Just over a year ago, I wrote about the Bank of England (BoE) issuing a consultation document about the BoE taking Shariah compliant deposits from banks operating in the UK. I made a personal submission to that consultation.
A year later, the BoE has issued a second consultation document. It shows that the BoE has refined its thinking based on the responses to the first consultation. I don't see any need for me to respond to this second consultation, and in my view it shows that in the not too distant future (which could be another year or so, given the complexity of these issues) the BoE will be able to take Shariah compliant deposits.
That will materially assist UK based Islamic banks in their liquidity management. It is another illustration of the step by step approach of the UK to creating "a level playing field" for Islamic finance and conventional finance. It is also a reminder of how far the UK is ahead of other countries which have Muslim minorities in promoting Islamic finance.
I wrote about this consultation in my May 2017 column in the magazine Islamic Finance News. You can read it below.
I have often commented on how long it takes to take steps forward in the development of Islamic finance in the UK. This arises from the need to find solutions which are appropriate to the complex legal, tax and regulatory environment of the UK while being Shariah compliant.
There has long been a need for UK-based Islamic banks to have access to high quality, preferably risk-free, assets to manage their liquidity. While conventional banks have always been able to make deposits with the UK’s central bank, the Bank of England, is not currently possible for Islamic banks since such deposits would not be Shariah compliant.
Just over a year ago, the Bank of England consulted on possible mechanisms for offering Shariah compliant central bank deposit facilities. It received 32 consultation responses, including one from me which is available on my website.
The Bank of England outlined four possible models, while making it clear that its preferred model was a wakalah fund model, with the fund being invested in sukuk. My response emphasised the need for greater clarity regarding how holdings of foreign currency denominated sukuk would be hedged into sterling. I also pointed out that non-sovereign sukuk would still have default risk and therefore the proposed deposit facility would not be equivalent to a conventional deposit at the Bank of England since that is completely risk-free.
In this new consultation, the Bank of England has refined the wakalah fund model, which is now the only model being consulted on. The wakalah fund will be held by a special purpose vehicle (SPV) which will be wholly owned by the Bank of England. When the SPV holds foreign currency denominated sukuk, it will enter into Shariah compliant hedging arrangements to eliminate the foreign exchange risk. These hedges will be with the same external counterparties that the Bank of England already uses for currency hedging. Furthermore, the Bank of England will give a free guarantee to the Islamic banks using the facility, covering the principal value of all wakalah deposits with the SPV.
The Bank of England, as a matter of policy, offers no opinion on the Shariah compliance of the proposed facility. Instead, it will be for each Islamic bank using the wakalah deposit facility to satisfy itself that the facility is Shariah compliant. However, all interested parties, including members of the Shariah supervisory boards of the UK Islamic banks, have had the opportunity to respond to the first consultation. They can also be expected to review this new consultation, and if necessary respond. Accordingly, we can expect that in practice the wakalah deposit facility that is finally offered should be regarded by Islamic banks operating in the UK as being Shariah compliant.
The full consultation document “Consultation Paper Shari’ah compliant liquidity facilities: establishing a fund based deposit facility April 2017” is available from the Bank of England website and the deadline for consultation responses is 23 May 2017. I will not be responding to this iteration of the consultation as the revisions to the structure addressed the questions that I raised when responding to the first consultation. Furthermore, from my perspective, the proposed structure appears acceptable.
The UK is to be commended for the way that it continues to adapt its tax and regulatory environment with the goal of enabling Islamic finance to take place without suffering significant impediments or extra burdens compared with conventional finance.