Sept 12 Pakistan's central bank has amended its
regulations to exempt Islamic banks from using interest-based
benchmarks for some of their financing products, the latest
government step aimed at boosting Islamic finance.
Despite a direct ban on charging interest, interest-based
benchmarks are used as a pricing reference by a majority of
Islamic banks, due in part to the absence of stable and
In a circular, the State Bank of Pakistan said Islamic
finance institutions would have to outline their alternative
pricing mechanism for participatory financing schemes, replacing
the use of the Karachi Inter Bank Offered Rate or KIBOR.
Since 2004, the central bank has required all banks to use
KIBOR as a benchmark rate. The use of such benchmarks is viewed
as a shortcoming of Islamic banking that discourages wider
adoption, in particular among retail clients.
The government, however, wants to help develop Islamic
finance, a sector which now holds 11.4 percent of all banking
assets and 13.2 percent of all bank deposits in the
The exemption applies with immediate effect to participatory
modes of financing known as musharaka, mudaraba and wakala.
Such sharia-compliant contracts are well-known but have
traditionally been eclipsed by murabaha, a cost-plus-profit
arrangement in Islamic finance.
Under murabaha contracts, one party agrees to purchase
merchandise such as a commodity on behalf on another, which
promises to buy it at an agreed mark-up.
That mark-up has been commonly set against a financial
benchmark such as KIBOR or LIBOR for dollar-denominated deals.
This has been criticised by some religious scholars as not
being sufficiently based on real economic activity, a key
principle in Islamic finance.
The practice dates back to the beginnings of modern Islamic
finance in the early 70's, with scholars giving their blessings
to what was deemed a temporary measure until alternatives could
Under the new directive, banks must ensure compliance with
sharia standards issued by the Bahrain-based Accounting and
Auditing Organisation for Islamic Financial Institutions, and
must receive a sign-off from their internal sharia board.
(Reporting by Bernardo Vizcaino; Editing by Eric Meijer)