Islamic Economics, Banking and Finance: Historical Perspective and Future Prospects
Saad Sarwar Muhammad
February 21, 2009
Islamic banking and finance had its major beginnings in the year 1975 with the establishment of the Islamic Development Bank. Islamic banking has flourished in various countries since then with Malaysia, Indonesia, UAE, Pakistan and Saudi Arabia being in the forefront. Islamic banking has also recently done rather well in non-Muslim countries with the reported size of UK Islamic banking overtaking that of majority Muslim countries like Pakistan. Islamic banking assets are thought to be anywhere from 700 billion dollars to 900 billion dollars as of 2009. The credit crunch that has affected much of the western world has not taken its toll on the Islamic Banks, mainly because of the nature of the underlying transactions which admonish Riba and encourage instead a partnership based approach. The result is that the actual profit or loss is shared with the shareholders rather than an arbitrary number called Riba or "interest" which they have to come up with to please the investors regardless of the market situation. In this way, Islamic Banking also helps in depicting the true state of the economy.
Islamic indices historically have also been outperforming the other indices with the Dow Jones Islamic Developed World Index outperforming the MSCI World Index consistently over the past few years. Growth in Islamic banking has also been stellar and it has been growing at a healthy rate of 15-20% per year according to estimates. Moody´s has projected that Islamic banking would expand to a total value of $4 trillion dollars in another five years. The reason to this growth can also be attributed to the western banks taking interest in the Islamic banking instruments. Lloyd´s bank in the UK spread Islamic instruments to all of its two thousand branches in 2006 from five branches a year earlier. HSBC, Standard Chartered and Citigroup are some of the conventional western banks which have invested in Islamic banking.
Islamic bonds called Sukuk have been issued by many corporations and countries of the world and their combined value has reached 100 billion dollars according to some estimates. Standard and Poor´s puts the value of total Sukuk issued till the year end of 2008 to around 82 billion dollars. Islamic leasing called Ijara along with Islamic insurance called Takaful have also taken off in many western markets along with the Muslim countries. Islamic car insurance has become popular even among non-Muslim car buyers in the UK. Islamic mortgage market is also expanding in the UK, helped by the Finance Act 2003 in the country, which removed the dual application of "Stamp Duty" in Islamic Mortgages because of the reason that ownership has to change hands twice in these mortgages. Firms like LaRiba are becoming even more popular in the US which helps customers in home financing with Islam compliant schemes.
Despite all growth and blooming future prospects, many observers have cast doubt on some of these instruments. The main criticism for Islamic instruments is the parity between the rates of conventional interest based instruments and Islamic financing payments. They are of the view that there is a very high correlation between these two. However, some faithful can take respite in the fact that the major benefit Islamic banking still provides them is that the investments are made in halal (religiously legal) concerns and investment is avoided in areas like gambling, wine and other sin industries along with interest bearing ones. Investments in derivative securities and other highly speculative hedge funds are considered off domain by most Islamic scholars. Care has to be taken that these instruments are thoroughly examined before implementation for religious conformity. This is even more pertinent, especially at a time when the pitfalls of derivative securities have become painfully apparent in the current scenario of the credit crunch.
Islamic banking is one of the growing domains of banking which shows promise for the future. Furthermore, it has so far remained undeterred to a larger extent from the current financial crises. It is about time to develop even more innovative Islamic instruments which can meet the needs of the customers in a religiously viable way. It is important that these instruments do not defy the laws of Islam and the confidence of the public at large is not shattered. Islamic banking is one beacon of hope for all the conventional banks that have suffered the crunch due to high speculation and ethical violations of business norms coming to the limelight in increasing intensity with Madoff, Satyam, Kazutsugi Nami and Allen Stanford serving as prime examples. The concept of making money from money has come to the undoing of the western banking concerns while the prospects of Islamic banking could not be any brighter.
Islamic indices historically have also been outperforming the other indices with the Dow Jones Islamic Developed World Index outperforming the MSCI World Index consistently over the past few years. Growth in Islamic banking has also been stellar and it has been growing at a healthy rate of 15-20% per year according to estimates. Moody´s has projected that Islamic banking would expand to a total value of $4 trillion dollars in another five years. The reason to this growth can also be attributed to the western banks taking interest in the Islamic banking instruments. Lloyd´s bank in the UK spread Islamic instruments to all of its two thousand branches in 2006 from five branches a year earlier. HSBC, Standard Chartered and Citigroup are some of the conventional western banks which have invested in Islamic banking.
Islamic bonds called Sukuk have been issued by many corporations and countries of the world and their combined value has reached 100 billion dollars according to some estimates. Standard and Poor´s puts the value of total Sukuk issued till the year end of 2008 to around 82 billion dollars. Islamic leasing called Ijara along with Islamic insurance called Takaful have also taken off in many western markets along with the Muslim countries. Islamic car insurance has become popular even among non-Muslim car buyers in the UK. Islamic mortgage market is also expanding in the UK, helped by the Finance Act 2003 in the country, which removed the dual application of "Stamp Duty" in Islamic Mortgages because of the reason that ownership has to change hands twice in these mortgages. Firms like LaRiba are becoming even more popular in the US which helps customers in home financing with Islam compliant schemes.
Despite all growth and blooming future prospects, many observers have cast doubt on some of these instruments. The main criticism for Islamic instruments is the parity between the rates of conventional interest based instruments and Islamic financing payments. They are of the view that there is a very high correlation between these two. However, some faithful can take respite in the fact that the major benefit Islamic banking still provides them is that the investments are made in halal (religiously legal) concerns and investment is avoided in areas like gambling, wine and other sin industries along with interest bearing ones. Investments in derivative securities and other highly speculative hedge funds are considered off domain by most Islamic scholars. Care has to be taken that these instruments are thoroughly examined before implementation for religious conformity. This is even more pertinent, especially at a time when the pitfalls of derivative securities have become painfully apparent in the current scenario of the credit crunch.
Islamic banking is one of the growing domains of banking which shows promise for the future. Furthermore, it has so far remained undeterred to a larger extent from the current financial crises. It is about time to develop even more innovative Islamic instruments which can meet the needs of the customers in a religiously viable way. It is important that these instruments do not defy the laws of Islam and the confidence of the public at large is not shattered. Islamic banking is one beacon of hope for all the conventional banks that have suffered the crunch due to high speculation and ethical violations of business norms coming to the limelight in increasing intensity with Madoff, Satyam, Kazutsugi Nami and Allen Stanford serving as prime examples. The concept of making money from money has come to the undoing of the western banking concerns while the prospects of Islamic banking could not be any brighter.
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