Basel III: Relevance for Islamic Banks

Abstract

BCBS, in its response to the last financial crisis, has introduced deep reforms to the regulatory requirements on capital adequacy for banks (Known as Basel III). Buffers and a leverage ratio were introduced to cater those banks with sufficient high quality capital during a stress period. But the most original contribution of Basel III is the introduction of liquidity risk in the field of international harmonization and requirement; banks are required to comply with two ratios. However, BCBS did not take into account the specificities of Islamic Banks in the elaboration of the new standard. This article attempts to confront the new requirements to these specificities. Financial statements of Al-Rajhi Bank are studied under the new framework; results show that the move of Basel frameworks from debt-based to equity-based instruments is fully in line with the business model of Islamic Banks. Furthermore, excess liquidity detained by these banks is, actually, an advantage under Basel III.

Keywords: Basel III, Islamic Banking, displaced commercial risk, buffers, leverage ratio, liquidity risk

JEL Classification: G21, G28, G32