Bank of England Opens Alternative Liquidity Facility For Islamic Banks

For the first time, the Bank of England has opened the Alternative Liquidity Facility (ALF), which has taken deposits from UK-based Islamic banks.

In December 2020, Andrew Hauser, Executive Director for Markets, gave a speech launching the ALF. It’s the first non-interest-based deposit facility offered by a Western central bank, and it’s designed to give banks that can’t pay or receive interest the same access to the Bank of England as conventional banks.

This is a significant step toward creating a level playing field and allowing for greater flexibility in meeting Basel III prudential rules regulatory requirements.

Participants’ deposits are supported by a fund of high-quality Shari’ah-compliant securities known as Sukuk under the ALF model. Instead of interest, the return on these instruments, net of operating costs, will be paid to depositors. The fund has purchased Sukuk issued by the Islamic Development Bank in the first instance.

Head of Sterling Markets, Rhys Phillips said; “the ALF will help the UK Islamic finance sector to compete with conventional peers while staying true to their founding principles; and will further strengthen the United Kingdom’s role as the leading international financial center for Islamic finance outside the Muslim world.”

Why is ALF Needed For Local Islamic Banks?

• Islamic banking is a relatively new but rapidly expanding segment of the financial services industry. Islamic, or Shari’ah-compliant, financial products are available from a variety of banks around the world. This activity, among other things, avoids the payment or receipt of interest.
• In the United Kingdom, Islamic banks must adhere to the same stringent regulatory requirements as conventional banks. Holding a reserve of high-quality liquid assets (HQLA) to meet obligations as they come due is one example. Traditional banks can hold deposits at the central bank to help meet their buffer requirements, but Islamic banks have previously been unable to do so because Bank of England deposits are typically interest-bearing.
• The ALF was created as part of the Bank’s commitment to diversity, innovation, and financial inclusion. This will help level the playing field by allowing Islamic banks – as well as any other UK banks with formal restrictions on engaging in interest-based activities – to hold deposits at the central bank.