghias, ‘Defining shari‘a: The politics of Islamic judicial review’, Doctoral Thesis, University of California, Berkeley, 2015. 16. Bälz, Sharia Risk?, p. 4. 17. Bashar Malkawi, ‘Shari’ah board in the governance structure of Islamic financial institutions’, The American Journal of Comparative Law, 61:3, Summer 2013, pp. 539–77. 18. Ibid. p. 543. 19. We acknowledge the view of some scholars that SSBs do not appear to conduct ijtihad on a large scale. Rather, it is said that they tend to rely on a high degree of legalism and taqlid (imitation) of early jurists. See: Saeed, Islamic Banking and Interest, p. 128. Other scholars tend to agree with this view that genuine ijtihad practiced by SSBs in the industry is quite rare – see: Frank Vogel and Samuel Hayes, Islamic Law and Finance: Religion, Risk and Return (Leiden: Brill, 2006). 20. Malkawi, ‘Shari’ah board in the governance structure’, p. 551. 21. AAOIFI, Accounting, Auditing, and Governance Standards. 22. AAOIFI, Shari’ah Standards. 23. Daromir Rudnyckyj, Beyond Debt: Islamic Experiments in Global Finance (Chicago: The University of Chicago Press, 2019), p. 144. 24. Consider the case of Kleinwort Benson, an investment bank that set up an Islamic investment fund in London in 1986. The fund, which initially operated without an SSB found that investors were highly reluctant to put their money in it. As soon as the SSB was instituted, the fund took off immediately. This case was referred to in: Rodney Wilson, ‘Challenges and opportunities for Islamic banking in the West: The United Kingdom experience’, Thunderbird International Business Review, 41:4/5, 1999, pp. 421–44. Cited by: Maima Aulia Syakhroza, Lionel Paolella and Kamal Munir, ‘Holier than thou? Identity buffers and adoption of controversial practices in the Islamic banking category’, Academy of Management Journal, 62:4, 2019, pp. 1252–77. 25. M. Umer Chapra, ‘Innovation and authenticity in Islamic finance’, in S. Nazim Ali (ed.), Islamic Finance: Innovation and Authenticity (Cambridge, MA: Harvard Law School, 2010), pp. 65–87; M. Nejatullah Siddiqi, ‘Shari’a, economics and the progress of Islamic finance: The role of Shari’a experts’, in S. Nazim Ali (ed.), Integrating Islamic Finance in the Mainstream: Regulation, Standardization and Transparency (Cambridge, MA: Harvard Law School, 2007), pp. 99–107. 26. Rudnyckyj, Beyond Debt, p. 126. 27. The current situation the industry finds itself in where many people question the religious authenticity and shari‘ah compliance of Islamic finance is a far cry from earlier predictions that shari‘ah scholars will play a leadership role by becoming increasingly proactive in addressing issues of advocacy, corporate governance and policy. See: Yusuf Talal DeLorenzo, ‘Introduction’, in Islamic Finance into the 21st Century: Proceedings of the Second Harvard University Forum on Islamic Finance (Cambridge, MA: Center for Middle Eastern Studies, Harvard University, 1999), pp. 95–7.

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28. Monzer Kahf, ‘Islamic banks: The rise of a new power alliance of wealth and shari’ah scholarship’, in Clement Henry and Rodney Wilson (eds), The Politics of Islamic Finance (Edinburgh: Edinburgh University Press, 2004), pp. 17–36. 29. Sayd Farook, M. Kabir Hassan and Roman Lanis, ‘Determinants of corporate social responsibility disclosure: The case of Islamic banks’, Journal of Islamic Accounting and Business Research, 2:2, 2011, pp. 114–41; Azhar Abdul Raman and Abdullah Awadh Bukair, ‘The influence of the Shariah supervision board on corporate social responsibility disclosure by Islamic banks of Gulf Co-operation Council countries’, Asian Journal of Business and Accounting, 6:2, 2013, pp. 65–104. 30. Mahir Alman, ‘Shari’ah Supervisory Board composition effects on Islamic banks’ risktaking behavior’, European Financial Management Association 2013 Annual Meetings, Reading, UK, 26–9 June 2013. 31. Ibid. 32. M. Kabir Hassan, Federica Miglietta, Andrea Paltrinieri and Josanco Floreani, ‘The effects of Shariah board composition on Islamic equity indices’ performance’, Business Ethics: A European Review, 27:3, July 2018, pp. 248–59. 33. Sabur Mollah and Mahbub Zaman, ‘Shari’ah supervision, corporate governance and performance: Conventional vs Islamic banks’, Journal of Banking and Finance, 58, September 2015, pp. 418–35. 34. Sabur Mollah, M. Kabir Hassan, Omar Al Farooque and Asma Mobarek, ‘The governance, risk-taking, and performance of Islamic banks’, Journal of Financial Services Research, 51:2, 2017, pp. 195–219. 35. Christophe Godlewski, Rima Turk-Ariss and Laurent Weill, ‘Do the type of sukuk and choice of shari’a scholar matter?’, Journal of Economic Behavior & Organization, Vol. 132, Supplement, December 2016, pp. 63–76. 36. Rihab Grassa, ‘Corporate governance and credit rating in Islamic banks: Does shariah governance matters?’, Journal of Management & Governance, 20:4, December 2016, pp. 875–906. 37. Habib Ahmed, ‘Shari’ah governance regimes for Islamic finance: Types and appraisal’, Journal of Institute of International Economics, 64:4, 2011, pp. 393–411. 38. The chapter on Iran in this volume mentions that there exists a Fiqh Council at the Central Bank of Iran. This Fiqh Council plays an advisory role and does not assume any supervisory functions. 39. Ahmed, ‘Shari’ah governance regimes’, pp. 400–3. 40. For a slightly alternative classification of shari‘ah governance regimes, see: Karim Ginena and Azhar Hamid, Foundations of Shari’ah Governance of Islamic Banks (Chichester: John Wiley & Sons, 2015), pp. 119–79. Similarly, Zulkifli Hasan refers to five regulatory approaches to shari‘ah governance: reactive, passive, minimalist, pro-active and interventionist. See: Zulkifli Hasan, Shari’ah Governance in Islamic Banks (Edinburgh: Edinburgh University Press, 2012). Also, see: Rihab Grassa, ‘Shariah supervisory systems in Islamic finance institutions across the OIC member countries’, Journal of Financial Regulation and Compliance, 23:2, 2015, pp. 135–60. 41. Zulkifli Hasan, Shari’ah Governance in Islamic Banks (Edinburgh: Edinburgh University Press, 2012). 42. For example: Hasan, Shari’ah Governance in Islamic Banks. 43. Kahf, ‘Islamic banks: The rise of a new power alliance’, p. 26. 44. Karim Ginena and Azhar Hamid, Foundations of Shari’ah Governance of Islamic Banks (Chichester: John Wiley & Sons Ltd, 2015). 45. Taha bin Hasan Abdul-Basser, ‘The centrality of fiqh: An introduction to sharia-compliant finance’, in Proceedings of the Fifth Harvard University Forum on Islamic Finance (Cambridge, MA: Center for Middle Eastern Studies, Harvard University, 2000), pp. 89–107.

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46. Shahab Ahmed, What is Islam?: The Importance of Being Islamic (New Jersey: Princeton University Press, 2016), pp. 518–19. 47. Rudnyckyj, Beyond Debt, p. 69. 48. Kilian Bälz has referred to these debates as the ‘formalist deadlock’. See: Kilian Bälz, ‘Breaking the formalist deadlock? Islamic investment and corporate social responsibility’, in S. Nazim Ali (ed.), Islamic Finance: Innovation and Authenticity (Cambridge, MA: Harvard Law School, 2010), pp. 249–64. 49. Ahmed, ‘Shari’ah governance regimes’, p. 397. 50. For example, the late scholar of Islam Wahbah al-Zuhayli held this view. See: Asyraf Wajdi Dusuki, ‘The ideal of Islamic banking: A survey of stakeholders’ perceptions’, Review of Islamic Economics, Vol. 11, Special Issue, 2007, pp. 29–52. 51. Muna Al Mannai and Habib Ahmed, ‘Exploring the workings of the Shari’ah Supervisory Board in Islamic finance: A perspective of shari’ah scholars from GCC’, The Quarterly Review of Economics and Finance, [in press]. 52. Yusuf Talal DeLorenzo, a US-based shari‘ah scholar, argues that shari‘ah supervision should be seen as consumer advocacy, and that shari‘ah supervisors should work on promoting social responsibility in investments. See: Yusuf Talal DeLorenzo, ‘Shari’a supervision of Islamic mutual funds’, in Proceedings of the Fourth Harvard University Forum on Islamic Finance (Cambridge, MA: Center for Middle Eastern Studies, Harvard University, 2000), pp. 67–75. 53. Shoaib A. Ghias, ‘Juristic disagreement: The collective fatwa against Islamic banking in Pakistan’, in Karen Hunt-Ahmed (ed.), Contemporary Islamic Finance: Innovations, Applications, and Best Practices (New Jersey: John Wiley & Sons, 2013), pp. 103–19. 54. Abdulazeem Abozaid, ‘The internal challenges facing Islamic finance industry’, International Journal of Islamic and Middle Eastern Finance and Management, 9:2, 2016, pp. 222–35. 55. Industry insiders are privy to a number of cases of scholarly disagreement. An example of a public argument involved two prominent shari‘ah scholars, Hussain Hamed Hassan and Talal DeLorenzo. Hassan had issued a fatwa approving of a sophisticated investment product offered by Deutsche Bank. DeLorenzo criticised the product and described Hassan’s fatwa as the ‘Doomsday Fatwa’. Upon hearing of DeLorenzo’s criticisms, Hassan was reported to have been furious. For the story of this fatwa and more firsthand accounts of the work of Islamic investment bankers and shari‘ah scholars, see: Harris Irfan, Heaven’s Bankers (New York: Overlook Press, 2015). 56. Rudnyckyj, Beyond Debt, p. 76. 57. Rifaat Abdel Karim, ‘The independence of religious and external auditors: The case of Islamic banks’, Accounting, Auditing & Accountability Journal, 3:3, 1990, pp. 34–44. 58. Kahf, ‘Islamic banks: The rise of a new power alliance’, p. 35. 59. Al Mannai and Ahmed, ‘Exploring the workings of the Shari’ah Supervisory Board’, p. 5. 60. Rudnyckyj, Beyond Debt, p. 84. 61. For example, see: M. Unal, ‘The small world of Islamic finance: Shari’ah scholars and governance – A network analytic perspective’, version 6.0; David Bassens, Ben Derudder and Frank Witlox, ‘Setting Shari’a standards: On the role, power, and spatialities of interlocking Shari’ah boards in Islamic financial services’, Geoforum, 42:1, 2011, pp. 94–103. 62. Taqi Usmani has withdrawn from the industry in recent years, giving way to the rising profile of his son, Muhammad Imran Usmani. 63. Malkawi, ‘Shari’ah board in the governance structure’, p. 552; David Bassens, Ben Derudder and Frank Witlox, ‘“Gatekeepers” of Islamic financial circuits: Analysing urban geographies of the global shari’a elite’, Entrepreneurship & Regional Development, 24:5–6, 2012, pp. 337–55. Rather than viewing themselves as gatekeepers, some shari‘ah scholars perceive themselves as ‘caretakers’ of the industry. See: Rudnyckyj, Beyond Debt, p. 76. 64. According to one estimate, the top three shari‘ah scholars earn about USD 4.5 million in fees per year. See: Hayat, Den Butter, and Kock, ‘Halal certification for financial products’, p. 609.

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65. Mahmoud El-Gamal, Islamic Finance: Law, Economics, and Practice (Cambridge: Cambridge University Press, 2006). 66. Rudnyckyj, Beyond Debt, pp. 116–17. 67. Kahf, ‘Islamic banks: The rise of a new power alliance’, p. 26. 68. Ali Al-Quradaghi and Bahnaz Al-Quradaghi discuss this in their chapter in this volume. These disclosure dilemmas are also mentioned anonymously by shari‘ah scholars in a survey – see: Al Mannai and Ahmed, ‘Exploring the workings of the Shari’ah Supervisory Board’, p. 9. 69. Patricia Sloane-White, ‘Working in the Islamic economy: Sharia-ization and the Malaysian workplace’, Sojourn: Journal of Social Issues in Southeast Asia, 26:2, 2011, pp. 304–34. 70. Mohammed Ghaly, ‘Biomedical scientists as co-muftis: Their contribution to contemporary Islamic bioethics’, Die Welt Des Islams, 55, 2015, pp. 286–311. 71. Laura Elder, ‘Gendered accounts of expertise within Islamic finance and financialization in Malaysia’, in Timothy Daniels (ed.), Sharia Dynamics and the Anthropology of Islam (n.p.: Palgrave Macmillan, 2017), pp. 171–201. 72. Zulkifli Hasan, ‘A survey on Shari’ah governance practices in Malaysia, GCC countries and the UK: Critical appraisal’, International Journal of Islamic and Middle Eastern Finance and Management, 4:1, 2011, pp. 30–51. 73. For a discussion of this issue, see: Umar Oseni, Abu Umar Faruq and M. Kabir Hassan, ‘The legal implications of “fatwa shopping” in the Islamic finance industry: Problems, perceptions and prospects’, Arab Law Quarterly, 30:2, 2016, pp. 107–37. 74. Ibid. 75. Ibid. Reproduced from Taqi Usmani’s website. 76. Irfan, Heaven’s Bankers, p. 234. 77. Al Mannai and Ahmed, ‘Exploring the workings of the Shari’ah Supervisory Board’, p. 6. 78. Ibid. p. 4. 79. Ahmad Alkhamees, ‘The impact of Shari’ah governance practices on Shari’ah compliance in contemporary Islamic finance’, Journal of Banking Regulation, 14:2, 2013, pp. 134–63. 80. Shakir Ullah, Dima Jamali and Ian Harwood, ‘Social responsible investments: Insights from Shari’a departments in Islamic financial institutions’, Business Ethics: A European Review, 23:2, 2014, pp. 218–33. 81. Muhammad Akram Khan, ‘Role of the auditor in an Islamic economy’, Journal of Research in Islamic Economics, 3:1, 1985, pp. 31–41. As cited in Malkawi, ‘Shari’ah board in the governance structure’, p. 561. 82. Alkhamees, A Critique of Creative Shari’ah Compliance, pp. 129–30. 83. Ibid. 84. Ibid. pp. 135–8. 85. Ibid. Also see Abdelrahman Yousri’s chapter in this volume. 86. Wafik Grais and Matteo Pellegrini, ‘Corporate governance and shariah compliance in institutions offering Islamic financial services’, World Bank Policy Research Working Paper 4054, November 2006; and Sherif El-Halaby and Khaled Hussainey, ‘Determinants of compliance with AAOIFI standards by Islamic banks’, International Journal of Islamic and Middle Eastern Finance and Management, 9:1, 2016, pp. 143–68. In some countries such as Bahrain, almost all IFIs publish the SSB’s shari‘ah report. See: Thea Vinnicombe, ‘A study of compliance with AAOIFI accounting standards by Islamic banks in Bahrain’, Journal of Islamic Accounting and Business Research, 3:2, 2012, pp. 78–98. 87. Alkhamees, A Critique of Creative Shari’ah Compliance, pp. 139–43. 88. Alkhamees, A Critique of Creative Shari’ah Compliance, pp. 207–9. See also: Islamic Financial Services Board (IFSB), ‘Disclosures to promote transparency and market discipline for institutions offering Islamic financial Services (excluding Islamic insurance (takaful) institutions and Islamic mutual funds)’, IFSB: Kuala Lumpur, December 2017, retrieved from: https://www.ifsb.org/download.php?id=4360&lang=English&pg=/published.php. [Accessed March 2019.] In particular, see Table 17: Shari’ah Governance Disclosures.

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89. Alkhamees, A Critique of Creative Shari’ah Compliance, pp. 139–43. And see: Zulkifli Hasan, ‘A survey on Shari’ah governance practices in Malaysia, GCC countries and the UK: Critical appraisal’, International Journal of Islamic and Middle Eastern Finance and Management, 4:1, 2011, pp. 30–51. 90. Rania Kamla and Hussain Rammal, ‘Social reporting by Islamic banks: Does social justice matter?’, Accounting, Auditing & Accountability Journal, 26:6, 2013, pp. 911–45. 91. Rethel, ‘Economic governance beyond state and market’. 92. Ibid. 93. The politicised nature of appointments to shari‘ah boards usually favour state-aligned shari‘ah scholars. This is observed throughout the global Islamic finance market, even in periphery countries such as Kazakhstan and Kyrgyzstan – see: Aisalkyn Botoeva, ‘Islam and the spirits of capitalism: Competing articulations of the Islamic economy’, Politics & Society, 46:2, 2018, pp. 235–64. 94. Abdullahi A. An-Na’im, ‘Shari’a and positive legislation: Is an Islamic state possible or viable?’, Yearbook of Islamic & Middle Eastern Law 5, 1998, pp. 29–41, at p. 32. 95. Rethel, ‘Economic governance beyond state and market’, pp. 317–18. 96. Abozaid, ‘The internal challenges facing Islamic finance industry’. 97. Moghul, A Socially Responsible Islamic Finance, p. 178. 98. For example, IFSB-3 states that IFIs ‘shall make available to the public, upon request, an explanation of any decision to adopt a fatwa issued by its shari’ah scholars . . .’ and that IFIs ‘should be prepared to provide a transparent clarification to the public should they decide to abandon a fatwa issued by its shari’ah scholars’. See: Islamic Financial Services Board, ‘Guiding principles on corporate governance for institutions offering only Islamic financial services (excluding Islamic insurance (takaful) institutions and Islamic mutual funds)’, December 2006, Kuala Lumpur: IFSB. 99. Hayat, Den Butter, and Kock, ‘Halal certification for financial products’, p. 611. 100. Nasir Ali Merchant, ‘International Islamic Rating Agency’, in Karen Hunt-Ahmed (ed.), Contemporary Islamic Finance: Innovations, Applications, and Best Practices (New Jersey: John Wiley & Sons, 2013), pp. 293–302. Ali Merchant lists at least seventeen shari‘ah governance factors that the IIRA considers in deriving its rating. 101. Said Bouheraoua, ‘Shariah fundamentals of governance’, in ISRA and Thomson Reuters (eds), Islamic Commercial Law Report 2016, 2016, pp. 14–17, at p. 15. 102. For example, see: Mohammed Ayub, ‘Madaris education and human capital development with special reference to Pakistan’, Islamic Economic Studies, 16:1–2, August 2008 and January 2009, pp. 1–35. Also see: Tariqullah Khan, ‘Deoband and Islamic banking – implications for educational reform and poverty alleviation’, ARY News Blogs, 12 April 2014, retrieved from: https://blogs.arynews.tv/deuband-islamic-banking-implicationseducational-reform-poverty-alleviation/. [Accessed 18 March 2009.] 103. Mahmoud El-Gamal, ‘“Islamic finance” after state-sponsored capitalist Islamism’, James A. Baker III Institute for Public Policy of Rice University, 2017. 104. Rudnyckyj, Beyond Debt, p. 19. 105. The AAOIFI was previously known as the Financial Accounting Organization for Islamic Banks and Financial Institutions (FAOIBFI). It is interesting to note that shari‘ah scholars have been involved in the development of AAOIFI’s accounting standards for IFIs. For an earlier historical account of this organization, see: Rifaat Abdel Karim, ‘The nature and rationale of a conceptual framework for financial reporting by Islamic banks’, Accounting and Business Research, 25:100, 1995, pp. 285–300. 106. There was also one important logistical consideration that went into the final list of country case studies that were included in this volume. Since the editors were based in Qatar for much of the work on this volume, the blockade and boycott of Qatar by Saudi Arabia,

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107. 108.

109.

110.

111. 112. 113. 114. 115.

116. 117.

118.

119.

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UAE, Bahrain and Egypt that began in 2017 made it difficult to include chapters from those countries. While we eventually managed to include chapters on Saudi Arabia, Bahrain and Egypt, we were not able to include a chapter on the UAE due to the unavailability of UAE-based authors who were willing or able to be part of the project. However, Zulkifli Hasan does provide a very brief summary of shari‘ah governance in the UAE in his chapter in this volume. For a more comprehensive reference on shari‘ah governance in the UAE and the general regulatory landscape there, see: Jonathan Ercanbrack, The Transformation of Islamic Law in Global Financial Markets (Cambridge: Cambridge University Press, 2015), pp. 264–307. The other notable absences in this volume include: Brunei; Iraq; Jordan; Lebanon; Oman; countries in Central Asia (for example, Afghanistan, Kazakhstan); and countries in Southern and Western Africa (for example, South Africa, Senegal and Gambia). David Bassens, Ben Derudder and Frank Witlox, ‘Searching for the Mecca of finance: Islamic financial services and the world city network’, Area, 42:1, 2010, pp. 35–46, at p. 41. Michael C. Ewers, Ryan Dicce, Jesse P. H. Poon, Jeffery Chow and Justin Gengler, ‘Creating and sustaining Islamic financial centers: Bahrain in the wake of financial and political crises’, Urban Geography, 39:1, 2018, pp. 3–25. Tim Lindsey, ‘Monopolising Islam: The Indonesian Ulama Council and state regulation of the “Islamic economy”’, Bulletin of Indonesian Economic Studies, 48:2, 2012, pp. 253–74. A previous version of this chapter was published as a journal article. See: Mohamad Akram Laldin and Hafas Furqani, ‘Islamic Financial Services Act (IFSA) 2013 and the Sharīʿah-compliance requirement of the Islamic finance industry in Malaysia’, ISRA International Journal of Islamic Finance, 10:1, 2018, pp. 94–101. Rudnyckyj, Beyond Debt, p. 84. Ibid. p. 67. Ibid. p. 64. Ibid. As in Turkey, Islamic banks in Morocco are often referred to as ‘participatory banks’ or ‘participation banks’, a name that alludes to the perception that Islamic banks have of being engaged in risk-sharing or profit- and loss-sharing arrangements with their clients. For example, see: Ghias, ‘Defining shari‘a’. Shoaib A. Ghias, ‘Juristic disagreement: The collective fatwa against Islamic banking in Pakistan’, in Karen Hunt-Ahmed (ed.), Contemporary Islamic Finance: Innovations, Applications, and Best Practices (New Jersey: John Wiley & Sons, 2013), pp. 103–19. The chapter only makes a passing reference to the decision of the Qatar Central Bank (QCB) to close the Islamic windows of conventional banks operating in the country. It was said that the decision was made due to challenges of overseeing supervisory and monetary policy issues in a dual-banking system. See: Olivier Vermeulen, Philipp von Randow and Ahmad Anani, ‘Qatar Islamic financing new circular: Closing the Islamic window for conventional banks’, Latham & Watkins LLP, 2011. There was much debate over this issue in the industry and in the press. Some were of the view that QCB was attempting to level the playing field. Others felt that QCB ‘had taken a bold step forward in protecting the interests of Islamic depositors’ and that perhaps it was ‘reclaiming the ethical values of the Islamic finance industry’. See: Irfan, Heaven’s Bankers, pp. 238–42. The closing of Islamic windows in Qatar was somewhat similar to the 2004 decision of the Malaysian central bank to terminate the Islamic windows programme due to concerns over religious legitimacy stemming from the inter-mingling of Islamic and ‘non-Islamic’ funds particularly in settling overnight debts in the money markets. See: Rudnyckyj, Beyond Debt, p. 36. Alkhamees, A Critique of Creative Shari’ah Compliance, p. 178.

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120. Filiz Baskan, ‘The political economy of Islamic finance in Turkey: The role of Fethullah Gülen and Asya Finans’, in Clement Henry and Rodney Wilson (eds), The Politics of Islamic Finance (Edinburgh: Edinburgh University Press, 2008), pp. 216–39. 121. This is in agreement with observations of other researchers. For example, see: Jane Pollard and Michael Samers, ‘Governing Islamic finance: Territory, agency, and the making of cosmopolitan financial geographies’, Annals of the Association of American Geographers, 103:3, 2013, pp. 710–26. 122. Rudnyckyj, Beyond Debt, p. 84. 123 A previous version of this chapter was published as a journal article. See: Tariqullah Khan, ‘Reforming Islamic finance for achieving sustainable development goals’, Journal of King Abdulaziz University: Islamic Economics, 32:1, January 2019, pp. 3–21.

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Part I Fundamentals of Shari‘ah Governance in Islamic Finance

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Chapter 2 SHARI‘AH Governance: Principles and Foundations Ali Muhi Al-Din Al-Quradaghi and Bahnaz Ali Al-Quradaghi

Introduction

E

very time humanity is confronted with disasters and crises, people start reflecting deeply and start appealing to their sound human instincts that otherwise remain dormant. Hard times make people realise the insignificance of their worldly possessions and desires and draw them closer to God. This resonates with what the Qur’an says about those who associate partners with God, ‘When waves engulf them like canopies, they pray to God, sincere to Him in religion. However, when He delivers them to the land, there are [some] of them who are moderate [in faith]. And none rejects Our signs except the treacherous and the ungrateful’ (Qur’an, 31–2). This is what we typically see in economic crises, too. For example, when the Great Depression hit the United States in the 1930s, the world decided to reign in the system of unjust and unfair capitalism. Following the latest global financial crisis of 2007–8, economists started looking for alternative solutions. Islamic economics and finance, underpinned by principles of asset-based economics, comprehensive development and absolute justice, provided a feasible alternative platform to the incumbent system, especially since the financial crisis was rooted in the economic practices that are expressly forbidden in Islam.1 As a result of the global financial crisis, economic principles such as justice-based governance, disclosure, transparency, ban of fraudulent practices, including gambling, and sales without real assets gained positive attention. All the economic principles that had emerged through reforms and were initiated post the global financial crisis were based on justice and implementing best practices. The ultimate goals of these principles are combating corruption, achieving better management of available financial and human resources, maximising the participation of shareholders in decision- and policy-making, distributing responsibilities and promoting freedom and democracy within financial institutions. All of these principles are aligned with the principles of shari‘ah. This chapter attempts to briefly contrast the corporate and shari‘ah governance systems while addressing the challenges of achieving a fully effective shari‘ah governance framework. The chapter outlines the economic principles and the foundations of shari‘ah governance. It discusses the following economic principles: responsibility, accountability, justice, independence, best practices, honouring contracts and agreements, protecting

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and developing trusts, transparency and disclosure of all administrative and financial activities, restricting trading to existing assets only, banning fraudulent activities and combating corruption. The chapter further argues how shari‘ah governance relates to the objectives of Islamic shari‘ah. It discusses the functions of Shari‘ah Councils and auditors while outlining the difference in their responsibilities. The chapter ends with examining the ways by which Shari‘ah Councils deal with violations of shari‘ah rules in Islamic financial institutions.

The Importance and Benefits of Governance Governance refers to the application of laws, standards and organisational, administrative and financial frameworks to regulate the relations between corporate administration, shareholders, investors and other stakeholders in order to achieve the corporation’s objectives. In other words, it is the organisational structure that regulates and oversees how corporations are managed by linking incentives to performance defined in terms of maximising profits and applying best practices in investing resources while balancing economic, social and individual objectives.2 While the importance and benefits of corporate governance and shari‘ah governance are generally similar, there are a few distinctive attributes that make shari‘ah governance unique. Table 2.1 is a brief comparison between shari‘ah governance and corporate governance.

The Guiding Principles of Shari‘ah Governance Islamic jurisprudence includes a set of guiding principles, general and specific rules and regulations for financial transactions and contracts.3 In this section, we will discuss the general principles related to financial institutions and their governance framework.

Responsibility The concept of responsibility in Islam, unlike some moral philosophies, is not limited to an individual’s responsibility towards their conscience. Nor is it limited to the responsibility towards society, as is the case in philosophies based on social morality. It is not even a purely personal affair between the individual and God.4 Responsibility in Islam is a broader concept that combines the following four categories: (1) a spiritual sense of responsibility that motivates an individual to adhere to the teachings of religion, (2) a moral instinct, which is an internal moral compass or conscience, (3) social responsibility, which imposes its morality on individuals as members of a community and (4) legal responsibility, which involves rewards and punishments according to the law. These four sources of responsibility are mentioned in the verse: ‘O you who have believed, do not betray God and the Messenger or betray your trusts while you know [the consequence]’ (Qur’an, 8:27). The phrase ‘O you who have believed’ refers to the bond of faith that forms the community and determines rights and obligations accordingly. The directive in ‘do not betray God’ invokes spiritual morality, which is based on the connection between the individual and God. The reference to ‘the Messenger’ emphasises the obligation to follow the

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Table 2.1 Main differences between corporate governance and shari‘ah governance Corporate Governance

Shari‘ah Governance

Definitions

• It applies to all the administrative and financial aspects of a corporation.

• It applies Islamic shari‘ah rulings and principles to all aspects of a corporation.

Participating Parties

• The General Shareholders Assembly • The Board of Directors • The executive administration

• The General Shareholders Assembly • The Shari‘ah Council, including the Committee for Shari‘ah Oversight, the internal and external Shari‘ah Compliance Committee (in Malaysia), the Research Committee (in Malaysia), and The Shari‘ah Secretariat Committee • The Board of Directors • The executive administration

Principles

• • • •

• • • • • • •

Objectives

• Applying best practices to guarantee financial well-being

• Applying shari‘ah to all the activities of an organisation in order to achieve the highest standards of best practices • Ensuring corporate compliance with shari‘ah rules and principles

Major Organizations in the Field

• The Organisation for Economic Co-operation and Development • Bank for International Settlements • Basel Committee on Banking Supervision • International Finance Corporation

• Accounting and Auditing Organization for Islamic Financial Institutions • Islamic Financial Services Board • Bank Negara Malaysia • Central banks

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Accountability Justice Transparency Responsibility

Responsibility Accountability Justice Independence Efficiency Combating corruption The protection and development of trusts • Transparency • Trading in existing assets only • The ban on all forms of dishonesty

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Prophet’s teachings, as he is the leader of the faith community and the one who established its legal system. This leadership has been passed on to the community leaders who follow in his footsteps: ‘O you who have believed, obey God and obey the Messenger and those in authority among you’ (Qur’an, 4:59). The Prophet also says, ‘Whoever obeys my emirs has obeyed me.’5 Finally, moral responsibility is clearly represented in ‘or betray your trusts’. The word ‘trusts’ here not only refers to contracts and agreements but also to moral values and social responsibility because people are entrusted with them.6

Oversight and Accountability The principle of accountability is one of the core concepts of Islamic philosophy that applies both to this world and the hereafter. It is also well-established in other monotheistic religions. This principle serves as the basis for rewards and punishments. The principle of oversight and accountability is applied through civil society organisations, such as the early hisba system, which is a grassroots volunteer system serving to preserve social morality, cultural identity and virtue. In other words, the hisba system is community-based organised efforts directed towards promoting virtue and preventing vice in the society. It is important to note here that this system has no legal mandate, since the legal system has the exclusive jurisdiction to apply penalties.7 The hisba system is believed to have been introduced after the advent of Islam and developed and expanded during the Umayyad and Abbasid dynasties. It serves as a legal reference for modern Islamic corporate governance systems. The hisba system is not set in stone, as it can be further developed and modernised.8

Justice Justice is one of the most important principles of shari‘ah. The Holy Qur’an refers to justice in contrast to injustice and immorality; thus, jurists use the term in two different ways. The first refers to justice in rulings related to social interactions, which includes commercial transactions. The other use of justice refers to fairness of a person to their own self by not engaging in sinful activities. In this section, we will focus on the former, which emphasises the need to create a balance between an individual’s rights and their obligations.

The relation between governance and justice in shari‘ah As we have discussed earlier, governance is underpinned by the following three concepts: 1. Laws and regulations: Establishing laws, rules, standards and frameworks for administration, accountability and oversight regulates how a corporation functions. Islamic shari‘ah offers moral and legal principles in addition to binding and fair regulations for financial transactions. Without laws and regulations to control corporate activities, those moral and legal principles cannot be implemented, and shari‘ah cannot fulfil its functions, such as protecting rights, preserving interests and fending off corruption. At the same time, successful experiences and new ideas are acceptable, as long as they do not contradict the religious requirements.

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In other words, shari‘ah governance is open to new ideas and innovations subject to religious conformity. The Prophet says, ‘Wisdom is the pursuit of the faithful. They are the most worthy of it wherever they find it.’9 For example, Caliph Omar maintained the Persian and Roman administrative taxation structures without any modifications except in cases that involved perceived injustice.10 2. Moral standards: Governance has evolved to effectively confront moral threats to financial institutions, since individuals with vested interests can exploit their positions within institutions to their advantage. These moral threats can potentially lead to financial and administrative corruption and other malpractices and eventually result in the collapse of corporations. For example, there was an instance when the CEO of Lehman Brothers presented a budget with inflated profits. He received half a billion dollars in bonuses at a time when the bank was on the brink of collapse. Of course, shortly thereafter, the bank declared bankruptcy.11 Islam emphasises morality, which forms the foundation of the faith. It is implemented through a legal system that ascertains the permissibility or non-permissibility of various actions. The Prophet says, ‘I have been sent to complete good morals’,12 which is a statement that is echoed in the Qur’an, ‘And indeed, you [the Prophet] are of a great moral character’ (Qur’an 68:4). With respect to financial transactions, Islamic religious texts clearly forbid certain activities. It also enumerates certain moral directives to be used as guidance while executing contracts and financial agreements. The Prophet says, ‘May God have mercy on a person who is lenient when selling or buying, and lenient when asking for payment.’13 Full disclosure and transparency are also Islamic moral principles that have to be observed when doing business. Islam forbids lying, cheating and defrauding. The Prophet says, ‘A trustworthy, honest merchant will be with the prophets, the companions, and the martyrs on the Day of Resurrection.’14 He also says, ‘Whoever cheats us is not one of us. Cheating and deception belong to hell.’15 3. Just policies encompassing the interests of all stakeholders and shareholders: This is the cornerstone of governance and the principles that the Qur’an and the Sunnah emphasise as being of the highest priority after the belief in the oneness of God. Justice is also the standard for the validity of scholarship and religious edicts in Islamic financial institutions.

Independence A shari‘ah governance council has to be independent of any influences from the financial organisation so that it can freely impart its duties stipulated by its governing laws and principles. Such councils should not be subject to any undue pressures from the board of directors or the executive administration. Shari‘ah governance council should issue edicts with absolute independence owing accountability only to God, unaffected by public opinions or political powers.16 The decision of a shari‘ah governance council is binding on the boards of directors; and needs to be insulated from any potential conflict of interests in the following ways: 1. Members of a shari‘ah governance council cannot be appointed by the board of directors or the executive board. Instead, they should be appointed by the general assembly of shareholders.

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2. A shari‘ah governance council should have its internal regulations that guarantee its authority while ensuring that it fulfils its obligations. 3. The oversight activities carried out by the council should be comprehensive. 4. The board of directors and the executive administration should have no power to intervene in the administration or functions of the council.

Good Governance The Arabic term for ‘good governance’ is al-rushd, which literally means ‘finding the right path’. Islam lays special emphasis on good governance, particularly in areas of leadership, administration, relationships and similar activities, as is evident from several texts. Thereby, good governance principles are applicable to financial, political and other such organisations, requiring these institutions to adhere to religious texts, confirm to sound intellect and follow successful practices and experiences. Even prophets and their true followers have always prayed to God to bless them with the right guidance: ‘Our Lord, grant us from Yourself mercy and prepare for us from our affair right guidance’ (Qur’an, 18:10).

Honouring Contracts and Agreements Honouring contracts and agreements and abiding by their terms and conditions are among the basic tenets of shari‘ah governance unless the contract or agreement violates the teachings of the Qur’an or the sunnah. God says, ‘Fulfil [every] commitment. Indeed, a commitment is ever a responsibility’ (Qur’an, 17:34) and the Prophet says, ‘Muslims are held to their agreements, except for the agreements that make the lawful unlawful, or the unlawful lawful.’17 This principle makes it mandatory for the board of directors, the general assembly, the executive administration and all members of an organisation to uphold their commitments and contracts. This principle also requires establishing laws and regulations to specify the rights and obligations of the board of directors and all the administrative structures under its purview. This principle is crucial for the effective application of the shari‘ah law and for deterring corruption.18

Honesty and the Preservation, Protection and Development of Trust This is a comprehensive principle that applies across the board. Failing to adhere to this principle leads to disgrace, both in this world and in the hereafter, as has been described in many Qur’anic verses and hadiths. A companion of the Prophet, Abu Dhar Al-Ghifari, narrates that he asked the Prophet why he had not appointed him to any official position. The Prophet patted him on the shoulder and said, ‘O Abu Dhar, you are a weak man, and it is a trust that will be a cause of disgrace and remorse on the Day of Resurrection except for the one who takes it up with a full sense of responsibility and fulfils what is entrusted to him.’19 This hadith indicates that all responsibilities and official positions are to be held only by those who are highly qualified and conscientious, and each has to fulfil their duties to the best of their abilities. Moreover,

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decision makers, such as members of the board of directors and executive administrators, are not allowed to hire individuals unless they are proven to be highly qualified and conscientious.

Transparency Transparency is required in all the activities of a financial institution. All the terms of contracts and agreements have to be unambiguous and comprehensive, even if they require highlighting any negative aspects of the product or service being sold. This is a religious duty that also encompasses the agreements between a corporation and its governance council. The Prophet says, ‘Both parties in a business transaction have the right to annul it so long as they have not separated; and if they tell the truth and make everything clear to each other, they will be blessed in their transaction, but if they withhold any information or lie, the blessing of their transaction will be eliminated.’20 In this hadith, the Prophet makes transparency a key condition for the validity of any financial transaction.

Trading in Existing Assets Only This is a unique legal principle that has far-reaching implications. It bans all business transactions based on potential or future assets; only available and verifiable assets can be traded as mentioned by the Prophet.21

Banning All Forms of Dishonesty The literature on Islamic jurisprudence deals with various types of malpractices in financial transactions, such as cheating, misrepresenting and fraud. All forms of deception are expressly forbidden, which makes transparency imperative to ensure the validity of any financial transaction in accordance with the shari‘ah rules. There are numerous Qur’anic verses and hadiths that forbid all forms of moral, political, administrative, financial, social and environmental corruption. The word ‘corruption’22 occurs fifty times in the Qur’an, and even more frequently in the hadiths. In fact, acts of corruption incur some of the harshest penalties in Islam, both in this world and the hereafter. In addition to the generic verses and hadiths that forbid corruption in general, there are several texts focusing on specific forms of corruption, such as financial, political, administrative or environmental corruption. We do not know of any religious tradition that has combated corruption in such a comprehensive way. Corruption is a strong obstacle for development, and tends to have a very tenacious hold on the society. The only way to effectively combat corruption is to revert to the fundamental tools of implementing shari‘ah – faith, morality and education. Penalties can also play a significant role in tackling corruption, both at the individual and the social level.

The Objectives of Shari‘ah Governance In this section, we will discuss how the objectives of shari‘ah translate into governance principles. We will also relate the principles of shari‘ah governance discussed in the

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previous section to the actual practice. The objectives of shari‘ah form an interlocking system with various objectives intertwined into one another, ultimately connecting legal rulings and all human activities to God’s purpose of creation.23 The main objective of shari‘ah governance pertaining to economic and financial transactions is to create an ecosystem wherein the economic activities lead to sustainable development. For this to be realised, all financial transactions are required to be backed by real assets that are not harmful to the environment. Moreover, aligning economic activities and transactions, including contracts and agreements, to the objectives of creation and the human responsibility as guardians of the earth, requires that all these activities serve the overall well-being of individuals and communities while achieving justice and equality for all. God says, ‘He has produced you from the earth and settled you in it’ (Qur’an, 11:61). Effective implementation of shari‘ah governance regulates economic activities while maximising societal benefits and restraining corruption. It also encourages adoption of best practices thereby contributing to higher levels of productivity. To ensure an effective shari‘ah governance, Shari‘ah Councils and auditors are an essential part of the required foundation.

Shari‘ah Councils and Auditors The rulings of shari‘ah can be effectively applied to the economic activities either by the scholars of shari‘ah directly or under their specialist guidance. Since scholarship in shari‘ah rulings on financial matters requires specialised expertise, common businesspeople and administrators are advised to seek the help of shari‘ah experts. Islamic financial institutions should have access to experts who can oversee their activities to determine their compliance with shari‘ah. At the same time, the scholarly decisions of those experts should be binding on the institutions. Islamic financial institutions, such as banks, insurance companies, investment firms and real estate agencies are required to seek advice from their internal shari‘ah governance councils regarding the legality of their activities from a shari‘ah perspective. Such financial institutions should also establish the functions of a shari‘ah governance council in their corporate by-laws and other founding documents so that all shareholders would abide by its rulings. This commitment can also be imposed by the government in some cases. A shari‘ah governance council, in return, is committed to issuing rulings and decisions on all matters put forward by the corporation as stated in Standard 29 issued by the Accounting and Auditing Organization for Islamic Financial Institutions. Table 2.2 is a brief summarisation of the differences between a Shari‘ah Council and a Shari‘ah Internal Auditor with respect to their functions, responsibilities, hierarchal structures, appointments, terminations, working hours, number of members and decisions. In recent years, the practice of External Shari‘ah auditing is gaining influence in several jurisdictions. This traction could be considered as one of IFIs’ efforts in working towards improving shari‘ah governance. It provides an additional layer of check and balance in contracts, policies, practical agreements and procedures – all of these ensure the organisation’s compliance to shari‘ah principles, leading to a greater transparency, governance and above all trust and confidence in the organisation.

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Table 2.2 Main differences between Shari‘ah Council and Shari‘ah Internal Auditor Shari‘ah Council

Shari‘ah Internal Auditor

• Issues religious edicts for the financial institution and oversees its activities to determine their compliance to shari‘ah

• Oversees the activities of the financial institution, particularly contracts, agreements and products, to determine their compliance with shari‘ah

• Issues religious edicts concerning financial activities of the institution

• Has no authority to issue edicts, but oversees the institution’s compliance with the decisions of the Shari‘ah Council

• Answers to the General Shareholders Assembly

• Technically superordinate to the Shari‘ah Council, and administratively superordinate to the Board of Directors or the executives • Appointed by the Shari‘ah Council

Appointment

Can be appointed in various ways, including: • Nominated by the Board of Directors, but the nomination is ratified by the general assembly • The Board of Directors directly appoints members of the council • Some countries, such as Malaysia, have laws requiring members of the council to be appointed by the government through a central Shari‘ah Council

Termination

• Termination depends on the • Only the Shari‘ah Council has the appointment system right to terminate auditors • The general assembly have the right to terminate members of the council • The Board of Directors can terminate the appointment • The government can reserve the right to terminate members of the council

Function

Responsibilities

Hierarchal Structure

Working Hours

Number of Members

Decisions

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• A Shari‘ah Council meets regularly or as needed

• A Shari‘ah Auditor works full-time as all other employees in addition to attending the Shari‘ah Council meetings

• Three to five members

• One or more auditor as is deemed necessary by the council

• The council’s decisions are binding to the bank. If the members disagree on a particular issue, the president makes the final decision

• Has no right to issue decisions, but instead issues reports concerning the activities of the institution, which is not required to abide by the findings of those reports unless the council makes a decision based on them

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AAOIFI Auditing Standard for Islamic Finance Institution No. 6 explains the definition of external shari‘ah audit process that encompasses (1) compliance requirements, (2) interactions with Shari‘ah Board, (3) principle procedures, (4) documentation and archiving and (5) preparation of the external shari‘ah auditor’s report framework. Moreover, it requires the external auditor to fulfil stipulated criteria by regulators of respective jurisdiction. A number of IFIs are engaging external shari‘ah auditing companies, for example, Raqaba Shari‘ah Audit and Islamic Financial Advisory, Shura Sharia Consultancy, and Bait Al-Mashura. This trend shows that thoughtful efforts have been made by IFIs to improve the overall quality and efficacy of the shari‘ah governance framework across the financial and commercial market.

Challenges to Shari‘ah Auditing Some of the challenges in achieving all the objectives of internal shari‘ah auditing are as follows: 1. If auditors are employees within the institutional administrative hierarchy, they might not feel comfortable disclosing the observed violations. This issue can be avoided by enhancing the functional reporting line and empowering the Shari‘ah Council, which would be the only authority to decide on the salaries, promotions and termination of auditors. 2. Some bank administrators might not disclose information related to violations. This can be resolved by hiring highly skilled auditors and making it mandatory for all contracts to be audited. 3. Some transactions might be kept secret within the organisation. The solution is to implement the Islamic financial system, which gives complete authority to the auditor to access all documents just as would be the case with an external auditor. 4. In some cases, internal auditors might not have the technical know-how to use the information technology systems of the financial institution. An internal auditor requires extensive experience in shari‘ah studies as well as business administration and auditing. This issue can be resolved by offering extensive ongoing professional development training to auditors. 5. Administrators and employees may not fully understand or appreciate the role of the Shari‘ah Council or may assume that its function is limited to issuing religious edicts and approving contracts without overseeing all other activities. This is why it is important for the council to develop workshops and training programmes for staff members to familiarise them with the council’s functions.

Balancing Confidentiality and Disclosure of Shari‘ah Violations Shari‘ah auditors have a significant role in identifying shari‘ah violations that are of two kind. The first kind of violations is related to contract and investment mechanisms and is under the purview of shari‘ah oversight council. The second kind is overseen by

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the internal shari‘ah auditing system, the backbone of the Shari‘ah Council. They identify violations of shari‘ah through (1) reviewing of contracts, agreements and other documents, (2) interviewing bank employees and discussing financial activities with them and (3) analysing annual budgets and quarterly reports to determine how budgets are set, sources and distribution of profits, and losses. An efficient auditing system requires highly qualified auditors with substantial professional experience. In other words, appointing high-quality cadres is critical to the success of the entire governance system. While disclosure of shari‘ah violations is essential for the effective functioning of shari‘ah auditors, maintaining a certain level of confidentiality is also an equally important requirement of shari‘ah auditing mechanism. Hence to strike a balance between confidentiality and disclosure, the following procedures should be adopted: 1. Shari‘ah Council should first contact the office responsible for the error or violation and try to resolve the issue internally without reporting to their superiors. 2. If the issue is not resolved within the concerned office, it should be reported to the general manager, then to the chairperson of the board of directors and finally to the entire board of directors. 3. If the issue is still unresolved, the council should report to the general assembly and ask for a special meeting of the board to present its case. 4. Lastly, if the issue persists either because the general assembly does not convene or because the assembly decides not to discuss the issue, the council is required to report to the clients of the financial institution. Throughout this process, the council is expected to use a balanced approach, maintaining the confidentiality of information and fulfilling the duty of reporting any shari‘ah violations and is required to reach a reconciliation that will have the least harmful outcomes. During the reporting process, the council should follow these best practices: 1. The council should not reveal the organisation’s trade secrets. It should ensure that its reports do not include any technical details or information regarding its business plans and strategies unless directly related to shari‘ah violations. 2. The council should keep the report confidential and allow only authorised parties and decision makers to access it in the order described above. In other words, information regarding violations is shared on a need-to-know basis. 3. The council should not report violations to the top administration, the general assembly or the public unless all means to resolve the violation have been exhausted. 4. The council is expected to attempt all possible ways to revolve violations internally. Only when all such attempts fail, it can go public with its report on these violations. Disclosing the secrets of an Islamic financial institution is not permissible because the institute, as a legal individual, has the right not to be harmed. The same applies to the founders, the shareholders and the board of directors. Inflicting harm on others is not permissible, as the Prophet says, ‘No injury and return of injury’, which is a

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well-established Islamic moral principle.24,25 However, detecting violations and resolving them is the duty of the council as part of the promotion of virtue and the prevention of evil. Thus, Shari‘ah Council needs to adopt a balanced governance mechanism and framework executing its duty of ensuring shari‘ah compliance while avoiding unnecessary disclosure of secrets and confrontation. The council’s responsibility of reporting shari‘ah violations is not just a moral duty, but also a legal responsibility dictated by the bylaws of Islamic financial organisations. Besides, the council represents the interests of the shareholders in ensuring shari‘ah compliance of all the institution’s activities. Additionally, the board of directors and executives are responsible for supporting the council. The consequences of the council going public with shari‘ah violations ultimately has to be borne by the administration due to their failure to adhere to shari‘ah and uphold its commitment to the shareholders.

Summary and Conclusion The chapter presents a number of arguments while addres