. diversification and innovation of financial structures. this would involve either applying innovative islamic products on a stand alone basis or applying a combination of islamic instruments to suit project finance needs. in attempting the latter, it needs to be ensured that vanilla islamic products such as murabaha, ijara and diminishing musharaka etc. are implemented with their necessary preconditions, consistent with shariah principles, to promote modes that can be used to finance commercial and project finance activity. this would require greater reliance on equity based financing, given that it is akin to participation and risk sharing consistent with infrastructure financing requirements and islamic principles. at the same time, it requires financial engineering, flexibility in the evolving sahriah system and alliance both among domestic and with the bigger global players ( such as standard chartered, hsbc, ubs, citibank etc. ) to diversify islamic financial structured products to support project finance in addition to associated real estate, shipping, trade, and aircraft financing. islamic financing products / structures are now quite common in middle east and saudi arabia and have gained ground in non - muslim countries too. in most cases it has to be recognized that islamic financing is incorporated within a multi - sourced project financing offering, along side the conventional project financing structures backed with or without supportive credit enhancement or export credit agencies financing. the islamic financing element of the project is provided pari passu with the other senior debt. istisna ’ s and variant structure of ijara are frequent products used. if required, there should be standard legal structure for establishing and operating with ease islamic spv as the financing vehicle. islamic finance tranches are known to offer additional benefit of competitive pricing and tenor. there should be harmonization of these alternate and multi - financing legal and regulatory structures and appreciation that conventional project financing documentation could be acceptable to different shariah boards / committees. pakistan has been exposed to these structures, given its earlier experience with the hub river project, which in early 1990s incorporated islamic tranche of istisna, and more of such recent deals. in designing such structures there has to be more tolerance among participants to : • integrate islamic and conventional funds to allow co - financed projects with different players ; • accept ownership risks ( since in all islamic transactions, lender is at some stage the owner of financed goods ) but with comfort of clarity of legal issues surrounding ownership ; • ensure proper tax treatment of the proposed islamic financing structures, avoiding adverse treatment relative to

to business and economic cycles and their behavior. the basic criticism on basel ii from all quarters is related to pro - cyclicality. the new accord makes the business cycle in an economy much more pronounced. it can create problems for policy - makers and also for economic stability. the arguments suggest that in times of recession as the borrower ’ s credit risk increases, as measured by either of the approaches, the banks will curtail lending, while in a booming economy they will expand lending. the proponents of basel ii, however, have argued that under the new accord the deterioration of a portfolio should begin to be reflected in a bank ’ s capital adequacy itself at a much earlier stage and no further deterioration should ideally occur in the capital adequacy ratio when it is recognized as an accounting loss. several options have been proposed for this purpose. for example, discretionary powers granted to supervisors under pillar ii, such as the ability to demand a buffer of additional capital during a business cycle expansion, is one way of addressing pro - cyclicality. another is to adjust the value of the probability of default in the internal ratings approach or advance approaches which draw on the historical trend analysis of the business cycle. whatever we do, we have to somehow come to grips with this phenomenon. the sixth point is how does basel ii introduce complications for access to finance. this is an area where we have to be careful because there is a lot of scope to enhance funding to the desired sectors and to specific groups of individuals which are currently under - served. first of all it has to be recognized that the banks do have to enhance business and coverage in these vulnerable sectors and vulnerable segments of population. so will this mean that they would require higher capital allocation for assuming what has got to be a higher credit risk? yes, of course, but this will clearly and hopefully not be a deterrent in encouraging credit flows to the small businesses and poor segments of the society, because we have to somehow accommodate this through better credit appraisal and credit vigilance rather than by adding excessive capital. one aspect which has been clearly underdeveloped in this architecture is how should the credit scoring mechanism be adopted for the small companies? some advancement has been made in this area in latin america, and sbp will have to actually look at this area quite closely. i am not advocating a fundamental deviation from basel ii, but rather proposing to find a robust and a workable solution to what i believe is a daunt