Riskmanagement is a process that identifies loss exposures faced byanorganization and selects the most appropriate techniques for treating suchexposures (Rejda, 2006; p.
63). In general, riskmanagement can be defined as a systematic approach to managing risks thatthreaten the assets and income of a business or entrepreneurship. There are fivetypes of risks in business have been identified that are relevant to Takaful as follows:1. Underwriting risk2. Operational risks3. Credit risk4.
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Liquidity risk5. Market risk Underwriting risk andoperational risk are directly related to the operations of the takaful company.The remaining three risks are associated with the company’s investmentactivities. All types of risk in takaful require specific risk managementstrategies and need to be managed individually. The effectivelymanage the risks in takaful involves the following steps:1. Identifyingrisks2. Managingrisks3. Enhancingrisks management culture in takaful industry The threecurrent practical challenges in risk management which is confronting takafuloperators as follows:1.
Shari’ahBased Challenges Most of the risk managementtechniques do not apply to Islamic financial institutions due to Shari’ahcompliance requirements. It creates a Shari’ah-based challenge to riskmanagement for Takaful companies. These challenges emerge because Shari’ahprohibits the use of certain instruments, but that instrument considered usefulin conventional risk management. For instance: derivatives (which involve futures,options, swaps) and sales of debts. 2. Internal ControlsInternal controls are vital torecognize and assess the risks faced by financial institutions includingTakaful companies. The existence of effective internal control has preventedfinancial institutions from systemic crisis and enabled them to get earlydetection of the problems and risks they might face in the future. Thisexperience highlights the crucial and need for internal control for Takafulcompanies.
The unique nature of these companies from conventional insurancedemands the fulfillment of Shari’ah aspects. To have an effective internalcontrol mechanism, the Takaful company must ensure that Shari’ah controls arein addition to all statutory regulations. It urges the need for a Syariah auditas part of an ongoing internal control system. 3. Corporate GovernanceThe structure of corporategovernance determines the distribution of rights and responsibilities of theBoard, managers, shareholders and other stakeholders, but effective corporategovernance ensures the independence of board of director(BOD) who subsequentlydevise policies and executes strategies for risk management and hold managementaccountable to shareholders.
The lack of effective corporate governanceframework impedes the independence of the BOD and thereby poses a challenge torisk management. It further increases the operational risk which may lead tooperational failures due to BOD’s inability to implement unbiased andindependent decisions for the best interests of all stakeholders. Takafulcompanies are confronted with additional challenges related to the Shari’ahSupervisory Board corporate governance. It requires more need to incorporatecorporate governance culture to address the issues related to the Takafulindustry.