217 The Islamic fnancial industry is subject to prudential requirements which are similar to those of commercial banks. The regulatory regime governing Islamic banking and fnancial institutions varies across coun- tries. International organizations such as Accounting and Auditing Organization for Islamic Financial Institutions (AAOIFI) and the Islamic Financial Services Board (IFSB) have been established to set standards to strengthen and eventually harmonize prudential regulations as they apply to Islamic Financial Institutions (IFIs). 16.1 RATIONALE BEHIND PRUDENTIAL REGULATION Prudential regulation as an appropriate legal framework for fnan- cial operations is a signifcant contributor to preventing or minimizing fnancial sector problems. Evidence shows that the absence of prudential regulations in some key areas can lead to bank failures and systemic insta- bility. In establishing sound, clear and easily monitored rules for fnancial activities, prudential regulation encourages management to run institu- tions better and facilitate the work of supervisors. The fact is that the various IFIs and intermediaries operate completely outside prudential regulations. Some countries have one single general banking law covering all regulations, but in many countries, the opera- tional issues are left to statutory notes, circulars or even simply the rou- tine decisions of supervisory institutions. Various other laws can also CHAPTER 16 Gaining Strength: Prudential Regulations in Islamic Banking © The Author(s) 2018 A. Hassan and S. Mollah, Islamic Finance, https://doi.org/10.1007/978-3-319-91295-0_16