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ISRA - The International Shari'ah Research Academy for Islamic Finance

ISRA Thematic Workshop 2010 - Islamic - Pricing Benchmark

ISRA Thematic Workshop 2010 – Islamic – Pricing Benchmark

Kuala Lumpur, June 2, 2010 – In past forty years, Islamic finance industry (IFI) has experienced huge expansion and developed from a niche industry to a viable alternative for global financial architecture. However, IFI is still using conventional finance benchmarks, such as London Interbank Offered Rates (LIBOR), to determine its own cost of funds, and hence its return to financial investments.

At the present time, IFI uses interest rate as the benchmark for Islamic finance products. Profit rates charged by IFIs are basically replica of the market interest rates. This practice, although discouraged, is basically accepted in Islamic finance as interest rate is used merely as a benchmark only. Nevertheless, any reference to the interest rate should be minimized, if not eliminated, as much as possible. Thus, the need for providing Islamic pricing benchmark for IFI cannot be over emphasized.

Having this in mind, ISRA initiated a research on developing an alternative Islamic Pricing Benchmark that will cater for the needs of IFI.

In order to enhance the quality of this research, on Wednesday, 2nd June 2010, the International Shari’ah Research Academy for Islamic Finance (ISRA) organized a Thematic Workshop to present its findings to the Malaysian bankers from Islamic banks.

This research represents an attempt to find an alternative to conventional benchmark pricing, such as LIBOR or Kuala Lumpur Interbank Offered Rates (KLIBOR) that are predominantly used by Islamic banks.

Since Islamic finance, in its ideal sense, is based on and closely linked to the real sector, the research team tried to derive the benchmark that will be based on the real economy. In fact, the proposed benchmark pricing is derived from the industry and is based on real data gathered from the past performance of each sector.

Although the practicality and feasibility of this model is not tested yet, the credit should be given to all parties involved in coming up with new and fresh ideas.

“It is a praiseworthy effort. The study provides new ideas in a presentable and user-friendly manner” – says Prof. Dr. Abbas Mirakhor, First Holder, INCEIF Chair of Islamic Finance.

He further said that the study should be appreciated as it provides an alternative model of pricing. In fact, it gives us an opportunity to replace “unknown,” exogenously determined LIBOR, base-lending rate (BLR), and so on, with something that is endogenous, i.e. certain as it is derived based on real data.

This endogenously determined pricing is better as it provides stability and predictability. In other words, there is less volatility based on the model offered, says Prof. Abbas.

The aim of having a workshop was to present the current finding and discuss it with the industry players its feasibility. The findings and conclusions drawn, by no means, are final. In fact, this is only a first step in coming up with an alternative benchmark.

In fact, the overwhelming support, contribution, and comments from the industry players will enhance the current research and shape its future outcome.

As a result, ISRA will refine its research and by next year we could have an alternative proposals, said ISRA’s executive director Mohamad Akram Laldin in his interview for Reuters.

Be it as it may, the significance of this project lies in the fact that so far there is no Islamic pricing benchmark in the market and this would be a huge step forward within the IFI.

Besides, once the feedback and comments are incorporated, the alternative proposals could be suggested that will be applied by Islamic banks. This would in turn bring more credibility to the Islamic financial system in general.