CHAPTER 1INTRODUCTION TO FINANCIAL SYSTEM IN GENERALLecture 1Collection of markets, institutions, laws, regulations, and techniques Bonds, stocks, and other securities are traded, interest rates are determined, and financial services are produced and delivered around the world.

Financial System The primary task:

Financial System (Cont)

Economic System To allocate scarce resources.To determines type of goods and services to be produced & quantity to produce & at what price.Income distribution profit, high salary & other economic benefits

The Role of Markets in Global Economic System 3 types:Factor Markets land, labour, skills, capital, wages, rent Product Markets consumers buy goods & servicesFinancial Markets convert savings funds to financing THE MOST IMPORTANT FUNCTION IN ECONOMIC SYSTEM

Types of Markets - The most important function in economic system- Direct effects to economic growth & personal wealth- Convert savings funds to financing- A market where financial assets can be purchased or sold

Why do we need to know about Financial Markets?

The Role of Financial system:Channel for savings & investmentResource allocationRisk management Clearing and settlement system

Financial Markets & Financial System The connection Financial system will facilitates the activities in financial marketsFINANCIAL SYSTEM IN MALAYSIAAdapt to changes

The world continues to change in economic, financial and geopolitical terms. It continues to present increased uncertainties, greater interdependence, more intense competition and continues to test our ability to rise to emerging challenges. Tan Sri Dr. Zeti Akhtar

Why is it so important to know about our financial system?

Why is it so important to know about our financial system?Stable financial institutions & stable financial market financial stabilityFailure or ineffective supervisory authorities financial institutions instabilityVolatility in prices (interest rates, exchange rates) financial market instabilityThe importance of financial stabilityFinancial institutions instability + financial market instability ineffective financial systemIneffective financial system slow down the economic growthGood & effective financial system mobilized & allocate financial resources effectively

The importance of financial stability (Cont..)Financial stability = Effective monetary policyMonetary policy banking systemIneffective banking system = financially weak banking institutions & inefficient market mechanismsIneffective banking system ineffective monetary policy

The importance of financial stability (Cont..)Savings loanable fundsLoss of depositor confidence banks are sensitive to liquidity pressure 1998, Asian crisis a particular financial market instability has bad effects to other markets & financial institutions & across national border & other countries in the worldThis is called Risk of Contagion

The importance of financial stability (Cont..)

Structure of Financial System in MalaysiaThe objectives of BNM are as follows:

To issue currency and keep reserves to safeguard the value of the currency; To act as a banker and financial adviser to the Government; To promote monetary & financial stability and a sound financial structure; and To influence the credit situation to the advantage of Malaysia.

Bank Negara Malaysia (BNM)

ISLAMIC FINANCIAL SYSTEMLECTURE 1Motion(Basic)

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ISLAM, SHARIAH, MUAMALAT, BANKING AND FINANCE The Importance of Islamic FinanceWhat is finance?Money?Resource allocation?Management acquisition?Investment?What is Islamic Finance?The Importance of Islamic Finance (Cont..)Religious doctrine?Financing for mosqueCharitiesEntrepreneursThe Importance of Islamic Finance (Cont..)IslamicFinanceDifferences between Islamic & conventionalResource allocation, management, acquisition & investmentThe Importance of Islamic Finance (Cont..)ISLAMIC FINANCESHARIAHProhibition of ribaProhibition of ghararProhibition of maysirProhibition of unlawful & haram activitiesShariah: The foundation of Islamic financial systemISLAMIC FINANCIAL SYSTEMShariah (Islamic Law):Integrated and holistic Islamic worldviewWhat is Shariah?Shariah: The foundation of Islamic financial system (Cont..)The wayA clear path to be followedThe way which leads to a sourceBody of Islamic teachings & systemSunnahQuranShariah (Islamic Law):

faith, worship, economic, social, political & cultural aspectsA system of ethics and valuesThe domain for everyday affairs: politic, economics, commercial & socialMore vast & flexibleJurist (fuqaha) formulate laws that are in tune with respective time & place IJTIHADIslamic Financial Institutions ensure Shariah-compliant transactions in terms of legal technicality & economic substance based on maqasid al-ShariahShariah: The foundation of Islamic financial system (Cont..)Islamic Financial SystemConventional Financial SystemNoble values: Justice, fairness, trust, honesty, integrity & balanced societyValue neutral: Not concerned about moral values & UnjustPhilosophical foundations:Tauhid, Rububiyyah, Risalah, Akhirah, Istikhlaf, Tazkiyah, Kafalah, Adalah, FalahPhilosophical foundations:Doctrine of self-interestHuman beings are rational in decision-making

Maqasid al-Shariah:To promote maslahah and prevent the harmIslamic Financial System vs Conventional Financial SystemFunctions of Islamic Financial SystemTo mobilize funds from Surplus funds units (SFUs) to Deficits funds units (DFUs) through Shariah-compliant manner.Types of Islamic Financial Markets

Avenue to raise funds in a financial marketDebt and Equity MarketDebt MarketEquity MarketBondsStocks (Shares)Short-term (less than 1 year) & Long-term (> 1year)Short-termReturn to investor in the form of interest income (non-compliant with Shariah principles)Higher expected returnIslamic Debt securities (Sukuk) is Shariah compliant. Not based on loan contract but it is based on Shariah compliant sales contract, leasing and partnershipIslamic equity stocks must be structured compliant to Shariah (must not involved Shariah prohibited & unethical activities)Less riskyRiskierMoney and Capital Market

31Islamic Money MarketsIslamic Money MarketLiquidity ManagementSecondary tradingMonetary PoliciesAn integral part of Islamic financial system2 main components: Debt and equity marketThe core different from conventional capital market is the element of Shariah compliantIslamic equity securities, Islamic bond (Sukuk), Islamic real estate investment trust (REITs)Islamic Capital Markets

Primary & Secondary MarketsTrading of securities takes place in secondary marketsOrganized Exchange & OTC MarketsSecondary MarketsOrganized ExchangesOver-The-Counter (OTC)

BuyerSellerTrade (through brokers & dealers)(Well-known corporations)

(Less-known corporations)Trade through dealers at different locationsPlease answer question no. 1, 3, 4, 5 & 6 from the text bookBecause corporations do not actually raise any funds in secondary markets, they are less important to the economy than primary markets. Comments.

TUTORIAL # 1