NewsNorth AfricaWhat are the potential conflicts of Islamic financing in Libya?


Posted on Tuesday, 11 September 2012 11:09

What are the potential conflicts of Islamic financing in Libya?

Map of LibyaFuture financial regulation in Libya, as democracy takes root, will have its share of challenges and advantages. But will the absence of political stability and security favour the adoption of Islamic finance?

Libya is currently in a transitory stage towards a hopeful democratic state post the elections of the National Congress held in recent July 2012.

This Congress will appoint an interim government and a constituent authority to draft the constitution of the Country as first in decades. The Congress is influenced by approximately 40% by those considered liberals against about 17% Islamists. However the liberals have vowed to entertain Islamic principles in the forthcoming constitution, which would impact banking legislations in Libya and should indeed have some Islamic flavour to it.

Prior to the uprising of 2011, the Libyan economy has long been isolated; the financial system handicapped; and the democratic institutional system absent, despite reform initiatives taken by the previous regime at a relatively late stage to liberalize the economy. A country with massive oil reserves, huge areas of land and tiny population should have done much better, but it did not.

Libya's economy is still undeveloped and the market is still untapped. There is a dire need to introduce proper banking with supportive regulations to promote all aspects of Libyan business, not just being an oil surviving state. Islamic compatible products and other conformant conventional products may together serve as a tool for the further development of the Libyan financial market.

There are different opinions on how Libyan banking should proceed. Some appear to be pro Islamic banking; supported probably by some GCC (Gulf Cooperation Council) countries that have helped Libya gain independence. Others are sceptical about the adoption of Islamic banking noting the risks that Islamic banks should undertake in comparison to conventional banks. Others view the keenness by Libya to keep ties to the West – which also helped liberate Libya – would probably impact on how Libya will formulate its future financial regime.

However, at present, there are some challenges that may hinder legal unity in Libya. The calls by some sects for separatism would indeed influence a different outcome of financial regulations. The absence of political stability and security would therefore represent a major challenge for economic and financial stability.

Legal framework required for Islamic finance

In the area of currency, a bedrock for viable Islamic transactions is a stable legal tender. Some Islamic thinkers have promoted the use of gold and silver as legal tender in place of conventional forms of paper money that could be easily printed out and circulated in the market without a real back up.

This is to conserve the value of money with the passage of time without severe depreciation or appreciation cycles, and in turn will lead to the perseverance of the time value of people's investments and rewards.

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Libya is looking forward to overhaul its currency; it started by abolishing some notes bearing the posters of the former head of regime; and a further overhaul would be undertaken afterwards. At any rate, the new state should further look to create a stable currency supported hopefully by strong oil revenues and accumulated sovereign wealth.

Civil law principles

Speculation and uncertainty are important. Libyan Civil Law would trace its roots to Sharia principles. Civil Law prohibits speculation activities, gaming, gambling, exploitative and, in general, unjust transactions. This principle would lead to the possible unlawfulness of some derivative transactions where uncertainty and speculation could be embedded, i.e., in particular as to the future delivery of the asset (short selling) or speculation over an entity's credit quality (credit default swaps); and further, it could impact on some existing finance rules, including repurchase agreements introduced in the banking industry in 2008.

There are Riba and ownership concerns. Islamic principles prohibit Riba or any surplus value over the money provided. Under Islamic rules, money does not create money by itself and a return must be derived from a productive asset. Civil law permits charging interest for late due payments and as compensation. Libyan banks are also allowed to charge interests as profits. All this should be reconciled in a possible Islamic financial legislation.

There are also ownership and risk concerns, and both parties have to participate justly in the risk and reward of a venture in application to the rule: Al ghorm bel gohn. Under the current banking laws, a bank may not participate in the risks of ownership and damage of the object financed. Conversely, an Islamic financier – not to be understood as a bank – should share in the risk of the venture, other than merely the credit risk of the other party. Structuring the transaction otherwise would render it merely cosmetic.

Take for instance a Murabaha agreement, popular in some Islamic financial institutions. This transaction is a kind of sale not a financing in its origin. An Islamic financer should at least bear the risk of damage to the goods until safe delivery to the customer, which usually may not happen in practice. The customer usually agrees to bear the risk of damage to the goods at the birth of the transaction, and the so-called Islamic bank in some samples does not appear to have borne any risk throughout the transaction.

Further examples could be cited to demonstrate how a so-called Islamic bank would maintain the ownership title to the subject goods until the settlement of the full consideration, while at the same time passing the risk of loss and damage to the customer and aim to insulate itself from any risk or liability. This appears contrary to Islamic rules and should be revisited in a possible financial legislation.

Foreign participation

Foreign banks were allowed to operate in Libya in 2005 through the subscription to the capital of an existing bank or a branch, and must make a minimum subscription of 70 million dinars. The foreign company cannot exceed 49% ownership of the total share of the bank.

Lawmaker should consider the benefits of foreign participation, including the transfer of technology, skill, innovation, experience, competition, competiveness and efficiency, against the rewards actually reaped by the country in terms of the capacity of the economy and the size of population. Enough deliberation should be made to ensure the relevant regulator's supervision, monitoring and control are not compromised.

There is a great hope for a better future. More focus should be made to curb tribal tensions and ensure political stability and security are sustained. New legislation is necessary to reconcile the banking, civil, and Shari'a law and Islamic financial institutions; and further, activities and roles of Islamic financiers need to be redefined. Legislative reform should move slowly but surely catered to the capacity of the market and its best interest.

Sameh Kamal is a lawyer at SNR Denton Egypt LLC in association with El Oteifi & Afifi Law Office and Mazen M. Tumi, Partner at Tumi Law Firm in association with SNR Denton. 

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