Features of reserve formation in Islamic banks

Islamic banks operate alongside conventional banks and must compete for customers used to stable returns on deposits. However, Islamic banks cannot guarantee a fixed return on investment deposits because these deposits are governed by a mudaraba investment contract. These accounts serve a similar purpose to deposits, but their returns depend on the performance of the bank’s investments in real assets and projects. Under a mudaraba contract, depositors bear losses in proportion to their shares, unless the losses result from the bank’s negligence or breach of contract. Thus, the Islamic banking model involves risk sharing between banks and depositors. By contrast, conventional banks bear the full risk of losses on their asset-side operations. Their depositors receive a predetermined interest rate regardless of investment performance. This difference has given rise to distinctive approaches to setting aside reserves in Islamic banks. These approaches aim to smooth returns for depositors and maintain banks’ financial stability without violating Shariah prohibitions. This article aims to analyze the nature and types of reserves in Islamic banks and the specific features of their formation.