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Speeches

Speech

by Edmond Lau, Executive Director (Monetary Management), Hong Kong Monetary Authority

(Speech at the 6th Islamic Financial Services Board Summit in Singapore)

8 May 2009

Mr Chairman, fellow panellists, ladies and gentlemen,

1. It gives me great honour and pleasure to speak here today at the 6th Islamic Financial Services Board (IFSB) Summit. I would like to thank IFSB for their kind invitation, and thank Mr Paul Koster, chairman of this discussion session, for giving me the opportunity to share my thoughts with the respectable audience and other panellists.

2. The theme of today's summit - "The Future of Islamic Financial Services" - and in particular the theme of this session - "Direction of Development Policy" - cannot be more timely and relevant given the stress in the global financial markets that we have witnessed recently. Islamic finance is a new asset class that has experienced rapid expansion over the past few years, and continues to hold promising growth potential in the future. The current crisis presents a timely opportunity for the industry to reflect, and to explore what kind of development initiatives and strategy will be needed to realise its growth potential. Let me now share with you some of my thoughts.

3. As a new and evolving component of the global financial system, Islamic finance faces issues which must be addressed in order for the industry to continue on its remarkable growth path. A fundamental issue is the fact that financial integration among economies is far from optimal. By means of "financial integration", I refer to a situation in which savings can be readily mobilised and channelled into investments across jurisdictions rather than just domestically, leading to a more efficient use of capital on an international level. Savers get a higher rate of return while borrowers incur lower costs, resulting in efficient allocation of productive resources, thereby promoting faster economic development and higher economic growth for all concerned.

4. Paradoxical as it may seem, the latest developments in the Islamic financial scene prompts me to believe that Islamic finance actually imparts the impetus that is very much wanted to financial integration in the region. Islamic finance first grew its roots in the Islamic communities in Malaysia and the Middle East. Its influence has now extended to a much wider part of the globe as economies of diverse cultural backgrounds join in and offer Islamic financial services. Such trend is particularly marked in the region. Asian economies such as Singapore, South Korea, and Hong Kong show much commitment in fostering development in this new area. The geographical expansion of the Islamic intermediary channel is potentially a key source of cross-border financial activities. The desire of the market to find a structural solution to better accommodate these growing cross-border activities is naturally a catalyst for financial integration in the region.

5. As such, there is merit to give thoughts to what more can be done to promote greater financial integration through the Islamic intermediary channel within the region. In the spirit of generating a greater awareness and more discussion on the topic, I would like to suggest six important elements that should feature in a broad-based strategy for promoting the stability, integrity, diversity and efficiency of general financial intermediation across jurisdictions, with particular emphasis on the Islamic intermediation channel.

6. First is the establishment of more cross-border financial infrastructure linkages to facilitate the movement of capital between jurisdictions. What I am referring to are the trading, payment, clearing and settlement and custodian systems for financial instruments and money flows. Developing a robust network of safe and efficient financial infrastructure will benefit both conventional and Islamic financial markets alike by reducing the uncertainties and risks associated with cross-border financial transactions, thereby providing a favourable environment conducive to further financial development.

7. For instance, if a US dollar-denominated sukuk is launched in Malaysia targeting investors in Asia and Mainland China who have funds managed in Hong Kong, both counterparties can make use of the established delivery-versus-payment link between Hong Kong and Malaysia to transfer the funds and securities instantaneously, thereby eliminating the settlement risk deriving from the transaction. In this regard, the Hong Kong Monetary Authority (HKMA) continues to explore new opportunities to link Hong Kong's clearing and settlement systems with those of other Asian economies. The signing of a Memorandum of Understanding between the HKMA and Bank Indonesia last year to establish a new cross-border payment-versus-payment link was another landmark initative in this vein. This new large-value payment system link between the two jurisdictions will allow safer and more efficient settlement of transactions involving the US dollar and the Indonesian rupiah.

8. The second element involves the relaxation of non-supervisory restrictions which limit foreign financial intermediaries' access to domestic financial markets. There have been positive developments in this area, such as the mutual recognition agreement signed between Malaysia and Dubai on the cross-border marketing and distribution of Islamic funds within the two jurisdictions, as well as other agreements and statements of intent aiming to explore this theme further. In an important step forward to further liberalise its financial sector to foreign entities, the Malaysian government recently announced its plan to raise the cap of foreign equity holding of a financial institution in Malaysia from 49% to 70%. Two new licences for Islamic banks will also be issued in Malaysia later this year.

9. As for Hong Kong, we consider that the supervisory issues raised by a bank participating in Islamic financial activities are similar in many respects to those of a bank engaging in conventional banking business. As such, the regulatory framework and standards applicable to conventional banks also in general apply to banks participating in Islamic banking activities. The HKMA has also established a framework to strengthen cooperation with the Dubai International Financial Centre (DIFC) Authority and, among other objectives, to look at ways to foster cross-border Islamic financial activities.

10. But even if impediments to foreign access are overcome, more can still be done to better equip market players with tools to help them access these new markets. One way of doing so is for regulators to collectively make available relevant information to market participants on entry requirements and procedures in a systematic, consistent and easily accessible manner.

11. The third element relates to the standardisation of financial practices and harmonisation of legal and regulatory standards. Specifically, inconsistency in Shariah interpretation may discourage access by market participants to the Islamic finance industry, and affects the acceptance of Islamic finance as an alternative to conventional finance. In fact, standardisation and harmonisation have become even more important now as the scope of Islamic financial services continues to expand and a more diverse range of market players are attracted to this formerly niche asset classs.

12. In the two years since we first stated our intent to develop Islamic finance in Hong Kong, remarkable strides have been made to establish a framework that allows participants to engage in Islamic financial activities in Hong Kong. But the HKMA, being a secular regulator, does not give opinions on the validity of Shariah rulings and is not in a position to do so. Nevertheless, we will seek to make sure that banks maintain risk management frameworks that are effective in ensuring the integrity of their Islamic finance products, and that these products are Shariah-compliant both before and after launch. As more and more secular markets join in the bid to develop Islamic business, there inevitably arises a need to increase the transparency of Shariah rulings on financial products and services. Perhaps this can be accomplished by providing market players with a means to easily draw on the collective wealth of global Shariah knowledge. Promoting the availability and transparency of Shariah principles and rulings on financial products and services will improve investor confidence and help expedite the process of Shariah convergence. Recent standardisation initiatives by the International Islamic Financial Market (IIFM) and the Association of Islamic Banking Institutions Malaysia (AIBIM) for Islamic deposit-taking and placement documentation are important moves towards addressing this critical issue.

13. The forth element concerns the strengthening of regional cooperation in the development of Islamic finance, whether on a bilateral basis in the form of Memoranda of Understanding or in the context of multilateral initiatives such as regional forums or international organisations like the IFSB. Enhanced communication and strengthened cooperation facilitates the flow of information, thereby creating an environment that is conducive to harmonisation.

14. The fifth element is the need for greater capital mobility, which is a necessary condition for increased financial integration. Relaxing restrictions on cross-border transactions will lead to a more efficient and effective allocation of resources. Greater capital mobility and financial openness will also help attract more varied market players to partake in Islamic financial activities in domestic Asian markets. This will ultimately be conducive to the development of larger domestic capital markets with greater breadth and depth.

15. Last but not least, the sixth element involves raising market awareness and nurturing a deeper pool of talents in Islamic finance. While much has been done in this regard over the past few years, there still remains a shortage of skilled market practitioners and professionals well-versed in the mechanics of Islamic finance. As Islamic finance in Hong Kong is still in its early stage of development, local industry bodies in Hong Kong have devoted much efforts to educating market players and deepening market knowledge by holding seminars and attracting large-scale industry events to be held in Hong Kong. These seminars and events provide a good forum for open discussion and experience-sharing from experts in the field. On the international level, we are also increasingly seeing new educational courses and other initiatives to cultivate more Islamic finance professionals around the world. Such progress is highly encouraging and bodes well for the continued development of the industry.

16. In summary, I believe that the obstacles that lie before us in developing Islamic finance are really not too different from those related to developing conventional markets. In order to support future growth of the industry, we should take the opportunity now to explore ways of enhancing market infrastructure robustness, promoting regional financial integration, and improving transparency as well as the free flow of capital and information. There is also a need for us to engage in further regional cooperation so as to enable Islamic finance to develop into an effective channel of financial intermediation across jurisdictions. We are already starting to see many encouraging signs of our mutual progress in this area; let us continue to work closely together to seize these new development opportunities that are beneficial for the long-term development of this region.

17. Thank you.

Last revision date: 1 August 2011
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