Issues and Challenges of the Application of Mudarabah and Musharakah in Islamic Bank Financing Products

Abstract

There has been a record of limited Islamic financial institutions applying risk sharing principles in financing product, especially Mudarabah and Musharakah. The issues of high risk and multi-faceted business risks that are associated with Mudarabah and Musharakah become the main obstacle in the implementation. This study aims to explore the current development of Mudarabah and Musharakah contracts in Islamic financing products, to analyze the issues and challenges in the implementation of Mudarabah and Musharakah contracts in Islamic financing products from the perceptive of Islamic banks, regulators, and customers/entrepreneurs. It also explores the possible recommendations to enhance the implementation of Mudarabah and Musharakah contracts in Islamic financing products. This study uses library research method by acquiring and analysing the information from literature related to the products and issues on Musharakah and Mudarabah as an equity mode of financing. This study finds that high risk, asymmetric information problems, moral
hazard, and difficult financing evaluation processes are the main reasons of Islamic banks not offering financing product with profit and loss sharing contract. At the same time, regulators also require better risk mitigation for the scheme due to its high risk. To increase the development of Mudarabah and Musharakah products, the authors recommend the industry to change their mindset of Islamic banking operations, increase customer awareness, adopt fintech to reduce evaluation and monitoring costs, and improve the regulatory framework that supports Islamic banking by issuing regulations and incentives which could encourage the implementation of profit and loss sharing scheme.