How to support growth of Islamic banking and finance
Islamic banking is doing well in the world but some of the potential opportunities and challenges should be taken up to make Islamic banking more user friendly in every segment of economy and society. There is need to make a clear and transparent system of general Islamic banking which should concern to all sectors of society and economy in order to address the challenges and threats of the future needs of the economy.
Islamic banking has been facing so many challenges since its origin. Islamic banking has been in transition and development phase in different countries for the last three decades. According to (Khalaf), Islamic banking industries have always suffered with the issue of different opinions of Islamic scholars. Suppose a product or practice may be accepted to one scholar, could be considered un-Islamic by another scholar.
Malaysia has established a standard sharia board which is supported by the government. The same thing goes in case of Pakistan but here legislation is missing. The Bahrain-based Accounting and Auditing Organization for Islamic Financial Institutions has established a group of religious advisors or scholars who are authorized to issue fatwas (order, decision) on Islamic-
financial products. But they remain a voluntary body and they are not supposed to strictly impose these rules on these organizations. Due to this some banks are ignoring the decisions of the board. It is true that Islamic banking is facing the difficulties of lack of authentication of decisions because there is no unity in the Muslim community since they have different beliefs and there remains the possibility that some decisions may not be acceptable to the other part of the community. However for moving forward we have to find some ways.
In addition to this there is a serious shortage of scholars and qualified managers In Islamic banking. Unfortunately the managers are not well trained in the use of Islamic financial practices (Iqbal, Ahmad and Khan,). Islamic banking in Muslim countries and rest of the world leaving aside Malaysia is facing the problem of legal system because Islamic banking is not yet proper regulated, due to this there always remain a tension between Islamic banking and regulators (Karbhari, Naser and Shahin, ).
Further Islamic banking is also facing the challenge of the new mode of conventional banking in opening of Islamic banking windows. It can improve the services of Islamic banking but there is a need that Islamic scholar to work hard to maintain the priority of Islamic Sharia law (Iqbal).
The main hypothesis presented in favor of Islamic Banking is that Muslim population wants to spend their lives according to their faith. According to Islamic teaching, interest is strongly prohibited in Islam and they want to take banking services such as saving accounts, current accounts, home finances, insurance and loan according to Islamic Sharia. Since in most of the countries their banking and financial rules are most in favor of conventional banking system hence due to this Islamic banking is facing some difficulties in the way of its progress. In other word these problems are great challenges for Islamic banking. If they are resolved than Islamic banking can develop in short period of time.
Question about faith would always remain the main question in this regard. What we mean by it, since Islam is a natural religion and all its beliefs are based on scientific principles or some understandable arguments. Islamic finance means business and no business can go without profit and loss. This is contrary to conventional finance where profit is already fixed irrespective of the fact whether business is at loss. Apparently this is exploitation. But if Islamic Banks get loss in its investment on trading basis than it is not liable to pay any profit under arrangement of Mudarbah or Musharkah. This also creates exploitative kind of business in environment of inflation or time value of money which is also not permissible in any religion or on moral values. From this angle Islamic finance becomes more risky; hence to cover this risk, element of higher return becomes inevitable. However most of the Islamic Banks normally pay less return than conventional banks due to some obvious reasons. The reasons arise from the following questions:-
1. Is Islamic banking sector has a potential for product development? Whether Islamic Banking is in a position to satisfy its customers?
2. Is Islamic banking has a potential to perform active role in the Financial Market and its growth in market development?
3. Do Islamic banking is able to enhance the investment opportunities in the country and whether it can play prominent role for the country’s economy?
4. Is there any effect of the any country’s environment (political, social and geographical) for growth and development of Islamic banking?
5. Is Islamic banking has proper regulatory and institutional framework in the jurisdiction where it is working?
6. Whether Islamic banking has any problem in any country in respect of supervision and scholarly committees?
7. Whether Islamic banking is full informative to its customers or facing any difficulty in its marketing?
8. Whether Islamic banking is in a position to survive and develop in the age of competition and
Unfortunately we have no cogent answers for the above questions. This requires immense research which cannot be done by the degree holders coming out of Madrasahs and Universities. For this a joint effort is required from the Bankers having full knowledge of conventional and Islamic Banking, legal experts, Sharia Advisors and Market practitioners. This combination on joint basis can come up with the required answers.
Education in Islamic financial institutions
The main challenge in Islamic Finance is human capital to foster awareness and development in the area. We need more and more people who understand how Islamic finance works, and understand not only basic Sharia knowledge and issues but also know about current economic- demands and financial market structures. This is a problem all over. In many countries like GCC and Malaysia there has been an improvement, but there’s still a long way to go.
For companies purposely to achieve better performance and understanding, the assessment and evaluation of its important elements are required. Islamic banking products are vitally crucial to the Islamic banking industry; hence the same rules apply here.
The Islamic Banks and other institutions employees must be the first segment in the system whereby they should be aware of the goodness of its products. No doubt its assets have risen to 13.6 % and deposits have gone to 14.7% of total banking sector but still Islamic banks are yet growing on the perception of their customers with the employees of these institutions having less knowledge of what they are promoting and selling to the customers.
The employees of Islamic banks should know about financial products they are offering and services, using the principles of Islam to convince their customers. For this they are required to know full ABC of current banking by adding full knowledge and teachings of Islam. To realize their own mission, it is the products and its benefits that are important. As it is been stated that all essentials for Islamic banks is based upon to study the principles of Islamic Banking and Finance guided with enhancing behavior, attitude and awareness of their clients.
First than comes to adhere to Al-Qur’an and Hadith Nabvi,s knowledge that are pivotal to the clients mainly in the retail segment who usually acknowledge and comprehensively understand and constitutes as the main element of the banking business in practice. The possession of knowledge and experience by awareness, attitude and understanding of conventional and Islamic sides, the employees can be used as the vital source for the banking amongst their customers.
There is no other opinion that government, regulators and banks themselves can become the main source to ensure proper training of the bankers and also to develop a research-oriented mechanism to improve wide range understanding about Islamic Banking system. By going this way we can ultimately pave way for actual and successful implementation of Islamic Finance in the world. IDB and other world bodies have also to play main role in this regard.
Growing numbers of Islamic banks and branches of conventional banks offering Islamic banking products to the people is not enough. Economists, bankers, market practitioners and sharia scholars with full knowledge of Islamic Finance have to play main role in development of Islamic Financial Market so as to achieve optimum of the present government’s commitment towards “Sharia based Islamic Banking.”
In Pakistan in education of Islamic finance significant gaps exist at the level of education providers. Leading universities and business schools need to increase their effort to catch up the ground. In the last few years, Islamic finance related course are being introduced as part of elective in top universities like IBA, LUMS, NUST, Comsats, KSBL, IoBM to name a few. Some universities in Pakistan have also taken lead to incorporate Islamic finance as part of the core requirement for their business degrees. Universities like IMS Peshawar, IIU Islamabad, UMT Lahore, Comsats have also started offering Master level specialized programs. Since 2017, IBA Karachi has also started its first MS Islamic Finance Program covering theoretical and practical aspect of Islamic finance. LUMS has also started offering PhD in Islamic Finance. In the area of professional education NIBAF, IBP, IBA Centre for Excellence in Islamic Finance (CEIF) and Center for Islamic Economics are playing active role by offering different level of certification programs, professional development program, post graduate diplomas and short courses for existing finance professionals, bankers and academics.
In spite of this progress than what are the lacking areas. They are mainly curriculum not prepared to meet the challenges of 21st Century. Secondly in all these areas Sharai Scholars and Muftis are controlling these areas in collaboration with Islamic banks and educational institutions. In fact they should be independent with persons having full command on Islamic and conventional knowledge of banking and finance.
Issue of using benchmark rates like KIBOR or LIBOR by Islamic banks
In this regard the first question is that what the benchmark rates are. In fact they are the rates at which any market borrow or lend for a given time period on a given day. LIBOR and KIBOR are one of such rates. LIBOR is London based rates in five different currencies whereas KIBOR is a rate for Pakistan Rupee. They emerge from the banks working in these territories. For instance in Pakistan some banks like 20 become member of this club and on each day they- provide lending and borrowing rates from overnight to one year period in different tenors. These rates are meant for interbank lending and borrowing. Hence average of these rates becomes benchmark rate for the particular date. Next day the same process goes on with a new bench mark rate.
The question has always arisen by those who label whole Islamic Banking Un-Islamic. They in fact do not know ABCD of market dynamics that how these rates given by the conventional banks can be used by Islamic Banks.
KIBOR was introduced by State Bank of Pakistan (SBP) in 2001 and despite a direct ban on charging interest; interest-based benchmarks were allowed to be used as a pricing reference by Islamic banks in the absence of stable and widely-published alternatives for the Islamic banks in the market.
SBP says Islamic finance institutions would have to outline their alternative pricing mechanism for participatory financing schemes, replacing the use of the Karachi Inter Bank Offered Rate or KIBOR whenever their money market starts functioning. Islamic banking now holds 13.6 per cent of all banking assets and 14.7 pc of all bank deposits in the country but still there mark-up are being set against a financial benchmark such as KIBOR or LIBOR for dollar-denominated deals.
The practice dates back to the beginnings of modern Islamic finance in the early 70’s, with scholars giving their blessings to what was deemed a temporary measure until alternatives could be developed. Since the establishment of the first Islamic commercial bank in 1975, the Islamic finance industry has been searching for an indigenous benchmark that can be applicable to transactions compliant with Islamic law (Shariah compliant).
On the outset, all studies recognize that the Islamic pricing benchmark should be based on the risk profiles of the real economic ventures. The Sharia encourages the seeking of profits but abhors the taking of interest riba. Profit is tied to real economic activity and is subject to risk-taking. The Islamic benchmark should, therefore, be based on profit rates that emanate from the real sector. Therefore, it must be tied to the real economy and based on productivity and profitability of assets, i.e. it must be endogenously determined, unlike market interest rates that are exogenously determined and unrelated to usufruct of assets.
Islamic banking and finance currently has lacked a way to earn a return on funds “parked” for the short term, waiting to be invested, which puts those banks a disadvantage to conventional banks.
Some Muslim countries such as Bahrain, Iran, Malaysia and Sudan have started to develop an Islamic money market, and have been “issuing securitized papers on the basis of musharaka, mudaraba and ijara”, at least as of 2018, the “lack of an appropriate and efficient secondary market” has meant the relative volume of these securities is “much smaller” than on the conventional capital market.
Kuala Lumpur Interbank Offer Rate (KLIBOR) was introduced in June 1987 as an official indicator for Malaysia’s interbank money market. It is the interbank lending rate, and is the interest rate charged by banks when lending to each other.
Against this Islamic money market was established for overnight, one week, one month and three months but comparatively it has shown very little volume to transact and that too in overnight and one week period. For example on 11-3-2019 it carried transaction of Ringgit 885 million with 3.2% rate only in overnight and Ringgit 100 million in one month at 3.29%. Further as per mechanism the conventional banks can access conventional as well Islamic money Market whereas Islamic banks remain limited to Islamic money market only. This puts Islamic banks on highly disadvantage position as compared to conventional side Further the rates at which they trade are almost the same as of conventional bench mark rates. From above example of trading on 11-3-19 in overnight it has been done at 3.2% which is equal to central bank of Malaysia i.e. Bank Negara Malaysia current prime rate of 3.2%. So this experiment is giving no success for an alternate Islamic money market with its own benchmark rates.
It can happen only when Islamic banking assets crosses the size of conventional assets which is not looking to happen in near future.