Lessons of Cyprus and Depositor Liability in Islamic Banks

There is a common explanation that Islamic banking can alleviate the European debt crisis, or could have prevented the financial crisis. Normally, these claims are not thought through enough to provide specific policy recommendations, and they instead just form the normal cheerleading heard at many Islamic finance conferences.

However, with the ‘bail-in’ of depositors in Cyprus, Islamic banking may have a specific recommendation for conventional banks based on the products used by Islamic banks. Rather than just lump creditors together an encourage complacency around the potential losses, make these explicit by dividing them into ‘safekeeping’ deposits and ‘profit-sharing and loss-absorbing’ deposits, and connect them with the specific pools of assets within the bank to provide increased transparency.

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