Transcript Business Ethics and Corporate Governance in Islamic Banks

Business Ethics
and
Corporate Governance
from an Islamic
Financial Perspective
Professor Bala Shanmugam
Director Banking & Finance
Monash University Malaysia
e-mail: [email protected]
October 2004
1
In Islam, Business is viewed as very important
“Encouraged upon you is business for in it is
nine out of ten of your sustenance”
Al-Ghazali, Ihyaculumuddin, Vol.2
2
But business has 2 objectives:
1. Profit maximization
2. Customer welfare
3
Objectives need not be mutually exclusive
: Win-win situation
: Humane approach (the middle path)
4
Nik Mustapha (IKIM)
“ Islam wants human to pursue what is natural: to eat
and drink, to have lodging and comfort, to make of the
world a garden, to enjoy sex, friendship and all the good
things in life, to develop the sciences and to learn, to
usufruct nature, to associate and to build socio-political
structure-in short, to do all these things, but to do them
righteously, without lying and cheating, without stealing
and exploiting, without injustice to self, to neighbour, to
nature, and to history.”
Business Ethics, p.4
5
“ Righteous businessmen will be the first to enter
paradise”
Al-Tarmizi and Al-Hakim from Abi Said
“ A truthful merchant will be raised on the Day of
Judgment together with the truthful and the martyrs”
op.cit
6
Deduction:
Business is encouraged
Business Ethics is a divine pre-requisite
7
All economic Activity
fall within the
parameters of:
Halal
(allowed and
praiseworthy)
Haram
(prohibited and
blameworthy)
8
HALAL – HARAM codes
regulate all production
and distribution within
the notion of adl (justice)
9
Business Virtues
Positive
iqtisad (moderation)
adl (justice)
ibsan (kindness par
excellence)
amanah (honesty)
infaq (spending to meet
social obligations)
sabr (patience)
istislah (public interest)
Negative
zulm (tyranny)
bukhl (miserliness)
hirs (greed)
iktinaz (hoarding of wealth)
israf (extravagance)
10
Concept of doing the right thing borders along
modern (western) notion of corporate governance
11
“ Best practice is not just about attaining maximum
profitability on economic efficiency but ………also about
making sure of moral standards acceptable to the general
community”
Cadbury 2002
12
3 major variations between Islamic and Western
perspectives of best practices
Western Business
a. Secular humanist
(conscience)
b. Self-interest
c. Agency
Islamic Business
Guide
Religious authority
Roots
Wider society
Governance Stewardship
13
A.
Moral notions of right and wrong are
secular based in the West (conscience)
In Islam it is strictly Quranic or Hadith
based
14
B.
Self improvement is paramount in
conventional systems but the wider
society (ummah) is just as important
for Islam
15
C.
Conventional corporate governance
seeks to align principle and agent in a
non-collision course
In Islam all wealth belongs to the Maker
and principle and agent are
temporarily entrusted (trustees) with it
16
Islamic Guideline:
The ‘best’ way to ‘take care’ of entrusted
holdings is via Shari’ah
17
Essence of Islamic Governance:
“ …….. to live true in mutual consultation
and forbearance, and rely on Allah…….”
Sura Ash. Shura
18
This Shura encourages all parties to work together
freely and frankly to arrive at decisions ie room for
asymmetric information is narrowed
19
Further ‘policing’ introduced by institution of Hisba. The
muhtasib (of the Hisba office) enforced accuracy and
honesty in business dealings. Hisba office checked on:
correct weights and measures, fair trading rules,
possible business frauds, auditing of illegal contracts,
prevented hoarding etc
20
Legal concept of
firm: decision-making
by whom?
Islamic Corporate Governance
Managed
Socially responsive
corporation
corporation
model
CEO and senior
Executive and
management
supervisory
processes
Economic concept
of firm: decisionmaking for whom?
Accounting concept
of firm: decision-making
with that resources
and to whom is
accountability due?
Maximize profits
Maximize
shareholder value
Financial
governance by
shareholders and
suppliers of
finance
Decision-making
basis
Stakeholders
Corporate
responsibility
Triple bottom
line: economic,
social and
environmental
accountability
Islamic corporate
governance
Shuratic decisionmaking process:
consultation and
consensusseeking
Institution of hisba
Role of muhtasib
Shari’a
supervision
process
Religious audit
Source: Lewis, 2004
21
Unique Characteristics of Banks:
1.
Banks are generally more opaque than other
institutions which importantly intensifies the agency
problem
2.
Banks are exposed to extreme regulations
3.
Government ownership of banks makes the
governance of banks different from other types of
organization
22
Debate in Corporate Governance:
*
Protect shareholders or stakeholders
*
Do directors / management owe fiduciary duties of
care and loyalty to shareholders or extend to
stakeholders (degree of extension)
23
*
Anglo-American approach stresses
maximization of shareholders wealth
over the interest of stakeholders
24
* Franco-Germanic approach emphasizes
equal attention for both shareholders and
stakeholders
25
“ The standard law and economics view
regarding fiduciary duties [ thus far] is that
corporations and their directors owe
fiduciary duties to shareholders and
shareholders alone” (Macy and O’Hara,
2003)
26
*
Islamic bank is a corporation as well as
partnership (mudaraba)
*
Management has two categories of
equity holders: shareholders and
mudaraba parties
27
“ How can equity be ensured between
shareholders who are investors in the bank, on
the one hand and depositors who are investors
in mudaraba funds managed by the bank, on the
other?” (Vogel and Hayes, 1998)
28
*
Management has ethical dilemma when faced with
conflict of interest between shareholder and
mudaraba “partner”
*
It must bear in mind that only the shareholder
enjoys the governance structure of appointing,
evaluating and dismissing the management
29
*
End result: The investing ‘Partner’ relies on
shareholders to safeguard their interests
*
Such reliance has its own limitations and often fails
to fully serve the interest of the ‘partner’
*
It is not uncommon for profit of ‘partners’ venture goes
to shareholders in year when management contract is
to be renewed
30
* Insufficient disclosure to partner disallows
close monitoring and aspects of
management misconduct / negligence is
seldom discovered
31
Conclusion:
* Ethics and governance well entrenched in
Islamic Business / Finance
* May not be as sophisticated to meet today’s
needs
* Presence of teething problems
* Efforts being undertaken by IFSB / AAOIFI etc,
to formulate Shariah compliant principles
32
References:
1. Business Ethics Magazine (2004), “Corporate Social
Responsibility Report”, p.4
2. Cadbury, A., (2002), “Corporate Governance and
Chairmanship, Oxford: Oxford University Press
3. Lewis, M.K., (2004), “Developing Islamic Banking and
Capital Market – New opportunities, new market and
new frontier in Islamic Banking and Finance”, 25-26
Aug, 2004, Kuala Lumpur
4. Vogel, F.E and Hayes, S.L., (1998), “Islamic Law and
Firms: Religion, Risk and Return”, Kluwer Law
International
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