Researchers are seeking to apply the principles of game theory to Islamic finance, one of several efforts to shed new light on economic behaviour in an industry driven by religious principles.
Traditionally, research into Islamic finance has focused on what is religiously permissible – whether activities and instruments follow syariah law, such as bans on interest payments and pure monetary speculation.
But as the industry grows, attention is shifting to include practical matters such as how investors and fund-raising institutions make decisions, and how to design economically viable new products.
The shift comes as Islamic banks try to expand beyond a relatively small client base that focuses on syariah compliance, to a much larger one whose financial decisions are based on a wide range of factors such as pricing and service quality.
A competition launched this month by the Islamic Development Bank (IDB), in partnership with universities in Morocco and Saudi Arabia, invites entrants worldwide to submit computer models of some aspect of Islamic economics or finance.
Cash prizes are offered for the best three submissions.
Models are to employ agent-based simulation (ABS), which uses individual rules for the behaviour of each participant and shows how their interaction can have results that no participant intended.
Sami Al Suwailem, head of the financial product development centre at the Jeddah-based IDB, said he hoped the models would reveal how various agents in Islamic finance – such as customers, banks and regulators – responded to each other.
“There is a disconnect now between theory and practice in Islamic finance. Not surprisingly, there is little innovation in the industry,” he said.
“ABS is one way, among many, to help bridge this gap and to spur innovation.”
Conventional finance has used mathematical models and massive computing power for decades.
Islamic finance now seems to be reaching a size and complexity that make it worth doing the same; the industry’s global assets are estimated to exceed US$2 trillion (RM7.22 trillion) and are growing faster than conventional finance.
In 2013, the IDB set up an Islamic financial engineering laboratory at Morocco’s Mohamed V University, which launched the ABS research competition with Saudi Arabia’s Imam Mohammed Bin Saud Islamic University.
ABS could help estimate the impact of introducing new Islamic financial products to the market, said Mohammad Al Suhaibani, professor of economics at the Saudi university.
“The research in this topic is very important to improve our understanding of Muslim economic behaviour. We are confident this award will open a new chapter in Islamic finance and economics research.”
Many new research efforts are backed by partnerships between financial institutions – either multilateral institutions such as the IDB, or commercial banks – and universities.
In November, Malaysia’s CIMB Islamic Bank and the International Centre for Education in Islamic Finance (INCEIF) in Kuala Lumpur set up a research centre that focuses on product development.
Islamic financial research is evolving from a focus on theoretical concepts in the 1980s and the regulatory environment in the 1990s to operational issues such as product design and cross-border deals, INCEIF said in a statement.
“There is a real need to bridge the gap between academic knowledge and industry experience,” it said, adding this was becoming possible because more historical data had been made available in recent years, allowing more empirical studies to be conducted.
Meanwhile, the World Bank and the Bahrain-based Al Baraka Banking Group have tied up to develop a series of research projects studying the legal and regulatory environment needed for equity-based Islamic finance contracts.
The first initiative will study the risk-management challenges facing Islamic banks, with a focus on profit-sharing contracts known as musharaka and mudaraba, which are widely known conceptually but little used in practice.
Preliminary findings of that project are expected to be available in the first quarter of this year.
(The Rakyat Post / 19 February 2015)---
Alfalah Consulting - Kuala Lumpur: www.alfalahconsulting.com
Islamic Investment Malaysia: www.islamic-invest-malaysia.com