Islamic banks' treasury management challenges

The magazine Islamic Finance News in its edition of 4 July 2012 posed the following question to its forum of experts:

The full responses are only available to readers of the magazine. However I have reproduced my own response below.

Islamic banks face two main obstacles when managing the liquidity they need to hold in their treasury.

Firstly, Shariah scholars sometimes disapprove of the instruments used to manage liquidity. For example, in the case of The Investment Dar Company KSCC (TID) v Blom Developments Bank SAL (BDB), the bank BDB had placed deposits with TID using wakala contracts intended to give BDB a fixed return. TID’s Shariah board initially approved the contracts, but later decided they were not Shariah compliant. Similarly the main instrument most banks used to manage liquidity is the commodity murabaha or tawarruq contract, but the OIC Fiqh Academy ruled in 2009 that the normal form of the contract is not Shariah compliant. Its use has continued in the absence of suitable alternatives.

Secondly, apart from inter-bank deposits structured using Shariah compliant contracts, there are few other instruments available to Islamic banks. Ideally the sovereign authority where the Islamic bank is located would issue short term sukuk, (similar to conventional treasury bills issued by the governments of the USA or UK) for banks to hold in treasury. The International Islamic Liquidity Management Corporation was set up in October 2010 to fill this gap by issuing high quality short term Shariah compliant investible instruments, but so far little seems to have happened since its formation was announced.

Supplement 7 July 2012

My friend the Shariah scholar Muddassir Siddiqui has pointed out that when writing the above contribution to the Islamic Finance News Forum, I had forgotten something. The UK High Court of Justice decision in TIC v BDB was given in December 2009. A few months later, in May 2010, the TID Shariah Supervisory Board met. As reported by Gulfbase in an article which quotes Muddassir Siddiqui, the TID Shariah Supervisory Board effectively repudiated the position that TID's lawyers had argued in court. The Shariah Supervisory Board:

Accordingly my specific comment regarding TID's Shariah board reversing its position was incorrect. However the general point that unexpected Shariah rulings can make treasury management more difficult for Islamic banks than it is for conventional banks is one that I consider to be valid.