Islamic Finance: The New Regulatory Challenge, 2nd Edition

Chapter 13

Risk and the Need for Capital

John Board and Hatim El-Tahir

1. INTRODUCTION

The world economy, and financial markets in particular, are at the time of this writing still traumatised by the global financial crisis and its huge macroeconomic effects. Policymakers and regulators around the world are debating the introduction and imposition of new models of financial regulation. Consequently, a major programme of financial regulatory reform was introduced to strengthen capital and liquidity management in the global banking system. The main objective of this initiative is twofold: to uphold confidence in the global banking system and to put in place measures that would prevent or lessen spread of systemic risk to the broader financial systems.

This chapter discusses the key issues that arise in risk and the need for capital. Three key linked themes will be discussed and analysed:

1. Capital.

2. Risk.

3. Strengthening capital and risk management regulation and oversight.

The analysis is structured around these three themes in four main sections. After the introduction, an overview of capital regulation and the evolution of international capital standards is presented. This is followed by discussion on the introduction of the “risk-based regulation” concept, which encompassed the types of risks faced by banking institutions. Before concluding, the chapter touches on two inter-linked development in capital regulation: first, the globalisation of financial regulation and the ...