Basel III deposit challenge looms over Islamic banks

Tue Sep 2, 2014 3:32am EDT
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By Bernardo Vizcaino

(Reuters) - As banks around the world gear up to meet tough Basel III regulatory standards, Islamic lenders face a source of uncertainty that could prove expensive for them: how regulators will treat their deposits.

In most ways, Islamic banks look well-placed to cope with Basel III, which will be phased in across the globe over the next few years. Most of the banks are from the Gulf and southeast Asia, where economies are strong.

Since Islamic finance frowns on monetary speculation, their balance sheets are largely clear of the derivatives and complex, risky assets that sunk some of their conventional peers during the global financial crisis. They should therefore have little trouble in meeting Basel III's minimum capital standards.

But their deposit bases could become a headache. Because interest payments are not allowed by sharia principles, Islamic banks obtain deposits mostly through profit-sharing investment accounts (PSIAs), which are generally considered to be more volatile than conventional deposits.

Islamic banks are expected to be required to offset that volatility under Basel III by increasing the amount of high-quality liquid assets (HQLAs) which they hold.

But Islamic securities markets are much younger, shallower and less developed than conventional markets, so sharia-compliant HQLAs are in short supply - squeezing Islamic banks on two fronts.

"These are two of the more important challenges that Basel III is introducing to the Islamic finance industry," said Paris-based Mohamed Damak, primary credit analyst at credit rating agency Standard & Poor's.


A general view shows the tower of the headquarters of the Bank for International Settlements (BIS) in Basel September 14, 2010.  REUTERS/Christian Hartmann