Islamic banking could be just what India needs

One of the misconceptions about Islamic finance is that it is solely for the Muslim community. Dubai Islamic Bank has broken this myth.

ADNAN CHILWAN  Dubai | 16th May 2015

Over the last 40 years, the astounding progress witnessed by Islamic banking and finance has made many rethink the present and more prevalent business model of conventional finance. Many are now keen to adopt the concept and incorporate it within the conventional banking system, while others are taking out Sharia compliant sub divisions to cater to the rising demand. Islamic finance now carries a universal appeal across the entire banking and finance market.

Though banking and Sukuk (Islamic equivalent of conventional bonds) encompass more than 95% of the total Islamic financial assets, Islamic finance also caters to leasing, equity markets, investment funds, insurance ("Takaful") as well as micro finance. Outpacing conventional banking growth during the past decade with increased penetration across various countries in Middle East and Asia, Islamic capital market issuances are increasing twenty-fold and expanding to new markets in Africa, East Asia and Europe.

The global expenditure of Muslim consumers on food and lifestyle sectors, currently growing at 9.5%, is projected to grow at a CAGR of 10.8% by 2019.With the total assets of the Islamic finance industry estimated to have surpassed US$2 trillion at the end of 2014, non-Muslim nations are now realising the tremendous economic potential of the industry. The system is being hailed as an overriding solution to cementing the gaps and possible fallacies in conventional banking and finance.

Global appetite on the upswing

One of the possible misconceptions about Islamic finance is that it is solely for the Muslim community. This cannot be any further from the truth. We at Dubai Islamic Bank (DIB) have broken this myth, banking everyone across the entire industry spectrum. Unfortunately, many Islamic players do not follow this strategy, hence losing out on the bigger market.

Recently, the International Monetary Fund released a report endorsing the principles of Islamic finance as a possible "safer" option. Simultaneously, OIC countries witnessed increased economic activity, with GDP rising to US$9.8 trillion in 2013, with steady growth expected for the period 2015-19 at 5.4% versus 3.6% for the rest of the world.

The growth in Sukuk markets is expected to continue from 2015 onwards, particularly with successful sovereign issuances in non-Islamic markets such as UK, Luxembourg, South Africa and Hong Kong witnessed recently. An S&P document entitled "Will Islamic finance play a key role in funding Asia's huge infrastructure task?" mentions that the world is looking towards an alternative system which could be Islamic finance. Products like Sukuk are ideally suited for investment in infrastructure development and the report suggests that India should make use of these kinds of investment by suitably altering its regulations.

Next Stop India?

The Indian government has called for USD $1 trillion in infrastructure spending in the five years through 2017. In a financial inclusion scenario, even after 40 years of bank nationalisation, 60% of the people in India do not have access to formal banking services and only 5% of the villages have bank branches. Islamic financial services, banking or non-banking in nature, could serve to mobilise money from oil-rich Gulf states that could easily be channelised through an interest-free system. Further, due to its interest-free operations, it could be used as a tool for the inclusion of the Muslim minority population in India (currently at around 14% of the total population), a majority of whom are cut off from the mainstream financial system due to interest-based transactions. It could also play a crucial role in eradicating poverty by helping debt-ridden farmers, labourers and other marginalised groups who would otherwise be exploited.

Today, Islamic banking has a presence in India in the form of NBFCs and Baitul Mal (Islamic Treasury). Further, Kerala government-owned KSIDC has started Al-Barakh Financial Services Ltd, GIC of India runs an Islamic reassurance scheme, and several mutual fund schemes invest explicitly in compliance with Islamic rules. TASIS, an index on the Bombay Stock Exchange representing only Sharia-compliant stocks, is the first of its kind in India. The recent go ahead from the Reserve Bank of India to the Kerala government for the launch of the first Islamic Bank in the region (CFSL) is a positive step forward. Muslims make up around 25% of the population in Kerala, many of whom either did not claim interest on deposits or gave the interest earned in charity. According to a 2009 study, unclaimed interest worth Rs 50bn is lying in Kerala banks alone.

Challenges to Overcome

Considering the positive steps that have been taken so far, India will still need to steer not only its regulations but also make a supportive platform for the launch and inherent incubation of this new system. The regulatory framework will need to be revisited, particularly the Banking Regulation Act 1949, RBI Act 1934, and Cooperative Societies Act and Negotiable Instruments Act 1961, where many sections of the said acts are in disagreement to the basic tenets of Islamic banking. Further, the taxation laws will also need to be looked into along with overcoming scarcity of Islamic banking experts and trained personnel in India.

Future and beyond

Policymakers around the world have placed financial inclusion at the top of the development agenda. Because of Islamic banking's risk-sharing features, it is considered less speculative and hence spur inclusive growth according to the IMF.

Seeing this rise in global demand for Islamic finance, the IMF has taken notice of and set up an Interdepartmental Working Group with objectives to develop deeper analysis on the sector. It is already exploring Islamic finance in key areas such as financial inclusion, Sukuk markets, consumer protection, monetary policy, tax policy, etc. The Asian Development Bank (ADB) also supports the development of Sharia compliant financing amongst its member countries by providing assistance in the development of best practice for prudential standards and corporate governance rules for central banks and securities regulators.

In conclusion, I see a massive potential for Islamic Banking in India, albeit with proper supportive programmes and regulations in place. With the government playing a leading role, India could not only enter this segment, but soon become one of the foremost global players. There is a rising global appetite for this ethical form of financing that stood its ground, even in the global financial crisis, and is now gaining significant market share across the globe and there is no reason why India, one of the fastest growing global economies boasting one of the largest Muslim population, not be a part of the same.

Dr Adnan Chilwan is the CEO of Dubai Islamic Bank, Dubai..

www.sunday-guardian.com/analysis/islamic-banking-could-be-just-what-india-needs