Grafting an Islamic Sapling
onto the Tree ofLegal Dispute Resolution
Alternative Approaches to Civil Disputes inIslamic Finance in the Gulf and Southeast Asia

Ai Kawamura

Asia-Japan Research Institute
Ritsumeikan University

Grafting an Islamic Sapling onto theTree of Legal Dispute Resolution:
Alternative Approaches to
Civil Disputes in Islamic Finance in
the Gulf and Southeast Asia
Ai KAWAMURA

Asia-Japan Research Institute
Ritsumeikan University
ONLINE ISBN 978-4-9911356-2-0
PRINT ISBN 978-4-9911356-3-7

Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution:
Alternative Approaches to Civil Disputes in Islamic Finance in the Gulf andSoutheast Asia, by Ai Kawamura. Published by Asia-Japan ResearchInstitute, Ritsumeikan University in 2021.

This work was supported by JSPS KAKENHI (Grants-in-Aid for
Scientific Research) Grant Number JP20K20055 and JP19H00580.

AJI Editorial Office
OIC Research Office,Ritsumeikan University Osaka Ibaraki Campus (OIC)
2-150 Iwakura-cho, Ibaraki,
Osaka 567-8570 JAPAN
Email: aji-eb@st.ritsumei.ac.jp
Copyright © 2021 Ai Kawamura

Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

Table of Contents
Author’s Profile …………………………………………………………. vi
Preface by the Author ………………………………………….…….… vii
Chapter 1. Islamic Economics Activities and Civil Disputes: Theoreticaland Empirical Issues
1. Introduction ……………………………………………………………..... 1
2. The Development of Islamic Economics and Practice of Islamic Finance . 4
3. Expansion of Islamic Finance and Increase of Civil Disputes …………... 11(1) Issues of Islamic Finance Civil Disputes ..………………………… 13(2) Triggers for Issues of Civil Disputes ……………………...….…… 14(3) Can ADR be a Solution? .................................................................. 17(4) Initiatives Against Civil Disputes ………………………………..…19
Chapter 2. Ethics of Islamic Finance between Sharī‘ah-based Morality
and Legality
1. Introduction …………………………………………………..…………. 22
2. Dichotomy within the Western Law and Islamic Law ………………..… 24
Dual Legal System for the Islamic Finance ……………………………. 25
3. Dilemma of Sharī‘ah Compliance: Moral Foundations and Legal
Technicalities …………………………………………………………… 28(1) Prohibition of Ribā ………………………………………………… 29(2) Contradiction in the Legislation and Ethical Practice …………..… 30
4. The Emergence of the Islamic Moral Economy………………………… 32(1) Institutional Grafting……………………………………………… 35(2) Grafting Model from Porte to IME ………………………………... 36(3) Emergence and Divergence in the Islamic Economic and Finance .... 39
Chapter 3. The Gulf and Southeast Asia in the World Map of Islamic
Finance
1. Introduction………………………………………………………………. 41
2. The Growth of the Islamic Finance Market……………………………… 42
3. The GCC as the Birthplace for Commercial Islamic Finance …………... 47
4. Southeast Asian Government Take Action on Islamic Finance…………. 50(1) The Formation of the Malaysian Legal System During the Colonization
Period............................................................................ 51(2) Islamic Banking Act 1983 and Guideline for Islamic Banking in
Malaysia………………………………………………….………. 53
5. Legal Environment for Islamic Finance…………………………………. 56

iii

Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

Chapter 4. Statue Law or Hybrid Law? Systemic Ambiguities for Civil
Disputes
1. Introduction …………………………………………….………………… 60
2. Legal Development for Islamic Finance…………………..………………. 61(1) Islamic Law …………………………………...……………….…... 61(2) The Penetration of Western Law …………………………………… 62(3) The Demise of Islamic Law ………………………………….…...... 64(4) The Emergence of Islamic Finance and the Transformation of the Legal
System ………..…………………………………………...……….. 65
1) The Character of Islamic Finance …….……………..……...…… 652) The Development of the Islamic Finance Legal Framework in the
Gulf Countries …………………………………………..……... 66
3. Harmonization or Standardization? .............................................................. 71(1) Standardization in Islamic Finance: AAOIFI or IFSB? .................... 72(2) Harmonization in Malaysia ………………………………………… 75
4. Statue Law or Hybrid Law? .......................................................................... 76
Chapter 5. Dubai Approach: A Drastic Resolution to Civil Disputes in an
Economic Crisis
1. Introduction …………………………………………….…...……….….... 80
2. Legal Framework for Islamic Finance in the UAE ………………...…...… 80
3. The Dubai Shock ……………………………………………………..…… 83
4. Dubai Approach ……………………………………………………..……. 89
Chapter 6. Malaysian Model
1. Introduction ……………………………………………………..……..…. 94
2. The Reformation of Islamic Financial Jurisdiction in Malaysia …….……. 94
3. The Malaysian Model …….………………………………..…....……..…. 97
4. ADR for Islamic Finance: Practice and Legal Framework in Malaysia …... 99
Conclusion ……………………………………………….....……………... 104
Bibliography …………………..……………………………...…..……….. 107

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Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

List of Figures and Tables
Figure 1. Total Selected Aggregated Structural Islamic Financial Indicators ……...... 13
Figure 2. Grafting Model on the Elements of Social Life by Alejandro Portes .......… 36
Figure 3. Grafting Theory, Concept, and Institution in Islamic Finance …………… 37
Figure 4. Iqtisad Grafting Model by Mehmet Asutay ………………………………… 39
Figure 5. Global Assets of Islamic Finance ………………..……………………..… 43
Figure 6. Regional Assets ($bn) in 2014 ………………...…..………...……………… 44
Figure 7. Breakdown of the Islamic Financial Sector by Region (share %) in 2018 .... 45
Figure 8. Breakdown of Islamic finance assets by Countries ………………………. 46
Figure 9. Sovereign Sukuk issued in 2018 ………………….………………………… 51
Figure 10. House Price Index …………………………………………………………. 87
Figure 11. Dubai Approach and Relationship with Existing Dispute Resolution
Processes …………………………………...…………………………..... 93
Figure 12. SAC and its Relation to Existing Dispute Resolution Processes …...…... 101

Table 1. Sharī‘ah Non-compliance Risks in Islamic Finance ………….……………… 16
Table 2. Local Islamic Banks in Malaysia …………………………………………….. 55
Table 3. Legal Framework for Islamic Finance ……………………...…….………….. 57
Table 4. Legal Framework for Islamic Finance in Five Countries at the Gulf …….…….. 70
Table 5. Sharī‘ah non-compliance risks in Islamic finance …………………………… 79
Table 6. Chronology of the Special Judicial Committee ……………………………… 89
Table 7. Phase One of the Dubai Approach ……………….……………..………….… 90
Table 8. Phase Two of the Dubai Approach ……………………………..……………. 91
Table 9. Characteristics of the Dubai Approach ……………………..………………... 92
Table 10. Development of SAC involvement in Islamic finance court cases …….…... 98v

Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

Author’s Profile
Ai Kawamura graduated from the College of Law at Ritsumeikan
University in 2005, specializing in International Comparative Law. She
obtained a Ph.D. in Area Studies at the Graduate School of Asian and
African Area Studies (ASAFAS), Kyoto University, Japan, in 2014. She
served as a Special Researcher (DC1) at the Japan Society for the
Promotion of Science from 2011 to 2014, and as a Special Researcher(PD) from 2015 to 2018. She also served as an Associated Research
Fellow at ASAFAS from 2014 to 2015, and 2018 to 2019. She iscurrently an Assistant Professor at the Faculty of Business Sciences,
Tsukuba University, Japan, since 2018. Her specialty is: Area Studies,
Islamic Law and Society, Islamic Economics, and Civil Dispute
Resolution. Among her publications: “Dubai Approach as a New
Resolution System for Islamic Finance Dispute Case,” Asian and African
Area Studies, 13(1), 2013, pp.1-23; “Comparison of Malaysia-Dubai
Approach for the Islamic Dispute Resolution System in Islamic Finance”,
Jurnal Hadhari, 2017 Special Issue, pp.57-66; and “New Dispute
Resolution Approach and Models for Islamic Finance,” Arab Law
Quarterly, 34(2), pp.141-166.

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Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

Preface by the Author
In the recent decades, Islamic economics, Islamic banking, andother related terms have become rooted in academic literature on theIslamic world and global economy. When I started my research on
dispute resolution in Islamic economic transactions a decade ago, despite
the steady growth of the Islamic financial industry and the academic
disciplines corresponding to that industry, civil disputes and theirresolutions were not a common theme, and the literature was scarce. I
was confident, however, that any successful economic field would face,sooner or later, civil disputes among those who were engaged in such afield. Subsequently, I started to observe separate cases to study.
However, I soon realized that, before going into individual casestudies, the very question of the system of dispute resolution was waitingfor our decoding. As I started to research on Islam, its legal system,
modern civil disputes, Islamic economics, and Islamic ethics as well as
the Gulf Arab countries and Muslim countries in Southeast Asia, I foundmyself caught in a deep complex forest, finding something new at every
step.
The Islamic world has had its own legal system, under the name of
Shari’ah, since its inception in the 7th century C.E. The success of the
global expansion of the Islamic trade network from its center in the
Middle East, connecting China in the east and Europe in the west, fromthe 8th to 14th centuries, must have been facilitated by legal systems thatwere convenient and useful for world trade and the conflict resolutionsof those days.
However, after the advent of modernity brought through the
expansion of Western powers, Islamic countries came under theirinfluence and, where accompanying Western legal systems graduallypenetrated, adopted the Western economic system. Usually, modern
reform of legal systems in Muslim countries is considered as a processof the modernization of law. Subsequently, after undergoing a longprocess of westernization/modernization and/or de-Islamization for avii

Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

century or so, in the middle of the 20th century, a reversal started toemerge. The so-called Islamic revival brought calls for the reinstitutionof Shari’ah. In the most dramatic cases, such as the Islamic Revolutionof Iran in 1979, a return to Shari’ah was strongly demanded. In more
subtle cases, such as the advent of Islamic finance, the theme of this book,
Shari’ah issues were coming back only gradually and in pieces.
Once engaged in research on dispute resolution in Islamic
economics, I found a complex economic and legal state of affairs, where
we ought to take a quite new approach. I have coined a few concepts,
such as duality of law, legal hybridity, Dubai approach, Malaysia modeland uneven Islamization, to describe and analyze the structuralcomplexity of dispute resolution in Islamic economics.
I am extremely happy to sum up my research findings in this book.
I am very grateful to Asia-Japan Research Institute of Ritsumeikan
University to offer me this opportunity.
I owe a lot to many people who helped me during my research.
Though there are many individuals who contributed their valuablesuggestions for particular sections of this book, I here suggest somespecial acknowledgments. Firstly, I am most grateful to Professor
Yasushi Kosugi of the Asia-Japan Research Institute of Ritsumeikan
University for encouraging me, supporting me, and giving me
constructive advice on publishing this book. I should also like to express
my appreciation to Professor Anthony Brewer of the Institute, for making
this book possible to publish and for suggesting modifications. I am also
very grateful to Professor Mehmet Asutay of Durham University forgiving me opportunities to brush up the theories and guiding me tounderstand the ideal of Islamic social justice. I am also very grateful toProfessor Shinsuke Nagaoka of the Graduate School of Asian and
African Area Studies in Kyoto University (ASAFAS). In addition, I want
to express my appreciation for the cooperation and assistance I received
from the members and staff of the Faculty of Business in Tsukuba
University, and to Leiden University Library, and the Research Center

viii

Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

for Islamic Economics and Finance in the National University of
Malaysia.
The Japan Society of Promotion of Science was extremely generous
in giving me financial support and lending their prestige to my research.
Its grants include Grant-in-Aid for Early-Career Scientists [JSPS
KAKENHI Grant Number JP20K20055], Grant-in-Aid for Scientific
Research [JSPS KAKENHI Grant Number 11J02988] and Grant-in-Aid
for Scientific Research [JSPS KAKENHI Grant Number 15J09218].
I also want to express my appreciation to my husband Keiji and myson Haruki both of whom helped me to keep focused and patiently
assisted me in completing this book.

Ai KAWAMURA

ix

Chapter 1.

Islamic Economics Activities and Civil
Disputes: Theoretical and Empirical Issues
1. Introduction
In the beginning, since Islamic economics was a new category ofknowledges for a new sector of economic activities, it had to establish
itself with its ideals and theories, and then its application. Simply stated,
the new economic sector of Islamic finance had to be established fromscratch in the middle of the 20th century. Any economic sector will
inevitably bring civil disputes if the volume of commerce increases, andthe same applies to Islamic finance, where the volume of the industry has
developed in five decades to a sizable quantity in the world economy.
This is why this chapter has to start with the historical backgroundleading to the advent of Islamic economics itself before dealing with theissues of civil disputes in Islamic Finance.
The emergence of Islamic economics theory is a recent phenomenon,
and consequently it has had a relatively short history compared toconventional economics. 1 However, it has grown rapidly into aninternational academic field studied by various researchers around theworld.
In actual economic activities, Islamic economic theory has beenpracticed in many parts of the world using newly crafted Islamic
financial products. At the international level, the Islamic Development
Bank (IsDB) has currently been taking the initiative on economic
development and empowering the poor, not only in its fifty-seven
1 Since the rise of “Islamic economics”, it has become common in its literature todescribe economics in general as “conventional”, as opposed to what is “Islamic” by
the definition of this emerging field of knowledge.

1Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

member states but also in non-member countries throughout the world.
IsDB projects have not only prioritized its field of finance but also
encouraged innovation in science and technology, developing
infrastructures and supporting research on Islamic finance.
In addition, the International Monetary Fund (IMF) and the WorldBank have been working on utilizing Islamic financial products in theirprojects. As the international society has shown an interest in
Environmental, Social and Governance (ESG), and Socially Responsible
Investing (SRI) has been receiving greater attention, some ESG or SRI
products such as the Green bond have inspired the Islamic financial
market to adopt similar schemes. The Islamic financial industry has
integrated such products into Green Sukuk2 and is also adapting some
ESG or SRI scores into the financial market.
Some Islamic financial products or schemes such as Sukuk havebecome well known in the financial industry in the last two decades or
so. Other Islamic traditional social schemes, such as Zakat and Waqf,
have also been revived in the form of new financial products for Islamic
finance.
While the diversification of Islamic financial products progresses,
such diversification has caused legal conflicts. These conflicts occur
because Islamic finance products face issues regarding ‘Sharī‘ahcompliance’. ‘Sharī‘ah compliant’, in Islamic financial terms, primarilymeans that the financial transaction or the product itself does not conflictwith the rules of Sharī‘ah. This sounds simple, but in reality, there arevarious issues to be tackled.
Firstly, to function effectively, Islamic finance must be compliant
with the existing financial system which sometimes conflicts with the
Sharī‘ah, such as when a financial transaction involves charging interest,Ribā, which the Sharī‘ah regards as prohibited. Islamic financetransactions were developed to avoid such conflicts. In some cases, anIslamic financial transaction would be seen as a commercial transaction
2

Sukuk is often translated as ‘Islamic bonds’. Please refer to page 42 for details.

2Chapter 1. Islamic Economic Activities and Civil Disputes: Theoretical andEmpirical Issues

rather than a financial transaction, which could cause it to be illegal underconventional law, as the arrangements would be different from a
conventional financial transaction.3
Secondly, Islamic finance has developed diversified financial
products with complex schemes. In this regard, there are somediscussions on whether these new Islamic financial products are Sharī‘ahcompliant or not. For example, there is an ongoing discussion on
Tawarruq and Īna’h products which have been categorized as Sharī‘ahcompliant in some countries but not in others. In some court cases, thelegitimacy of an Islamic financial product has been challenged.
However, most existing dispute resolution systems are not equipped
to deal with Islamic financial dispute resolution. This is because up until
now, the Sharī‘ah court has only been dealing with family law or somelegal issues related to Muslim property law and inheritance law.
Financial transactions on the other hand, are under the jurisdiction of the“conventional” courts, who deal with the cases based on the conventional
western law. Most Muslim countries’ legislation was adopted fromwestern countries’ civil law and common law systems before modern
Islamic finance was crafted. As a result, Islamic finance has facedcomplex legal issues, especially when disputes have occurred. There areeven more issues related to Sharī‘ah compliance contradicting
conventional finance, and Islamic finance is facing a struggle to be
Sharī‘ah compliant in a non- Sharī‘ah environment.
On the other hand, Islamic finance is sometimes shown to have somesimilarities with conventional finance in its schemes and practices, andthis has raised some debates on the identity of Islamic finance.
Recognizing the gap between the practice and theory has led to theemergence of the Islamic Moral Economy. This will be discussed in the
fourth section of this chapter.
3

The term “Conventional finance” mentioned in this book refers to the general westernlaw based finance system in use in the majority of countries. Usually this term is used
to differentiate it from Islamic finance.

3Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

More disputes have emerged in the Islamic financial industry
because financial activities increase as the market expands, while thediversification of financial products has also created complex contracts
that have caused legal conflicts. Modern economies are complex, so bothconventional and Islamic finance have forms of contract with varying
complexities. However, Islamic finance has an additional feature toconsider, namely, the aspect of Sharī‘ah compliance. Thus, even Muslim
countries, where the majority of the population is Muslim, have been
facing legal issues with Islamic finance.
At the same time, Islamic finance has become a global phenomenon.
The expansion of Islamic banking and finance has reached out to nonIslamic states such as the western countries and some Asian countries
where Muslims are a minority. Therefore, the author considers it
important to clarify such issues in order to discover solutions formaintaining sustainable Islamic financial markets.

2. The Development of Islamic Economics andPractice of Islamic Finance
The Islamic world experienced its golden age from the 7th century
up to the end of the 17th century. Its history started in the Arabian
Peninsula, a place where there were no records of major civilizations, atthe time when the Sassanid dynasty and Byzantine Empire were clashingwith each other. Islam literally emerged “suddenly from a blank space”[Kosugi 1994:14]. While polytheism, Zoroastrianism, Judaism andChristianity had been scattered around the Arabian Peninsula, Islam had
not only conquered the “blank space” including large territories of theadjacent empires but was also destined to become one of the largest
religions in the world.
Once there was a misconception that Islam had sprung from thedesert where only nomadic Bedouins resided. It is well known by thistime that Islam was born in the flourishing merchant city of Makkah
4

Chapter 1. Islamic Economic Activities and Civil Disputes: Theoretical andEmpirical Issues(Mecca). It is quite important to recognize that Islam encourages
commerce and economic activities, as is clearly shown in several versesof the Qur’an, the sacred book of Islam, which Prophet Muhammad hadbrought as the Divine Word when he established the Islamic community
in Makkah and Madinah. In fact, after his death, the Islamic world
expanded its territories from North Africa to Central Asia, establishing amerchant empire. The importance of this specific area will be discussed
in the next chapter.
The science and technology of this period had nurtured new
civilizations, and many scientific innovations developed in the Islamic
world. Western Europe, or the West in a general sense, learnt a great deal
from the Islamic civilization, and developed a modern civilization of
their own in the later centuries. Unfortunately, the Western ascendency
in the modern era brought about the downfall of the Islamic world, withthe end of the Othman Empire in the early part of the 20th century
marking the final period of its glorious days.
Most of the Islamic world was divided into colonies or protectorates
governed by the British Empire or other European powers. Colonialism,or domination by the western powers fermented righteous indignation for
the Islamic way of life among the Muslims. Beginning from the end of
19th century, the more westernization or modernization based on thewestern model was imposed, the more the Muslims increased theirstruggle to maintain their Islamic values and way of life.
In addition, poverty and other economic issues started to occur in the
Muslim countries. Critics in the Muslim world started to discuss an
Islamic way of economic development and tried to establish a platform
for discussing an alternative economic system with more affinity to Islam.
After a long period of various endeavors, this resulted in the “Islamic
revival” in the 1970’s, with its two major epoch-making events, namely,
the establishment of the first commercial Islamic bank in 1975, and theIslamic Revolution of 1979.
Though the first of these two was not recognized as epoch-making
in those days, it proved to be a watershed in the history of Islamic5Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

economics. In this sense, this author subscribes to the theory that the“Islamic revival” was a larger framework that delivered new economic
theories, which soon developed as Islamic economics.
Islamic economics started to gain popularity during the early stagesof the Islamic revival in the 20th century. Its academic history started
from 1940 in South Asia under the British Empire. The first figure to
introduce the concept of Islamic economics was Saiyid Abū al-Aʻlā
Maudūdī, the Islamic thinker and historical figure who founded theIslamic religio-political organization, Jamaat-e-Islami. In his famous
speech of 1941, Maudūdī criticized that the economic situation of the
Muslim world had diverged from the philosophy of Islam and urged theneed to establish an alternative economic system to free itself from
Western domination.
His ideas were published in the Urudu language in 1945 andtranslated into English in 1947 as “The Economic Problem of Man and
Its Islamic Solution”. In his publication, the origin of Mudharaba(Muḍāraba) was mentioned. Therefore, Maudūdī is seen as the pioneerof Islamic economics [Nagaoka 2016: 54].4
After Maudūdī had sown the seeds of Islamic economics, a newacademic field started to grow gradually. The strenuous efforts by thefounding fathers of Islamic Economics accelerated after an economic
developmental approach was adopted in the post-colonial countries in
the Islamic world in the 1960s and 1970s.
These founding fathers had developed their economic theories fromthe 1960’s. Muhammad ‘Abdul Mannan, Muhammad Nejatullah Siddiqi,
Muhammad Umer Chapra and Syed Nawab Naqvi are known to beamong the founding fathers of Islamic Economics [Wilson 2004: 197].
They had their formal economic education in conventional economics
while also being well versed in Islamic law. They criticized the4

There is an opinion that Muhammad Zaki Salih was the pioneer who brought up the
topic of Islam and economics [Islahi 2005:4; 2008:1]. However, when we speak about“Islamic economics” from the aspect of Islamic revival, Maudūdī is generally regarded
as the founder of the Islamic economics.

6

Chapter 1. Islamic Economic Activities and Civil Disputes: Theoretical andEmpirical Issues

instruments of conventional economics for creating injustice in theIslamic society.
Another interesting aspect of the founding fathers of Islamic
economics concerns the languages that they used for their publications.
Previously, Urdu, the national language of the newly born Pakistan, andan Islamic language in South Asia 5 , was the main language used for
publications on Islamic economics by writers such as Maudūdī. However,these founding fathers mainly published their theories in English. After
their works were published in English, they were translated into Arabic,
Urdu or Turkish. For Islam, Arabic is the formal language; however,English is generally used as a common language. 6 Therefore, using
English was beneficial for expanding Islamic economic thought globally.
As Islamic economics theories expanded and spread among theMuslim countries, it was only a matter of time before they were put into
practice. The rise in oil prices was the trigger for developing the financial
markets in the Gulf countries. At the same time, the Gulf countries wereseeking a way to diversify their industries. Banking and finance wereseen as good options.
The practice of Islamic finance was in fact made possible due to thelarge amount of oil income in the Gulf countries. In the 1960s, thediscussion with the Seven Sisters7 had led to an increase in the oil pricein the Middle East. OPEC had started to unite on developing the oil
industry after the third Arab-Israeli War in 1968. After their
independence in 1971, the Gulf countries were gaining benefits from theincrease in oil prices. They were also working to diversifying theirindustries, and the financial sector was seen as a promising alternative.
5

Languages with a long cultural association with Islamic cultures may be called Islamic
languages, such as Arabic, Persian, Turkish, Urdu, and Malay, among others.
6
The OIC, the Organization of Islamic Conference at its inception, and the Organizationof Islamic Cooperation currently, uses Arabic and English as its main media ofcommunication.
7
Common term for the seven transnational oil companies of the "Consortium for
Iran" oligopoly or cartel, which dominated the global petroleum industry from themid-1940s to the mid-1970s.

7Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

As the impetus for the introduction of Islamic finance, it is important
to consider the “Islamic Revival” during the 1970s. The experience of
the “western impact” in the Middle East and the Gulf countries during
the 19th and 20th centuries had triggered the Islamic world to seek torestore an Islamic way of life. This movement for an Islamic way of life
started to be visualized in social life, where the phenomena of
establishing Islamic banks was one of its manifestations [Kosugi 2006:
730-731]. In addition, when Bahrain, Qatar and the United ArabEmirates became independent in 1971, these countries’ political systems
were “monarchies that had a high affinity with Islam” [Kosugi 2006:
291-292]. Soon after the establishment of the first Islamic bank, several
other Islamic banks were founded.8
Thus, in developing finance as an alternative to the oil industry in
the Gulf, there was a need to reach out to the general Muslim population,and so the commercial sector aimed to practice Islamic economics. Thus,
Islamic finance was able to start developing its industry from the Gulf
region.
There were some historical events related to the emergence ofIslamic finance in the 1960s and 1970s. Resolution No.15/4, the “needto set up a Muslim economy” was raised during discussions at the FourthIslamic Conference of Foreign Ministers meeting in Benghazi, fromMarch 24-26, 1973. The Conference of Finance Ministers of Muslim
countries was held in Jeddah in December of the same year. During thisconference, the “Declaration of Intent” to establish the Islamic
Development Bank (IDB) was issued, and the bank was subsequently
established in 1975.
At the same time, the first commercial Islamic bank, the Dubai
Islamic Bank, was established in Dubai as the first bank to legallypractice Islamic financial services, partly due to the fact that the rulers in
8

The Kuwait Finance House was incorporated in 1977. The Faysal Islamic Banks of
Sudan were established in 1977, and Jordan Islamic Bank was established in 1978.
Then, in 1979, Bahrain Islamic Bank began its operation as the first fully commercial
Islamic bank in Bahrain.

8

Chapter 1. Islamic Economic Activities and Civil Disputes: Theoretical andEmpirical Issues

the Gulf countries were comparatively supportive of Islamic banking[Wilson 2009:6].
Prior to these two Islamic financial institutions, there were some
Islamic social welfare institutions in Egypt and Malaysia. In order tosupport the poor in Mīt Ghamr, in the Nile Delta of Lower Egypt, theBank Mīt Ghamr li-l-Tawfīr, a savings bank utilizing the zakat fund wasestablished in Egypt in 1963. The intention was to establish it as a bank;however, the Egyptian government during that time was cracking downon the Islamic movement. Therefore, Mīt Ghamr faced a lock-down but
was reopened as Nasir Social Bank in the 1970s. Although, the Mīt
Ghamr experiment in Egypt had faced setbacks, the establishment of the
Bank Fayṣal al-Islāmī al-Miṣrī (Faisal Islamic Bank of Egypt) was
achieved in 1979. It was first licensed as an “economic and social
institution taking the form of an Egyptian Joint-Stock Company
operating in compliance with Islamic Sharia principles”.9 The founder of
the Faisal Islamic Bank was Mohammed Al-Faisal Al-Saud, a son ofKing Faisal, who was the driving figure of modernization in the Saudi
Arabian Kingdom.
Malaysia had also developed a savings bank for Hajj in the 1960s.
Tabung Haji was established in 1962 to help Muslims to save travelingexpenses for Haj without conflicting with the Islamic economic tenets.
Malaysia’s first commercial Islamic bank was established in the 1980s.
During the 1980s, Islamic banking and finance progressed to form
multinational groups sponsored by wealthy Saudis. The first was Dar alMāl al-Islami (DMI) Trust Group which was established in 1981. The
founding of the DMI international network was also initiated byMohammed Al-Faisal Al-Saud, the founder of the Faisal Islamic Bank.
The DMI Trust established its headquarters for investment banking
in the Bahamas. The DMI Group expanded its business into banking, realestate investments, mortgage finance, asset management and9

HP of the Faisal Islamic Bank of Egypt “Incorporation & History” Retrieved on
May 11, 2020, from < https://www.faisalbank.com.eg/FIB/english/about- us/incorporation-history.html>.

9

Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

management services incorporated in Bahrain, Pakistan, Switzerland,
and the Cayman Islands [DMI 2018:100].
Another was the Majmū‘a al-Baraka al-Muṣrifī, known as Albaraka
Banking Group (ABG). This group was developed from the Dallah
Albaraka Group that was established in 1969 from several single
organizations to form a conglomerate.
The Albaraka Investment and Development Company started its
sales including Islamic financial transactions in 1982 as the financial
sector of the Dallah Albaraka. The Islamic financial sector was separated
from the company and became the Al Baraka Banking Group in 1984.
From the 1990s, western financial institutions started to compete inIslamic financial services. Some western conventional banks started toprovide a so-called Islamic window (or Sharī‘ah window) where they
offered Islamic financial services. An Islamic window is a bureau orbanking sector of a conventional bank separated from its conventional
financial services that provides Islamic financial services.
Accordingly, western banking groups started to open their own
Islamic windows, which also brought up the issue of the conventional
non-Islamic banks for dealing Islamic assets. The Citi Corp Banking
Corporation, which was incorporated in 1977, started its involvement inIslamic banking by opening its Islamic windows. The Faysal Islamic
Banks of Sudan were established in 1977, and Jordan Islamic Bank was
established in 1978. Then, in 1979, Bahrain Islamic Bank began its
operations as the first fully commercial Islamic bank in Bahrain in 1996.
The Citi Islamic Investment Bank E.C. was a 100% subsidiary of the Citi
Corp Banking Corporation. Then the HSBS Amanah, which is theIslamic window of the HSBC Group, was established in 1998.
In addition, in the 1990s, governments started to be proactive indeveloping the Islamic financial market. For instance, WAWASAN
2020 (Vision 2020) by the Malaysian government included its initiativein 1991 to develop Islamic finance.
In the 2000s, Islamic financial services started to expand theirbusinesses into the western countries. The UK and France began

10Chapter 1. Islamic Economic Activities and Civil Disputes: Theoretical andEmpirical Issues

improving their legal environments to nurture the Islamic banking sector.
A fully-fledged Islamic bank was established in the UK as the Islamic
Bank of Britain in 2004, and in 2006, Gordon Brown, the Chancellor of
the Exchequer at that time, announced that the UK would become “agateway for Islamic trade and finance”.10 The Islamic finance market had
become not only a medium for financial transactions for Muslim
countries but also an international financial market.

3. Expansion of Islamic Finance and Increase ofCivil Disputes
When the Financial Crisis occurred in 2008, triggered by the subprime loan issues in the United States, it expanded globally, andeventually affected the Islamic financial industry. Islamic finance had
first been seen as an alternative solution that could avoid the effects ofthe 2008 financial crisis [SESRIC Monthly Report 2009]. However,while the current situation of Islamic finance seemed to be stable, when
the financial crisis occurred, due its global scale it was clear that theIslamic financial industry had been affected negatively from 2008 till
2009, and the Gulf region in particular was strongly affected.11 From theempirical studies, it is also known that in the Gulf region, the Islamicbanking sector has more risk and faces a higher failure hazard than theconventional banking sector [Alandejan 2013].
Islamic finance has been expanding its market dramatically since the2000s as we saw in the previous section. It is said that the global Islamic
finance assets increased to $1.46 trillion by the end of 2012 and reached

10

11

BBC News (June 13, 2006). “UK’s Brown Backs Islamic Finance”. Retrieved on
May 11, 2020,
from <http://news.bbc.co.uk/2/hi/business/5074068.stm >.
The Gulf region, for the scope of this study, includes six countries: Bahrain,
Kuwait, Oman, Qatar, Saudi Arabia, and the UAE.

11

Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution$2 trillion by 2014 [TheCityUK 2013].12 It was estimated that the global
assets of Islamic finance would reach $1.8 trillion in 2013 [Ernst &Young 2012]. Although the global economy had faced some challenges,
by the year 2018, the Islamic financial market’s global assets had
exceeded $2.5 trillion [Salaam Gateway 2019: 2]. Therefore, the Islamic
financial market had expanded more than it was expected to.
Nowadays, Islamic finance has spread globally and is practiced not
only in Muslim majority countries but also in minority areas like Europe,
the UK, and others. The UK had been recognized as the western center
for Islamic finance and was reported to have $6 billion in Sharī‘ah assets
in 2017.13 Although the Islamic financial market was affected negatively
by the financial crisis and the Dubai Shock, the market has kept on
growing, as shown in Figure 1.
2000
1500
1000
500
0
2013Q4 2014Q4 2015Q42016Q22017Q4 2018Q12018Q22018Q3 2018Q4
Total Assets ($Billion)

12

13

Shariah compliant financing ($Billion)

In most cases, global assets of Islamic finance are those that are used in Islamic
financial transactions. Therefore, Islamic financial institutions generally consider that
all of their assets are based on Sharī‘ah. When conventional banks or other financial
institutions deal in Islamic finance, they will open an Islamic window to separate its
transactions from conventional transactions. However, this does not mean that they
totally separate their Islamic and the conventional assets. Therefore, it is difficult tototally differentiate the assets which are only used for Islamic finance.
theCityUK. 2019. “Global Trends in Islamic Finance and the UK Market 2019”.
Retrieved on May 11, 2020, from < https://www.thecityuk.com/research/globaltrends-in-islamic-finance-and-the-uk-market-2019/>.

12

Chapter 1. Islamic Economic Activities and Civil Disputes: Theoretical andEmpirical Issues
Figure 1. Total Selected Aggregated Structural Islamic Financial Indicators
Source: Created by the author based on “Prudential and Structural Islamic FinanceIndicators (PSIFIs) 2019” Retrieved on May 11, 2020, from< https://www.ifsb.org/psifi_05.php >The Islamic financial market was also affected by the negative effectof Brexit and the decrease in crude oil prices on global finance in 2018.
Despite the difficult global economic situation, the three main Islamic
financial sectors, which are banking, capital markets and Takaful(Islamic insurance), were estimated at $2.19 trillion in 2018 [IFSB 2019:9].

(1) Issues of Islamic Finance Civil Disputes
Islamic finance has been expanding its market across the globe. Moreactors, including non-Muslims, are getting involved in Islamic financialtransactions. Islamic financial products are developing, and the contracts
are becoming complicated as some financial transactions may sometimes
be combined. For instance, the Sukuk structure has developed hybrid
types that underwrite more than two contracts such as Ijara, Salam,
Murabaha, Musharaka, Mudharaba and other types of Islamic financial
products.
More individuals and institutions are accessing the Islamic financial
market through business and various transactions. Internationalorganizations such as IMF and the World Bank have been adopting
Islamic finance in their financial transactions as well. As the market
grows, the number of disputes, such as, breach of contract, default, andother financial difficulties have increased as an inevitable consequence.
Islamic finance emerged after the legal system for conventional
finance had already been established. This meant that from its inception,
the Islamic financial market had to compete with the existing
conventional financial market and reconstruct its legal system to meetboth the Sharī‘ah principles and the conventional legal system of thecountry at the same time. Therefore, Islamic finance has faced a dilemma
13Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

on compliancy with both Islamic ethical principles and the conventional
legal system.

(2) Triggers for Issues of Civil Disputes
There have been several lawsuits related to Islamic finance. Some
dispute cases of cross-border Islamic financial transactions were dealt
with in the conventional dispute resolution system, and in the earlier
stages, some representative cases were judged in the UK courts, whichbrought up issues on litigation to deal with Islamic finance dispute cases.
The first case that brought issues related to the Sharī‘ah to the court
was the Islamic Investment Company of the Gulf (Bahamas) Ltd v.
Symphony Gems N.V. and others [2002] All ER (D) 171 (Feb).14 In thiscase, the legitimacy of the Murābaḥa contract was not discussed. The
court observed the case according to the English law and did not refer tothe issue being raised by the expert on the validity of this Murābaḥacontract.
The issues arising from dealing with Islamic finance in the English
court did not receive negative views until the Shamil Bank of Bahrain
EC v. Beximco Pharmaceuticals Ltd. [2004] EWCA Civ 19, [2004] 2
Lloyd’s Rep 1, had been judged. In this case, it was clearly mentionedthat the Sharī‘ah is not a legitimate law to be applied in the court. In thiscase, it was mentioned that the applicable governing law for disputes
must be the national law. National law is defined in “the 1980 Rome
Convention on the Law Applicable to Contractual Obligations (RomeConvention)”.15 As the Sharī‘ah was not categorized as a governing law,
this caused issues for dealing with Islamic financial cases in theconventional court.
As Colon notes:
14

15This “Symphony Gems” case has brought up the issue on dealing Murābaḥafinancing in the western legal system. For further information see [Moghul andAhmed 2003].
The Rome Convention prescribed that the “contractual obligations” will need to be
decided according to “the law of the country” [80/934/ECC].

14

Chapter 1. Islamic Economic Activities and Civil Disputes: Theoretical andEmpirical Issues

The argument that Sharī ‘ ah is a comprehensive social code of
conduct that applies outside of a state’s legal framework should not
create so much confusion that application of Sharī‘ah becomes
untenable…. Obviously, the judge need not consider principles
related to personal behavior inasmuch as these did not affect the free
will of parties in forming the agreement. In this respect, a judge canserve as a gatekeeper. In doing so, the judge should apply the chosen
law of the parties, and when an issue is raised concerning a Sharī‘ahmatter, the judge should allow both sides to present their experts or
to agree to send the issue to an expert chosen by the parties” [Colon
2010: 426].
In addition, having more than two laws applied to a contract is not
permissible. It is also not allowed to apply dual laws in one contract
according to the Rome Convention Article 3 (1). However, as“Combined-Law Contracts” are needed for Islamic finance, the Rome
Convention will not be a solution for dealing with Islamic financedisputes [Colon 2010: 415-417; Mohamad and Trakic 2012: 18-20].
In the dual legal system, an Islamic finance contract will be a
combination of Sharī‘ah and other laws. Therefore, this combined-law
contract is the appropriate form that is needed in an Islamic financecontract.
As these two cases have raised some criticism of using conventional
litigation to deal with Islamic finance dispute cases, there has been
growing criticism on utilizing the court for such incidents. As Islamic
finance is a combination of finance and Sharī‘ah, the litigation faces
greater risks when dealing with Islamic financial dispute cases.
Adawiah pointed out there are Sharī‘ah non-compliant risks in theIslamic finance industry in two categories, Sharī‘ah advisory (Sharī‘ahboard) risk and Islamic financial Institution risk, as shown in Table 1.

15

Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

Table 1. Sharī‘ah Non-compliance Risks in Islamic Finance

Sharī‘ah Noncompliant Risk
Sharī‘ah Advisory(Sharī‘ah board) Risk

Islamic Financial
Institution Risk

Components of the Risk
Incompatible practices occurring in IFI
operation which the Sharī‘ah advisors(Sharī‘ah board) are unaware of.
Inappropriate decisions by the Sharī‘ahadvisory (Sharī‘ah board) based oninadequate/biased information from thebankers
Variations of financial products lead to the
Sharī‘ah advisory (Sharī‘ah board) not
being able to cope with the development
IFI misunderstanding of Sharī‘ahcompliance
Ignorance by the IFI and mistakes

Source: [Adawiah 2015.15]

Sharī‘ah non-compliant risk could be caused not only by the IFI, but also
by a decision of a bank’s Sharī‘ah board. It could also be said that
because the Malaysian courts are not fully aware of the Sharī‘ah, there
are higher risks when the courts handle Islamic finance dispute cases.
Regarding these Sharī‘ah non-compliance issues, Adawiah mentionedthat employing the common law courts in Malaysia to adjudicate Islamiccases could lead to “anomalous decisions and non-consideration ofIslamic legal rules and principles” [Adawiah 2015:16].
Malaysian litigation has been criticized for not referring to the SAC(Sharī‘ah Advisory Council), not only from the Sharī‘ah risks but also
from the previous problems.16 This point will be discussed in Chapter 5.
16

SAC is the Sharī‘ah board for the Central Bank of Malaysia (BNM). There were
litigation issues related to Islamic finance in Malaysia from 2008 to 2009 (For details,

16Chapter 1. Islamic Economic Activities and Civil Disputes: Theoretical andEmpirical Issues

There has been criticism of several conventional court judgments
being given to such Islamic financial cases. The arguments could be
divided into two types: one is the negligence or infringement of Sharī‘ah
principles, and the second is the difficulty of recognizing or applying
Sharī‘ah principles under the conventional legal system. These werecaused by the conflict between conventional jurisdiction and Sharī‘ahjurisdiction.
As various countries had a civil law system or common law system
as their legal foundation, and Islamic finance came after the developmentof conventional finance, dual legal systems had to be established forIslamic finance in the major countries. The coexistence of both legal
systems has created a lack of harmony in each jurisdiction from the very
beginning.

(3) Can ADR be a Solution?
Alternative Dispute Resolution methods, such as arbitration,
mediation, and reconciliation were seen as solutions for dealing with
Islamic finance cases in court. In order to be ready to deal with Islamic
finance professionally, the court system will need to make greater efforts
to amend its laws and educate its judges. However, the ADR offers amore flexible system to adopt new criteria. Each ADR institution could
establish new guidelines. There are already some ADR institutions thathave issued special guidelines for Islamic finance.
In previous studies, it has been suggested that ADR could be asolution for the problematic issues occurring when courts deal with
Islamic finance. It was mentioned that as arbitration has been historicallyused in Islam, it is more reasonable to utilize the ADR system rather thanestablish a new court system for Islamic finance [White 2012].
As the Shamil v. Beximco case has illustrated the dilemma facing
Sharī‘ah as a governing law, the attention to ADR has grown. As thecourt’s decisions have been causing issues of Sharī‘ah non-compliance,
see Chapter 5).

17

Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

arbitration has been seen as the solution. It is said that choosing
arbitration would be the solution to the issues of Sharī‘ah compliance inthe court system [Yaacob 2009].
Also, White has pointed out that in order to maintain the “legitimacyof Islamic commercial transactions and disputes”, “Islamic Dispute
Resolution (IDR)” needs to be established in order to maintain thegrowth of the Islamic financial industry [White 2012: 307].
Most Islamic countries employ the dual legal system of Westernoriented law and Sharī‘ah law, but generally the jurisdiction of the
Sharī‘ah law covers only family law issues. As for Islamic finance, it has
been categorized as commercial law, which is under the jurisdiction ofWestern-oriented law.
The historical background which has led to this complex situation isthat the legal system for the conventional finance was established before
Islamic finance had emerged. In such a situation, new legislation forIslamic finance was needed. Islamic finance needs to consider
Sharī‘ah principles which focus on the law and also on ethics, and ethicalprinciples are not commonly considered in conventional finance. Whendeveloping Islamic financial products, the ethical value has more weight.
However, when legal issues occur from the conflicts, the law has had
more weight than ethics. Therefore, it is apparent that the nature ofIslamic finance product development and civil disputes contradict eachother when dealing with ethics and law.
On the other hand, various Islamic financial institutions have beencollaborating with arbitration institutions to develop Islamic financial
arbitration. In most cases, arbitration is seen as advantageous for dealing
with legal and financial issues at the same time. INCEIF (The Global
University of Islamic Finance), has signed a memorandum of
understanding (MOU) to collaborate with the Charted Institute of18

Chapter 1. Islamic Economic Activities and Civil Disputes: Theoretical andEmpirical Issues

Arbitrators (CIArb) for conducting a course to train arbitrators, bankers,
and other specialists to settle Islamic financial disputes.17(4) Initiatives Against Civil Disputes
There are several countries that have been active in solving theconflicts of law in civil dispute cases in Islamic finance. More details
will be discussed in Chapter 4 for the cases in the UAE, and in Chapter
5 for cases related to Malaysia. This section will discuss the generalsituation regarding civil disputes of Islamic finance.
For the Malaysian case, it is known that Islamic financial disputecases are dealt with in the Malaysian court. Civil suits related to Islamic
finance have been dealt with not by the courts that apply Islamic law butby the courts that apply legislation rooted in Common law.
Previous studies have analyzed how the Malaysian court has dealt
with Islamic finance cases since the 1980s [Hasan and Asutay 2011: 4349]. This research focuses on how the Malaysian court was proactive
about judging bay‘ bi-thaman ājil (BBA) and bay‘ al-‘īna [Hasan andAsutay 2011:43]. 18 On the other hand, there are critical opinions on
dealing with Islamic financial cases in the court system, as the court
judges are lacking in knowledge of Islamic law and are not qualified todecide issues related to compliance with Sharī‘ah [Ibrahim 2008].
In addition, there are more issues related to dealing with Islamic
financial dispute cases in the court. There is a possibility that the court
will not seek advice from the SAC, and that the court judge will decide
the Islamic financial case without the SAC’s advice [Markom andYaakub 2012: 12-15]. Thus, although the Malaysian government isproactive about reforming Islamic finance legal systems, the legislation
17

18

INCEIF (September 2, 2014). “CIArb and INCEIF Collaborate on Training”,
Retrieved on May 8, 2020,
from < http://www.inceif.org/news/ciarb-inceif-collaborate-training/>
BBA is one of the main schemes that has been use for deferred payment for housing.
And bay‘ al-‘īna is a new Islamic financial scheme for liquidating currency for
consumer credit.

19

Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

and system for dealing with Islamic finance dispute cases is stillsearching for solutions.
In order to avoid the issues that arise from dealing with Islamic
financial cases in the conventional courts, there are some other options
known under the collective name of Alternative Dispute Resolution(ADR), such as arbitration, mediation, and conciliation. Arbitration inparticular is said to be the best solution for the issues that the court faces
when dealing with Islamic finance dispute cases [Yaacob 2009]. Thus,
ADR is seen as a solution and an alternative to the court system.
Kuala Lumpur Regional Centre for Arbitration (KLRCA) has been
set up to solve Islamic financial dispute cases by applying “i-Arbitration
Rules”, a legal framework for dealing with such disputes, since 2007.
KLRCA i-Arbitration has gained a lot of attention from the world as there
are not many models for producing rulings dealing with Islamic financial
disputes under ADR.
However, generally ADR itself also has several issues. Morediscussion will be introduced in Chapters 4 and 5 so we will just clarify
the issues here.
Firstly, ADR rulings are not legally binding so they cannot force
one or both parties to conform to the rulings against their will. Arbitration
awards are decided by a tribunal which both parties agree upon. However,the final outcome of the arbitration award would only be legally binding
after the court’s decision has been made.
Secondly, ADR has recently been recognized as a forum forcomplaint procedures rather than dispute resolution. Moreover, theprocedures are becoming more complicated as it has become necessary
for a conflict clause to be prescribed in the contracts. If no such clause ismentioned in the contract, it will be difficult to bring the conflict to the
ADR committee.
In addition, when the conflict cannot not be solved by mediation andconciliation, if there is a “Multi-Tiered Dispute Resolution Clause”, theparties could use arbitration as the next step [Chapman 2010; Kayali
2010]. Thus, these processes are making the ADR less simple than it used

20

Chapter 1. Islamic Economic Activities and Civil Disputes: Theoretical andEmpirical Issues

to be. Therefore, if the conflict cannot be solved after the ADR process,theoretically, the case would be brought to court.
Thirdly, ADR is a way to solve dispute cases by providing a place
to have both parties come together to negotiate their arguments, but there
may be difficulties in making both parties attend the ADR session. In
most cases, either one of the parties might hold a deeply emotional
opinion that could make them avoid any confrontation with the otherparty. These conditions are commonly seen, not only in the Islamic
financial sector but in general disputes.
To conclude, the utilization of the ADR still has various obstacles
compared to the court system. In spite of this, ADR does have advantages,
especially for protecting a business reputation and for reaching a rapid
solution, and it has more flexibility to adopt Sharī‘ah principles than the
court system as it does not have to wait for the government to amend its
law. There are several ADR institutions that deal with Islamic finance,
and these will be explained in Chapter 3.

21

Chapter 2

Ethics of Islamic Finance between
Sharī‘ah -based Morality and Legality
1. Introduction
This chapter will focus on the dilemma that Islamic finance has faced
in discussions on economic theory and practice. Islamic finance isrequired to be compliant with the ethical values and legal principles ofIslam. In addition, morals and ethics are important aspects for Islamic
finance.
Simply put, conventional finance issues are primarily related tocompliance with modern Western Law, while Islamic finance needs tobe compliant with both modern Western Law and Islamic ethicalprinciples at the same time. This necessity for Islamic finance to deal
with these two areas of compliance has caused numerous academic
discussions and some unique practices in the Islamic finance industry.
One of the issues with Islamic finance originates from its
complicated legal structure. Islamic finance has its own ‘law’ but does
not have a ‘legal system’. Foster has clarified this situation: he briefly
explains it as the ‘formation of a body of law without a legal system’[Foster 2014:12]. A legal system is ‘an operating set of legal institutions,procedures, and rules’ [Merryman and Rogelio 2007: [Kindle] No.
75/3206].
Islamic finance has ‘law’: a bundle of rules that has legal principles
based on Islamic philosophy and ethics. At the same time, it needs to becompliant with conventional law in its operation. However, the legal
institutions and procedures to support Islamic finance are incomplete;therefore, when disputes occur, Islamic finance comes under theconventional judicial system and not Islamic ‘law’.

22Chapter 2. Ethics of Islamic Finance between Sharī‘ah -based Morality andLegality

The judicial organization and system for Islamic finance is undersecular jurisdiction. This is because Islamic law has been categorized ascustomary law or a source of law but not as a law that is used in courts
in modern times. In order for Islamic finance to operate within acomplete legal system it will need to have legal and judicial institutions
to apply the law under which it operates. Therefore, it could be said that
Islamic finance has laws but not a legal system.
Islamic finance is based on two laws: secular law, which has been
established based on conventional finance, and Islamic law. Contracts
are formed for Islamic financial products, complying to Islamic ethics,
since the secular law does not prevent such ethical applications. However,when a legal issue occurs, they are dealt with under secular law. This
brings up issues about dispute resolution for Islamic finance. Secular law
has its own ‘legal system’ to govern conventional finance. While Islamic
finance only has its own ‘law’ without any legal institution that could
constitute a ‘legal system’ such as the court or any other executive organ
to enforce its ‘laws’.
Maintaining Sharī‘ah compliance is one of the keys to successful
dispute resolution. Islamic financial dispute cases are occurring while
legislation and regulations for Islamic financial dispute resolution remain
under discussion. Therefore, some cases are being considered under thesame dispute resolution system as the conventional financial system.
In order to overcome the issue of dealing with Islamic financial casesin conventional courts, Alternative Dispute Resolution or ADR has been
widely discussed as an option in academic circles. Although thisacademic discussion has included practical dimensions, especially on its
benefits, to save costs and time Islamic financial disputes have beenbrought before conventional courts.
Some court judgments, like the representative case of Shamil Bankof Bahrain EC v Beximco Pharmaceuticals Ltd [2004]EWCA Civ 19(January 28, 2004) have raised questions on dealing with Islamic
financial cases in the conventional courts. Regarding this case it was

23

Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

mentioned that Sharī‘ah principles are not a legitimate law to be appliedin court. The applicable governing law needed to be a national law
according to ‘the 1980 Rome Convention on the Law Applicable
Contractual Obligations (Rome Convention)’. Discussions about Islamic
financial dispute resolution have increased globally after such incidents.
For political and economic reasons, new dispute resolution systems for
Islamic finance have emerged in the UAE and in Malaysia. These will
be discussed in Chapters 5 and 6.

2. Dichotomy within Modern Western Law andIslamic Law
The legal conflict between modern western law and Islamic law canbe seen in the Islamic financial contract. In conventional finance a
contract is based on modern western law. In such cases, there will be no
regulation that requires a Sharī‘ah board to be established in a bank, asmodern western law does not anticipate Islamic banking.
Another issue is related to a difference in the principle of the law
between modern western law and Islamic law. This aspect will be
discussed in Section (1).
Islamic banking and financial institutions are required by law or
financial guidelines in a country to establish a Sharī‘ah board within their
institutions. According to the conventional financial system there are nosuch requirements. Therefore, Islamic financial institutions needed todevelop their own laws or legal frameworks. This situation has led todeveloping a dual legal system or special law for Islamic banking andfinance. Such developments of Islamic finance legal systems haveappeared on diversified levels which will also be discussed in thefollowing section.

24

Chapter 2. Ethics of Islamic Finance between Sharī‘ah -based Morality andLegality

Dual Legal Framework for Islamic FinanceThe comprehensive structure for the Islamic finance legal framework
caused issues related to adherence to the Sharī‘ah. This has led to some
Islamic finance and banking sector products failing to fulfill maqasid asSharī‘ah (the aim of the Sharī‘ah) and just mimicking conventional
finance. 19 Criticism of the Islamic financial market has increased
recently, not only from the legal aspect but also from the politicaleconomic viewpoint. The failure of the Islamic finance and banking
sector to contribute to the economy has been discussed in previous
studies [Asutay 2012].
Thus, Islamic finance emerged to confront economic and social
issues in the Muslim world from the standpoint of Islamic moral values.
The modern Islamic economic discussion led to the birth of Islamicbanking in 1975 and has subsequently grown to its present global scale.
Therefore, Islamic finance has emerged as a counterpart to theconventional financial system, which also means that the Islamic financelegal system was established after the establishment of the conventional
financial system.
The fact that there was already a conventional financial system inexistence created a contradiction for the Islamic financial legal system.
Legal systems in the finance field had adopted common law or civil law
as their model, and consequently, amendments or revisions of financial
law became necessary. In particular, having a Sharī‘ah board in a bank
was totally different from conventional banking governance.20
The role of the Sharī‘ah board is broad as it governs the Sharī‘ahcompliancy of the financial product, its management, and the audit aswell. In addition, when the Islamic financial institution’s contract isbreached or customers have trouble with their financial plan, the1920

The differences among madhaahib have raised debates on the legitimacy of financial
products such as tawarruq and ‘īna. However, this controversy has also shown theregional diversity of the Islamic financial industry [Nagaoka 2008].
Sharī‘ah boards may be called Sharī‘ah committees or Sharī‘ah advisory boards. This
paper uses the term “Sharī‘ah board”.

25Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

Sharī‘ah board will also give advice and renew the contract.
The legal framework for Islamic finance in each country wastransformed into various patterns that can be categorized into three
categories:
a. Applying the conventional legal system to Islamic financewithout differentiating it from conventional finance.
b. Amending or revising the law in order to legitimize Islamic
finance to coexist with conventional finance; or establishingspecial laws for Islamic finance in order for it to be conducted
separately from conventional finance.
c. Changing the whole financial system into Islamic finance.
Most of the Muslim countries are following categories ‘a’ or ‘b’.
These categories offer more flexibility for both conventional finance andIslamic finance so that it is possible for a country to maintain its statusof being an international hub, while at the same time, extending its newmarket for Islamic finance. Therefore, global financial hubs andinternational financial centers developed their laws or tailored new
guidelines for Islamic finance.
The major Islamic financial hubs in the world have a similar legal
system to category ‘b’. The origins of the legal systems of Gulf countries
and Malaysia resemble each other. The Gulf countries were British
protectorates in the early 20th century. During that period, most of the
Gulf countries adopted a common law or civil law legal system.
Likewise, Malaysia was a British colony and its financial legal
system was established by the British authority. This led Malaysia tohave a dual legal system with Common law jurisdiction and Sharī‘ahjurisdiction. However, the history and development of the legal systemsof the Gulf and Malaysia have since become uniquely different. This canbe seen in the comparison of the Dubai approach with the Malaysianmodel which will be discussed in Chapters 5 and 6.

26

Chapter 2. Ethics of Islamic Finance between Sharī‘ah -based Morality andLegality

The Islamic financial market has faced numerous challenges inaccomplishing its original aim. One example can be found in themismatch between the theoretical discussion and the Islamic financemarket’s performance. This has led to discussion on the emergence of
the Islamic Moral Economy, which we will discuss in Section 4 of thischapter.
Theoretically, Muḍārabah has been seen as the most preferable
financial scheme for Islamic finance. However, most Islamic financial
schemes do not utilize Muḍārabah but chose Murābaḥah or otherfinancial products as an option [Nagaoka 2012]21. The issues of Islamic
financial products have been discussed critically by El-Gamal using theconcept of “Sharī‘ah Arbitrage” [El-Gamal 2006].
Another legal issue is related to the feature of the Islamic financial
products constructed according to contracts formed by Islamic principles.
Financial products are a bundle of contracts. Most Islamic financial
contracts use Arabic terms in order to clarify the financial scheme. These
Arabic terms correspond to the secular law legal concepts. It is possible
for these Arabic terms to be converted to common law or civil law
concepts such as Muḍārabah which would fit the requirements ofanonymous association contract and Ijārah, which is translated andgenerally understood as lease contract.
However, the Arabic concept explained by utilizing the secular law
concept, will bring up the issue on the “source of law” for Islamic
financial product development. If the Islamic financial products focus on
fulfilling secular law, these products will prioritize being compliant withsecular law first, then with Sharī‘ah. This has happened and was alreadycriticized during the emerging period of Islamic finance.
Islamic finance has now entered its second stage, which can be
described as determining how to maintain market stability [Nagaoka
2016]. In order to stabilize the market, there is an interesting discussion,
21 This has been discussed as the “Murābaḥah Syndrome” issue for decades.

27

Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

which mentions the need for a common standard in the global market ofIslamic finance. In this perspective, it is pointed out that the lack ofglobal standardization for Islamic finance will be a factor for creating an
unstable market [Yaacob and Abdullah 2012:494].
It is also mentioned that the key element for the Islamic financial
industry to avoid a desperate battle is to adhere to its Islamic principles,
and that it is necessary to standardize the legislation of Islamic finance[Yaacob et al. 2011:21; Yaacob and Abdullah 2012: 496].
Nur Yasmin Yaacoob also mentions that the members of theOrganization of Islamic Countries (OIC) should make a lex mercatoria
in order to form an international convention or “Model Law of
Arbitration” and that this will smooth the misunderstandings occurringin the Islamic financial industry [Yaacob et al. 2011: 34-38].
When dispute occurs in international transactions or other crossborder contracts, the issue of what legal ruling should be chosen is the
choice of the governing law. If there are more than two jurisdictions in
the case, the decision of the jurisdiction is inevitably that, in most cases,
common law will be chosen as the governing law for Internationaltransactions.

3. Dilemma of Sharī‘ah Compliance: Moral
Foundations and Legal Technicalities
While there were discussions on the legal development of Islamic
finance, ethical and moral discussion was commonly passed over,although it is one of the crucial elements for Islamic finance. Islamic
finance is not only a financial transaction but also stands on thefoundations of Islamic morality. Islamic finance is intended to practicethe moral and ethical values of Islam.
Therefore, this section will discuss the importance of the Islamic
moral and ethical values that are applied in Islamic finance.
28

Chapter 2. Ethics of Islamic Finance between Sharī‘ah -based Morality andLegality(1) Prohibition of RibāThe prohibition of Ribā emerged in Islamic Economic discussion inorder to achieve the justice of Islam. Ribā literally means “increase”.
However, it is well known in Islamic economics that Ribā is translated
as “interest”. In particular, Ribā is considered as unequal gain by one
party in a transaction. In order to achieve the goals of Islamic justice,which is also known as Maqāsid as-Sharī‘ah, Ribā is prohibited inIslamic financial transactions. Conventional finance considers the“interest” as a profit. Islamic finance also needs to gain profits, as gaining
profits is essential for any business to be sustainable. Therefore, Islamic
finance had developed its own financial commodities to avoid “interest”
while gaining profits.
Murābaḥa is one of the most popular Islamic financial commodities.
In Murābaḥa, the bank will purchase a commodity from a third party at
the request of the client. This is because, it is prohibited to deal money
for money, and it is also prohibited to sell commodities one does not own.
As a result, the bank will buy the commodity for the client. As the bank
now owns the property or the commodity, it can legally sell it to the clientwith a profit called “cost-plus” or “mark-up”. The mechanism of
Murābaḥa resembles trading. Trading is permitted in Islam as it ismentioned in the Quranic verse “Allāh has permitted trading andforbidden Ribā” [Qur’ān 2: 275].
As Murābaḥa is similar to trading, it is also criticized that Murābaḥais similar to an interest-bearing loan [El-Gamal 2006: 2-5]. On the other
hand, Murābaḥa has the advantage of “resembling an interest-basedbanking practice, while at the same time being Sharī‘ah compliant” fortwo reasons. One is because it shows the “inventiveness of scholars” asthey have adapted the traditional form of transaction into the newbanking scheme. Secondly, it helps to decrease the risks and is able tocompete with the conventional banking system [Sairally 2002: 77-78].
As the conventional financial system is based on debt it is natural for29

Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

Murābaḥa to be used as it has a similarity to the traditional system whileat the same time being compliant with the Sharī‘ah [Yousef 2004].
Accordingly, the legislation of Islamic finance has to apply
Sharī‘ah but at the same time differ with the conventional financial
system as Islamic finance does not allow the use of any interest in theirfinancial products. Here, the role of the Sharī‘ah board and the required
legislation for it is vital in order to judge whether the Islamic financial
product is following Sharī‘ah rules. The role of the Sharī‘ah board is
crucial to maintain the legitimacy of the Islamic financial product asSharī‘ah compliant.

(2) Contradiction in the Legislation and Ethical PracticePreviously, much of the debate on Islamic finance revolved aroundthe question of how financial schemes would be designed to avoid harām(prohibited) elements. Therefore, the issue of how Islamic financial
products should be consistent with the Islamic law was associated withfinancial structures and other economic elements. However, after theworld financial crisis of 2009, another debate over the compliancy ofIslamic finance with the Islamic law arose. The UK courts issued a rulingon a case that had involved Islamic finance, which brought international
attention to the issue of how to deal with Islamic financial cases in a nonIslamic legal system.
The UK is not an Islamic country, but even Islamic countries,
including the Gulf countries, had adopted Western legal systems after
they became independent. Therefore, when issues of Islamic financewere brought to the ordinary courts or alternative sites of dispute
resolution, there was always the fear that these ordinary courts would
infringe on the Sharī‘ah’s jurisdiction. This issue had started to beaddressed by local Islamic banks in the UAE by the end of the first
decade of the 2000s.
In the UAE, Islamic financial institutions are all under thejurisdiction of the central bank, except those related to Islamic law

30

Chapter 2. Ethics of Islamic Finance between Sharī‘ah -based Morality andLegality

jurisdictions, according to the 1985 Union law No. 6. 22 This law
regulates the establishment and operation of Islamic financial institutions.
However, this law does not address how the Islamic financeorganizations will apply Sharī‘ah law, where the cases will be brought,
and how Islamic law will be followed when the parties have selected an
ordinary dispute resolution system. As the central bank regulates Islamic
financial institutions, if the conflict is related to the banking system, thecentral bank will decide the case; for an insurance company, the case will
be decided by the Ministry of Economy and Commerce [Feulner andKhan 1986: 316]. However, most cases in the UAE were being brought
to the ordinary courts or alternative dispute resolution systems such as
arbitration or reconciliation were being used.
On the other hand, Sharī‘ah board members at the local Islamicbanks considered this situation a potential risk because it ignored Islamic
law by dealing with cases through conventional legal systems. 23 This
dilemma had been caused by inconsistencies in the legal jurisdictions ofIslamic financial institutions.
Federal law secured Islamic law jurisdiction for Islamic financial
institutions from their establishment to their operation, but when it came
to disputes, the conventional legal system had jurisdiction. If cases
involving Islamic financial institutions are brought to ordinary courts andordinary arbitration institutions, this contravenes Islamic law.
In 2006, a movement began in Dubai to establish an arbitration
institution to address cases that had Islamic law as their governing law.
22 ‘Islamic financial institutions’ here refers to all financial institutions that mention that23

the organization or company will be established according to Islamic law. Such
institutions include Islamic banks, Islamic insurance (takaful) companies, and Islamic
investment companies.
According to an interview with a Sharī‘ah scholar from an Islamic bank in the UAE,
the 1985 Union law had guaranteed Islamic financial institutions would be under
Islamic legal jurisdiction; therefore, if a dispute among institutions was brought tothe conventional court, this would contradict Islamic law. Another legal supervisor of
an Islamic bank had also mentioned that if an Islamic financial case is brought to thecourt as a conventional financial case, it would be controversial under Islamic law.

31Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

If there was no clear legal framework for Islamic financial cases, thesecases were generally brought to ordinary courts. Against this background,a new dispute resolution system for Islamic finance cases was establishedin 2009. This movement is a clear example of the pressure to establish a
dispute resolution system that applied Islamic law. The full scope andsignificance of this new system will be discussed in the Chapter 5.
There is some criticism of the gaps between legislation and ethicalpractice in Islamic finance. One such discussion can be seen in thedivergence of the legal decisions by the Islamic school of law and thepractice of Islamic finance.

4. Emergence of the Islamic Moral Economy
As the Islamic financial market expanded, the dilemma of the identityof Islamic finance started to surface. The most crucial problem for theIslamic financial market was how to compete with conventional financewhile maintaining its identity as Islamic.
Islamic finance and conventional finance are both related to the realindustry sector which prefers to choose the most profitable option. This
need for profitability has caused issues when choosing preferable
financial options. In the discussion on Islamic economic theory it isconsidered that the preferable financial option has a higher cost andgreater risks, such as in Mudhāraba contracts.
Therefore, the Islamic financial market tends to choose more
profitable financial schemes, which are Murābaha contracts and otherproducts which sometimes trigger debates on their Sharī‘ah compliance.
One of the representative cases was the use of a specific Islamic financeproduct in Malaysia. This point will be discussed in detail in Chapter 5.
Development has been one of the crucial topics in the Islamic world
since the 1940s, especially in the post-colonial era. The Islamic world
has been facing the issue of mostly belonging to the third world and32

Chapter 2. Ethics of Islamic Finance between Sharī‘ah -based Morality andLegality

therefore being underdeveloped. Islamic finance emerged in order totackle such issues related to economic development, poverty, wealthdistribution and other economic issues in the Islamic world.
However, as the founding fathers of Islamic economics pointed out,
the Islamic world has been focusing on the kind of economic
development that the western countries have been doing. They criticizedthat the Islamic world has adopted Western development strategies
which are without justice, one of the most fundamental values which
Islam aims to accomplish as Maqāsid al-Sharīʻah [Chapra 2008].
In addition, Mehmet Asutay also criticized the “Eurocentrism” of
economic theories that lack the justice of Islam but have been adopted in
the Islamic world [Asutay 2012]. In other words, development in theIslamic world not only aims for material or physical development, butalso spiritual and moral development to achieve social justice [Jan andAsutay 2019: 56-59].
After W.W.II, newly independent Muslim nations implemented
economic policies formulated in the West which resulted in the failure of
economic development to solve poverty and other economic issues. The
Islamic Moral Economy (IME), as an “alternative to capitalism andsocialism emerged as a response to such failure with a promise to not
only trigger economic growth but also to provide an environment inwhich Muslim human-centered economic development could take place
for the purpose of achieving falah or salvation” [Jan and Asutay 2019:61].
In addition, the IME created its own unique “Value System” based ona balance between the material world and the akhirah, the Hereafter [Janand Asutay 2019: 71]. In order to proceed with such a system, theeconomic agent in the IME system would be acting as “homo Islamicus”[Asutay 2007a; 2007b].
Therefore, a moral ‘filtering’ process would be necessary for the IME
to check its methodology. It has been mentioned that the only “modern

33

Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

institutions that have come out of the IME” are “Islamic banking andfinancial institutions” [Jan and Asutay 2019: 77].
However, Islamic financial practices have been criticized for notcomplying with the original aim of Islam. The issues of the convergence
between Islamic financial practices and conventional finance have been
discussed by El-Gamal who stated:“As previous juristic innovations become commonly accepted,
and as competitive pressures mount, jurists are likely to continue
offering innovations that lead to the convergence of Islamic financial
practice with its conventional counterpart. This, in turn, will cause
disenchantment among potential new customers and existingcustomers of Islamic finance, as product differentiation between and
an Islamic product and its conventional counterpart appears
increasingly more contrived” [El-Gamal 2007: 183].
In order to differentiate the practice of Islamic finance and its theory
from the original goal of the founding fathers of Islamic economics,
Mehmet Asutay has separated it by calling it the Islamic Moral Economy(IME).
It is said that in “the post-1960s period, the failure of economic
development in the Muslim world and the rise of the Islamic political
identity motivated certain academics, activists and financiers/bankers to
discuss the initial foundational issues of what was later to become
Islamic economics or IME” [Asutay 2012: 94].
In order to execute the IME system, the methodological frameworkhas been summarized as:
1. “An individual should not only be concerned about his or her own
interests because concern for society is also important”.
2. “Material progress is not the ultimate goal”.
3. “Trying to maximize his/her utility seek to maximize social
welfare as well” by considering the next life, akhirah.

34

Chapter 2. Ethics of Islamic Finance between Sharī‘ah -based Morality andLegality

4. “Man needs guidance from Allah for making various decisions inlife”.
5. “Market exchange mechanisms through moral filters produce asocially concerned environmentally friendly system” [Jan andAsutay 2019: 76-77, Asutay 2007a: 12].
These days ‘Islamic banking and finance’ has been criticized for“mimicking” conventional finance and by “mirroring”, thus losing its
identity [Asutay 2016].

(1) Institutional GraftingThis section will discuss how a new institution, theory and concept
emerges in the Islamic finance. Islamic finance also emerged as a new
economic system and created a new social and economic institution andvalue to the society and economy. The emergence of a new “institution”
or “value” has been discussed in the social economic field. From thesocial economic aspect, new institutions, theories, and concepts develop
from the social value that is “embedded” economic activities. Section (2)will also illustrate the issue of “emergence” in the Islamic financial
industry.
Islamic economics, according to the IME perspectives, is not anotherversion of market economy. It should be understood as a kind of
embedded economy. The ‘embedded’ economy has been explained by
Alejandro Portes as being created based on the ‘value’ of the society. Insuch a mechanism, the emergence of new institutions is created from avalue that both becomes a ‘norm’ and has ‘cognitive repertoires’ which
will eventually create a ‘role’ in a society that will eventually create a
new ‘Theory’ or so called ‘Institution’ that will be sustained by the social
capital [Portes 2010].
The emergence of the embedded economy has been explained by
Alejandro Portes as how the ‘institutions’ emerge to become visible bystarting as a cultural ‘value’ in the society from the grafting model as
illustrated in Figure 2.

35

Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

Figure 2. Grafting Model on the Elements of Social Life by Alejandro Porte
Source: Modified by the author from [Porte 2010: 54]

This model shows the correlation between the social structures
which create ‘Institutions’ or the theory of the economy embodied in thesociety, and also shows the parallel relationship with the ‘power’ of thesociety. This model has been adapted in Mehmet Asutay’s theory on
grafting the ‘disembedded’ social structure that Islamic banking andfinance has.

(2) Grafting Model from Porte to IME
The grafting model by Alejandro Porte was developed by Mehmet
Asutay to explain how Islamic banking and financial institutions are“disembedded” [Asutay 2016]. As was discussed in the previous section
on social economy, the emergence of institutions, theory, and concept
have mutual relations with the social and cultural values. One of the clear

36

Chapter 2. Ethics of Islamic Finance between Sharī‘ah -based Morality andLegality

criticisms comes from the direction of the emergence process which is
the opposite to the ‘embedded’ one.
Alejandro Porte explained that the “embedded” economy would becreated by the cultural “value”, which becomes a norm and becomesrecognized by the society as “cognitive repertoires”. In the “embedded”
society these two elements would create a new “role” to the society andthen a new theory, concept, and institution would emerge.

Figure 3. Grafting Theory, Concept, and Institution in Islamic FinanceSource: Adapted from [Asutay 2019:70]

However, as Asutay illustrated in Figure 3, the arrow is pointing in
the opposite direction to the one in the “embedded” economic structure.
This could be explained from the critical aspect of Islamic financefocusing on capital, which is discussed in neo-classical economics, themarket system of the capitalism, or other international institutions related37

Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

to the world economy, rather than the values of Islam. The market
economy is creating the social and economic value of Islamic finance.
Therefore, the reality of Islamic finance is seen as “disembedded”, as theimpulse for creating an institution, theory and concept comes from themarket, rather than the value of the society which is “embedded”.
Compared to Porte’s model of an ‘embedded’ economy, Figure 2
shows that the Islamic financial market is created by the market economy.
The Islamic financial market is creating the theory, concept, andinstitution, then eventually creating the ‘value’ in the society. There is
not an “emerging” or “embedded” economy as the creation of the theory,
concept and institution does not start from the “value” of the society or
culture.
In other words, the Islamic financial market creates its theory andinstitutions based on their criteria and creates a new “role” for suchinstitutions which in this case, focuses on ‘capital domination’ which isaiming at moneymaking, and in the end, this creates the ‘value’ forIslamic finance to be market driven. Such a process could be shown as
the grafting in Figure 2. In other words, ‘capital domination’ for each
institution means that Islamic finance will be focusing more on capital
growth, just as capitalism aims to do. In such a case, ironically, the aimof the Islamic financial institution will be the same as capitalism.
Asutay has introduced another model that will be able to accomplish
the ideal which Islam aims for. The “value” of the Islamic society would
be formed by the balance created by its unity and complementarity(Tawḥīd), an Arabic word which defines the unified nature of all things.
This Tawḥīd would also be affective for finding sustainability(Rububiyah) which would lead to finding social justice and economic
equilibrium (Adalah and Ihsan) [Asutay 2019: 47].
As a result, the “cognitive repertoires” of the social and cultural“value” would be articulated by the Islamic Moral Economy and Islamic
Political Economy through social life.
Figure 4 shows Asutay’s model which illustrates the paradigm of
how the ‘value’ from the Islamic world creates new ‘theories and38

Chapter 2. Ethics of Islamic Finance between Sharī‘ah -based Morality andLegality

institutions’ which would lead to the realization of Maqāsid al-Sharī‘ah.
This whole institutional constitution in Iqtisad (economics) and theemergence of Iqtisad institutions has a grafting structure as in Figure 3.

Figure 4. Iqtisad Grafting Model by Mehmet Asutay
Source: Adapted from [Asutay 2019: 51](3) Emergence and Divergence in the Islamic Economic andFinance
The Islamic financial industry started to face its identity dilemma
from the 2000s. The more the Islamic financial market expanded, themore efficiency in the business had been prioritized and caused a gap
between Islamic economics theory and the practices of Islamic financial
institutions.
As such incidents increased, the development and reconstruction ofIslamic financial products started to gain attention in academic fields. At
this time, the role of the Sharī‘ah board started to gain more importance.
A Sharī‘ah board is an independent institution in Islamic financial
39

Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

institution. The role of the Sharī‘ah board is to maintain and guarantee
the financial product to be Sharī‘ah compliant. The Sharī‘ah board is acommittee formed by a group of Islamic law specialists. Each of theIslamic financial institutions has its own independent Sharī‘ah board.
Sharī‘ah board members are responsible for guaranteeing that the Islamic
financial products are Sharī‘ah compliant or not. Sharī‘ah board is oneof the unique characteristics of Islamic financial institutions which does
not exist in conventional financial institutions.
The Sharī‘ah board is seen as taking an important role in the Islamic
financial industry as its existence is one of the characteristics that
distinguishes Islamic finance from conventional finance. As the demandfor Sharī‘ah scholars is proportional to the expansion of the industry so
the number of Sharī‘ah scholars is increasing.
However, the supply of qualified Sharī‘ah scholars is not adequate
and as a result, the Islamic financial market has been criticized for hiring
specific figures repeatedly. It has been shown in the previous studies that
the Sharī‘ah board memberships are dominated mostly by particularwell-known Sharī‘ah scholars [ISRA-Thomson Reuters 2016: 29]

40

Chapter 3

The Gulf and Southeast Asia
in the World Map of Islamic Finance
1. Introduction
As the demand for Islamic finance increased, different countries took
their own approaches toward it. Some were proactive while others were
skeptical of accepting it. In some cases, the government was not thatproactive in expanding Islamic finance, but the industry was able gain
autonomy by itself. This chapter will describe the jurisdictional
differences by comparing the representative countries of each category,especially describing the importance of the Gulf countries and theSoutheast Asian countries.
After the 2000s more non-Islamic countries started to adopt Islamic
finance in their economies. Before that, it was mainly the OIC member
states that had been adopting Islamic finance. Currently, the UK hosts its
own full-fledged Islamic banks and is also well known for its academic
contributions to Islamic economics. The UK government has shown aninterest in Islamic finance from the early stages and committed itself tonurturing the Islamic financial market as an alternative to conventional
finance. Moreover, the former Chancellor Gordon Brown mentioned that
the UK could become a “gateway” for Islamic finance in 2006.24
As countries where Muslims were a minority had started to join themarket, the GCC countries and the Southeast counties were taking
advanced steps towards Islamic finance. The Gulf Cooperation Council(GCC) countries and the Southeast Asian countries became the main
24 BBC News. (June 13, 2006). UK’S Brown Backs Islamic Finance. Retrieved April

13, 2020, from <http://news.bbc.co.uk/2/hi/business/5074068.stm>

41Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

hubs for the Islamic finance industry. This chapter will describe whythese two areas have become the outstanding places for Islamic finance.

2. The Growth of the Islamic Finance Market
The United Arab Emirates (UAE) and Saudi Arabia have been twoof the key areas during the development of the Islamic banking sector.
The UAE was the first country that started Islamic banking in thecommercial sector, by establishing the Dubai Islamic Bank.
Saudi Arabia had a different approach, but it has been one of theimportant countries related to Islamic finance. For example, it is home tothe headquarters of the Islamic Development Bank (IDB), and the IDBGroup. The IDB has become one of the key figures in Islamic economics
and Islamic finance.
For several decades, the Gulf countries and Southeast Asian
countries, especially Malaysia, have been leading the Islamic financial
industry. This section will introduce some economic aspects of theIslamic financial market from 2008 till 2018.
As is well known, the global financial crisis of 2008 hit the world
economy severely. While the conventional financial system struggled torecover from the economic crisis, the Islamic financial sector was also
facing a negative effect during this time. However, the global assets ofIslamic finance continued growing. According to the report by
TheCityUK, the global assets of Islamic finance had reached US$1,130
billion at the end of 2010 and were estimated to reach US$ 1,289 billion
by 2011 as shown in the Figure 5 [TheCityUK 2012:1].
The UAE has become one of the main financial centers and theIslamic financial market there has a large presence. According to the
Emirates Banks Association, Islamic finance had an 18% sharecompared to conventional finance in 2011 in the domestic market.25 The
25

These statistics supplied by the Emirates Banking Association include the assets of42

Chapter 3. The Gulf and Southeast Asia in the World Map of Islamic Financestrength of the domestic Islamic market of the UAE has been pointed out
by Wilson as he stated that UAE’s Islamic banks have targeted the local
markets like Qatar [Wilson 2012: 138].
1400
1200
1000
800

600
400
200
0
2006

2007

2008

2009

2010

2011

Global Assets of Islamic Finance

Figure 5. Global Assets of Islamic FinanceSource: Created by the author based on [TheCityUK 2012: 1]

In 2014, the US dollar exchange rate negatively affected Islamic
finance, and assets which were Sharī‘ah compliant had declined to$1.273 trillion in 2015. However, although the outcome shows a decline
in Sharī‘ah compliant assets, the actual substance of the Islamic financial
market was still in a positive condition. The Banker Report pointed outthat the downturn in Sharī‘ah compliant assets was mainly caused by the
Iranian currency rate.

the Dubai Bank which was combined into the Emirates Bank in 2011.

43

Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

Asia

Other Area

GCC

Non-GCC MENA

2%
50%
21%

77%
27%

RegionGCC
Non-GCC MENA
Sub-Saharan Africa
Asia
Australia/ Europe/
America
Global total

2015($bn)
$640
$339
$8
$269
$17

2014 ($bn)
$561
$537
$11
$259
$24

$1,273$1,392

Figure 6. Regional Assets ($bn) in 2014
Source: Created by the author based on [The Banker 2015: 3]

After the commercial practice of Islamic finance was introduced, twolarge hubs formed in the Middle East and Southeast Asia. The Gulf
countries and Malaysia had become well known for Islamic finance by
the turn of the century. These countries together own the majority of theIslamic financial assets in the world.
As is shown in Figure 6, the MENA region has the largest Sharī‘ahcompliant assets in the global Islamic financial market, and the Gulf
countries have the highest percentage of those assets. The MENA region
44Chapter 3. The Gulf and Southeast Asia in the World Map of Islamic Financehas 77% of the total Sharī‘ah assets while Asia (excluding West Asia)and the other regions, namely, Asia, Australia, Europe, and America,share the rest of the pie.
Islamic finance services did not reach out only to Muslim countries
but also to some countries where Muslims were in a minority such as theUK, or countries that are categorized as non-Muslim such as Hong Kong,and Luxembourg.
By 2015, the UK had over twenty banks offering Islamic financial
services, including five full-fledged Islamic banks. The UK governmenthas been opening doors to Islamic finance from the early stages in Europe.
Asia

GCC

MENA(excluding GCC)
1%

Africa (excluding North)

Others

4%

28%

25%

42%

Figure 7. Breakdown of the Islamic Financial Sector by Region (share %) in 2018
Source: Created by the author based on [IFSB 2019: 10]

A new Islamic financial market was also developed in 2014.
Indonesia and Africa were seen as the developing markets for Islamic
finance in order to fill the financial gaps among the Muslim population.
After four decades of Islamic finance markets’ development, the openingof new frontiers has been encouraging Muslim economic activity withsupport from the Islamic financial market.

45

Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

The share of the total assets of the Islamic financial industry in 2018is shown in Figure 7. In 2018, the global economy faced some setbacks
due to political movements such as Brexit. Although the global economy
faced several setbacks in 2018, the Islamic finance industry enjoyedpositive growth, according to the 2019 IFSB report. It was estimated thatthe total assets in Islamic banking, capital markets and Takaful was 2.19
trillion US$ in 2018.
The global assets of the Islamic banking industry broken down by
country are shown in detail in Figure 8. Iran and Saudi Arabia own morethan half of the total Islamic banking assets. The reason these twocountries have such a large amount comes from how the assets aregathered in each nation. When analyzing the banking sector, it isimportant to see how the Islamic banking assets are calculated. The IFSB
report in 2018 analyzed the total bank assets under the jurisdiction of

1.9

1.9

0.7 0.7

1.3 0.6 0.7 0.7

2.6

0.5

1.7

32.1

6.2
6.3
10.8

20.2

9.8

Iran

Saudhi Arabia

UAE

Malaysia

Kuwait

Qatar

TurkeyBangladeshIndonesia

Bahrain

Sudan

Pakistan

Egypt

JordanOman

BruneiOthersFigure 8. Breakdown of Islamic Finance Assets by Countries
Source: Created by the author based on [IFSB 2019: 12]

46

Chapter 3. The Gulf and Southeast Asia in the World Map of Islamic Finance

Islamic banking for Iran as 100%, and for Saudi Arabia as 51.5%. On theother hand, assets under the jurisdiction of Islamic banking in the UAE
are 20.6% and Malaysia 26.5%. Considering the extent of the jurisdictionof Islamic banking in the national banking sectors in these countries, theUAE and Malaysia have comparatively large assets for Islamic banking.
As the market grew, Muslim majority countries were not the only
areas where it the Islamic economy expanded. The total Islamic financial
assets in non-OIC countries were estimated to be US$ 30 billion in 2016
and the top three countries were the UK, Switzerland, and the UnitedStates [Thomson Reuters 2018: 13].
The LARIBA Bank in the United States is also an interesting practiceof Islamic finance in a non-OIC country. The practice of LARIBA bankis an interesting case where the founder, Dr. Yahia Abdul-Rahman
practices the Ribā-free banking style and also develops his philosophy
on Islamic banking and finance [Abdul-Rahman 2010: Abdul-Rahman
2014]

3. The GCC as the Birthplace of Commercial Islamic
Finance
The Gulf countries as specified in this paper are those who are themembers of the Gulf Cooperation Council of the Arab States (GCC).
Those countries are Saudi Arabia, Kuwait, Bahrain, Qatar, the United
Arab Emirates (UAE), and Oman.
There are two reasons for Islamic finance to gain strength in the GCC
countries. The first reason is their extensive oil or natural gas revenues.
The GCC countries, except for Bahrain, have been able to nourish
Islamic finance due to the abundant petroleum related revenue.26 Since
26

Bahrain had developed its economy to focus on the banking industry from the earlyyears. Bahrain had found petroleum in 1932. Later on, petroleum was found in Saudi
Arabia and Kuwait in 1938, and Qatar in 1939. In the UAE oil was discovered in
1958 in Abu-Dhabi. Therefore, it is said that Bahrain was the first country to47

Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

the discovery of oil in Iran in the beginning of the 20th century, the Gulf
countries have been able to get preferential benefits from their oil andnatural gas income. Due to the oil boom the GCC counties were able togain enormous oil income, and this coincided with the advent of “Islamic
revivalism” [Kosugi 2006: 95-96].
Thus, the second reason for the emergence of Islamic finance was
the “Islamic revival” movement in the Islamic world. Muslims thinkers
recognized that most of the areas where they were living were
economically part of the third world. In addition, the realization that theso-called Islamic world was not strictly speaking following the ideologyof Islam led to a call for the revitalization of the Islamic way of life, andthe reform of the social and political structure of the Islamic world[Kosugi 1994]. Islamic economics had emerged first to seek an economic
theory of the Islamic way of life in the 1940s, then Islamic financeemerged in order to tackle issues related to economic development andpoverty, equitable wealth distribution, and other economic issues in theIslamic world in practice.
The birth of Islamic finance as commercial banking was conceived
by the Dubai Islamic Bank in 1975. As there were no regulations for
Islamic banking at that time, Dubai Islamic Bank was categorized as the
Sharikat (Company) by the Dubai Decree issued on March 20, 1975.27
In October of the same year that Dubai Islamic Bank was established,
the Islamic Development Bank (IDB) headquarters was established in
Jeddah. The membership of the IDB consists of the same members as the27

discover oil in the Gulf countries. However, Bahrain understood its limitation in
producing oil as it did not possess as much petroleum as the other Gulf countries.
Therefore, Bahrain struggled to find its way by diversifying its industries in the earlyyears. After becoming independent in 1971, Bahrain entered a new stage by
establishing various industries which did not rely on the oil industry like the othercountries in the Gulf region. This diversification made it possible to establish a new
financial industry in Bahrain. It is notable that Bahrain had started to envisage postoil era industries from the early stages which gave it a great advantage to become
one of the financial sectors in the Gulf area.
Marsūm bi-Ta’sīs Bank Dubayy al-Islamīya 1975

48

Chapter 3. The Gulf and Southeast Asia in the World Map of Islamic Finance

Organization of Islamic Cooperation (OIC) except for Syria.28 IDB has
been active in promoting development in the Islamic world by utilizing
Islamic financial products.
The commercial development of Islamic finance started with theestablishment of Islamic banks. In 1977, Kuwait Finance House (KFH)
was established. Then followed the Bahrain Islamic Bank in 1979. Laterin 1982, Qatar Islamic Bank was established.
While the UAE, Kuwait, Bahrain, and Qatar started theirdevelopment of the Islamic financial market, Oman had to wait until
2012 for its first Islamic bank to be established. Saudi Arabia had also
contributed to expanding Islamic banks outside its borders.
Muhammad al-Faiṣal bin Abdul Āl Sa‘ūd, Prince of Saudi Arabia, iswell known as a pioneer of Islamic banking and finance. He contributed
to the founding of the Faisal Islamic Bank of Egypt and Faisal Islamic
Bank of Sudan.
Due to Saudi Arabia’s official position that the entire country is
Islamic, it was difficult to establish a new Islamic bank as it would clearly
differentiate what were Islamic and non-Islamic banks in the country. As
Saudi Arabia is a strictly Islamic nation, it was not acceptable for such adivergence to happen. Therefore, the establishment and registration of
the Islamic banks owned by Saudis was done outside of Saudi Arabia but
utilizing the assets from the country. The case of the DMI Group andAlbaraka Group exemplifies this issue exactly. The DMI Group wasestablished in the Bahamas and their entities are mostly established orregistered outside of Saudi Arabia, although, the founder of the DMIGroup is Mohammed Al-Faisal Al-Saud, a member of the royal familyof Saudi Arabia. Similarly, the AlBaraka Group was licensed for Islamicbanking in Bahrain.
In comparison to the establishment of the Dubai Islamic Bank, theFaisal Islamic Bank in Egypt gained its license as a “economic and social
28

Syria’s membership of the OIC has been suspended due to the humanitarian issues
related to the Syrian conflicts at the 4th Extraordinary Summit held in Mecca inAugust 2012.

49

Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

institution taking the form of and Egyptian joint-stock company
operating in compliance with the rulings of Islamic Sharī‘ah”, by the law
No.48 of 1977 and started its operation from 1979.29
Although there were obstacles related to establishing Islamic banks,
the GCC countries were able to mobilize their vast assets to develop
Islamic finance in their region, and also formed a multinational groupthat contributed to expanding the Islamic financial market on a global
scale.

4. Southeast Asian Governments Take Action on
Islamic Finance
Southeast Asia has become a hub for Islamic finance, especially
Malaysia. Indonesia has also been noticed as a rising country in theIslamic financial industry. In particular, Malaysia has been able to create
its own status as a pioneer in the Sukuk market.
As Figure 9 shows, Malaysia issued 32.82% of the total Sovereign
Sukuk in 2018. In addition, Malaysia is known to have developed its
domestic regulations to be compatible with Islamic finance. In the Stateof the Global Islamic Economy Report 2019/20, it is said that “Malaysia
29

Faisal Islamic Bank of Egypt, Incorporation & History, Retrieved on April 14, 2020,
from<https://www.faisalbank.com.eg/FIB/english/about-us/incorporationhistory.html >. The law No. 48 of 1977 was amended as law No. 97 of 1996 in which
Faisal Islamic Bank was registered as a commercial bank and supervised under theCentral Bank of Egypt. Faisal Islamic Bank of Egypt was the first Islamic bank in
Egypt. However, it suffered due to the negative experiences of fraud by Islamic
investment companies during the 1970s. Egypt had experienced of Islamic financefrom the early time due to the establishment of the Mit Ghamr Savings Bank in 1963.
Ahmad Al-Najjar, the founder of this social savings bank, modeled it on the German
Cooperative Savings Bank [Habib 2018:13]. However, Egypt was wary of Islamicbanking as the Islamic movement was a part of the Muslim Brotherhood’s activity.
Therefore, the Mit Ghamr Savings Bank had been transformed into the governmentbank, Nasir Social Bank, where it had established Zakat funds.

50

Chapter 3. The Gulf and Southeast Asia in the World Map of Islamic Financeand the UAE continue to lead” the Islamic economic market, which
includes Islamic finance, Halal food, Muslim friendly travel, Modest
Fashion, Media & Recreation, and Pharmaceuticals & Cosmetics[Salaam Gateway 2019: 14].
35
30
25
20
15

10
5
0

Sovereign Sukuk
Figure 9. Sovereign Sukuk Issued in 2018
Source: Created by the author based on: [IFSB 2019: 19]

When compared to the UAE, the Malaysian government has taken
stronger initiatives in developing the country’s Islamic financial market.
One of the main reasons was to stimulate the Malay society to commit
more to economic activities by promoting Islamic finance [Venardos
2006: 144-146]. It is often mentioned that Malaysian Islamic financial
infrastructures were developed by applying a top-down model.

(1) The Formation of the Malaysian Legal System During theColonization Period
In order to understand the Malaysian legal system, it is important toconsider Malaysia’s cultural background and its history with Great51

Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

Britain. Although Islam is mentioned as the official religion of theFederal Government of Malaysia in the constitution, this does not make
Islamic law the only source of law.30
Before Islam arrived in this area, Hinduism and Buddhism had been
the main religions and ancient Hinduism had influenced Malaysiancustomary law, known as Adat, which is still practiced in the westernpart of Malaysia today [Ibrahim and Jones 1987:35-36]. This customarylaw differs from Islamic law and Adat is considered as among the “Malay
cultural customs and traditions, including moral value system” [Abdullah
et al. 2010: 164]. The influence of Hinduism and Buddhism could be
explained by the presence of other ethic cultures forming Malaysia, suchas the Indian and Chinese ancestors.
Islam arrived in Malaya in the 14th century and gave birth to theIslamic kingdom of Malacca in the 15th century. Islamic law started totake root in the area from this period. Until Great Britain intervened in
Malaya, the Shāfi‘ī school of Islamic law had been dominating as theland law. There was a separate judicial system for Islamic law to deal
with Muslims’ family law issues.31
Malaya was colonized by Great Britain since the early 19th century.
In 1824 the East Indian Company gained its first Straits Settlements,
which were Penang, Malacca, and Singapore. 32 This was when the
British started governing these areas. The colonization continued until
1957 when the Federation of Malaysia became a commonwealth nation.
Then, in 1963, it became an independent nation along with Singapore,
which separated from Malaysia in 1965. It is said that English law had
been adopted in Malaysia in two ways [Ibrahim and Jones 1987].

30

31
32

The Federal Constitution Article 3(a) states “Islam is the religion of the federation;but other religions maybe practiced in peace and harmony in any part of thefederation”.
Islamic law is applied in the Sharī‘ah courts which exist in all 13 provinces in
Malaysia.
First the jurisdictions of these Straits Settlements were under the Government of
Bengal in India, but the jurisdiction was transferred to the Colonial Office in 1867.

52

Chapter 3. The Gulf and Southeast Asia in the World Map of Islamic FinanceFirst of all, most of the legislation was modelled or based on the
English law. Secondly, most of the judges who decided legal issues in
Malaysia had been dealing with laws which were based or modeled on
English law, and judges would make their judgments according to theprecedents of English law, stare decisis. The higher court presided overthe lower court. Therefore, the Malaysian legal system is formed of fiveelements which are:
1. Written law
2. Judicial Decisions
3. English Law
4. Islamic Law
5. Customary Law [Ibrahim and Jones 1987:5]
The Central Bank of Malaysia is known as Bank Negara Malaysia(BNM). It was established according to the Central Bank Ordinance in1958 and started its operation from 1959.33 Malaysia had experienced thecurrency split with Singapore in 1967. The Ordinance has been amended
as Central Bank of Malaysia Act 2009. Islamic Financial Business ismentioned in Part Ⅶ of this Ordinance which differs from UAE banking
law.
(2) Islamic Banking Act 1983 and Guideline for Islamic Banking in
Malaysia
The regulatory system of Islamic banking in Malaysia developed
after the Islamic Banking Act (IBA) 1983 had been established. Hassan
stated that the development of the Islamic banking industry could be
separated into two phases, the first phase from 1983 to 1993, and thesecond phase from 1994 to 2010 [Hassan 2010: 85].
Islamic banks are regulated by the IBA under the Banking and
Financial Institutions Act (BAFIA) 1989 from the BNM. The IBA
33

Before 1956 Malaysia and Singapore had been governed by East India and had acommon Currency Board. For details see [Sheng-Yi 1990: 7-50].

53

Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

regulates Islamic banks’ licensing, supervisions, management, and theestablishment of their Sharī‘ah boards [Triyanta 2010: 4].
The IBA legislated and amended the law three times. Also, it has
been said that the has IBA had “led the government to make subsequent
amendments to various legal instruments” which helped the Islamic
financial industry to gain “proper recognition equal to that ofconventional banking” [Triyanta 2010: 5].
In addition, Malaysia has established Guidelines for Islamic banks
to instruct the court on how to deal with Islamic banking and financeseparately from the conventional banking system. For example,“Guidelines on the Governance of Sharī‘ah Committee for the Islamic
Financial Institutions (BNM/GPS1) 2004” gives guidelines for the
Sharī‘ah Committee about the duties and responsibilities they need tofollow. For conventional banks there is “Guidelines on Skim Perbankan
Tanpa Faedah (SPTF) 1993” which aims at facilitating conventionalbanks licensed by the BAFIA to be involved in the Islamic banking
industry. The terms of these guidelines have been changed to “Skim
Perbankan Islam (SPI)” in 1998 [SPI]. Therefore, it could be said that
Malaysia is under a dual legal system with the conventional banks andthe Islamic banks.
However, there are some discussions about the legislation of Islamicbanking. As Malaysia had been colonized by Britain, most of the banking
acts are English legislations like; Contract Act 1950, Company Act 1965,
BAFIA. However, most of these English legislations now consider
Islamic banking as a separated legal system. For example, the Central
Bank Act 1958 has been amended to Central Bank of Malaysia Act 2009.
In this law, Part Ⅶ deals with Islamic Financial Business in its second
chapter. The first chapter deals with the Sharī‘ah Advisory Council andthe second chapter mentions about how BNM will deal with Sharī‘ahmatters and the promotion of Malaysia as an international Islamic
financial center.
The latest legal amendment in Malaysia for Islamic finance is theIslamic Financial Services Act 2013 (IFSA 2013). IFSA 2013 developed
54

Chapter 3. The Gulf and Southeast Asia in the World Map of Islamic Financeits category of Islamic financial products where the definition of eachproduct was clarified. In addition, the BNM also announced the“Exposure Draft on Sharī‘ah Governance” where it gave a more detailed
framework for the operation of the Islamic financial institutions from2017.34
Table 2. Local Islamic Banks in Malaysia (Sourced from respective banks)Year of Establishment
1983
1999
2003
2005
2005
2006
2006
2008
2008
2008
2018
34

35

36

38
39

40

41

Name of the Bank
Bank Islam Malaysia Berhad
Bank Muamalat Malaysia Berhad
CIMB Islamic Bank Berhad35
RHB Islamic Bank Berhad36
Hong Leong Islamic Bank Berhad37
Affin Islamic Bank Berhad38
AmBank Islamic Berhad
Alliance Islamic Bank Berhad39
Maybank Islamic Berhad
Public Islamic Bank Berhad40
MBSB Bank Berhad41

BNM (November13, 2017). “Notice & Announcements: Exposure Draft on Shariah
Governance” Retrieved on May 12, 2020, from<https://www.bnm.gov.my/index.php?ch=57&pg=137&ac=645&bb=file.
MBSB Bank Berhad was established by the merger between non-bank lender
Malaysia Building Society Bhd and Asian Finance Bank Bhd (AFB) on February 7,
2018 and was renamed as MBSB Bank on April 2, 2018 [MBSB 2018: 5].
Islamic banking subsidiary of RHB Banking Group. Retrieved May 5, 2020, from< http://www.rhb.com.my/corporate_profile/about_us/history/main.html >.
37 EONCAP Islamic Bank Berhad has become a part of Hong Leong Bank Berhadin 2011. Retrieved May 5, 2020, from <http://www.eonbank.com.my/islamic.shtml>. Hong Leong Islamic Bank Berhad is subsidiary of Hong Leong Bank Berhad.
Islamic banking subsidiary of Affin Bank Berhad which started it operations in
2001.
Islamic banking subsidiary of Alliance Bank Malaysia Berhad (ABMB). ABMB
had been providing Islamic banking windows in 1994. Retrieved May 5, 2020, from< http://www.allianceislamicbank.com.my/ourhistory.html>
Public Islamic Bank is a wholly owned subsidiary of Public Bank Retrieved May 5,2020, from<http://www.publicislamicbank.com.my/pibb/en/en_content/about/index.html >MBSB Bank Berhad was established by the merger between non-bank lender55

Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

Therefore, the legal adjustment for the Islamic bank in Malaysia wasactivated in the first phase and then a more detailed infrastructure wasbuilt into the Malaysian legal system in the second phase.
These legal adjustments caused Malaysia’s Islamic banking sector
to grow [Triyanta 2010: 14]. It is said that the overall assets of the Islamicbank were around $116 billion and had grown 16% in 2010.42 There are
11 local Islamic banks (Table 2.) and 5 foreign Islamic banks operatingin Malaysia.
The foreign banks that provide Islamic finance in Malaysia are the
Al Rajhi Banking & Investment Corporation, Kuwait Finance House,
Standard Chartered Saadiq Berhad, OCBC Al-Amin Bank Berhad, and
HSBC Amanah.43

5. Legal Environment for Islamic Finance
The legal system for Islamic finance in each country wastransformed in various patterns. The legal system for Islamic finance canbe categorized into three types, as shown in Table 3.
For these categories, many of the Muslim countries are in Category
B. Most Muslim countries developed their financial system prior to theintroduction of Islamic finance in 1975. By that time, the conventional
finance system had developed and taken root as the major financial
system in these countries. The Gulf countries had been opening theirfinancial markets as offshore havens in order to diversify their financial

42

43

Malaysia Building Society Bhd and Asian Finance Bank Bhd (AFB) on February 7,
2018 and was renamed as MBSB Bank on April 2, 2018 [MBSB 2018: 5].
Saraya P. (March 23, 2010) “Malaysia Islamic Banking Assets Rise 16% to $116
Billion”, Bloomberg. Retrieved May 5, 2020, from<http://www.bloomberg.com/news/2011-03-23/malaysia-islamic-banking-assetsrise-16-percent-to-116-billion.html>.
Bank Negara Malaysia HP “Financial Stability” Retrieved on May 12, 2020, from<https://www.bnm.gov.my/index.php?ch=li&cat=islamic&type=IB&sort=lf&order=desc >.

56

Chapter 3. The Gulf and Southeast Asia in the World Map of Islamic Financemarkets and developed their financial system following the westerncountries’ financial system. In addition, other Middle Eastern countries
had developed their financial system based on the conventional financesystem.
As shown in Table 3, most of the Muslim countries had started toreform their financial systems in order to adopt Islamic finance. As aresult, a significant number of Muslim countries moved from thecategory A to B.
Table 3. Legal Framework for Islamic Finance

Legal Framework

Country

A Applying the same

Algeria, Australia, Canada,
China, Egypt, Germany,
Maldives, Saudi Arabia,
Singapore, South Africa,
Switzerland, Nigeria,
Philippine, Russia, the UK,
the USA
Amending or revising the law
Afghanistan, Bangladeshi,
in order to legitimize Islamic
Bahrain, Brunei,
finance to coexist with theDarussalam, Djibouti,
conventional finance. Or
Gambia, Indonesia, Kuwait,
establish special law for
Kazakhstan, Kyrgyz,
Islamic finance in order to be
Lebanon, Malaysia, Jordan,
totally separated from theMauritius, Pakistan,conventional finance
Thailand, Tunisia, the UAE,
Qatar, Sri Lanka, Turkey
Develop at totally new legal Iran, Sudan
framework for Islamic financeconventional legal system toIslamic finance as toconventional finance

B

C

Source: Modified by the author from [ISRA 2012]

The Gulf countries, Middle East countries and South-East Asian
countries had developed their financial system like those in category B.

57

Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

These characteristics can be seen from the legal framework for Islamic
finance.
Category B has more flexibility for both conventional finance andIslamic finance, so it is possible to maintain their status as aninternational hub, and at the same time, extend their new market for
Islamic finance. Therefore, global financial hubs and international
financial centers have developed laws or tailored new guidelines for
Islamic finance, and the major Islamic financial hubs in the world havea similar legal system to category B of Table 3. The legal systems of the
Gulf countries and Malaysia had a resemblance at the starting point. The
Gulf countries were British protectorates in the early 20th century.
During that period, most of the Gulf countries had adopted English
common law or a civil law legal system.
Likewise, Malaysia was a colony of Britain and had its legal systemestablished by the British authority. This led Malaysia to have a dual
legal system with a Common law jurisdiction and a Sharī‘ah jurisdiction.
However, the history and development of the legal systems wereuniquely different from each other, which can be seen by a comparisonof the Dubai Approach with the Malaysian Model as we will show in thefollowing chapters.
While conventional banks can easily deal with lawsuits under
existing conventional law based on Western law, the judicial system for
Islamic finance has not yet been clarified and there are no clear rules togo by. Islamic finance has its features characterized by Islamic Law, theSharī‘ah, Islamic Law which causes some legal problems when legal
disputes occur.
First of all, Islamic finance has problems concerning which is the“proper law”, or so called the governing law, to follow. This is becauseinternationally, finance is dealt with according to the universally adopted
Western law system. As most of the Islamic countries have modeled theirlegal systems on English law, French law and other Western-style legal
systems as in the case of Egyptian Law, Islamic Law has been applied
mostly for disputes within the realm of family law rather than disputes in58

Chapter 3. The Gulf and Southeast Asia in the World Map of Islamic Financethe economic legal sphere such as property law or contract law. As
mentioned earlier, Bahrain and other Gulf countries were under British
protection until the mid-20th century, though not directly colonized.
Consequently, the duality of civil law in Bahrain, which is both Islamic
law and Western law, or to be specific, the English law, is quite apparent.
Therefore, Islamic law and Western law have been coexisting for
decades and their influence has changed with the times. Westernizedlaws were dominant in the field of property law until 1970. This was
because the influence of the Sharī‘ah on civil law had declined under the
British protection.
However, as they achieved full independence and the Islamic revival
gained ground, so Islamic law began to gain rapid influence, and thisphenomenon has led to a legal duality in the Gulf countries.
Consequently, there is an issue regarding how Islamic finance can been
governed by Sharī‘ah while there is another financial system governedby Western law. Moreover, there are no guidelines as to how Islamic
financial groups should deal with their legal cases.
More details on this topic will be discussed in the coming chapters.

59

Chapter 4

Statue Law or Hybrid Law?
Systemic Ambiguities for Civil Disputes
1. Introduction
Islamic finance has expanded rapidly, as indicated by the annual
growth rate of around 20% at the end of 2000s. As the Islamic financial
market expanded, this enabled the industry to get involved in larger
projects, while at the same time developing its domestic financial
markets. Usually, when Islamic finance is introduced, the legal systemand the regulations of the domestic financial markets have already been
established to regulate conventional finance, and this causes a conflictwith Islamic finance.
The most representative issue of conflict between conventional
finance and Islamic finance is that in order to be ‘Sharī‘ah-compliant’,
Islamic finance has to follow the prohibition of taking interest and other
un-Islamic elements such as Gharar (uncertainty). Sharī‘ah-complianceapplies not only to financial products, but also requires a regulatory body,so that governance and authority come under the jurisdiction of Sharī‘ah.
Previously, the debate about Islamic finance and ‘Sharī‘ahcompliance’ was mostly about how a financial scheme could be formed
while avoiding Harām elements. Therefore, the issue of ‘Sharī‘ahcompliance’ is associated with financial structure or other economic
elements of each product when a bank offers a new product to its
customers.
However, during the global financial crisis, a new debate arose
related to ‘Sharī‘ah-compliance’. It was related to court cases dealing

60

Chapter 4. Statue Law or Hybrid Law? Systemic Ambiguities for Civil Disputes

with Islamic financial products, especially after a number of Islamic
finance disputes had been brought before the courts.
Before the global financial crisis, the UK court had dealt with theissues of cases related to Islamic finance. This drew international
attention and initiated discussions about how to deal with Islamic
financial cases in non-Islamic legal systems since the UK is a nonIslamic country. Even Islamic countries, however, had adopted
predominantly western legal systems before and after gaining their
independence. Therefore, whenever a case of Islamic finance wasbrought before the ordinary court or another form of alternative dispute
resolution, there were possibilities that these ordinary courts would
ignore the jurisdiction of Sharī‘ah.
In order to see how such issues are being tackled, this chapter will
focus on the previous research on how the legal framework for Islamic
finance has developed. Then it will clarify the issues around whether civil
disputes should be judged by statute law or what I would call hybrid law.

2. Legal Development of Islamic Finance(1) Islamic Law
For Muslims, Islamic Law applies to the whole Universe. It provides
not only the Cosmology of how the Universe was created and maintained
by God, but also the actual guidelines for Muslims’ daily lives, andprovides rules on the relations among Muslims as well as relations
between Muslims and non-Muslims and how the Muslim world should
be governed. Unlike western countries there is no distinction between
civil law and canon law, or between the State and the Church.
Islamic Law is applied according to “divine revelation (wahy) andhuman reason (‘aql)” [Kamali 2008: 40]. Moreover, Islamic Law could
be categorized into two parts. One is fulfilment of the obligations ofSharī‘ah as taught by Prophet Muhammad. The other is Islamic61

Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

Jurisprudence (Fiqh), which is formed of legal rulings derived from the
Sharī‘ah through interpretations by Islamic scholars to deal with
contemporary issues.
The origins of Islamic Law are Qur’ān, Sunna, Ijmāʻ and Qiyās.44
The Qur’ ān is Allah’s word and the Sunnah are Prophet Muhammad’s
teachings and examples. These two original sources are the fundamental
resources for Islamic legal decisions. If it is difficult to make a decision
only by reference to the Qur’ ān and Sunna, the next step will be managed
by Ijmāʻ, agreement among the Islamic community (Umma). Ijmāʻ is aconsensus from the representative Islamic scholars. If Ijmāʻ is notsuitable or not sufficient to make a judgement on a case, the fourth stepis by analogy from the Qur’ ān and Sunna, which is called Qiyās, or legal
reasoning through establishing an analogy between the similar cases. If
the problem is not solved by Qiyās, then it will be taken to otherjurisdictional procedure known as the Science of Fiqh, that is, Islamic
Jurisprudence.
Fiqh is the legal process by which the Sharī‘ah rules can be adapted
to any period and any situation. The Principles of Sharī‘ah, originating
directly from the Qur‘ān and Sunna, are eternally unchangeable as they
are the words of the God and the established practice of the Prophet.
However, as the times change, so the living conditions of the people willchange. Therefore, there is a need to interpret the Sharī‘ah rules
according to the changing demands of the people. As a result, Islamic
Jurisprudence had been essential for interpreting the Sharī‘ah.

(2) The Penetration of Western Law45
Since the late 17th century, the Ottoman Empire had started to lose
its power gradually, and by the 19th century, the Gulf area had become
44

45

Ijtihād is also included as the origin of Islamic Law. Ijtihād is a way of reading aparticular situation by Islamic Law specialist called, Mujtahid. Mujtahid are those
who are authoritative scholars to give and legal opinion generally.
“Western Law” is about legal systems which penetrated from European countries
like Common Law and Romano-Germanic Law.

62

Chapter 4. Statue Law or Hybrid Law? Systemic Ambiguities for Civil Disputes

one of the danger zones known for local “pirates” when the British
gained dominance in the region. In order to protect its investments,
Britain set out to stabilize this area by concluding a peace treaty with thelocal tribes46. Since Britain had extended its protection to the Gulf area,
most of the tribes had settled their territory and had started to create amodern nation. In order to become modern nations, they had established
Civil Services and Congresses. Most of these administrative reforms
were led by the British government.
Bahrain, for example, made a treaty with the British Government that
there would be “no cession of territory except to the British Government”
in 1898 [Ballentyne 1986: 174]. This was the outset of the territory of
Bahrain coming under the protection of the British Government [Amin1985:20]. At this time, Bahrain had been ruled by the Khalifa tribe since
they took over the land from the Safavid from Iran in 1783.
The Bahrain Order in Council (BOIC) was published in 1913 andenforced in 1917 [Radhi 2003: 28-30; 76]. The BOIC classified theattribution of Common Law and Islamic Law. While the jurisdiction was
attributed to Common Law and Islamic Law, the legislation wasclassified into Romano-Germanic Law and Islamic Law. This was
because most of the legislations were influenced by the Egyptian scholar'Abd al-Razzāq al-Sanhūrī and most of the laws were modeled onwestern law as a result [Rahdhi 2003: 77]. Al-Sanhūrī contributed to
introduction of western law, as the father of modernization of law, notonly in Egypt but also in other Arab countries. Egyptian Law had been
directly affected by the French Civil Code, especially in the realm of civillaw. The legislation had been organized mostly by Egyptians andspecialists from other Arab countries which had also adopted the
Egyptian model. As a result, Bahrain enacted most of its laws according
to the Egyptian judicial system.

46

See [Ballentyne 1986] Appendix Ⅱ for details.

63Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

In addition, Western Law was applied to the commercial law
practically, not only in the Gulf countries but also throughout the Middle
East [Mallat 2000].

(3) The Demise of Islamic Law
On the other hand, Islamic Law had kept its jurisdiction in “a few
core areas such as the law of personal status, family law” and the law of
Succession [Foster 2010:276].
The BOIC had limited the authorization of the Sharī‘ah court by
giving the British Government control over the court [Rahdhi 2003:33].
However, the Sharī‘ah court, which dealt with Muslims’ personal matters,
had remained within the judiciary system. According to the provision of
Article 8 of Legislative decree No. 13 of 1971, the court system wasdivided into two parts, the Sharī‘ah court and the Civil Court. At the
Sharī‘ah court Sunni and Ja‘fari courts were established in order to deal
with Sunnis and Shi’as according to their particular Schools. In Article 8of Legislative decree No. 13 of 1971, the Sharī‘ah court was a two-tiered
system at the time of independence. Later, this law was amended by
Legislative decree No. 4 of 1999 and the Sharī‘ah court system becamea three-tiered judicial system. According to the amendment, it is statedin Article 17 that cases before the Sharī‘ah court would be examined by
Lower Sharī‘ah court, and if not resolved would proceed to the Higher
Sharī‘ah court and then the Higher Sharī‘ah court of Appeal. In the same
Article 17 it is mentioned that these Sharī‘ah courts would only deal withthe personal matters of Muslims. To be specific, the Sharī‘ah court would
have jurisdiction over marriage cases, issues of inheritance, donations,bequests and endowments. Also, in Article 20 of Legislative decree No.
4 of 1999, it says that every case should be dealt with according to thelegal school to which the plaintiffs belong. A marriage contract bySunnis would be dealt with according to the Sunni schools while
followers of the Shia Ja‘fari school would be deal with in a Ja‘fari court.

64Chapter 4. Statue Law or Hybrid Law? Systemic Ambiguities for Civil Disputes(4) Emergence of Islamic Finance and Transformation of theLegal System
1) The Character of Islamic Finance
Islamic Finance is a financial scheme compliant with the Sharī‘ah.
This means that Islamic Finance has to be controlled or governed by
Sharī‘ah scholars, and it must be managed differently from the legislationof Western Law. Modern Western Law has mostly been established or
written according to human values, while Islamic Law is regulated by
Allah and interprets the words of the Prophet.
A conclusive difference between Islamic Law and Western Law canbe seen in the principles applied in Islamic Finance. Under Sharī‘ah law,ribā is prohibited. Ribā is similar to the interest used in conventional
finance which adds value to currency by currency itself without risk orfurther effort by the lender. In order to prevent ribā, Islamic Finance hascreated a special scheme represented by Murābaha, through a
combination of trade contracts. The basic schemes of Islamic Finance are
created by a combination of trades. For example, if someone wants topurchase a car using Islamic Finance, there will be two purchases,
without a loan. In conventional finance, the purchaser asks the bank tolend them the price of the car and promises to return a specific additionalamount of money to the bank. However, in Islamic Finance, the bankpurchases the car and then sells it to the purchaser for the original priceplus a margin.
Another scheme for Islamic Finance is applying the Profit and Loss
Sharing (PLO) system. This PLO can finance big projects such asbuilding infrastructure and other types of development projects. One of
the representatives of this kind of scheme is Mudāraba. This scheme
works by dividing the risk and profit among the investors and theentrepreneurs, as opposed to the conventional financial system, where, if
a project fails, the risk will fall only upon the entrepreneur who must pay
back the loan to the lender in full, adding the prescribed interests. Islamic

65Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

economic ethics considers this unequal bearing risks between two parties
unjust.
2) The Development of the Islamic Finance Legal Framework in the
Gulf Countries
Islamic financial products could not be compliant with Islamic law
under the jurisdiction of the conventional legal system. The reason forthis is simple. Contemporary Islamic finance emerged after the
traditional Islamic jurisdiction had been lost to western conventional
finance. Therefore, the regulations for conventional finance had been
dominant before the emergent Islamic finance and the modern legal
system were fully developed for the purpose of regulating conventional
finance.
One might be tempted to imagine that the mindsets of the British
administrators, when they changed the legal system of the countries
under their control, were that they had an obligation to help local peoples
to get out of the obsolete Islamic rules and make them modern. Fromsuch a mindset, it must be unimaginable that the same people opted forthe return of Islamic ethics in the late 20th century.
As the legal system for Islamic finance has imperatives with
Sharī‘ah compliance, we will briefly see how the Gulf countries havedeveloped their legal systems to accommodate newly emergent Islamic
finance. The Gulf includes six countries: Bahrain, Kuwait, Oman, Qatar,
Saudi Arabia, and the UAE. These countries, except for Saudi Arabia,
were under British protection during the 19th century and had
modernized their legal systems.
The civil codes in these countries represent a blend of Egyptian civil
law and Western civil law. Egyptian civil law, in turn, was modeled on
the French Civil Code and Al-Majallah, the Othman civil code, by the
Egyptian scholar ‘Abd al-Razzāq al-Sanhūrī.
Historically, most of the civil law in the region has been modernizedbased on the Egyptian civil code, except for Muslim family law and tosome extent property law [Amin 1985; Ballantyne 1986; Brown 1997].
66

Chapter 4. Statue Law or Hybrid Law? Systemic Ambiguities for Civil Disputes

Cases of Muslim family law and other branches of Islamic law are heard
in the Sharī‘ah courts, which are separate from the Western law courts.
In addition, taking interest became legal for commercial transactions[Hasan 2010: 91].
Sometimes, it is oversimplified to say that commercial laws in the
Gulf countries introduced Western law, as some of the contracts wereformed by law firms dealing with common law [Al-Tamimi 2003; Mallat2000]. This led to difficulties in dealing with Islamic financial products
under such western law is difficult [Nyazee 1998; Kuran 2005; Usmani
2008; Foster 2010a; 2010b].
On the other hand, Al-Tamimi states that while the UAE civil law
has been influenced strongly by French Civil Code and Common law,
the UAE civil law and commercial law have adopted some Islamic law
principles [Al-Tamimi 2003: 5]. Similarly, Coulson has identified that in
the UAE court, the Islamic law concept and the common law concept ofloans were put together as legal requisites [Coulson 1964: 1-3].
Nevertheless, this mixture was not helpful for dealing with the new
Islamic finance products. A conspicuous example is related to the issuesof interest, which is prohibited in Islamic law. According to article 714
of Union law No. 5 of 1985, interest is prohibited. This Union law No. 5
of 1985 is known as a civil transaction law.
However, Union law No. 1 of 1987 stated that the prohibition ofinterest would be limited only to civil law and commercial issues would
be dealt with by the Union law No. 5 of 1985 until commercial law wasestablished [Ghanam 1991; Hosni 1992: 163].47 By Union law No. 3 andNo. 4 of 1987, commercial transactions which dealt with interest were
excluded from applications and interest which did not exceed 9% waspermissible [Al-Suwaidi 1993: 294].

47 Union law No. 1 of 1987 was established in order to broaden the legal jurisdiction of

the Union law No. 5 of 1985 and Union law No. 8 of 1984 which is the company law.
It was intent to legalize various companies which were not able to be categorized as acompany in the previous legislations.

67

Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

Then, the Federal law No.11 of 1992 made charging interest incommercial transactions permissible. It is said that this modification was
taken in view of necessity, which is supported by the Islamic concept of
Dharuriyat (necessity) as “for economic stability and the needs of thepeople” [Hasan 2010: 91-92].
As for exceptions, this Federal law No. 11 of 1992 would not be
retroactive on those whose legal basis was from the Union law of 1970,
therefore, the Abu Dhabi Supreme court had made the contract that dealt
with interest ineffective [Tamimi 2000]. In general, interest was
legitimated, and there was a judicial precedent made in 1997 thatmentioned that it was a duty to pay interest for debt, and interest was
legitimate [Price and Al Tamimi 1998: 53-55].
Hence, it is difficult to say that the UAE law took Islamic law into
proper consideration in its commercial legal system. In addition, most of
the law firms were said to come from common law backgrounds, and thisresulted in the fact that English law was frequently applied when forming
contracts in the UAE [Al-Tamimi 2003: 5]. As a result, from theprecedent and legal reform, it would be difficult to deal with cases related
to Islamic finance under a legal system which legitimates interest. So, it
is necessary to separate the legal system for Islamic finance from theconventional legal system.
In the UAE the legislation for Islamic banks is the Federal Law No.
6 of 1985 “Regarding Islamic Banks, Financial Institutions andInvestment Companies (Qānūn al-Ittihād Raqm 6 li-Sana 1985 bi-Sha’nal-Maṣārif wa al-Mu’ssasāt al-Mālīya wa al-Sharikāt al-Istithmārīya alIslāmīya)”. This legislation was intended to separate the legal system for
Islamic financial institutions from the conventional legal system.
Therefore, the UAE legal system for Islamic finance has been
categorized as a dual legal system, which is similar to the Malaysian legal
system [Wilson 2012: 107-111].
Generally, Islamic financial institutions need to have an
independent Sharī‘ah board to guarantee their financial products to be
Sharī‘ah compliant. Article 6 of UAE law No.6 of 1985, states that each
68

Chapter 4. Statue Law or Hybrid Law? Systemic Ambiguities for Civil Disputes

Islamic bank and financial institution must organize a Sharī‘ah board
with at least three members and each member must be authorized by theHigher Sharī‘ah Authority. This Higher Sharī‘ah Authority is attached to
the Ministry of Justice and Islamic Affairs and its decision will bebinding over domestic Islamic financial institutions.
Other Gulf countries have also established their own legal
framework for Islamic finance. In order to see the characteristics of thelegal system for Islamic finance in the UAE, this section will also
compare the UAE system with the other Gulf countries.
Bahrain has developed the Prudential Information and Regulatory
Framework for Islamic Banks (PIRI) to provide a regulatory framework
for Islamic banking. The PIRI is a framework for Islamic banks to beproperly regulated under the Bahrain Monetary Agency which wasreformed as the Central Bank of Bahrain in 2006.
After the Central Bank of Bahrain was established, the rule books for
Islamic banking and other Islamic financial institutions were publishedin order to provide guidelines for the operation of these institutions whichwere differentiated from conventional financial institutions. A similar
legal framework was developed in Qatar by having Law. No.33 of 2006
as the legislation, and Instruction to Banks 2009 as the regulation
guideline.
Kuwait used to have separate regulations for Islamic banking which
had enabled the Kuwait Finance House to dominate the Islamic financial
market in Kuwait [Smith 2004]. Islamic finance in Kuwait had been
permitted by special decree until 2003. From 2003 the separated law for
Islamic finance was united with the central banking law in Kuwait.
Oman is a newcomer to Islamic finance in the Gulf countries. An
official notice was published by the central bank of Oman in June 2011
and Bank Nizwa, the first Islamic bank for Oman. was established in
March 2012.
Among the GCC countries, Saudi Arabia needs special attention.
Unlike the other member states, it never entered under the British
domination, and kept the supremacy of the Sharī‘ah in its legal system.
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Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

However, in the sectors of modern economy, the western system and its
legal rules de facto encroached into the country’s system during its
modernization, and conventional banks were set up in the country. The
duality of law has a different kind of complication here, because thewestern system penetrated into its economy, without changing thesupremacy of the Sharī‘ah in the courts. Foreign companies foundthemselves puzzled, being able to make contracts involving interest in
one form or another in the country, but unable to win when a civil dispute
arises, because the judge in a court would certainly decide the interest
was illegal.
Table 4. Legal Framework for Islamic Finance in Five Countries in the Gulf

Country
Bahrain
Kuwait
Qatar
UAE
Oman

Legal Framework
PIRI, Central Bank of Bahrain Rulebook Volume
1-6
Central Banking Law 2003
Law No.33 of 2006, Instruction to Banks 2009
Federal Law No. 6 of 1985
Royal Decree 69/2012, Circular BM 1080,
Islamic Banking Regulatory Framework

Source: Created by the author based on website of each respective country’s centralbank

In Saudi Arabia, the government did not recognize Islamic banks on
its soil in the 1980s and 90s, because the introduction of Islamic banks
would have indicated that the existing conventional banks were nonSharī‘ah compliant [Nagaoka 2011: 25-27]. Therefore, two large leading
Islamic financial conglomerates established by Saudi founders, namely,
DMI and ABG, were established outside the country.
Table 4 shows that the UAE has another interesting feature ofcreating Free Zones with autonomous legal systems separate from theirdomestic ones. Dubai has Dubai International Financial Centre (DIFC),

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Chapter 4. Statue Law or Hybrid Law? Systemic Ambiguities for Civil Disputes

a special financial center which is separated from the domestic market.
DIFC is a special financial zone established by Dubai Law No. 8 of 2004.
All the financial institutions in DIFC are regulated under the Dubai
Financial Service Authority (DFSA) by Dubai law No. 9 of 2004. The
judicial system of DIFC is also separated from the domestic system as itis mentioned in DIFC Law No. 12 of 2004 that the DIFC will establish
its DIFC court independent from the domestic court of Dubai.
In addition, DIFC Law No. 13 of 2004 is the regulation for Islamic
finance in the DIFC. Islamic financial institutions are under the
regulation of the DFSA according to the DIFC Law No.13 of 2004. DIFC
Islamic Finance Advisory Council was established in December 2005 inorder to promote and develop Islamic finance. Operation guidelines for
Islamic financial institutions are given in the DFSA Rulebook. Moredetailed guidelines are provided in the DFSA Islamic Finance TailoredHandbook, which instructs Islamic financial institutions on how theyshould follow DIFC legislation [Wilson 2012: 13]7. This handbook is
divided into 5 fields, which are Islamic banks, Islamic investments
projects excluding funds, Islamic insurance, meditators of Islamic
insurance and Islamic funds. Therefore, these guidelines aredifferentiated between Islamic finance and conventional finance. Thus,
legal infrastructures were built in the UAE and DIFC for Islamic finance.

3. Harmonization or Standardization?
The lack of standardization among Islamic financial products has
been made apparent by the issues related to the discussions on ‘Īnah and
Tawarruq. Both these Islamic financial products have brought up issues
on their Sharī‘ah compliance or lack of it. However, this also illustrates
the diversification of the interpretations of the Sharī‘ah rules.

71Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

Sharī‘ah compliance is a crucial element in establishing the validityof an Islamic financial product and differentiating it from conventional
financial products. Being Sharī‘ah compliant is of fundamental
importance for Islamic financial institutions to gain the trust of theircustomers and the industry at large, as well as the trust of the authorities.
It has lead the Muslim world to develop its own economies. Sharī‘ahcompliance has been discussed legally in dispute cases but there has notbeen any consensus on its standardization.
The standardization of the Sharī‘ah compliance has not beenachieved globally, but it has been possible to gain a consensus on some
topics through the work of the Islamic Financial Services Board (IFSB)
and the Accounting and Auditing Organization for Islamic Financial
Institutions (AAOIFI).
Although AAOIFI has been working on its standardization since1991, there is no universal standardization up until now. Now let us turnour eyes to a movement toward the harmonization of Sharī‘ahcompliance and examine the degree of its success.

(1) Standardization in Islamic Finance: AAOIFI or IFSB?
Standardization can be translated as ‘Tawḥīd’, which is the Islamicprinciple of divine unity [Kamali, 2008]. Creating a unified Islamicprinciple has been one of the crucial topics for sustaining the Islamic
financial market.
The discussion on standardization in Islamic finance stemmed fromconcerns and criticism about the risk of some products being Sharī‘ah
non-compliant and the creation of “Sharī‘ah arbitrage”.
Standardization has also been a topic discussed in dispute resolution[Yaacob et al., 2011]. The need for standardization of legislation waspresented in order to clarify Shamil Bank of Bahrain EC v. Beximco
Pharmaceuticals Ltd. [2004] EWCA Civ 19, [2004] 2 Lloyd’s Rep 1 casein the UK. After mentioning that there was some negativity for the
standardization of Islamic financial products, it was suggested that:72

Chapter 4. Statue Law or Hybrid Law? Systemic Ambiguities for Civil Disputes“Apart from reducing confusion and increasing efficiency,
standardization would increase consistency and transparency,
reduce costs and provide more time for innovation. One of thesuggested solutions (although it may not be perfect one) would beto establish an International Sharī‘ah Board that would consist ofmembers from all schools of law and whose decisions would be
mandatory for all jurisdictions” [Yaacob et al., 2011].
It is also mentioned emphatically that “Without standardization, theauthors believe that the IFI will suffer in the long run” and that “OIC,
should make a lex mercatoria in order to form an international
convention of ‘Model Law of Arbitration’” [Yaacob et al., 2011].
Although there are negative forecasts against standardization as it
will negatively affect the diversified opinions that flourish in the Islamic
market, in such cases, harmonization has been seen as an alternative tostandardization.
The IFSB is an international organization for standard setting forinternational organizations for Islamic finance. The objective of the IFSB
is “(T)o promote the development of a prudent and transparent Islamic
financial services industry through introducing new or adapting existing
international standards consistent with Sharī‘ah principles andrecommend these for adoption” mentioned in Article 4 of the Articles ofAgreement [IFSB, 2018].
The IFSB has gained a juridical personality and a common seal since
2002. This has enabled the IFSB to form a (a) contract, (b) acquire, hold,and dispose of movable and immovable property and (c) institute legal
proceedings [Federal Constitution of Malaysia, 2002].
As the IFSB is located in Kuala Lumpur, its standard has been widelyadopted by the Malaysian Islamic financial institutions. In addition, the
IFSB has also been selected as the standard for more than 180 membersof seventy-eight regulatory and supervisory authorities in fifty-sevendifferent jurisdictions.

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Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

The AAOIFI has become well known for its international
standardization of Islamic financial products. It has been issuingstandards for accounting, auditing, and Islamic products Sharī‘ahcompliance. Although it is a non-profit organization, the AAOIFI has
been able to gain recognition as a well-known standardization institution
for Islamic financial organizations. As the AAOIFI is located in Bahrain,
Bahrain prioritizes AAOIFI standards over those of the IFSB.
The Central Bank of Bahrain had issued a handbook on Islamic
Banks in the Central Bank of Bahrain, Volume 2. In HC-9.2“Governance and Disclosure Per Sharī‘ah Principles” it is clearlymentioned that AAOFIF standards will be the standards for all licensed
Islamic banks.
In the Bahrain Islamic Bank Annual Report, the AAOIFI is clearlymentioned as the standard. “1. All the Financial Statements inspected by
the Sharī‘ah Board conform to what has been approved by the Board,and to the standards issued by the Accounting & Auditing Organization
for Islamic Financial Institutions AAOIFI,” and “6. The Bank wascommitted to the Sharī‘ah standards issues by the Accounting &Auditing Organization for Islamic Financial Institutions (AAOIFI)”[Bahrain Islamic Bank, 2017: 42]. As there are also reports on the newstandards’ amendments and interpretations in the report, it could be said
that AAOIFI standards are considered as the general standards by the
Bahrain Islamic Bank.
The AAOIFI standards have a clear statement on the prohibition of‘Īna, while the IFSB standards, Technical Note and Guideline Note do
not mention it. In the AAOIFI standards the definition of Monetization
is as follows:“Monetization refers to the process of purchasing a commodity
for a deferred price determined through Musāwamah (bargaining)or Murābahah (Mark-up Sale) and selling it to a third party for a
spot price so as to obtain cash. Whereas ‘Īnah refers to the processof purchasing the commodity for a deferred price and selling it for74

Chapter 4. Statue Law or Hybrid Law? Systemic Ambiguities for Civil Disputes

a lower spot price to the same party from whom the commodity waspurchased” [AAOIFI Sharī‘ah Standard No. (30): Monetization(Tawarruq)].
We can clearly see in the difference of these two standards a lack ofuniversal standardization of Islamic financial jurisdiction so far.

(2) Harmonization in Malaysia
Harmonization has been translated as ‘Tawfiiq’ in Arabic. Such aterm was used to explain the harmonization between the Islamic law andcommon law traditions in Malaysia (Hasan, 2007]. The “integration ofboth Islamic and common law” is a “process” for creating “harmony
between the Sharī‘ah and common law” [Hasan, 2007].
Such processes have been taking place in the reformation of the
Malaysia legal framework for Islamic finance, especially focusing on thecreation of the Sharī‘ah Advisory Council (SAC) in the Central Bank of
Malaysia.
The Malaysian Islamic financial market faced a negative impact after
their court had ruled bay‘ bi-thaman ājil (BBA) to be “contrary to theIslamic Banking Act 1983 or Banking and Financial Institutions Act
1989” in the case of Arab-Malaysia Finance Bhd v. Taman Ihsan Jaya &Ors (Koperasi Seri Kota Bukit Cheraka Bhd, third party) MLJ 5 [2008].
This will be explained in detail in Chapter 5.
After such a decision was ruled out, other similar judgments werealso made. After the court had ruled against the BBA, the Islamic
financial market received a negative reputation for dealing with noncompliant products. In order to protect the market’s reputation, the SAC
expanded its supervision over dispute resolution and other Sharī‘ahrelated issues.
Therefore, the SAC has expanded its role to harmonize between the
Sharī‘ah and the conventional legal system, ruled over by the75Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

conventional courts, and also expanded its role to rule not only on Islamic
financial products but also on Sharī‘ah issues that are dealt with inconventional courts.
This harmonization has created a prototype for other nations thathave a similar legal structure to Malaysia’s. However, suchharmonization requires a strong initiative by the government to protect
the principles of Islamic law. As in most transactions in the Muslim
world the governing law is common law or civil law jurisdiction, thesejurisdictions are generally preferred in business, so Islamic law has agreat disadvantage when being chosen as the governing law.
Furthermore, such harmonization needs huge consideration on whatgoals should be set and what processes should be taken, as harmonizationis only a “process” towards unification, or standardization. For more on
this topic, harmonization in Malaysia will be discussed in Chapter 5.

4. Statue Law or Hybrid Law?
Some cross-border dispute cases of Islamic financial transactions
were dealt with in the conventional dispute resolution system. In theearlier stages, there have been some representative cases judged in the
UK court.
There have been several lawsuits of this kind. Some of these cases
have been judged in the UK court, which have brought up issues on
litigation to deal with Islamic finance dispute cases. The first case whichbrought up issues of Sharī‘ah to the court was the Islamic Investment
Company of the Gulf (Bahamas) Ltd v Symphony Gems N.V. and others[2002] All ER (D) 171 (Feb). In this case, although the Murābaḥacontract was focused on, its legitimacy as an Islamic contract was notdiscussed. The court observed the case strictly according to English law

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Chapter 4. Statue Law or Hybrid Law? Systemic Ambiguities for Civil Disputes

and did not refer to the issue being raised by the Sharī‘ah expert on thevalidity of this Murābaḥa contract.
The issue of dealing with Islamic finance in the English courts did
not receive any negative reviews until the case of Shamil Bank of
Bahrain EC v. Beximco Pharmaceuticals Ltd. [2004] EWCA Civ 19,[2004] 2 Lloyd’s Rep 1, had been judged. In this case, it was clearlystated that the Sharī‘ah is not a legitimate law to be applied in court. In
the case, it was mentioned that in order for a law to be an applicable law
for governing disputes, it must be a national law. National law is definedin “the 1980 Rome Convention on the Law Applicable to Contractual
Obligations (Rome Convention)”. As the Sharī‘ah was not categorized
as a governing law, this case brought out the fundamental problems
which could occur when dealing with Islamic financial cases in theconventional courts, to the industry and the public.
As Colon notes:
The argument that Sharī‘ah is a comprehensive social code of
conduct that applies outside of a state’s legal framework should
not create so much confusion that the application of Sharī‘ahbecomes untenable…. Obviously, the judge need not consider
principles related to personal behavior inasmuch as these do notaffect the free will of parties in forming the agreement. In thisrespect, a judge can serve as a gatekeeper. In doing so, the judge
should apply the chosen law of the parties, and when an issue israised concerning a Sharī‘ah matter, the judge should allow bothsides to present their experts or to agree to send the issue to an
expert chosen by the parties” [Colon 2010: 426].
In addition, having more than two laws applied to the contract is not
permissible. It is also not allowed to apply dual laws in one contract
according to the Rome Convention Article 3 (1). However, as“Combined-Law Contracts” are needed for Islamic finance, the Rome77

Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

Convention will not be a solution for dealing with Islamic financedisputes [Colon 2012: 415-417; Mohamad and Trakic 2012: 18-20]. In
the dual legal system, an Islamic finance contract will be a combinationof a mixed law of Sharī‘ah and other laws. Therefore, these combinedlaw contracts are a form that is needed for Islamic finance contracts.
While these two cases have raised some criticism on employing
conventional litigation to deal with Islamic finance dispute cases, there
has been even more criticism on utilizing the court for such matters. As
Islamic finance is a combination of finance and Sharī‘ah, this makes thelitigation face more risks when dealing with Islamic financial disputecases.
Adawiah has pointed out that there are Sharī‘ah non-compliant risks
in the Islamic finance industry in two categories, Sharī‘ah advisory(Sharī‘ah board) risk and Islamic financial Institution risk as a shown in
Table 5. The Sharī‘ah non-compliant risks could be caused not only by
the IFI, but also by the decision of the Sharī‘ah board in the banks. It
could also be said that as the Malaysian courts are not able to be fully
aware of Sharī‘ah issues, therefore, as a result, there are higher risks if
the court handles Islamic finance dispute cases. Based on these Sharī‘ah
non-compliance issues, Adawiah concluded that deciding cases in thecommon law courts in Malaysia could lead to “anomalous decisions andnon-consideration of Islamic legal rules and principles” [Adawiah
2015:16].
Previous Malaysian litigation has been criticized not only from the
aspect of Sharī‘ah risks but also for not referring to the SAC. This point
will be discussed in the next chapter.
There has been criticism of several conventional court judgments
being given to Islamic financial cases. The arguments can be divided into
two types: one concerns the negligence or infringement of Sharī‘ah
principles, and the other is the difficulty of recognizing or applying
Sharī‘ah principles under the conventional legal system. These have been78

Chapter 4. Statue Law or Hybrid Law? Systemic Ambiguities for Civil Disputes

caused by the complexity of the legal system between conventional
jurisdiction and Sharī‘ah jurisdiction.
Various countries have a civil law system or common law system as
their legal foundation, and as Islamic finance arrived after conventional
finance had been developed, a dual legal system has been established forIslamic finance in the major Islamic countries. The coexistence of both
legal systems has caused a lack of harmony in each jurisdiction from thevery beginning.
Table 5. Sharī‘ah Non-compliance Risks in Islamic Finance

Sharī‘ah noncompliant risk
Sharī‘ah
Advisory(Sharī‘ahboard) Risk

Component of the risk

•

•

•

Islamic
Financial
Institution Risk••

Incompatible practices occurring in IFI
operation which the Sharī‘ah advisors(Sharī‘ah board) are unaware of.
Inappropriate decision by the Sharī‘ahadvisory (Sharī‘ah board) based on theinadequate or biased information from thebankers
Variations of financial products leads
Sharī‘ah advisory (Sharī‘ah board) to beunable to cope with the development
IFI misunderstanding of Sharī‘ahcompliance
Ignorance of the IFI and mistakes

Source: [Adawiah 2015:15]

79

Chapter 5

Dubai Approach: A Drastic Resolution to Civil
Disputes in an Economic Crisis
1. Introduction
This chapter will focus on the UAE case on developing a new dispute
resolution system which presented an alternative for Islamic financial
disputes. The UAE faced an unprecedented financial crisis that involved
Islamic financial transactions, and Islamic financial institutions at theend of 2009.
The UAE is one of the international hubs for Islamic finance. In
addition, its legal system has a unique structure compared with othercountries with its federal system and a mixture of common law resulting
from its historical background.
While there were no models for an Islamic financial dispute
resolution system, a new system, which we call the Dubai Approach, has
emerged. This chapter will describe its emergence by following thechronological development of this new dispute resolution system for
Islamic finance.

2. Legal Framework for Islamic Finance in the UAE
UAE legislation for Islamic banks was established in the early stagesof the Islamic financial market. The world’s first Islamic commercialbank, the Dubai Islamic Bank, was established in 1975 and Federal Law
No. 6 of 1985, ‘Regarding Islamic Banks, Financial Institutions, andInvestment Companies,’ was promulgated as the legal framework for80

Chapter 5. Dubai Approach: A Drastic Resolution to Civil Disputes in an
Economic Crisis

Islamic banking and finance in the UAE. This legislation aimed toseparate the legal system for Islamic financial institutions from theconventional legal system. Therefore, the UAE legal system for Islamic
finance has been categorized as a dual legal system, applying bothWestern oriented national law and Islamic law [Wilson 2012: 107-111].
In addition, most law firms in the UAE originated from common law
backgrounds, and this has resulted in English law being frequently
applied when forming contracts in the UAE [Al-Tamimi 2003:5].
The judicial system in Dubai has several sub-systems that consist ofDubai’s domestic system, the common law system, and the federal
system. The UAE adopted a federal system and each of the sevenemirates, including Dubai, operates its own state legal system along withthe federal legal system. Dubai also has an additional judicial system(which excludes the federal system), consisting of the domestic judicial
system and the common law system in the Dubai International Financial
Centre (DIFC). The domestic judicial system has the main features of thecivil law system, where decisions are made according to the legislation.
On the other hand, the DIFC judicial system has features of a commonlaw jurisdiction, in which decisions are made according to previous court
judgments.
Dubai’s two judicial systems, the DIFC judicial system and thedomestic judicial system, have been responsible for ‘providing
accessible and superlative service to litigants and court users’ since 2009
[DIFC Court 2009]. The Memorandum of Understanding in Dubai
Courts and DIFC Courts has enabled parties to form contracts based on
civil law but to choose common law for the court. It had been possible todeal with a contract formed under a civil law system in the DIFC since
October 31, 2011.
The federal court is located in Abu Dhabi and the federal legal
system is applied to the whole Union of the Emirates. It is also possible
for an individual from the UAE to choose the federal law over the local
domestic law and vice-versa.

81Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

Thus, legal issues dealing with Islamic financial cases might bebrought under any one of these jurisdictions, as the domestic legal systemand the DIFC legal system are based on different legal systems. Further,Islamic finance does not have its own legal system but only a legal
framework, which means that Islamic finance must decide which legal
system to use as its judicial system. This issue arises from the nature of
the dual legal system for Islamic finance. The new judicial bridge ofOctober 2011 between domestic law and DIFC law theoretically allows
contracts formed under civil law jurisdiction to be dealt with under DIFClaw.
As common law and civil law have different provisions about
freedom of contract, the characteristics of being legally binding, andother elements, this could lead to legal issues as conflicts of law and otherlegal concepts that do not exist in either jurisdiction [Tetley 1999]. Thisis a similar issue to Sharī‘ah compliance and conventional laws, as eachof these has different legal concepts. Islamic financial concepts havecaused conflicts of law for Islamic law on occasions that have eventually
led to amendments to conventional law. For example, double taxation
was once an issue for sukūk in general. Sukūk does not have the same
scheme as a bond, since bonds use ribā, or interest. In order to preventsukūk from being subject to double taxation, several countries haveamended their law. Even Japan amended its banking law in 2011 toaccommodate sukūk from Muslim countries.
Similar issues of conflicts of law and private international law could
arise in relation to Islamic financial disputes. Islamic financial contracts
can be formed according to the contract law of the relevant jurisdiction,
but the transactions and financial products will be structured to be
Sharī‘ah compliant. Forming an Islamic financial contract under civil
law jurisdiction and then bringing it into common law jurisdiction is aproblem for the governing law and dealing with an Islamic financial
contract in the conventional court causes a reputational risk. This
problem for the court dealing with the Islamic financial case had caused

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Chapter 5. Dubai Approach: A Drastic Resolution to Civil Disputes in an
Economic Crisis

Malaysia to expand its Sharī‘ah Advisory Council, which will be
discussed later in the next chapter.
When securing Sharī‘ah compliance in common law and civil law
jurisdictions there are various obstacles to be tackled from both academic
and practical perspectives. Therefore, Dubai’s jurisdiction seems to poserisks of conflict of laws and private international law issues. Sharī‘ahcompliance is a further legal issue to take into consideration for Islamic
financial contracts.
Some Islamic finance cases have been dealt with in courts in the
UAE. The Dubai court has experience in dealing with disputes related toIslamic finance [Kawamura 2013: 108]. In addition, several ADR
institutions handle cases related to Islamic finance in Dubai. In domestic
arbitration, the International Islamic Centre for Reconciliation andArbitration (IICRA) is a special institution for dealing with Islamic
financial disputes. The DIFC absorbed the DIFC Arbitration Institute(DAI) in 2004.48 The establishment of a special arbitration institution forIslamic finance was a response to criticism from Islamic scholars in
relation to the courts dealing with Islamic financial cases without
considering Sharī‘ah compliance [Kawamura 2013: 99].

3. The Dubai Shock
A sovereign company of the Dubai government, Dubai World, faced
delays in its repayments for project financing and completion on
November 25, 2009. This incident triggered what is known as the Dubai
Shock. During the Dubai Shock, other real estate agents such as Nakheel
Public Joint Stock Company (PJSC), Tamweel PJSC, and Amlak PJSC,
came close to defaulting. These companies had utilized Islamic financial
products for their mortgage transactions. The following paragraphs
48

DAI and the London Court of International Arbitration (LCIA) were restructured as
DIFC-LCIA on November 18, 2015.

83Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

discuss three elements that contributed to the great impact of the Dubai
Shock.
The first element is the expansion of the market for foreigners
without specific legislation about real estate and credit. Article 4 ofDubai Law No. 7 of 2006 created specific rights for real property.
The right to own Real Property in the Emirate will be restricted to
UAE nationals, nationals of the Gulf Cooperation Council member states
and to companies fully owned by these, and to public joint-stockcompanies. Subject to the approval of the Ruler, non-UAE nationals may,in certain areas determined by the Ruler, be granted the following rights:
a. Freehold ownership of Real Property without time restrictions; andb. Usufruct or leasehold over Real Property for a period notexceeding ninety-nine (99) years.
This legislation enabled foreign investors to take part in a wide rangeof real estate investments in Dubai. These amendments also created anenvironment for speculative short-term investments in real estate andmortgage development in Dubai. In fact, pre-sale and re-sale of realestate was taking place when the real estate concerned was still underconstruction or construction had not even begun [Renaud 2010: 8].
The second element of the Dubai Shock was the absence of any
unified credit bureau at that time. The lack of a credit bureau to supervise
the UAE market caused some mortgage developers and other actors tocontinue re-selling the property rights of mortgages for incomplete
constructions.49 This caused a rise in real estate prices and speculation in
the Dubai real estate market. Most contracts were pre-sold without
considering the risk of default. For instance, such procedures had been
adopted without regard to the ratio of the mortgage price that would becovered to the payment made when the mortgage was established.
The third element of the Dubai Shock was regulatory arbitrage.
There are various ways to define regulatory arbitrage. From a legal
perspective, regulatory arbitrage is a loophole for businesses, companies,
49

Al Etihad Credit Bureau was established in August 2014 to supervise credit in the
UAE.

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Chapter 5. Dubai Approach: A Drastic Resolution to Civil Disputes in an
Economic Crisis

and individuals to avoid extra costs or legal responsibility by using
another legal system. The previous two elements for Dubai Shock caused
more foreign investors to invest in Dubai’s real estate market: finally, itcreated a huge real estate bubble that lasted until the end of 2008 andcaused a dramatic fall in mortgage prices when it burst. When thishappened, investors could not claim their property based on the realestate or building, as there was no such object in the first place.50
The concept of “regulatory arbitrage” emerged during the World
Financial Crisis that occurred in 2008. Regulatory arbitrage, from thelegal point of view, could be explained as an international businessloophole. Companies could avoid extra costs or legal responsibility in
one country, by utilizing another country’s legal system or regulations.
This is also mentioned by Riles [2014: 63-76] in the international law
concept of “Conflict of Law”. Cross-border transactions had enabledinvestors or other economic actors to choose how they handled theirfinancial risks.
There are still debates on the definition of “regulatory arbitrage”.
However, generally it could be a special financial scheme designed toincrease benefit or reduce cost by utilizing a specific regulation orlegislation. This behavior could be seen when the parties chose a highrisk high-return financial transaction over less risky financial scheme
where the regulation cannot supervise its risk.
The Dubai Shock was not caused only by “regulatory arbitrage”.
However, there are several incidents that show that “regulatory arbitrage”
in the legal system and regulations had led to such a financial crisis. The
element of “regulatory arbitrage” could be found in Dubai Shock by
dividing the process into three stages, where “regulatory arbitrage” could
be seen to distort the incentive for financial investors to take higher risks.
The first stage was during the real estate bubble from 2006 to mid2008. During this period, the real estate freehold right had been expanded
50

A. Kawamura, ‘Regulation for Islamic Banking in Two Dimensions: The UAE
toward Islamic Moral Economy System’, presentation at the Society for the
Advancement of Socio-Economics (SASE) Lyon (2017).

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Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

to foreign investigators. The first step to open Dubai’s real estate freehold had started from May 2002. The turning point to create “regulatory
arbitrage” started when the Dubai Decree No.7 of 2006 was issued. Thisdecree had allowed foreign investors to gain real estate property rights
for an unlimited time and the right to rent for 99 years.
The issue here is not on opening Dubai’s real estate market toforeigners. The problem occurred as a result of there being noreconstruction of the legal framework regarding the deregulation of its
real estate market. This created two risks; short term speculation causedby opening the market and the lack of a unified credit bureau in the UAE
during this period.
The second stage was the formation of a higher risk-taking process
in the Dubai real estate industry. This was formed during and slightly
after the real estate bubble had burst. As mentioned before, there was nounified credit bureau established in the UAE until 2014, which made it
possible for high-risk speculations to occur. For instance, customer D
could go to bank B and be financed to buy a real estate property or invest
according to the credit limit. Then this customer D could go to bank C
and ask for the same service without it being noticed that this customer
D already has a debt with bank B. This leaves customer D with anexcessive debt far over the credit limit.
As the number of disputes rose, the more the needs for solving
disputes were growing. The lack of regulations or a legal framework fordealing with Islamic finance was not an issue then as most of the disputes
were handled by a new approach. The author calls this system the Dubai
Approach [Kawamura 2014].
In the end, Dubai received a financial bailout of $10 billion ($4.1
billion for Nakheel Sukuk) from the Abu Dhabi government on
December 14, 2009 [Greame 2009; Landon 2009].
Although the Abu Dhabi government provided the bailout, there
were multiple civil disputes related to Nakheel PJSC, Tamweel PJSC,
and Amalk PJSC and their projects utilizing Islamic financial products.
A special judicial committee (Lajna Qaḍāʼīya Khāṣṣ) was formed by86

Chapter 5. Dubai Approach: A Drastic Resolution to Civil Disputes in an
Economic Crisis

Dubai Decree No. 57 of 2009 and Dubai Decree No. 61. This was a very
unusual occurrence. The Dubai Court had been dealing with disputes
related to Islamic finance on a small scale. However, the court did nothave the requisite experience to deal with massive disputes related toIslamic finance. These had occurred as a result of the Dubai Shock due
to delays in repayments. The Special Judicial Committee was establishedby a specific Decree, in order to deal with these massive cases.
According to Emirates247.com, this Special Judicial Committee had
decided 25 cases by October 2009 and the Committee found against the
mortgage lenders, the investors, and buyers of Tamweel PJSC andAmalk PJSC, in 95% of 55 cases [Sadafy 2010]. After Dubai Decree No.
27 of 2011 was issued, all cases related to Tamweel PJSC weretransferred to the Dubai Court of First Instance.
As shown in Figure 10, property prices dropped nearly 50% from thethird quarter of 2008 to the first quarter of 2009. In the end, real estatedevelopers faced bankruptcy. Some real estate developers were
providing Islamic financial products for their projects. The representative
companies were Nakheel PJSC, Tamweel PJSC and Amlak Finance
PJSC.
House Price Index
250

200
150
100
50
0

Figure 10. House Price Index
Source: Created by the author based on Colliers International House Price Index. 2012.
Dubai House Price Index: Second Quarter.

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Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

As the repayments delayed, there were number of disputes caused by
the Dubai Shock. Most of the real estate development had been delayedor setback due to the financial difficulties. Dividend incomes for theinvestors were not paid on time nor had any expectation of being paid.
In addition, if a company had defaulted from the Dubai Shock, there wasno Corporation Reorganization Law in Dubai and in the UAE. Therefore,
when a company faced default, the protection measures for the investors
were lacking, or at least unclear. Various defaults were emerging andneeded fast settlement in order to revitalize projects due to the likelihoodof further default.
It is said that after the Special Judicial Committee had dealt with only
Amlak PJSC and its subsidiaries, 150 cases had been brought to thecommittee and 20% of these cases were ‘amicably solved’ between bothparties [Sadafy 2012a]. In addition, according to an article published on
October 31, 2012 by Emirates247.com, there were “just eight cases,
including three new ones filed in the past two months” against Amlak
PJSC [Sadafy 2012b].
Therefore, most cases brought to the Special Judicial Committee
were dealt with before 2012, according to the chairman of theCommittee.51 The chairman also stated that most cases took about two to
five months before a decision was reached. In some cases, it took longer
due to the need to translate materials in other languages into Arabic.
Commonly, most cases that were dealt by the Special Judicial Committee
took less time than dealing within the court system. Court cases in the
UAE were usually taking more than six months.
Judge Bassiouni also identified two reasons for the decline in cases.
First, Amlak PJSC had been improving its performance by increasing its
liquidity. Second, investors were afraid to bring cases to the Special
51

The author conducted an interview with the Chairman of the Special judicial
committee during field research in Dubai from June to July, 2011.

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Chapter 5. Dubai Approach: A Drastic Resolution to Civil Disputes in an
Economic Crisis

Judicial Committee because of the expense. This was also mentioned asa reason for the decline in the number of cases in a previous report[Sadafy 2012c].

4. Dubai Approach
The Special Judicial Committee has unique characteristics as amechanism for dispute resolution. There were two phases in its creationand the chronology is set out in Table 6.
Table 6. Chronology of the Special Judicial Committee

Timeline
1 November 200925 November 2009

Decrees and incident

Category

13 December 2009

Dubai Decree No. 56 of 2009
Dubai World faces liabilities of Phase One$26 billion for delay
Dubai Decree No. 57 of 2009 Phase Two

27 December 2009

Dubai Decree No. 61 of 2009

Source: [Kawamura 2016:8]

Dubai Decree No. 56 of 2009 was issued just before the Dubai
Shock occurred. The decree provided a specific remit to deal withdisputes concerning ‘cheques related to real estate transactions’. A
Special Judicial Committee with three members (two judges from theDubai court and one specialist from the Dubai Land Department) could
be formed under the decree. The Committee would conduct a single trial.
Table 7 shows the characteristics of the Special Judicial Committee.
In the second phase, Dubai Decrees No. 57 and 61 of 2009 had amore specific remit for jurisdiction over companies, with company
names specified in the decrees. Both decrees specify the companies that89

Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

were to be judged under the jurisdiction of the Special Judicial
Committee.
Table 7. Phase One of the Dubai Approach

Dubai Decree No. 56 of 2009
Subject
Cheques Related to Real EstateTransactions
Members of the Special Two judges from the Dubai Court + one
Judicial Committee
from the Dubai Land Department
Number of trials
Single trial
Governing law
・ UAE
laws
and
ordinances
applicable in Dubai
・ Islamic law
・ Custom・ Equity and fairness
Source: [Kawamura 2016: 6]

Dubai Decree No. 57 of 2009 (the second to be issued) establisheda Special Judicial Committee for any issues or disputes related to Dubai
World, including Nakheel’s issues. The Special Judicial Committee
consisted of three DIFC judges in the beginning and could be increased
to five members. The members of the Special Judicial Committee aremostly from the DIFC court according to the Article 2 of Dubai Decree
No. 57 of 2009. After the amendment by the Dubai Decree No.11 of 2010,
the Chairman of the Special Judicial Committee had the right to increase
the members from “the judges of the DIFC court, or in coordination with
the Director of Dubai Courts, from among the judges of Dubai court”
according to the Article 2(b) of Dubai Decree No. 11 of 2010.
Later, Decree No. 326 of 2011 was issued by the Dubai Government
Legal Affairs Department. This Decree separated the Dubai World andNakheel PJSC disputes. This separation was apparently due to the
distinctive legal issues in each case, such as joint liability for guarantees,
protection of investors, usufruct rights, and governing law issues. This90

Chapter 5. Dubai Approach: A Drastic Resolution to Civil Disputes in an
Economic Crisis

was apparently because Nakheel PJSC was dealing mainly in Islamic
financial products.
Table 8. Phase Two of the Dubai Approach

Subject

Members
TrialsGoverning
Law

Dubai Decree
No. 7 of 2009
Revitalizing theDubai World(including Nakheel
PJSC)
1~3 Judges from the
DIFC + other judges
Single trial
・ DIFC Laws andthe UAE Laws
・ Principles ofJustice and rulesof righteousness
and equity

Dubai Decree
No. 61 of 2009
Any conflicts related to
Amlak Finance PJSC andTamweel PJSC
Three judges from the Dubai
Court + Islamic accountant
Single trial
・ UAE Laws andordinances applicable inDubai
・ Islamic Law
・ Custom・ Equity and fairness

Source: [Kawamura 2016: 8]

A Special Judicial Committee was formed in order to deal withdispute cases related to Tamweel PJSC and Amlak Finance PJSC
according to the Dubai Decree No. 61 of 2009. Both companies provided
Islamic financial products for their real estate projects. The
characteristics of Phase Two of the Dubai Approach are shown in Table
8.
Tables 7 and 8 illustrate the similarities between Phases One andTwo. The most striking similarity is the formation of the Special Judicial
Committee, which has unique features compared with the conventional
judicial system.

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Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution
Table 9. Characteristics of the Dubai Approach52

Information
disclosure
Terms forsettlement
Members

Trial

General Court

Dubai Approach

Open (civil law
procedure)

Closed door

Closed door

More than 1 year
(Average 2 to 3
years)
1~3 judges

Within six
monthsWithin 1 year

1~3 Judges + 1~2
Islamic financespecialist
No appeal(Substantiallysingle tiered trial

1~3 arbitrators
or mediators

Three-Tiered
court system

ADR

Single tiercourt）

Legally
Binding
Decisions

Yes

Yes

SubstantiallynoSource: [Kawamura 2016: 11]

Table 9 compares the Special Judicial Committee with existing
dispute resolution mechanisms.
The Dubai Approach also has a unique decision-making processcompared with the court and ADR. In the first step of the Dubai
Approach, the case is brought to the Court of First Instance. When thiscourt refers the case to the Dubai Decree, the Special Judicial Committee
deals with the case. When the appeal is found to fit the criteria of theprevious Dubai Decree, the case is brought to the Special Judicial
Committee in a closed trial.
The Dubai Approach has some features that are found in both thecourt and ADR; however, some features of the Dubai Approach differ
from both of the other dispute resolution systems. Therefore, the Dubai
Approach could be categorized as a third type of dispute resolution, in
52 Ibid., p. 11.

92

Chapter 5. Dubai Approach: A Drastic Resolution to Civil Disputes in an
Economic Crisis

addition to the court and ADR systems [Kawamura 2013: 115-118]. The
main feature of the Dubai Approach is that it represents a breakthroughfor those issues that fall into the jurisdiction of both the court system and
ADR.

Figure 11. Dubai Approach and its Relationship with Existing Dispute Resolution
Processes
Source: Adapted from [Kawamura 2017: 11]

In addition, the Special Judicial Committee makes the Dubai
approach an ad-hoc system. The committee deals with cases when all thesteps required under each decree have been take in accordance with thestatutory procedure.
In order to create and to maintain a Sharī‘ah-compliant judicial
system for Islamic finance, the Dubai Approach has made a breakthroughby combining the advantages of the court and the ADR system, as shownin Figure 11.

93

Chapter 6

Malaysian Model:
A Gradual Sinergy of Dispute Resolutions
1. Introduction
Malaysia, one of the leading countries for Islamic finance and wellknown for its political aim to expand its Islamic economical market, has
an interesting case of Islamic finance dispute resolution which differsfrom the “Dubai Approach”. Therefore, this chapter will discuss thedevelopment and expansion of the dispute resolution system for Islamic
finance in Malaysia and the social and political affairs that are having aneffect on the development of its dispute resolution system for Islamic
finance. The legal environments for Islamic finance are diverse due to its
legal history, political background, economic strategy and so on.
Malaysia is an important case to examine due to the unique approach it
has taken towards building its Islamic finance dispute resolution system.

2. The Reformation of Islamic Financial Jurisdictionin Malaysia
Malaysia established the Islamic Banking Act 1983 (IBA 1983),
which created a legal framework for Islamic financial institutions. It has
been an active and leading country in developing a legal framework for
The judicial system was also reformed to deal with Islamic finance,
especially after the Malaysian court had adjudicated on the Sharī‘ahcompliance of specific Islamic financial products.

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Chapter 6. Malaysian Model: A Gradual Sinergy of Dispute Resolutions

The evolution of Islamic financial litigation in Malaysia went
through three phases between 1987 and 2010 [Hasan and Asutay 2011].
The first was from 1987 to 2002. This period took a classic common law
approach. The court found primarily in favour of the Islamic banks
during this first phase. In the second phase between 2003 and 2007, some
Malaysian judges indirectly criticized previous judgments and the
Malaysian court began to find against Islamic financial institutions’products. This critical position of the court became clear in the third
phase between 2008 and 2010. The majority of Islamic financial disputecases were registered during this period. They were mostly related tobay‘ bi-thaman ājil (BBA). In the High Court (Kuala Lumpur), ArabMalaysia Finance Bhd v. Taman Ihsan Jaya & Ors (Koperasi Seri Kota
Bukit Cheraka Bhd, third party) [2008] 5 MLJ 631, the BBA transaction
was judged to be ‘contrary to the Islamic Banking Act 1983 or the
Banking and Financial Institutions Act 1989’.53 In other cases, such as
Bank Islam Malaysia Bhd v. Lim Kok Hoe & Anor and other appeals[2009] 6 MLJ 839 and Tan Sri Abdul Khalid Ibrahim v. Bank Islam
Malaysia Bhd & Another Case [2010] 4 CLJ 388, the judge ruled on thelegitimacy of BBA.54 In Bank Islam Malaysia Bhd v. Lim Kok Hoe case,the judge compared the BBA contract, a sales contract, and the loan, amoney-lending contract. The judgment states that BBA contracts are‘[f]ar more onerous than the conventional loan with Ribā.55
53 Arab-Malaysia Finance Bhd v. Taman Ihsan Jaya & Ors (Koperasi Seri Kota Bukit

Cheraka Bhd, third party) [2008] 5 MLJ 631, at p. 633.
54 Both cases had a totally different judgement by the Malaysian court. In the case of

Bank Islam Malaysia Bhd v. Lim Kok Hoe, BBA was criticized as being ‘far more
onerous than the conventional loan with Ribā’ and that the ‘BBA contract was not
acceptable by all the four mazhabs and thus not acceptable in the religion of Islam’. On
the other hand, Tan Sri Abdul Khalid Ibrahim v. Bank Islam Malaysia Bhd, BBA waslegitimized due to stare decisis. The cases which were referred for ratio decidendi for
BBA to be legitimized were Bank Islam Malaysia Bhd v. Adnan Omar [1994] 3 CLJ
735 and Bank Kerjasama Rakhat Malaysia Bhd v. Emcee Corporation Sdn Bhd [2003]
1 CLJ 625.
55 Bank Islam Malaysia Bhd v. Lim Kok Hoe & Anor and other appeals [2009] 6 MLJ
839 at p. 850.

95

Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

It has been noted above that the Malaysian court was proactive inruling against BBA and bay‘ al-‘īna in the second phase [Hasan andAsutay 2011: 43]. As noted, decisions by the court began to affect theIslamic financial market during the second phase. SAC supervision was
instituted as the Malaysian government wished to secure the market. One
solution was to have the SAC judge the Sharī‘ah compliance of the cases
brought before the court. While the role of the SAC was underdevelopment, there was criticism of court rulings in Islamic financial
cases, as the judges lacked knowledge of Islamic law and could not
decide issues related to compliance with Islamic law [Ibrahim 2008].
The SAC had been launched in 1997 as the highest Sharī‘ah authority
to supervise the Islamic financial market. Theoretically, the courts in
Malaysia could refer cases to the SAC if there were any issues related to
the Sharī‘ah, but the SAC has not been effective for the courts until
recently. The Central Bank Act was amended in 2003, and the courts
could voluntarily refer cases to the SAC; therefore, but the courts were
not obliged to do so. This was one reason why the courts did not refermatters to the SAC. When the Central Bank Act 2009 was established,
the court was required to consider referral to the SAC. The authority of
the SAC is set out in Sections 51 to 58 of the Act. SAC supervision of
litigation is mentioned in Section 56(1) as below:
Where in any proceedings relating to Islamic financial businessbefore any court or arbitration any question arises concerning a
Sharī‘ah matter, the court, or the arbitrator, as the case may be, shall:a. Take into consideration any published rulings of the Sharī‘ah
Advisory Council; orb. Refer such question to the Sharī‘ah Advisory Council for its
ruling.
This section has involved the SAC in litigation regarding Islamic
finance more frequently than the previous Central Bank Act 1958
(amended 2003), Section 16B (8). In the previous Act, the court had more
freedom in reaching their decisions; in the 2009 amendment, the role of96Chapter 6. Malaysian Model: A Gradual Sinergy of Dispute Resolutions

the SAC is prescribed [Lee 2014: 17]. In addition, the Islamic Financial
Act 2013 made consulting with the SAC and adhering to their advice‘obligatory’.
However, the SAC has not reviewed many Islamic finance cases
dealt with by the court. Tun Abdul Hamid Mohamad stated:“Sharī‘ah issues are very rare in court. In 2009, the Mua’malat
Division of the High Court in Kuala Lumpur alone disposed of 940 cases
as against 691 registered in that year… (First, please note that the courts
are disposing [of] more cases than registered during the year, cutting
down the old backlog). So far only one Shari’ah issue has been referredto the SAC of Bank Negara Malaysia [Mohamad 2011: 64].”
In addition, there are issues related to the complex range of Islamic
financial products. The legislation could not cope with the rapid
development of schemes and technology for financial products. The
structure of financial products for Islamic finance has also become more
complicated. Therefore, contracts will eventually become moresophisticated, and the court will not be able to deal with all the issues. In
such cases, it is preferable to use ADR rather than the court.
Generally, ADR is used in order to protect the reputation of thecompany. Making the case public could result in the business being
negatively affected and the lower cost and faster resolution of ADR
compared with litigation is an advantage for deciding on Islamic
financial cases.

3. The Malaysian Model
The evolution of the Sharī‘ah Advisory Council (SAC) is one of thecharacteristics of the Malaysian model of Islamic finance dispute
resolution. After the negative judgment on BBA and bay‘ al-‘īna, theSAC gradually expanded its authority to supervise the Malaysian court’s97Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

judgements on Islamic financial cases. The SAC also gives advice to
ADR institutions.56
The role of the SAC had changed after the three phases ofdevelopment in the judicial system in Malaysia in connection with
Islamic finance. As shown in Table 10, the SAC had expanded its
authority to govern Sharī‘ah issues. After the amendment of the Central
Bank Act 2009, the Islamic Financial Services Act 2013 ensured that the
court would seek the advice of the SAC.
Table 10. Development of SAC Involvement in Islamic Finance Court Cases

1980-2002

No obligation for the court to refer to the SAC when
the case is related to Islamic finance2003-2007

The court began to decide proactively on Islamic
financial dispute cases. Islamic financial disputes
brought up issues about the court’s competency to deal
with Sharī‘ah compliance
Most of the court cases related to Islamic finance dealt
with the legitimacy of the BBA. As negative judgments
increased, they affected the Islamic financial market
negatively.

2008-20102011-2014

The SAC gained more jurisdiction over court
judgments associated with Islamic finance. During thisstage, referral to the SAC became obligatory for the
court when there was an issue about Sharī‘ah

Source: Author, based on field research in Malaysia in June to September 2015

56

There are three ADR institutions that would be theoretically seek advice from the
SAC in Malaysia, which are Kuala Lumpur Regional Centre for Arbitration,
Financial Mediation Bureau and Malaysian Mediation Centre.

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Chapter 6. Malaysian Model: A Gradual Sinergy of Dispute Resolutions

4. ADR for Islamic Finance: Practice and Legal
Framework in Malaysia
Malaysia has focused on the utilization of ADR for Islamic financial
disputes from the early stages of the development of the Islamic financial
market in the country. For example, there were early concerns that the
court might not seek advice from the SAC [Markom and Yaakub 2015:577-579]. Further, the need for a Lex Mercatoria for Islamic financial
dispute resolution to improve the functioning of the Malaysian system
has been noted [Yaacob 2014]. Some writers have argued that membersof the Organization of Islamic Cooperation (OIC) should agree on a lex
mercatoria in order to form an international convention or Model Law
of Arbitration in order to smooth the misunderstandings arising in theIslamic finance industry [Yaacob et al. 2011: 34-38].
The Kuala Lumpur Regional Centre for Arbitration (KLRCA) has
published i-Arbitration, an arbitration guide for Islamic financial cases.
KLRCA introduced ‘Rules for Islamic Banking and Financial Services
Arbitration 2007’ to deal with Islamic financial dispute cases. Although
the role of the SAC for dealing with Islamic finance was not identified
clearly until the Central Banking Act 2009, Rule 33(1) of that Act
requires arbitrators to refer to the SAC.
However, i-Arbitration 2007 rule 33 (2) states that the arbitrator
could ask the SAC or a Sharī‘ah expert for their opinion. In 2012, therules were updated as the ‘KLRCA i-Arbitration Rules,’ which adopted
the United Nations Commissions on International Trade Law(UNCITRAL) model law. Under the previous rules, it was difficult tounify the adaptation of specific arbitration awards; however, the
UNCITRAL Model Law recognises and enforces arbitration awards ofany country that is a member of the New York Convention.
The latest amendment to i-Arbitration occurred in 2013. The iArbitration 2013 Rule 11 states that, if a Sharī‘ah issue is found in
Islamic finance cases that are brought to the KLRCA, the arbitrator could99Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

refer the case to the SAC. This lengthened the time taken for theprocedure. The new amendment allows the party to refer not only todomestic Sharī‘ah experts but also to overseas experts. This is expected
to improve speed and efficiency.
The i-Arbitration 2013 Rule 12(8), developed under the supervisionof the SAC, added a specific provision regarding ta‘wīḍ and gharāmah.
These two concepts explain the late payment charge from a Sharī‘ahcompliant perspective. When the customer faces default or for otherreasons is late paying their debt, a conventional financial institution will
charge interest, or ribā. Such charges cannot be imposed by Islamic
financial institutions, and these two concepts legitimise late payment
charges in a Sharī‘ah compliant way [Lahsana 2014].
Ta‘wīḍ literally means compensation or indemnity in Arabic, and in
the Islamic financial context, ‘payment of financial compensation forloss inflicted upon another’[ISRA 2010: 334]. Gharāmah literally means
penalty and in the context of Islamic finance, ‘a disciplinary measure orcompensation’ [ISRA 2010: 134]. The late payment charge is calculated
as a combination of ta‘wīḍ and gharāmah.
KLRCA has also been dealing with numerous arbitrations, mediation,
and adjudication cases. Increasing numbers of arbitration cases havebeen brought to the KLRCA, especially after 2006. The KLRCA has
gained experience from the 282 non-Islamic arbitration and mediation
cases heard during 2014. There have also been several Islamic financial
arbitration awards since 2007. However, some obstacles remain thatprevent arbitration from being chosen for dispute resolution.
From the perspective of academics and practitioners, ADR is
promoted in Malaysia. Theoretical discussion and legal developments
are taking place and advancing ADR. However, statistics suggest that
there are some issues in utilizing ADR in preference to the court system.
First, arbitration for Islamic finance in the KLRCA has yet to increase.
Second, from the perspective of cost, the experience of the court indealing with Islamic financial cases and the requirement for arbitration

100Chapter 6. Malaysian Model: A Gradual Sinergy of Dispute Resolutions

decisions to receive final approval by the court has been an obstacle to
ADR’s full utilization.
There are several reasons for the court to be selected over ADR. First,
according to KLRCA i-Arbitration Rule 6 (2) of 2013, Islamic financial
institutions prefer to have Sharī‘ah scholars they know, or to bring thecase to court in the UK or the Middle East (BCDR-AAA) as they arefamiliar with the procedures there.
Second, although arbitration is cheaper than litigation, it is difficult
to recover costs from the court. The process of ADR is much simpler andcheaper. However, ADR has a great disadvantage compared to the court
when the decision needs to be enforced.

Figure 12. SAC and its Relation to Existing Dispute Resolution Processes
Source: Adapted from [Kawamura 2017: 11]

Third, the involvement of the SAC makes it preferable to choose thecourt rather than the KLRCA: historically, the court has longer
experience than arbitration institutions. In addition, if the contract has aclear definition in the arbitration clause, it is faster to use the court.
Fourth, lawyers are aware of the risk that an arbitration award could
be invalidated under the Act for Arbitration 2005, Section 38. Finally,101Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

there are more general issues for ADR, including non-legal professionals’
poor knowledge of and access to the ADR system including KLRCA iArbitration. The KLRCA is well known only to legal professionals.
Banks and general customers do not know about arbitration or its benefits.
In comparison to the “Dubai Approach”, Malaysian Model focuses onprotecting Sharī‘ah compliance. This has been made possible by the role
the Sharī‘ah Advisory Council in the Central Bank of Malaysia as wehave seen in this chapter and as shown in Figure 12.
Malaysia had also taken a further step to develop a Sharī‘ahcompliance mindset for its industry. The strategy paper on “Value Based
Intermediation (VBI)” was introduced by the Central Bank of Malaysia
in 2017. The aim of the VBI is “to deliver the intended outcomes ofSharī‘ah through practices, conduct, and offerings that generate apositive and sustainable impact to the economy, the community and theenvironment, consistent with the shareholders’ sustainable returns andlong-term interests” and moreover “emphasizes the minimalization andprevention of negative impacts arising from the Islamic banking
industry’s practices, conduct, and offerings” [BNM 2018: 12].
The VBI beneficiaries are considered to be the financial industry, thecustomers/community, the government, and the regulating body.
Therefore, there is no platform for dispute resolution in this VBI. In
addition, the VBI could be seen as a “market driven” strategy to boost
the Islamic financial market.
In order to maintain the Islamic moral mindset and the Islamic justicefor Muslims, it is also crucial to recognize the issues related to the justicesystem. Especially, when each party disputes on their own justice in the
judicial system for Islamic finance dispute resolution system.
In conclusion, we must admit that as the whole economics system isdriven by the capitalist mindset, or the accumulation of more wealth by
the wealthy, it is difficult for all the actors involved to commit to
upholding the Sharī‘ah aspects of Islamic finance, or stick to Islamic
morality and Sharī‘ah compliance when their profits are at stake. It isclear that economic justice for Muslims, and indeed establishing a moral
102

Chapter 6. Malaysian Model: A Gradual Sinergy of Dispute Resolutions

economy for all, requires a quantum shift in the human mindset towards
a more sustainable environment.

103

Conclusion
This book has focused on the dispute resolution system for Islamic
finance in order to shed light on this neglected area of research in thefields related to Islamic economics. Islamic economics emerged in the
1970’s and developed rapidly in the following decades. The growth ofIslamic finance was accompanied by an increase in civil disputes.
However, as demonstrated in this book, compared with the rapidity ofIslamic financial expansion, dispute resolution systems were slow todevelop.
Islamic finance as such has always faced some challenges whencompeting with conventional finance. It has sprung out of the capitalist
system, and yet its purpose is to overcome the shortcomings of capitalism,
as the Islamic ideals demand. Under these conditions, we have traced thedevelopment of Islamic finance and explained why the ideal of theIslamic Moral Economy has emerged.
Under the Islamic Moral Economy, Islamic banking and financial
institutions should behave morally and uphold social justice.
Consequently, a nation’s economic system, legal system and, of course,
its dispute resolution system would need to be consistent with theapplication of Islamic ethics and morality to guide and protect the Islamicbanking and financial activities in order to achieve Islamic justice.
However, as we discussed in Chapter 2, the reality has shown adivergence between what the Islamic economic ideal demands and theactual practices we have observed in the Islamic financial sector.
Therefore, the discussion on maintaining ethics and morality in Islamicbanking and finance is a crucial issue for the Muslim society to resolve.
While there are challenges in the Islamic financial industry, the Gulf
countries, and the Southeast Asian countries, especially Malaysia, havebecome outstanding examples of its developments, as we explained in
Chapter 3. These regions have propelled the Islamic banking andfinancial market to expand and become a global force. At the same time,104

Conclusion

although both these areas are well known as global hubs for Islamic
finance, they have adopted different approaches to it. The politicalbackgrounds of the Gulf countries and Malaysia have led to diversified
economic and legal systems developing in these countries.
The legal histories of the Gulf countries and Malaysia have somesimilarities, in that under British domination, they both inherited awestern, mainly British-style legal system. While these western oriented
legal systems developed into commercial and civil law, this gave rise toissues concerning how Islamic finance should be handled. There are still
no clear answers as to whether to choose statutory law or hybrid law for
Islamic finance as we saw in Chapter 4.
While the debate on Islamic finance continues, civil disputes on
Islamic finance have led to the creation of new dispute resolution systems
for the UAE and Malaysia as we saw in Chapters 5 and 6. Both of thesecountries are leading the Islamic finance industry, and solving the
disputes in both cases was crucial to protecting the industry. However,as we saw in these chapters, the UAE and Malaysia took totally different
approaches to their civil disputes related to Islamic finance. In addition,
the disputes themselves were different as in the UAE cases Islamic
finance was a part of a massive financial dispute, while in Malaysia,
Islamic financial products were an issue for creating a new dispute
resolution model.
What we can learn from the present case study is limited as we haveinvestigated only two out of a wide spectrum of Muslim countries andsocieties. However, this book has shown we can analyze the uneven
Islamic world from an even perspective. Islamic banking and financeinstitutions have been criticized for mimicking conventional finance andfor losing sight of their original mission to fulfil the social justice ofIslam. Accordingly, an ideal discussion on the Islamic Moral Economy
has emerged to tackle this issue.
At the same time, Islamic financial markets in the UAE and Malaysia
suffered crises that they had never experienced before. The UAE had todeal with an Islamic financial market that almost faced bankruptcy due105

Grafting an Islamic Sapling onto the Tree of Legal Dispute Resolution

to massive disputes. This led to the emergence of the “Dubai Approach”
to solve this issue by creating a third type dispute resolution system.
Meanwhile, Malaysia faced the negative effect of its courts’ decisions on
its most popular Islamic financial products. Although its dispute system
structure was different from the “Dubai Approach”, we saw how the roleof the Sharī‘ah Advisory Council (SAC) expanded and created the“Malaysia Model” of Islamic finance dispute resolution.
Both these new dispute resolution models reflect the political andlegal aspects of their respective countries. In addition, they reveal theuneven development of Islamic dispute resolution. The justice system for
Islam is theoretically unified under the Sharī‘ah, but as the representative
dispute resolution systems have shown, diversified approaches weretaken to protect the Islamic financial markets. It is obvious that thediversified features of the respective economic, legal, political, andsocial elements, created such diversification. Therefore, it is important toconsider that the shared common sense of Sharī‘ah based Islamic ethics
and morality might lead to diversified outcomes due to different
circumstances. In order to see the even distribution of justice exemplified
by the Islamic finance dispute resolutions system, it is crucial to expand
this study further to other countries. This study has clarified the issues ofthe divergence between the reality of Islamic financial practices and theideology of Islamic economics. In addition, this book has also illustrated
the challenges faced and adjustments that were made in the UAE andMalaysia in order to protect the Islamic financial market.
For further studies, it is crucial to discuss how the Islamic society
will develop its dispute resolution system for Islamic finance in order toaccomplish Islamic social and economic justice. This could lead to thediscovery of the common ground in a diversified Islamic world.

106

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