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Press Release > 2015

Opening Speech by Mr Jaseem Ahmed, Secretary-General of the IFSB at the 1st Global Ethical Finance Forum (GEFF): Ethics in Finance: Towards Convergence in Values, Conduct and Regulation

Date posted: 2 September 2015

Date: 2 September 2015

Event / Venue: Opening Speech by the Secretary-General of the IFSB at the 1st Global Ethical Finance Forum (GEFF), The Balmoral Hotel, Edinburgh, Scotland

Speaker: Mr Jaseem Ahmed, Secretary-General, Islamic Financial Services Board


A. Ethics and Finance Post-Crisis: Embracing Duties and Consequences

The starting point for my remarks today is the idea that ethical conduct is good for business and finance – or ought to be.

Such an idea stands, of course, in sharp contrast with the actual conduct observed in the financial sector in recent times.

Indeed, we have learnt that what is good for finance may not always be good for the real economy and for broader social goals.

It is useful here to recall a question originally posed by the philosopher and Nobel prize winning economist, Professor Amartya Sen speaking at the Banca de Italia in 1991 –“How is it possible that an activity (finance) that is so useful has been viewed as morally so dubious?

“Morally so dubious”. Those are strong words. I am indebted to Governor Ignazio Visco of the Banca D’Italia, speaking at the IFSB’s 4th European Forum held in Rome in April 2013, for referring me to Professor Sen’s words – words that still seem so relevant.

Those words were written at a time when most economists and policy-makers were confident that ethics need not play a central role in the workings of the market economy which could safely, it was thought, operate according to self-interest and indeed selfish conduct.

Much has changed since then. The financial crisis has spurred a rethinking not only of the assumed stability and resilience of financial markets, but also of the role of ethics in guiding and, indeed, shaping economic and financial transactions. There is widespread acknowledgement of the loss in trust in the financial sector. There are questions of the financial sector’s relevance in an environment of persistent low growth and high unemployment.

As a remedy to these various ailments, the focus is on restoring integrity and trust in financial institutions and market players. A more inclusive finance is also being sought.

This is a profound development, for it represents a transformation of the intellectual lens through which policy-makers and analysts have long viewed the relationship between ethics and finance, or ethics and economics.

Where does Islamic finance stand in this respect – that is to say in relation to the role of normative ethics to business and economic transactions?

In viewing the moral and ethical underpinnings of Islamic finance it is useful to recall two distinct approaches to normative ethics. First, that ethics is about duties, regardless of their consequences. This is the deontological, duty-bound Kantian view. The second viewpoint, the consequentialist or utilitarian view, stresses the importance of evaluating the consequences of one’s actions. These two viewpoints are not mutually exclusive, or need not be.

Thus, Islamic finance comprises a system of ethics in which both duty and concern about consequences feature prominently through their joint presence and interaction. Islamic finance recognises the material usefulness of finance, whilst simultaneously subjecting it to higher overarching objectives that give intrinsic value to ethical and moral conduct that accords with the goals of the Maqāsid Al-Sharī`ah.

Indeed, as the IFSB noted in its Islamic Finance and Global Financial Stability Report in 2010, published jointly with IDB and IRTI, “Islamic finance derives its key strengths from its inherent underlying principles”. That Report, prepared under the leadership of Dr. Zeti Akhtar Aziz, the governor of Bank Negara Malaysia, elaborated the principles, including the prohibitions against unethical or unlawful conduct, and the goals, of social justice, that are key features of the “embedded governance” that characterise Islamic finance.

In terms of normative ethics, Islamic finance thus encompasses an approach that is both consequentialist as well as deontological. There is a duty to observe high ethical standards and a corresponding requirement to take into account the wider impact of the transactions financed.

This view of ethical conduct, and of wider accountability, as envisaged by Islamic finance thus stands at some remove from the notion of a firm that needs only to maximise profits for its shareholders without regard to the social or other consequences of its actions.

In this latter example, which has been paradigmatic of much but not all of mainstream economics and finance, the duty that a firm has is only to its shareholders, and firms need concern themselves with nothing else.

This notion of the parameters of ethics, or duty, in business and finance is a feature of much of the arguments used in recent times to push back against the concept of corporate social responsibility.

That such a limited view of duty is ill suited to finance is now manifestly clear in the aftermath of the global crisis.

It must be said that it is sometimes suggested that there is a considerable gap between the claims for ethical conduct in Islamic finance – or rather its true potential – and the actual practice.

This viewpoint can be usefully examined in the context of the burgeoning social responsibility industry, and I would like to do so by recognising the gaps – and the potential for a convergence and synergetic growth of this industry with ethical investing through Islamic finance.

The recent issuance of “green” and “social responsibility” Sukūk points to the very real gains from this convergence. Indeed, there are considerable benefits in terms of greater relevance and scope to be achieved by Islamic finance, in augmenting its negative-screening process so that Sharī`ah-compliance – and financial scrutiny – sets the stage for use of the social “impact” criteria, something which is a feature of the social investment industry. This is a view that has much merit, as does the point made by the World Bank that Sukūk can serve as a bridge between the worlds of Islamic finance and that of responsible investment.

The underlying issue, however, is the critical importance of “norms of ethical conduct” – and of adherence to criteria and institutions that will strengthen compliance to these norms. A reputation for compliance with such norms is the key to what has been called “branding”. I will suggest later that this also has value for regulation.


B. Finance, Regulation and Ethical Conduct in the Post Crisis Environment: Towards Convergence

Let me now turn to the performance of Islamic finance, as seen through the turmoil of the financial crisis, as an aspect that is relevant to convergence in regulatory approaches and the new focus on ethical conduct.

Islamic finance was largely unaffected by the global financial crisis. I do not claim that Islamic finance is immune to crisis, but rather that its banking system was observed to have lower leverage and higher quality capital, principally in the form of tier 1 core common equity, as well as significant liquidity buffers.

Islamic banks, for example, typically have 95% of their equity in the form of tier 1 common equity, which is the most loss absorbent form. These attributes tended to make the industry more resilient to negative shocks.

At the Islamic Financial Services Board (IFSB), we had noted that the new Basel III capital framework, with its stress on common equity and lower leverage would move conventional banking and its regulation towards the principles and practices of Islamic finance.

This is an aspect of a process of feedback, mutual learning and convergence in principles and practice between Islamic and conventional finance that is one outcome of the shock of the global crisis.

Another aspect of convergence is the adaptation and adoption, through the standards of the IFSB, of the Basel III liquidity framework. Thus, IFSB-16, Guidance Note on Quantitative Aspects of Liquidity Management, which was issued in April 2015, provides a framework for Islamic banks to flexibly adjust to both the Liquidity Coverage Ratio and the Net Stable Funding Ratio which are designed to address the key objective of assuring access to liquidity during stressed market conditions.

The possibility, or scope, for flexible adaptation in Islamic banks is the result of the due recognition provided to the sector in the Basel Committee’s own guidelines, itself the result of a dialogue with the IFSB.

The need for stronger balance sheets with high quality capital and liquidity buffers is one great lesson of the global crisis. But there is another lesson: namely, having a strong balance sheet ex ante may not protect an institution if its conduct is imprudent.

Islamic finance was aided by the norms drawn from Sharī`ah principles, reinforced by the presence of Sharī`ah advisory boards within financial institutions. These were key factors that helped to shape the conduct of Islamic banks which was, generally, less imprudent and “exuberant” than their conventional counterparts.

There are of course a range of factors – including the relative absence of robust financial infrastructure – that tend to potentially reduce the resilience of Islamic finance, and serve as a warning towards complacency.

On the whole, however, Islamic finance was resilient through the crisis. It is for this reason that there is today a heightened interest in the principles of Islamic finance – including its stress on the real economy, ethical practice, and social impact.

Thus, at the IFSB’s website there is a video message from the Managing Director of the IMF, Madame Christine Lagarde, on the occasion of the IFSB’s tenth anniversary in 2013, where she calls on the IFSB members to help to transform values in the wider world of finance by raising awareness of Islamic finance and the principles, including ethical principles, on which it is based.

Two recent landmark statements that take up this wider approach – one that stresses financial integrity, and also economic inclusion from the conventional perspective – are the speeches given by again, Madame Christine Lagarde, and Mr. Mark Carney, the Governor of the Bank of England, at the Conference on “Inclusive Capitalism” held in London on 27 May 2014.

Governor Carney’s speech, titled “creating a sense of the systemic”, can be seen as part of a series of developments that further aligns views on the appropriate role of ethics in finance – in both Islamic and conventional finance. The Bank of England’s recent document, Open Forum: Building Real Markets for the Good of the People (BOE; June 2015) takes these ideas further and represents a significant departure from the past in the way it has conceived of the “social” role played by finance, a role requiring a wider perspective on ethics, regulation, and the impact of finance on the economy. There is much in this paper that advocates and practitioners of Islamic finance can find agreement with.

These developments underscore the possibilities for a deepening dialogue and convergence in relation to the objectives and role, and the conduct and regulation of the financial sector.

The developments I have touched on were preceded by successive rounds of analysis of the global crisis and its causes, as well as by influential personal testimony. Thus, at the height of the global financial crisis, on 23 October 2008, only a few weeks after the collapse of Lehman Brothers, the former Chairman of the US Federal Reserve, Alan Greenspan, provided Congressional testimony in which he said: "I made a mistake in presuming that the self-interests of organisations, specifically banks and others, were such that they were best capable of protecting their own shareholders and their equity in the firms."

These words underscore the fact that in the new normal, reliance on self-equilibrating well-functioning markets, and the self-interested conduct of market participants as of old, no longer suffices. Additional measures are needed to make markets functional and give them social legitimacy in the new environment.

The key is the restoration of trust and confidence in the financial system – through a focus on ensuring norms of high ethical conduct, and new and more robust forms of regulation in which both regulators and market participants acknowledge their responsibility towards the wider public interest.

The proposals in the Bank of England’s “Open Forum” alluded to earlier, spells out a fresh regulatory perspective that incorporates this outlook.

This outlook is also captured recently by the International Ethics Standard Board for Accountants, in its 2015 Handbook of the Code of Ethics for Professional Accountants; “A distinguishing mark of the accountancy profession is its acceptance of the responsibility to act in the public interest. Therefore an accountant’s responsibility is not exclusively to satisfy the individual client or employer.” In its essence, this is a view that is in accord with the distinguishing principles and precepts of Islamic finance.


C. Conclusion: Convergence as Overlapping Consensus

This brings me back to how I started, Professor Amartya Sen’s 1991 Paolo Baffi Inaugural Lecture at the Banca D’Italia; let me turn this time to where he states that “…The interrelationship between duties and consequences is… deeply relevant to financial ethics...”. I have suggested today that Islamic finance recognises this interrelationship and hence places itself in distinct juxtaposition to normative ethical viewpoints that prevailed prior to the global financial crisis.

By focusing on the ethical dimensions of Islamic finance I have aimed not at assertions of its superiority, but rather at highlighting the context in which ethics can be brought back to play a central role in all of finance, both Islamic and conventional.

The joint emphasis on duties and wider consequences that is characteristic of Islamic finance is now acquiring broader acceptance. It has led, amongst other things, to the growing sentiment that Islamic finance and socially responsible investment have much in common. I believe that this is correct but would add the following additional perspective.

We are rightly skeptical of a “self-regulation” that is based principally on “self-interest”. On the other hand, there is much to be said for a framework of conduct that stresses norms of ethical behavior. Such norms of conduct can strongly reinforce formal regulations and their enforcement.

The recognition that ethical conduct is a pre-condition to ensuring the social value of finance suggests the possibility not only of a greater scope for Islamic finance in the global financial system, but also of a convergence of views and values in conventional and Islamic finance. I use the word convergence, but what I really mean is an overlapping consensus in John Rawls’ phrase, which is the normative consensus that emerges amongst human beings who start with different assumptions and objectives. Whether you call it convergence or an overlapping consensus, were it to develop further it may well contribute to more productive, stable and resilient financial systems of a mixed type in which both conventional and Islamic components flourish together.

At the same time, this would serve to underscore and give greater relevance to the proposition that Islamic finance springs from a set of widely recognised values – “universal values”. Indeed, the appeal of Islamic finance in the modern world lies not in its alienness, or its “otherness”, but rather that the values it espouses resonate with audiences who are able to see its relevance from a wider consideration of their own value systems and interests.

It must be said, however, that Islamic finance faces significant challenges in terms of the market and institutional infrastructure needed to support its resilience and stability.

The values and ethics embedded in Islamic finance constitute its intrinsic strengths, and its moral and social capital that contribute to its broader appeal. But they must be complemented by other measures to promote resilience and stability, which requires in addition robust financial infrastructure in the form of legal and regulatory frameworks, and strong transparency and disclosure regimes.

With its intrinsic strengths, and supported by policy frameworks focused on developing deeper financial markets and stronger risk management capabilities, Islamic finance will be better placed to boost the growth, stability and resilience of the economies in which it is becoming increasingly important.

Thank You.


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