Shari'ah governance practices quality index in Malaysian Islamic financial institutions

Abstract

Shari’ah compliance is essential to enhance confidence among stakeholders of Islamic financial institutions. In this regard, the Bank Negara Malaysia (BNM) provides a comprehensive framework to ensure the operations of Islamic financial institutions fully comply with the Shari’ah and provide sound Shari’ah governance practices. This study, by using the Shari’ah Governance Framework 2010 (SGF 2010) issued by BNM as the main source instrument, first examines the extent of the quality of Shari’ah governance practices in Islamic financial institutions in Malaysia. Secondly, it evaluates the extent of the effectiveness of the Board of Directors (BOD) in influencing the quality of Shari’ah governance practices; thirdly, this study evaluates the extent of effectiveness of the Shari’ah Committee (SC) in influencing the quality of Shari’ah governance practices; and fourthly, it examines the influencing characteristics of the quality of Sharīʿah governance practices. The study employed a questionnaire survey by using the SGF 2010 as the main source to measure Shari’ah governance practices. The respondents consisted of Heads of Shari’ah Departments from 12 Islamic banks, 8 Takaful operators, 4 ReTakaful operators, and 6 Development Financial Institutions (DFIs) in Malaysia. From the findings, the study illustrates that overall, Islamic financial institutions in Malaysia have implemented reasonably good and sound Shari’ah governance practices. The study then further examined the various impacts of the types of Islamic financial institutions (IFIs), and found that Islamic banks have comparatively better Shari’ah governance practices compared to Takaful (including ReTakaful) and DFIs. The positive growth of the Islamic banking industry coupled with the nature of the industry are found to be the main factors in influencing good Shari’ah governance practices. The study found that the Shari’ah Committee is comparatively more responsible for driving Shari’ah governance practices than the management or the BODs. Furthermore, the study also found that out of four Shari’ah compliance functions as required by the SGF 2010, only two are implemented very well, which are the Shari’ah review and Shari’ah research function, while the two others (Shari’ah audit and Shari’ah risk management) are not. In addition to the above findings, among the main factors contributing towards sound Shari’ah governance practices are the size of the market and the firms. Finally, the study also found that only the Shari’ah Committee’s effectiveness has a positive and significant effect on Shari’ah governance practices. This indicates that the Shari’ah Committee members are effective in exercising their role in the implementation of SGF 2010. From the above findings, it can be concluded that the SGF 2010 has significantly enhanced Shari’ah compliance among Islamic financial institutions after 10 years since it was its implementation. Going forward, there are a few other areas that need to be improved, such as the role of the BODs and the management, as well as the functions of Shari’ah audit and Shari’ah risk management to ensure better Shari’ah governance practices.