RISK MANAGEMENT IN ISLAMIC BANKS

 It should describe the topic and intrduce the research questions, explain the significance or importance of the topic and why i have chosen it. Explain the structure of the dissertation by brifly describing the purpose of each chapters: the intrdouction must include: 1/Background and research objective 2/statment of the problem 3/purpose of the study 4/research objectives 5/personal intrest 6/important of the study ………….

Introduction

Risk management is the procedure by which different risk exposures are identified, assessed, controlled, monitored and reported. Most organizations are faced by different types of risks which require different approach. In this respect therefore, the issue of risk management is significant in all organizations. The financial institutions are one of the most vulnerable organizations to risks as they are affected by all types of risks one can think of. Some of the risks faced include; credit risks, solvency risks, rate of return risks, investment risk, operational risks, among other types of risks. In this case therefore, the financial institutions require an elaborate risk management program to mitigate the potential losses. This chapter evaluates the research objectives and the statement of the problem with main attention on the Islamic banking.

Risk management for Islamic banking financial services is one of the major challenges that many conventional as well as Islamic banks are experiencing currently. There is a great demand to comprehend how to evaluate and control risks emanating from Islamic financial services due to their high market growth. Such risks as liquidity, operational, credit and market risks in conjunction with the risks of non-conformity with the laws of Shariah have come out to be critical subject of institutions of finance. This research presents a universal framework of the methods of managing the risks and the overall cut-down on the extent Islamic banking risks (Akkizidis and Khandelwal, 2007, P. 51)

 

 

Research objectives

The objectives of this research are:

  1. To establish how Islamic banks manage reputational risks when they are normally associated with financing terrorism
  2. To find out how Islamic banks manage exchange risks when Islam does not allow currency options and currency swaps
  3. To analyze how the Islamic banks manage exposure to market deviation in relation to price risks operational and price risks.
  4. To establish the management of religious risks when some scholars of Islamic law dispute Islamic banking as being incompatible with Islamic principles
  5. To find out the manner in which these institutions manage the default risk when Islamic banking does not permit rescheduling of net profit or loss in their financial statement.
  6. To critically analyze the other ways in which Islamic banks make their profits if they do not charge interests on money loaned and the driving motives behind such management.
  7. To establish the efficiency in risk management in the Islamic banking

Problem statement

Lending of money in Islamic banking institutions is not merely for interest because interest is highly forbidden based on Quran injunctions in Islam. Islamic banks are gratified to participate actively in the business of banking and decide on profit sharing as well as losses due to the fact that interests emanating from investments and borrowing are not allowed in Islam. In view of the fact that Islamic banks can not demand a fixed rate of return not connected to the operations of the client it may appear that these banks are prone to more risks. Therefore more volatility returns on the banks’ assets will be felt as the banks will have to posses the assets before they let out or sell to their customers. Besides, the banks will have to undertake on subject matter risk of which their counterpart conventional banks do not take. This paper probes into how the Islamic banks manage such risks in comparison with the conventional banks. The positive relations manifested in Islamic banking as unimportant with conventional banking in accordance with (Siddiqui, 2008, Pp. 680-694)

It is worth noting that in undertaking any venture the Islamic banks have to assume a given risk therefore in this respect majority of them have formulated risk management strategies in their programs to manage and control such risks. Consequentially, various institutions have a variety of distinct risk management procedures and schemes in the same way Islamic banking business are operating. Most decisions taken by banks and other financial institutions affiliated to Muslim are controlled by the Muslim religion which makes an extensive influence in the way these businesses ought to run and how to undertake various investment opportunities. Presence of Islamic banking in more than 51 nation States shows an increasing rate of the banking system advancing into the conventional system of financing (Sole, 2007)

In conducting this research, the main driving force was to comprehend how the Islamic banks manage such risks mentioned earlier in this paper. In consideration of the fact that the management of these risks is wholly influenced by the Islam religion while the conventional banks’ operation is highly regulated by certain corporate bodies and Acts in different countries, how do these institutions conduct their businesses? The gap between management of risks in the Islamic banks and conventional banks must be determined and the disparity ascertained.

Purpose of study

The purpose of the study is to critically analyze the type of risks the Islamic banks are exposed to and how the manager go about the business of managing them with an aim remaining in business. In understanding this process the study has to address the difference in risk management of Islamic banking and the western banking and the regulatory bodies or groups behind such operations. Besides, this study is intended to fill the gap of knowledge among the different groups of interest in the financial institutions, who may want to have a deeper understanding of risk management process in Islamic banking and how some of the methods can be applied in conventional banking.

Moreover, the study seeks to address issues of concern in the risk management process of these banks and they can be capitalized or modified to improve on the performance of these banks in the financial institution markets. On the other hand, in addressing the process of risk management in Islamic banking the study also targets to analyze the impact of religion in the operation of financial institutions in Islamic sect in conformity to Islamic laws and principles. It is therefore worth reiterating that risk management in financial institutions is a dynamic process among different diversities, laws and Acts which requires careful approach and intensive study, in trying to adapt to the new methods and types of risks in the industry and market at large.

Personal interest

From this study I am curious to establish and understand the manner in which Islamic banking mange their risks from the fact they do not charge interest on money borrowed. Besides, I want to understand how Shariah laws govern the lending process in Islamic banking and do they manage the default risk. Are there any collateral pledged against money borrowed in such institutions? Who qualifies to be given a loan in such institutions and what are the terms and conditions for a client to conform to before being granted the loan? If Islamic law does not allow adjusting the net profit and loss in their financial statements, how do they manage the default risk and correct reporting of their financial statements? (Tariqullah and Ahmed, 2001, P.1) To what extent do these institutions conform to the international accounting standards principles in making their financial statements? Do they abide with the financial accounting and reporting principles? And what are the similarities and differences in the way Islamic banks manage risks exposed to in comparison with the Western banking systems?

Importance of the study

This study is useful to banking practitioners in the Islamic Financial sector in evaluation of their current way of managing risks in comparison to conventional banking system. The study will help in instilling some information to the bankers in both systems to compare and contrast ways in which they are effective and ways in which they are ineffective. These may include supervision and regulation of the Islamic banks (Umer and Tariqullah, 2000, P.1). The study is also useful to scholars in the business department and specifically risk management in financial institutions in helping them identify and appreciate the knowledge leant in class theory and its application in the outside world. This will therefore equip them with the necessary skills in risk management hence shape their future involvement in either Islamic banking or conventional banking sectors. Besides, the students of finance and business administration may develop curiosity in furthering research in this hence adding a body of knowledge to the existing one.

In addition, the research will enable professions in this field to identify areas of concern which may require extensive evaluation and modification to suit the emerging needs in the banking sector. Such areas may include recording and reporting financial transactions in the statements of finance. In addition, Ismal, (2010, pp. 147-167) made a suggestion of the Islamic banks making an improvement in their policies to equate liability and asset to present their business to public in deepening their comprehension of restructuring liquidity management in order to strengthen the process. However, the study does not intend to recommend complete modification of the risk management processes as this may contravene the ethics of Islamic religion that may create conflicts among the users of this study. The purpose of the study as mentioned earlier is to appreciate the management process and the principles behind them, and not to criticize the methods of management, as managers have a lot to learn form each other.

The study will also help in filling the gap between the disparities in approach of risk management in western and conventional banking to enable management borrow a leaf from the success of banking industry in Islamic sect. There may be ways which western banking system can change their banking systems in such away that, rather than focusing on charging very high interests on loans, they can look for away of arbitraging profits without hurting consumers. This is a big lesson to western banking to learn; that profits can not be only found by charging interests, but can also be found by some other means (Mounira, 2009, P. 87).

 

 

 

 

 

Reference lists

Chapra, M. Umer & Khan, Tariqullah (2000), Regulation and Supervision of Islamic Bank,

Jeddah: RTI http://www.sbp.org.pk/departments/ibd/Regulation_Supervision.pdf

Ioannis Akkizidis and Sunil Kumar Khandelwal, (2007) Financial Risk Management for Islamic

Banking and Finance, Finance and Capital Markets Series, Palgrave Macmillan,

Ismal, R. (2010), “Assessment of liquidity management in Islamic banking industry”.

International Journal of Islamic and Middle Eastern Finance and Management, 147-167.

Khan, Tariqullah and Habib Ahmed (2001), Risk Management: An Analysis of Issues in Islamic

Financial Industry, Jeddah: IRTI http://www.sbp.org.pk/departments/ibd/Risk_Management.pdf

Mounira, B. (2009) Managing Risks and Liquidity in an Interest Free Banking Framework:           The Case of the Islamic Banks. International Journal of Business and Management,             Vol. 3, No. 9 pp 80-95.

Siddiqui, A. (2008). Financial contracts, risk and performance of Islamic banking, Managerial

Finance, 34 (10), 680-694

Sole, J. (2007), “Introducing Islamic Banks into Conventional Banking Systems,” International

Monetary Fund

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