SAMA Regulations Enhance Transparency in Saudi Islamic Banking

The Saudi Central Bank (SAMA) has rolled out a series of regulations from 2020 to mid-2024 that have notably enhanced the transparency and Shariah governance of Islamic banks. According to a recent analysis by Fitch Ratings, these regulations, designed specifically for Islamic finance, have significantly boosted consumer confidence in the Shariah-compliance of financial products offered by these banks. This regulatory framework aims to ensure that Islamic banking operations are transparent, well-governed, and aligned with Shariah principles, thereby fostering greater trust and participation in the Islamic finance sector.

Growth and Market Position

Saudi Arabia has emerged as the largest Islamic banking market globally. A report by S&P Global highlighted that the Islamic banking industry grew by 8% in both 2022 and 2023, driven by the expansion of banking assets and the Sukuk industry. Islamic banking assets grew by 56% in 2023 compared to 72% in 2022, with Saudi Arabia contributing 56.7% to this growth within the Gulf Cooperation Council (GCC) region​ (The Halal Times).

Regulatory Impact and Future Outlook

Fitch Ratings noted that the operating environment for Saudi Islamic banks is expected to remain favorable in the latter half of 2024. Despite the positive regulatory impact, challenges such as low standardization and fragmented disclosures persist. The Kingdom’s Financial Sector Development Program Charter 2021 aims to address these issues, enhancing the Shariah governance structure and increasing transparency.

The lack of a centralized Shariah board remains a significant challenge. Establishing such a board could harmonize industry practices and further solidify the regulatory framework. The new regulations also cover profit-sharing investment accounts (PSIAs), enhancing Shariah compliance, and transparency, and setting minimum regulatory requirements​ (Thaiger).

Profit-Sharing Investment Accounts

Since the end of 2023, Saudi Islamic banks have included PSIA-related disclosures in their financial statements. According to Fitch, while banks would bear losses in case of default, negligence, or violation of PSIA agreements, investors might bear losses under normal conditions. However, Fitch believes that in practice, depositors are unlikely to bear losses due to the potential impact on confidence in the banking system. PSIAs accounted for 7.1% of Shariah-compliant deposits by the end of 2022.

Capital Adequacy and Shariah Governance

SAMA has introduced additional capital adequacy requirements for Shariah-compliant banking. Fitch expects no material impact from these requirements, as they align closely with the existing framework for conventional banks. The regulator has also released a Shariah governance framework aimed at strengthening Shariah governance procedures and boosting confidence in the Islamic finance sector. This includes the need for Shariah committee approvals for new Islamic products and guidelines on repurchase agreements.

Centralized Shariah Board and Market Integration

The establishment of a centralized Shariah board is a key focus for SAMA, aiming to harmonize approaches to Shariah compliance across financial institutions. Previously, SAMA regulated Islamic financial institutions similarly to conventional banks, but the new rules represent a significant shift in approach. Additionally, all residential mortgages in Saudi Arabia must now be Shariah-compliant, in line with the Real Estate Finance Law, further supporting the growth of Islamic financing.

The SAMA regulations have been pivotal in enhancing the transparency and governance of Saudi Islamic banks. By tackling existing challenges and implementing rigorous compliance measures, these regulations are poised to drive sustained growth in the Islamic finance sector. This strategic framework not only boosts consumer confidence but also positions Saudi Arabia as a leading player in the global Islamic banking market. As SAMA continues to refine and enforce these standards, the future of Islamic finance in Saudi Arabia looks promising, setting a benchmark for other countries to follow.