Islamic financial institutions' business activities must comply with Islamic law (Sharia) and the industry has shown strong growth over the past decade, said an industry expert.

“Therefore, we think Sharia governance will be higher on the agenda of Islamic finance standard-setting bodies and regulators as the industry becomes systemic in certain core countries," said S&P Global Ratings' global head of Islamic Finance, Dr Mohamed Damak.

The Accounting and Auditing Organization for Islamic Financial Institutions, and the Islamic Financial Services Board (IFSB), have already made significant strides in this area. What's more, local regulators have been quite active in implementing frameworks to ensure the proper conduct of Islamic finance in their respective jurisdictions, and some have created a central Sharia authority.

"Yet we think the current governance framework shows room for improvement and  believe the industry stands to benefit from increased disclosure, as well as clear standardized Sharia principles and interpretation," Dr. Damak added. "In that sense, we think the IFSB's recent proposals to tighten disclosure requirements are a step in the right direction. Well-defined standards could also help the industry become more integrated, thereby unlocking new growth opportunities."

In particular, the move toward external Sharia audits, as is done in Pakistan and Oman, could help strengthen the industry's credibility and shield it from risks related to conflict of interests, said S&P Ratings.

The industry still has some way to go to address the current lack of transparency surrounding internal audits and the absence of public disclosure.

“Even though we do not comment on Sharia compliance, it is important in our rating analysis because the effects of noncompliance could reduce an institution's ability to honour its financial obligations,” said S&P Ratings. – TradeArabia News Service