In addition to these developments, regulatory and legal reforms are also being undertaken in a number of jurisdictions to accommodate the unique characteristics of Islamic financial transactions to support the progressive development of Islamic finance. Following these institutional enhancements, the significant growth of Islamic financial markets and the development of the supporting financial infrastructure, the international financial architecture for Islamic finance has been strengthened considerably. Established international financial centers have now included the development of Islamic finance as part of their agenda. Also emerging on the horizon are new Islamic financial centers in which innovative and competitive Islamic financial services industry is evolving. With the supporting comprehensive Islamic financial infrastructure in place in Malaysia and the diversity of Islamic financial players following the recent increased liberalization in the Islamic finance sector, Malaysia is positioning itself as an international Islamic financial center. Key Challenges Ahead While Islamic finance has made significant strides, there are key challenges that needs to be addressed for Islamic finance to sustain its development in the global financial system. My remarks will focus on four of these challenges. The development of robust Islamic financial system at the national level Firstly, there is the challenge to develop a robust Islamic financial system at the national level. The level of development of Islamic finance across jurisdictions varies significantly. While in some, Islamic finance is at an advanced stage of development, in others, more meaningful progress is yet to be made.

The standards on capital adequacy and risk management that have now been approved by the Council of the Islamic Financial Services Board in December in 2005 is scheduled for implementation in 2007. Islamic financial institutions must therefore be equipped with the required capacity and infrastructure to capture the respective risk weights and assign appropriate amount of regulatory capital at each of the different stages of the Islamic financial transaction. The exclusion of risk-weighted assets funded by the profit-sharing investment accounts from the calculation of regulatory capital requirement places critical emphasis on a comprehensive infrastructure in the Islamic financial institutions to clearly segregate the restricted and unrestricted profit-sharing investment accounts from the non-profit-sharing accounts and shareholders funds and to track their respective flows in financing and investment transactions. BIS Review 4/2006  3  Strategic investments in the state-of-the-art IT and risk management systems are integral to this process. Supervisory authorities need to be equipped with the specialized skills necessary to have the right assessments on the level of risks that the Islamic financial institutions are exposed to and the effectiveness of the risk management infrastructure in the Islamic financial institutions in mitigating these risks. The development of a sufficient pool of talent in Islamic finance Finally, the development of a sufficient pool of appropriately skilled Islamic finance practitioners needs to be accorded the highest priority. The required skill set in Islamic finance is unique. It needs to have the right blend of knowledge of finance with the understanding of the Shariah as being central.