The global experience has shown that the lack of well developed bond markets brings with it vulnerabilities arising from over-reliance on financing from the banking sector. This has often resulted in funding mismatches with adverse implications on financial stability. The development of the bond market allows for access to funding with the appropriate maturities, thus avoiding the funding mismatches. It also allows for the diversification of risks by issuers and investors. The central merit of the sukuk structure is that it is based on real underlying assets. The ijarah sukuk for example – an Islamic bond which applies a sales and leaseback arrangement – is an asset-backed instrument providing continuous security to the investor. This approach discourages over-exposure of the financing facility beyond the value of the underlying asset, given that the issuer cannot leverage in excess of the asset value. In addition, Islamic finance requires that the financing must be channelled for productive purposes, such as for project financing, rather than for speculative activities. The risk exposure is therefore to the project and not to the uncertainties or activities that have no real economic benefits. Islamic financial intermediation therefore has the potential role of contributing towards financial stability. BIS Review 74/2007  1  In the current environment, the demand for sukuks significantly exceeds the supply. Today, the global sukuk market, denominated in international currencies, is estimated to be USD18 billion. If domestic sukuk issuance is included, it has now exceeded USD50 billion.

The growth in the sukuk market also reflects the commitment and combined efforts of the Malaysian government and regulators. There is a clear articulation of the vision and policies to drive the local Islamic capital market. This is reinforced by the implementation of a strong legal, regulatory and tax framework. Bank Negara Malaysia and the Securities Commission have worked closely on a sequence of vital blueprints: the 10-year Financial Sector Master Plan, the 10-year Capital Market Master Plan and the Islamic securities guidelines. The government has reaffirmed all these plans and initiatives with the announcement of a range of tax measures in the 2006 budget. Another important aspect of the development of the sukuk market is the development of the other key components of the Islamic financial system, the money market, banking, and takaful sectors. The various components are able to meet the different requirements of the economy including the differentiated tenor for which the funds are required. This includes providing stable long-term funds for large investments and development projects. These would allow for a balanced allocation of financial and economic resources within the economy, diversifying the risks through the Islamic financial system, and enhancing its flexibilities to adjust, thus strengthening its resilience. As Malaysia moves to a more liberalised and globalised Islamic capital market, the role of the industry in advancing the Islamic financial system becomes increasingly important. The role of the industry has been important in spearheading product innovation, branding, profiling, promotion and marketing of the Islamic capital market products and services.