Dear Ali Sakti,
The recent G20 meeting hosted by the US had an urgent agenda: Figure out measures to help better regulate international finance and take steps to stabilize the current turbulent markets. After unprecedented global cooperation in bank bailouts and stimulus packages, there was much anticipation of concrete action at a global level. Some measures were needed without delay but it has become apparent that little substantive work was accomplished at the meeting.
Instead, the buck has been passed to the finance ministers to work on this over the next several months despite the real possibility of the crisis worsening and recession becoming more widespread. Despite broad support for economic stimulus, the leaders were not able to agree on a coordinated global effort.
Another issue which arose but was neglected at that meeting is the impact of the turmoil on many emerging markets and developing countries. With the US and Europe struggling economically and consumed by efforts to stabilize their banks, China, Japan and Saudi Arabia have emerged as the likeliest candidates to help distressed countries.
The reality is that global challenges posed by the current international financial crisis necessitate global engagement. Both reforms and measures need to be global in nature to restore soundness and stability to the international financial system. Can Islamic finance play an effective role in this respect? The key for the Islamic financial industry is to ensure that it will not be a source of such financial instability and is able to achieve a level of resilience that will ensure its sustainability.
The Islamic financial system has the inherent ability to deal with crises such as the current one. The main selling point is that the requirements of Islamic finance are in fact consistent with the international best practices and standards in the conventional financial services industry. This enhances its prospects for soundness and stability.
There are, of course, potential risks for Islamic finance in a crisis environment. The increased globalization of Islamic finance and its greater integration with the international financial system increases its exposure to the spillover effects from adverse economic and financial conditions.
Which is why Malaysian central bank governor Zeti Akhtar Aziz has this piece of advice for industry players: “As innovation of Islamic financial products and services intensifies and as Islamic finance becomes more integrated with the international financial system, it becomes imperative that the foundations upon which Islamic finance has been built remain intact. This will be the key to sustaining the resilience of the Islamic financial system in this more challenging international financial environment.”
She also wants to see an integrated crisis management framework to ensure that any emerging crisis in the Islamic financial system will be promptly managed. These should include mechanisms to preserve short-term liquidity, remove troubled assets from the balance sheets of financial institutions and recapitalize Islamic financial institutions.
This obviously means a need for more concerted efforts at the international level to avert any worsening of a crisis. And, of course, a crisis prevention and management framework that also ensures the preservation of the essential features of Islamic finance so as to retain its inherent resilience and stability.
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