Sharia-friendly banking boost

Despite a growing interest in Islamic banking, several obstacles lie in the path of its development, writes Ahmed Kotb

With President Mohamed Mursi, a former member of the Muslim Brotherhood, in office, Islamic banking is expected to grow rapidly and acquire a larger market share, competing with its conventional counterpart.

Islamic banking refers to a financial system that is consistent with the principles of Islamic Sharia law, which prohibits interest through lending, gambling and investing in businesses that are related to goods or services considered against Islamic principles, like alcohol and tobacco.

However, experts believe that there is a number of obstacles that might stand in the way of expanding an Islamic-law compliant financial system.

Among these obstacles, according to Rashad Abdu, a financial expert, is a conflict between Sharia law and the Egyptian law under which banks operate based on interest. "This is not compliant with Sharia which is based on profit sharing," he explained.

Another problem Islamic banks face, according to Abdu, is that they follow the rules and regulations of the Central Bank of Egypt (CBE), which forces banks to issue treasury bonds with interest. Besides, he added, present banking law, issued in 2003, doesn't have any provisions to regulate the work of Islamic banking.

Islamic finance offers an alternative to interest: sukuk, an Islamic bond that is not interest bearing. Sukuk gives the investor a share of an asset and commensurate cash flow and risk.

A further challenge is that there are no professional certificates in Islamic finance. "The problem here is the lack of the proper specialty. These managers have to know everything about Islamic economy."

Islamic finance, Abdu added, suffers from the absence of a model Islamic bank. "Some banks claim they are Islamic, but they don't apply some of the principles of Sharia," he noted, adding that some just make interest rates lower than in conventional counterparts, claiming that this is Islamic.

"There should be an awareness campaign for the public to inform them about the Islamic finance system," Abdu said, adding that conventional banks that have Islamic finance branches might use the money deposited in activities and investments that are not consistent with Sharia law.

Former director of research at Abu Dhabi Bank, Ahmed Adam, identified another problem that faces Islamic banks. "These banks find difficulties in dealing with the private sector as a client because companies have to do an annual estimated budget that cannot be done if they are not sure of the interest rate of their deposit in Islamic banks," he said, adding that commercial banks offer additional interest rates to companies, unlike Islamic ones.

However, Adam pointed out that an Islamist presidency and an expected Islamist majority in the coming parliament means that the Islamic banking sector is set for a boost, because many people are interested in dealing with Islamic banks.

The recently dissolved parliament, led by the Freedom and Justice Party of the Muslim Brotherhood, was planning to introduce new legislation especially drafted for Islamic finance. The legislation had not been approved before the parliament was dissolved.

Realising the potential of the Islamic finance sector, many conventional banks have applied to the Central Bank of Egypt (CBE) for licences to open Islamic finance branches. According to the CBE, about 15 licences have been issued. The current number of such branches across the country is 211, out of a total of 2,360 branches practising conventional banking. There are only three fully-fledged Islamic banks operating in Egypt. Although the first Islamic bank was established in 1963, the Islamic banking trend remained on the sidelines.

Islamic banking has started to receive a positive reputation worldwide after the economic recession of 2008, when the world discovered that economies that survived the crisis -- like Malaysia -- applied the principles of Islamic finance.

The Egyptian Association for Islamic Finance issued a report recently showing that Islamic finance, by the end of March 2012, represents 7.3 per cent of the total volume of the banking market, with LE94 billion compared to LE1.3 trillion.

According to the report, Islamic banking transactions are expected to grow from 10 to 15 per cent annually due to increasing demand for Islamic finance.

http://www.zawya.com/story/Egypt_Shariafriendly_banking_boost-ZAWYA20120721113308/

Ministry studying Buddhist bank model

The Finance Ministry is considering the establishment of a special-purpose Buddhist bank similar to the Islamic Bank of Thailand, says Deputy Finance Minister Wirun Techapaiboon.

The ministry estimates that temples across the country have a combined savings of more than 200 billion baht, driven by those large temples famed for merit-making and donations such as Wat Sothorn in Chachoengsao province.

Mr Wirun said the first stage will involve a particular outlet of the Government Savings Bank as an alternative for temples to make deposits.

The deposits will not be lent to any entities such as bars and massage parlours that contravene the rules of Buddhism.

If the idea succeeds, then the bank will be upgraded to the first Buddhist bank in Thailand.

The Sangha Supreme Council of Thailand came up with the idea of a bank that operates in accordance with religious principles.

Such a bank could fund monks' residences, monasteries and Buddhism schools. It could distribute 10% of profits to temple maintenance.

A Finance Ministry source said the idea is fairly awkward for the Fiscal Policy Office, which strongly disagrees with the concept of a Buddhist bank.

The source said it would be hard for the bank to control its non-performing loans and manage collateral. For instance, if a temple failed to repay its debt, seizing its collateral is against societal norms.

"Furthermore, even if the law lets a temple administrator be a loan guarantor, it doesn't make sense, as they mostly cannot repay debt anyway, and how to make religious activities commercially viable? It is unacceptable," said the source.

http://www.bangkokpost.com/business/economics/303784/ministry-studying-buddhist-bank-model

Focus on emerging markets - Sharia-compliant funds offer safe-haven

The continuing negative prospects for the eurozone and mixed macroeconomic indicators for emerging markets will fuel growth in shariah-compliant funds, as investors turn to Islamic finance to diversify their exposures.

As the Islamic world marks the start of Ramadan, Western investors are increasingly turning their eye to various financial products and services run in line with its religious precepts.

At the same time, European asset management expertise is being made available to the Islamic world, by Dutch house Robeco, to advise on a $600m fund addressing food security in the Muslim world.

European managers have had looked East as their home industry has suffered significant redemptions, while Middle Eastern counterparts have enjoyed new monies.

Standard Chartered notes Islamic financial products have grown by 30% over the past two years. Winners have included Saudi Arabia's Sedco Capital, which attracted €480m to three newly-launched shariah-compliant funds.

And while the outlook for the mainstream industry looks uncertain at best  Ernst & Young forecasts Islamic finance will increase by 33% between 2010 and the end of this year.

Sedco is not the only manager of Islamic finance products increasing its engagement with Western market allocators.

At the beginning of July, Oasis Crescent, one of the world's largest sharia asset managers, opened an office in London and launched six funds, including portfolios focused on equities, property, income, and life-staging asset allocation, balanced funds.

The South African company has £2.5bn assets under management and estimates the potential UK markets for Islamic products is between £120bn and £160bn.

Closer to home, in May la Française AM launched into the French market the first sharia compliant OPCI (collective real estate vehicles with simplified investment rules with leverage). Leverage for the deal came partly from using a Murabaha, a Sharia-compliant loan structured in such a way to avoid interest payments.

Standard Chartered recently increased its efforts on shariah-compliant private banking. Standard Chartered's wealth management has two offices in the United Arab Emirates, and it expects 20% to 25% of its assets to be Islamic in origin over the next three years.

Index providers have also been actively helping investors in shariah-compliant products gauge their chosen manager's performance.

At the end of June, S&P Indices launched the S&P/OIC COMCEC 50 Shariah Index, measuring the performance of 50 leading shariah-compliant companies from the member states of the Organisation of Islamic Cooperation.

"The S&P/OIC COMCEC 50 Shariah Index...encapsulates in one index the performance of shariah-compliant stocks from Islamic countries located throughout the world," said Alka Banerjee, vice-president at global equity and strategy indices from S&P Indices.

The index consists of the largest 50 stocks from the eligible universe, selected in accordance with shariah compliance screens. The index covers all 19 countries and territories whose exchanges are members of the Organisation of Islamic Cooperation Exchanges.

Amid this appetite for products and launches of active and passive vehicles for the Shariah-compliant investment community, one Western manager has traveled to the region, to win business directly.

Rotterdam-headquartered Robeco is to advise on management of the Shariah-compliant Food & Agribusiness fund, launched recently by Farid Masood, director of the asset management division of the Islamic Corporation for the Development of the Private Sector.

The fund will "promote strategic investment flows and expertise into the food and agricultural sector in Islamic countries [and] address growing food security concerns by capitalizing on the region's largely under-exploited potential for increased food production and supply."

It will invest in various strategic and commercially-sustainable initiatives across the food and agriculture value chain. It will be open to Islamic, and other investors, and have a term of 10 years with a commitment period of five years.

The ICD's job is to "support the economic development of its member countries through provision of finance to private sector projects in accordance with the principles of the Shari'a law." It has done so, so far, by financing over 200 projects with more than $2bn.

http://www.investmenteurope.net/investment-europe/news/2191314/focus-on-emerging-markets-shariacompliant-funds-offer-safehaven-in-volatile-markets

Time for Islamic airline finance

Of the many things that the Gulf is famous for, two that would have to stand out would be Islamic finance and successful airlines.

Emirates Airline has proved to be something of a beacon of hope for the regional aviation industry and has won plaudits both for its excellent service and its robust business model. Other airlines in the region have followed Emirates lead and the list of wannabees grows, including both Etihad and Qatar Airways.

Over recent years we have seen both airports and airlines in the region using Sukuk as funding vehicles for their business – but we have not really seen Islamic finance take hold in the multi-billion dollar space that is ‘aircraft financing’ in the region: with luck that might change as the decade progresses.

Observers have suggested that Saudi Arabia's moves towards an ‘open sky’ policy could attract interest of many airlines - both from the Gulf and beyond. It is doubtless boom time for the KSA airline market – up 13 per cent last year - with north of 54m customers squeezing through Saudi’s  27 airports last year according to the General Authority for Civil Aviation in the Kingdom.

The bad news for passengers is that Saudi Arabian Airlines, the national carrier, and budget National Air Services NAS are the only games in town at present. Enter Islamic aircraft financing?

Hajj travel is big business but the reality is that foreign pilgrims can only make it to Saudi on an overseas airline. After that they are in the hands of the domestic system.

There is no lack of interest from foreign entities to moving in an providing a higher quality of service than that which is offered at present in the domestic Saudi scene – which is characterized as being below par and stuck in the 1970s. The issue is when this will happen and what sort of funding will be used.

Aircraft are expensive – it is as simple as that – with a Boeing 737-700 costing in the region of $60m. With new markets opening up – like KSA - then the opportunities for Islamic aircraft financing are growing all the time. Key figures in the industry are forever going on about adding to the palette of Islamic financing instruments being used. Now could be a great time to demonstrate that Islamic finance and aircraft finance make perfect bedfellows.

http://theislamicglobe.com/index.php?option=com_content&view=article&id=1478:time-for-islamic-airline-finance&catid=12:opinion&Itemid=65

Egypt Islamic finance plans include boosting waqf

The Freedom and Justice Party, the parliamentary arm of Egypt’s Muslim Brotherhood, aims to develop the practice of waqf or religious endowments as part of its plans to expand the use of Islamic finance, a party official said.

In waqf, people contribute a portion of their wealth, in cash or other assets, to sharia-compliant and charitable projects such as mosques and schools. But the management of such endowments in Egypt has been widely criticized as inefficient.

Ahmed al-Najjar, a member of the FJP’s economic committee, said in a telephone interview this week that waqf endowments (awqaf) in the country totaled about half a trillion Egyptian pounds ($82 billion), but the yield on them was very low - according to a report by the Ministry of Religious Endowments, it is about 1.5 billion pounds annually, he said.

One problem is that managers of a waqf often lack financial expertise, in contrast to countries such as Turkey and Malaysia. The solution may be to encourage the hiring of experienced financial managers for awqaf, Najjar said.

Another proposal under consideration by the FJP is to encourage the formation of awqaf not through a contribution from a single wealthy donor, but through multiple small subscriptions to a sukuk (Islamic bond) offered publicly.

The proceeds of the sukuk could then be used to purchase waqf assets. This would expand the number of people involved in awqaf and give managers more flexibility to invest endowment money, Najjar said.

Instruments

Despite the election victory in June of Egypt’s President Mohamed Mursi, backed by the Brotherhood, a new cabinet has not yet been formed and there is no fully functioning parliament or constitution. This is likely to delay any administrative or legislative moves to boost Islamic finance.

But Najjar said the FJP would push for the creation of sharia-compliant financial instruments to be used in monetary policy. For example, Islamic instruments could be used by the central bank for short-term financing operations, allowing authorities to benefit from the liquidity held by Islamic banks, he said.

“We want the introduction of these tools along with traditional financing tools,” Najjar said.

FJP officials have previously said they aim to boost the market share of Islamic banks in Egypt to 35 percent in five years from roughly 5 percent now - but by increasing the total size of the banking sector, not by penalizing conventional banks.

Najjar said his party was also considering how Islamic investment funds could be launched to support the growth of small and medium-sized enterprises, which are crucial to create jobs.

http://english.alarabiya.net/articles/2012/07/24/228096.html

Should you choose the ethical option for your banking?

We look at banking institutions that claim to put principles before profits.

The fallout from the Barclays scandal has left many pondering the allure of so-called "ethical" alternatives to the big high-street brands.

Navigating the various ethical banking options can be arduous, while different organisations may have different ideas of what constitutes an "ethical" option. The following explanations may help you to understand what is available.

The Co-operative Bank

This Manchester-based organisation is one of only two "ethical" banks that offer a personal current account – and it is expanding fast. It has been operating since 1872. Despite its name, it is not a technical co-operative as it is not owned directly by its members. Instead, it is wholly owned by the Co-operative Banking Group, which is in turn owned by the member-owned Co-operative Group.

If you bank with the Co-op you have the option to become a member of the Co-operative Group. It also owns Smile, the internet bank. It is merged with Britannia Building Society.The Co-operative has the benefit of very high customer satisfaction ratings, although the interest rates it offers to its customers are seldom market leading.

Its standard current account does not pay interest on credit balances. Although the Co-op currently has few branches it does allow you to do most of your banking via a local post office and you can also bank over the internet with both the Co-op and Smile, its internet brand.

The Lloyds deal announced this week will give it a far wider branch network, with an extra 632 branches when the changeover is complete.

As well as its current account the Co-op offers mortgages, loans and credit cards as well as having an insurance arm. Again, the rates are not always competitive – its current cash Isa rate is 0.5pc. Fixed-term bonds offer a better value solution, including a three-year bond paying 3.93pc interest on a monthly basis.

On the ethical side of things, the Co-op's members decide its investment policy. The Co-operative says it has withheld over £1bn of funding from business activities that its customers say are unethical. These include extremist organisations, arms manufacture, organisations that use child labour or businesses that restrict access to vital medicines in the developing world.

Islamic Bank of Britain

This is the only other ethical bank to offer a current account. Islamic Bank of Britain refuses to invest money to finance armaments, alcohol, tobacco or drugs companies. The products it offers, should, it says, appeal to any Muslim or non-Muslim who is interested in holding an account with a bank with exacting ethical standards.

Its current account is interest free in accordance with the Islamic principle of Qard (a loan free of any benefit). You can have a debit card and chequebook, and use ATMs. The bank's savings accounts pay profit instead of interest and aim to pay a target profit rate of 2pc on its 120-day notice account and 3pc on its two year deposit account.

The group also has a home purchase plan which allows you to finance your home in a Sharia-compliant manner.

Triodos

Triodos, another ethical bank, offers cash Isas, investments and savings, but no current account. The bank's definition of ethical means it focuses on active positive funding rather than simply avoiding those products that are unethical. The bank says it only lends its savers' money to people and organisations who are working to make a positive impact – culturally, socially and environmentally.

In response to the "casino banking" culture, Triodos says : "We only lend money entrusted to us by our savers, and not a penny more. In a climate that's seen so many banks around us thrown into turmoil, our approach has enabled us to remain solid and stable."

Triodos lends to Neal's Yard Remedies, The Youth Hostel Association and Ecotricity, among others.

For personal customers, some rates can be attractive. The bank offers ethical cash Isas at rates of up to 2.5pc, and an easy-access online saver at 2.5pc. However, this contains a 12-month bonus and will fall to 1pc after a year.

The bank also offers investment opportunities including a renewables fund and a microfinance fund. However, the minimum investment can be high – £50,000 for the microfinance fund.

Ecology Building Society

Many mutuals would claim to be an ethical alternative to banks, but Ecology takes this several steps further. It offers savings and mortgages with a firm focus on saving the planet.

However, as you may expect, its interest rates are not high. The cash Isa pays 2pc, and the savings bond pays 2.25pc if you put over £10,000 in for a year.

But if you want to borrow money to fund an energy saving project such as renewable technology, Ecology could be just the lender you are looking for.

http://www.telegraph.co.uk/finance/personalfinance/savings/9421920/Should-you-choose-the-ethical-option-for-your-banking.html

The Middle East and the Role of Economics

If Iran closes the Strait of Hormuz, how will Saudi Arabia and other Gulf states react? What Middle Eastern country is next to have a revolution? What motivates terrorists? How should U.S. policymakers respond in each case? The answers to these questions require comprehensive and innovative analyses. Scholarship in Middle East affairs is traditionally performed either through cultural studies or security studies. Unfortunately, few academics, and even fewer policymakers, focus on the role of economics. Cultural and security studies tend to ignore the economic motivations of regional actors and how those motivations are frequently elevated above other considerations. The inability to define and implement successful policies in the Middle East often results from the fundamental misunderstanding and neglect of the region’s political economy.

Even in the Middle Eastern states that are most strictly governed by religious authority, leaders base many important foreign policy choices on economics rather than on culture. The ultra-conservative Islamic tradition of Wahabism helped create Saudi Arabia, the United States’ largest regional trading partner. At the same time, Wahabism has not determined the political priorities of Saudi Arabia’s rulers. This is exemplified by their continued partnership with the United States despite its support for Israel, which they morally oppose. The historical rift with the co-religionist Hashemites was largely based on economic competition, which included territorial acquisition and control of Mecca’s tax revenue. This prioritization helps explain how Saudi Arabia’s founder King Abdul Aziz ibn Sa’ud conquered the peninsula and the attentions of U.S. oil prospectors. This is also characteristic of policymaking throughout the Arabian Peninsula; in many cases, economic concerns overpower the similar religious interests and values of neighboring states. It follows that these countries would react negatively to an attempt by Iran to close the Strait of Hormuz - a vital route for their imports and exports - even though Iran is an Islamic state.

Popular sentiment is guided by economic concerns as well. Not coincidentally, one of the most famous photographs from last year’s Egyptian protests was of a man with baguettes taped to the sides of his head. “Arab Spring” protesters throughout the region cited unemployment, poverty, and high food prices as revolutionary motivations. The Middle East and North Africa region is overwhelmingly young, with 60% of the population under the age of 30. In Tunisia, where the revolutions began, more than 30% of high school graduates are enrolled in 4-year colleges. Populations in Gulf countries share the same characteristics, although they have very high per capita income. The importance of economic stability helps to explain why many of the now deposed Arab rulers were able to stay in power for decades, and why autocrats still rule the more wealthy Gulf states. The next revolution in the region is most likely to occur in a state with a bad economy, in addition to having a despotic ruler.

Dissatisfaction with the state of international economics also served as a partial motivation for Al-Qaeda’s attacks on the World Trade Center, both in 1993 and again in 2001.Trade and finance issues are not the most obvious motivations for terrorist groups, but they are fundamentally important and must be acknowledged. Increased international trade and globalization has helped starkly contrast the West against the less-industrialized countries of the Middle East. Frustration with the unfair nature of global economics has compelled many newly industrializing states and non-state organizations to resent the United States. For much of the twentieth and twenty-first centuries, U.S. involvement in Middle East has been perceived as economic exploitation.

Cultural and security studies will likely continue to constitute the core of regional scholarship, but change is needed. The Middle East cannot be understood by only studying regional culture, government systems, and the prevention of terrorism. Traditional approaches will not fully answer the questions I posed in my introduction. Political economy must garner more attention from academics and policymakers. If economics is better incorporated into Middle East studies, better policies will be more readily developed. In turn, if the region’s economic concerns are better addressed, we will see a more secure and U.S.-friendly Middle East.

Nicole Muzzy is pursuing her MA in International Affairs at George Washington University’s Elliott School of International Affairs where she concentrates on the Middle East and international economics.

http://www.iar-gwu.org/node/427

When it comes to Arab economies, ideology means little

The ongoing showdown in Egypt between the country’s Islamists and its military rulers is a clear reminder of how difficult democratic transitions in the Arab world are likely to be. Obviously, the failure to reach a power-sharing agreement will prolong political instability. But the resulting economic inaction would be just as damaging to the consolidation of democratic rule in Egypt.

Emerging Arab leaders, from Islamists to former regime officials who have re-invented themselves, are keenly aware of the need to improve their countries’ economic prospects. They know full well that their popularity can be sustained only if they are able to deliver growth, employment and higher living standards. This would be a difficult challenge to meet under any circumstances – and it is all the more daunting against the backdrop of the Arab Spring’s destabilization of the economic systems across the Middle East and North Africa.

Even in countries like Tunisia and Egypt, where the transition to democracy has been more advanced, political uncertainty has tended to plague economic achievements.

For the first time since 1986, Tunisia’s economy shrank in 2011, by 1.8 percent. Unemployment in the country reached 18 percent last year, up from 13 percent in 2010. Meanwhile, the Egyptian economy contracted by 0.8 percent, and an estimated 1 million Egyptians lost their jobs. Egypt’s foreign-investment inflows have also dried up, falling from a level of $6.4 billion in 2010 to a mere $500 million in 2011.

The combination of these negative trends is affecting the fiscal as well as the external balances these countries.

Egypt’s budget deficit reached 10 percent of GDP, while its foreign-exchange reserves have fallen to some $15 billion – barely enough money to cover the country’s import bill for the next three months.

In Tunisia, too, the budget deficit has widened sharply in the wake of the revolution, rising from 2.6 percent of GDP in 2010 to 6 percent in 2011.

This rapid economic deterioration, combined with the high expectations that were raised by the onset of political transitions in both countries, is creating a sense of urgency.

Emerging political actors have felt compelled to develop more detailed economic programs and to address the growing material grievances of their populations. For example, whereas the Islamists in opposition had essentially focused on political themes – highlighting participation, inclusiveness, and democratic reforms – the recent election campaigns have witnessed a rhetorical shift to economic aspirations.

Overall, the emerging political players in Egypt and Tunisia – particularly the Islamist parties – have adopted a rather conciliatory tone when it comes to the engagement with international actors. These parties’ economic programs are by and large pro-market, and they have emphasized the private sector’s role in driving growth and the need to attract foreign capital. The state is seen as a vehicle for ensuring social justice, and there are scant references to Shariah, or Islamic law, principles when addressing this matter.

Both in Tunisia and Egypt, for example, Islamist politicians have given assurances that the economically critical tourism sector will not be hindered by restrictions that are related to the injunctions of Islamic law. The Islamists’ economic programs also foresee a role for international institutions in helping their countries to overcome the challenges that they face.

Indeed, whereas resistance to foreign intervention and assistance has been strong with respect to democratic reforms, new Arab leaders seem more receptive to a partnership with the West on economic objectives. Economic weakness thus provides an unprecedented opportunity for international engagement with the new leadership in place in the Arab world, and these opportunities for engagement should incorporate short-, medium-, and long-term goals.

Short-term goals must have priority, because many Islamist parties are being pressed to produce positive results within a single electoral cycle. The new governments will face the immediate challenge of creating jobs, for which the only available recipe they can adopt is to ensure investment in large-scale public-works projects. This type of government spending can create labor-intensive jobs that will help to stem rising unemployment.

The international community can help the Arab governments to launch and sustain such initiatives in several ways. First, it can increase the amount of promised financial assistance.

It can also provide technical expertise to Arab policymakers on debt management. Without first-rate expertise in debt management, an economy implementing large-scale public outlays risks crowding out private investment through over-reliance on domestic savings.

Finally, the international community can help Arab governments to establish a secure and predictable legal and regulatory framework for public-private partnerships to engage in large-scale infrastructure projects. International actors, jointly with Arab governments, can then help to market these opportunities, in that way allowing Arab economies to benefit from infrastructure-focused long-term international financing.

Only a combination of these options would allow Arab economies to create jobs in the short term, while avoiding the risks of destabilizing fiscal imbalances or a lack of financing for private-sector investment.

The West, for its part, stands to gain in myriad ways from a solid partnership with the countries of the Arab world to improve the economic future of their societies. Even in the midst of a protracted currency crisis, European governments can surely sign on to an agenda that prioritizes transfers of know-how over cash infusions.

Sinan Ulgen is a visiting scholar at Carnegie Europe and the chairman of the Istanbul-based EDAM think tank. THE DAILY STAR publishes this commentary in collaboration with Project Syndicate © (www.project-syndicate.org).

A version of this article appeared in the print edition of The Daily Star on July 18, 2012, on page 7.

Read more: http://www.dailystar.com.lb/Opinion/Commentary/2012/Jul-18/180952-when-it-comes-to-arab-economies-ideology-means-little.ashx#ixzz20x9nnp1O
(The Daily Star :: Lebanon News :: http://www.dailystar.com.lb) 

Ramadan wish list for Islamic finance

“Behind every success is endeavour… behind endeavour, ability… behind ability, knowledge… behind knowledge, a seeker ….” Unknown.

AS THE blessed month of Ramadan arrives, here is my “seeking” list for Islamic finance. It’s not about another voice asking when the International Islamic Liquidity Management Corporation (IILM) will issue its first paper or disagreeing with CIMB Group CEO Datuk Seri Nazir Razak’s comment on “rolling back” government’s involvement in business, but more to do with controlling our own Islamic finance manifest destiny. 

Information 

“The new source of power is not money in the hands of a few, but information in the hands of the many.” John Naisbitt What is the most valuable commodity in the world? Is it gold? Silver? Oil? Wheat? No, on all fronts. It’s information as almost all jurisdictions have laws against inside information to manipulate the markets to take unfair advantage. In Islamic finance, the information is fragmented, stale, difficult to access, etc. Hence, the anchor slowing the potential of growth, expansion and development.

The industry needs to establish an Islamic Information Industry body (IIIB) to: 

• CONNECT the Islamic finance hubs and international financial institutions (IFIs),


• WAREHOUSE all Islamic finance regulations and standards and database of Islamic finance jobs and registered financial planners (RFPs),
• ESTABLISH a global Islamic finance public relations agency (includes undertaking damage control) and with such information and connectivity


• ESTABLISH a global Islamic finance Arbitration Centre. The IIIB should be housed in Turkey (gateway to Commonwealth of Independent States (CIS), eastern Europe and Gulf Cooperation Council), Egypt, Australia or France.

For example, how should the industry “react” to: 

• SOUTH AFRICA’S FNB Islamic finance syariah board quitting (“untenable breakdown in trust”)


• CANADA’S UM FINANCIAL (receivership and bankruptcy and allegations of improprieties)


• MAJED AL REFAI (founder of Unicorn Investment Bank, now called, Bank Al Khair) found guilty of fraud and embezzlement by Criminal Court of Bahrain


• INVESTMENT DAR syariah board issued statement advising the company board to drop lawsuit against Blom bank concerning compliant deposit and others.

Once the trust and confidence of Islamic finance is questioned, it starts the erosion of the niche market and prevents it from achieving its ultimate objective: becoming mainstream.

Rebranding 

“The goal here is to build a brand around social relevance…” Jeff Skoll.

Islamic finance has a number of time-consuming challenges: lack of robust regulations in many Muslim countries, ever present conversations on standardisation, lack of enough scholars and qualified people and so on. However, it also has control of some of its own destiny yet seems to be stuck on form over function.

The essence of Islamic finance is “participatory, risk-sharing partnership”. Hence, the description is clean, crisp and clear for the (Muslim) “man on the street” and the non-Muslims. Thus, why not start a movement to “rename” to participation banking (like secular Turkey) as it takes away: 

• PROMOTING (one religion over another) religion argument;


• REBUTS BACKDOOR “Islamisation” argument;


• ERODES its only-for-Muslim argument; and


• REMOVES it from the political talking points (and fund raising) for those who want to divide.

Interestingly, the “no need to name change”, comes from the Muslims residing/working in Muslim countries, who are not exposed to the pressures of Muslim indians in India, Nigerian Muslims in Nigeria, Muslims in America and so on. 

Comments 

“Stand up for what you believe in, even if it means standing alone…” Unknown. There are few comments on Islamic finance articles and news stories. Why? My son has a blog, blackswanofbaseball, and he recently wrote about alcohol-free zones (family-friendly) zones at baseball parks (stadiums) and I posted it on my Linkedin account, which has many Islamic finance professionals, and he has gotten more reactions (approval) than articles and blogs.

May be the writing is too technical as focus usually on structuring, modalities of contract, special purpose vehicles, regulations, syariah, etc., and not the end result.

However, to shape a movement, one must have the courage to have a constructive input, otherwise be prepared to accept the comments of others as “your own” by an inquiring third party. 

Enfranchisement 

“We will champion inclusiveness not just because it is a foundation for political stability and economic growth, but because it is right,” said Prime Minister Datuk Seri Najib Razak when he was deputy prime minister.

Today’s Islamic finance conferences repeatedly miss the three most important stakeholders in Islamic finance, as they neither bankable nor efficiently accessible. They are students, youth and the “have nots”. And the million dollar question is their financial inclusion for they are tomorrow’s customers. Islamic finance rings “hallow” to them as they are not in any five business plans.

For example, it would be interesting to have an Islamic bank sponsor the equivalent of Dragon’s Den or Shark Tank, where these stakeholders, including the halal industry SMEs, submit their ideas for funding. To some, this may be part of Muslim philanthropy capital market style and to others, a cheap imitation of western programmes, etc. However, let the market decide by ratings. 

iECM 

“Commodities tend to zig when the equity markets zag.” Jim Rogers. 

How to build out an Islamic equity capital market (iECM) that becomes on par to the Islamic debt capital market (iDCM)? The industry needs to focus on building out the Islamic wealth management proposition, and one of the ways would entail an Islamic finance hub declaring (seems everyone is always declaring something in IF) to be Organisation of Islamic Cooperation (OIC) wealth management hub. Why OIC and not Islamic wealth management hub? Simple reason there are more conventional funds, equity, bond, money market, etc., than Islamic. However, its Muslim money. Thus, placing all the asset classes, from trade finance funds to SME funds to haj funds to zakat funds to initial public offering funds to real estate toreal estate investment trust to commodity and so on, on a single dashboard (funds supermarket) allows the attention and money to gravitate towards returns, values, etc.

Micro + Mega Takaful 

"Put your future in good hands - your own." Unknown

The conversation in Islamic finance needs to gravitate towards not only micro-takaful (for the "have not" masses), but also establishing a (well-capitalised) mega-takaful operator for the industry to become truly cross-border. The takaful development will also develop: 

• * ISLAMIC asset management industry and Islamic ECM;


• * INFRASTRUCTURE projects with larger IF tranches;


• * COMPLIANT deposit insurance; and


• * COMPLIANT deposit insurance; and


• * INSURING mosques in the West and other benefits.

Consolidation

"Consolidation results in convergence of businesses yielding new continuity and expanding connectivity for the betterment of the community that desperately wants to contribute." Rushdi Siddiqui 

Is the need for consolidation a cost or income play in (Islamic) overbanked markets like the UAE or Malaysia? When there is revenue (margin) compression implying growth ceiling approaching, consolidation developments start to take place, like the recent announcement of three-way merger in Bahrain of Capinvest, Elaf bank and Capital Management House. 

However, the need for size and ensuing economies of scale are extremely important in Islamic finance.

Consolidation conversation makes more sense today as Islamic banks are "too small to fail" as the bigger risk is associated with confidence to withstand external and real estate shocks. 

Stewardship 

"Here we are, the most clever species ever to have lived. So how is it we can destroy the only planet we have?" Jane Goodall 

In the GCC, there is an estimate US$2 trillion (RM6.4 trillion) worth of projects, including the FIFA Cup in Qatar in 2022, and some will be financed by Islamic funds. There has been some chatter about a "Green Sukuk". However, that does not go far enough. 

Islamic finance is, at one level, is a movement about stewardship of the earth for successor generations, and GCC, the heartland of Islamic finance, is a major contributor to carbon emissions. Thus, Islamic banks and takaful operators need to be signatory to climate, carbon and equator principles as way to show they are responsible financiers and insurers.

Saudi Arabia & Cagamas 

"And I would argue the second greatest force in the universe is ownership." Chris Chocola 

With recent passing of the long-awaited mortgage law in Saudi Arabia, one of the outcomes may well just be:

• * INCREASED supply of (mortgage-backed) sukuk (local currency?)


• * FOR liquidity management (as monetary instrument).

Thus, the good work of Cagamas (mortgage-backed security (MBS)-issued sukuk) may fast track the learning experience (exported) to the kingdom and help out the takaful and pension market (fixed-income exposure) with longer dated maturities with high quality MBS.

The sukuk market may be established sooner with the passage of Saudi mortgage law and Cagamas reap some reputations and monetary benefits. 

Indicator of IF 

Today, it is well accepted, Islamic finance is a subset of conventional finance. So, what is a representative indicator/pulse of Islamic finance? 

Today, a standalone syariah-compliant index, syariah-based index and Islamic Interbank benchmark Rate do not give a meaningful understanding of the IF space, because such indexes still need to be measured by their conventional counterparts, conventional equity index and Libor. 

Thus, two types of delinking needs to take place: 

• * DELINKING from conventional benchmarks; and


• * MINDSET of comparison to conventional benchmarks.

 Conclusion

When there is sustained stakeholder chatter for an "Arab spring" moment in Islamic finance on the way forward, only then we will take the ramp for the highway of substance from the present roads of form.

Ramadan Mubarak!

Rushdi Siddiqui is the global head of Islamic finance at Thomson Reuters

Read more: Ramadan wish list for Islamic finance http://www.btimes.com.my/articles/20120717011025/Article/#ixzz20x9EGZn5

W Africa closer to Islamic finance services

Senegal and members of the West African Economic and Monetary Union (also known as the UEMOA region) have completed a review of the region’s financial regulations, aiming to launch Islamic financial services later this year.

The review, completed by the international consultancy IFAAS (Islamic Finance Advisory & Assurance Services), was commissioned by the Senegal Ministry of Finance with the support of the Jeddah-based Islamic Development Bank (IDB).

IFAAS, with the support of local taxation and legal experts, undertook a comprehensive review of the entire region’s financial sector and the regulations pertaining to the banking, insurance, microfinance, securities and capital markets industries.

The Senegalese tax laws were also reviewed to identify potential barriers that may impede the development of Islamic finance in Senegal and the UEMOA region.

The review was completed by IFAAS in close consultation with the relevant local and regional authorities and the findings were presented last week at a two-day workshop in the Senegalese capital, Dakar.

Over 80 senior officials from various authorities of the UEMOA member countries attended the workshop organised by the Senegalese Ministry of Economy and Finance and supported by Islamic development Bank.

During the workshop, IFAAS set out a roadmap of the regulatory changes required to facilitate the introduction of Islamic financial services across the region.  With similar experience in several other regions, IFAAS has recommended a phased implementation of the required changes.

This is to be supported by a pragmatic and progressive approach in order to avoid destabilising the existing financial system.  The proposed approach also aims to ensure a level playing field for Islamic Finance providers across all eight of the UEMOA countries.

Oulimata Diop, director of the Money and Credit Directorate of the Ministry of Economy and Finance of Senegal, said: “The integration of Islamic Finance into the regional financial system is very much possible on the basis of the current legislation. This finding is highly reassuring for the stakeholders that the implementation of Islamic finance in the region will not require highly complex reforms. IFAAS recommendations are very pragmatic and simple to follow.”

The representatives of the relevant authorities from different countries of the UEMOA region also expressed their satisfaction with the results and recommendations presented by IFAAS.

Farrukh Raza, managing director of IFAAS said: “It is an honour for us to have led this exceptional project. We are convinced that our report will provide a solid platform for establishing a sound Islamic financial industry in the region, providing innovative solutions to the public and the states of the West African union.” – TradeArabia News Service

http://www.tradearabia.com/news/BANK_220212.html

Islamic Finance and Investment in U.S. Expected to Grow

The United States has been, and is now, one of the largest markets in the world for Islamic finance and investment transactions, which are transactions conducted in accordance with those principles of the Shariáh that are applicable to commerce and finance.¹ A wide range of U.S. and international practitioners have participated in Islamic finance and investment transactions, and it is likely that even more will participate as the global financial markets rebound and investment activity in the United States increases again. This article anticipates those increases in transactional volume in the U.S. and presents summaries of some of the main financing structures that U.S. and international practitioners will encounter in the Islamic finance and investment transactions.

Most U.S. Islamic finance and investment transactions involve investments by foreign investors in U.S. real estate, equipment and private equity assets and businesses throughout the country. Many of these transactions involve prominent U.S. real estate projects (such as sale and leaseback arrangements involving corporate headquarters buildings) and prominent U.S. corporate entities (including warehouse chains, nursing home chains, coffee companies, and clothing companies). It is estimated that more than 150 U.S. banks have provided financing for these transactions, usually by way of a conventional interest-based loan that is integrated into a Shariáh-compliant transaction.

It is anticipated that there will be a further increase in Shariáh-compliant transactions driven by strong accumulations of investable cash in the Middle East, decreased interest in European investments as a result of the current European woes, decreased enthusiasm for short-to-medium term prospects in BRIC (Brazil, Russia, India and China) countries, and the large number of bullet financings of outstanding Shariáh-compliant debt that will come to refinancing in 2012-2014.²

The unfamiliarity factor is falling away as thousands of transactions have been completed in non-Muslim jurisdictions, including North America and Europe, many involving conventional interest-based banks. There is recognition that (i) Islamic finance and investment is not a mysterious process, (ii) it is an ethically oriented structured finance, (iii) customary risks are addressed in ways that are familiar and do not disrupt existing underwriting, credit, legal, regulatory and tax assumptions and practices, and (iv) there are no significant unanticipated risks as a result of using these financing and investment techniques.

Factors Affecting Growth

Transactional Models

Conclusion

Endnotes:

Islamic finance and investment transactions are conducted in accordance with those principles of the Shariáh that are applicable to commerce and finance. The Shariáh is a body of ethical, religious, moral, legal and ritualistic principles and practices; it is the 'path' by which a Muslim leads his or her life, in all aspects of life. Islamic finance and investment involve primarily the legal principles, which are comprehensive in respect of commerce and finance. The best known principle is that a compliant participant cannot pay or receive interest. However, the Shariáh has evolved as a body of law for more than 1,400 years, and lawyers, with time, tend to increase the complexity of the system in which they operate (if only to achieve greater precision, definition and certainty): 1,400 years is a long time. Thus, there are principles applicable to sales, leasing, agency, financing, guarantees, mortgages, pledges, and virtually every concept addressed by any other legal system. Mastery, even familiarity, takes a bit of effort, particularly in light of the absence of written compilations of the principles (knowledge transmission has been oral) and the absence of rigorous contemporary books and articles on the topic.

Before considering some illustrative modern contractual arrangements, consider five factors that have had the greatest impact on the development of the industry.

First, there has been a move toward consensus (ijma) in respect of transactional structures. Divergences as between the four orthodox schools of Sunni Islamic jurisprudence continue to exist, but there has been a focused effort to develop structures that work under all four schools. The consequent reduction in transaction costs is apparent.

Second, until recently transactions could make use of only one "nominate contract," which are long-approved, but quite rigidly defined, contractual forms. In the mid-1990s Shariáh scholars determined that a transaction could use more than one such contract. This allowed for significant advances in the sophistication of transactional structuring.

Third, the fatwa (opinion of Shariáh scholars) issued in 1998 to Dow Jones Islamic Indexes in respect of equity indices and equity investing (i) institutionalized a degree of permissible impurity or permissible variance from absolute adherence to principles, (ii) institutionalized purification or cleansing concepts, and (iii) institutionalized principles for determining permissible business activities in situations where a business has multiple lines of business.

Prior to 1998 a devout Muslim could acquire virtually no stock because essentially all companies either pay or receive interest (for financings or from investments). The fatwa set forth tests that allow investment if the amount of interest is not too great, and then required that the investment be purified or cleansed by donation of the impermissible interest income to charity. Impermissible business activities are relatively well known (pork or alcohol for human consumption, interest-based banking, non-compliant insurance, pornography, prostitution and others). But questions remained as to the permissibility of investment in companies that have multiple businesses, some of which are not permissible. Until 1998, an investment in an automobile, aircraft or turbine manufacturing company might well be precluded because the corporate group included an interest-based credit company. The fatwa established the principle that (with some exceptions) the determinative analysis is the core business of the group.

Fourth, the development of sukuk opened the financing side of the capital markets. And that area is now the fastest growing area of the industry.

Fifth, bifurcated structures were developed that allow the use of conventional financing in Shariáh-compliant transactions, as discussed below. This brought the Western banks and financial institutions into the industry and allowed Islamic finance and investment to be used in Western markets.

By way of introduction, consider three contractual arrangements that are at the core of modern Islamic finance and investment: (a) the murabaha, or cost-plus sale;³ (b) the ijara (lease); and (c) the diminishing musharaka or diminishing partnership.⁴ There are many others, but these three are predominant and illustrative.

The murabaha is the most frequently used, and the most frequently abused, structure. It is an ancient contract for commodities purchase and sale transactions. A client needing financing for the purchase of a commodity approaches a bank. These two parties execute a murabaha agreement pursuant to which the bank purchases the commodity from a third-party seller at a negotiated price (cost) pursuant to a purchase agreement that was negotiated by the client with that seller.

The bank then sells that commodity to the client at cost plus a mark-up (which may be determined at a fixed or a variable rate) with deferred payment terms. A debt is generated. There are various rules regarding a) disclosure of cost and profit, b) the bank taking actual ownership risks, c) the fixing of the price at inception of the transaction (any subsequent change in that price is prohibited), and d) the prohibition of discounts for early payment and interest for late payment.

That murabaha structure is well and good, and frequently used, where it involves a commodity desired by the parties. But in some transactional variants the commodity is only a vector and the parties' focus is really on generating the debt obligation. These vector murabaha transactions are commonplace, such as for term or revolving loan equivalents and short-term deposit accounts. Here, the commodity is a metal (usually platinum) or another permissible commodity (e.g., palm oil). It is purchased by the bank from a third-party seller at spot, sold to the client on deferred payment terms, and then sold by the client to a third-party purchaser at spot, all in the course of an hour or so.

The bank is out the spot payment amount; the client receives the spot payment amount and has a deferred payment obligation to the bank. This is compliant in form, but of questionable substance. The metal is used because all Shariáh requisites can be easily satisfied and there is no real ownership risk to the bank or associated costs (insurance or transportation). The structure is as an expedient, but is disfavored.

Click here for larger version of Figure 1.

The ijara (lease) is long-accepted and the most frequently used contractual form in sophisticated financings throughout the world. In various forms (it is highly flexible) it is used in financing real estate, private equity, project, infrastructure, equipment, aircraft, vessels, services and many other assets.

An ijara is a sale of a usufruct (right to use) under the Shariáh. The principles are quite similar to Western leasing principles, although there are some variances. The similarities render the structure easily accessible and comprehensible in the West. A generic transaction is illustrated in Figure 1. Notably, it is quite similar to a leveraged lease (albeit one that fails on the tax ownership side, such that the project company is the tax owner, but does not hold title).

A special purpose vehicle, the funding company, acquires (or constructs) the asset using a conventional interest-bearing loan from the bank plus an equity contribution from the fund via the project company to the funding company. The funding company then leases the asset to the project company, who may sublease it (or sell product to an offtaker).

Basic rent payable by the project company to the funding company on the lease from time to time is exactly equal to the debt service payable by the funding company to the bank at such time.

A purchase undertaking incorporates mirror images of all mandatory prepayment provisions from the bank loan documents, allowing the bank, through the funding company, to pass all mandatory prepayment obligations to the project company. The payments may be a portion of the outstanding principal amount of the bank financing (for example, a partial prepayment on a debt service coverage ratio violation), or the entire outstanding principal balance (as in a default acceleration).

The sale undertaking incorporates mirror images of all voluntary prepayment provisions from the loan documents, thereby allowing the project company to prepay the financing in whole or in party or acquire the asset (such as for sale to a third party). The managing contractor agreement removes the funding company from all decision-making in the overall transaction. The funding company is a disregard entity for tax purposes.

The diminishing musharaka, like the ijara, is frequently used for home purchase financings and project and infrastructure financings.

In a construction financing for an electricity project, the project company (electric company) contributes capital to the musharaka (partnership) and receives partnership interests (hissas). The bank contributes cash, on a monthly basis in conformity with monthly construction certifications, to the musharaka to pay for construction, and receives hissas for each contribution. The interest of the bank is leased to the project company to allow the project company to construct and operate the project.

Repayment of the financing is effected on an agreed amortization schedule (identical to a conventional schedule). The project company purchases hissas from the bank until the project company owns all the hissas (and the partnership is dissolved into the project company). The bank is the financial partner, controlling all financial matters, and the project company is the technical partner, responsible for construction and operation.⁵

Islamic finance and investment transactions are now commonplace throughout the world, including the United States. Most U.S. transactions are governed by and enforceable under New York law. Most international transactions are governed by and enforceable under English law. Normally no mention is made of the Shariáh in the transactional documents and customary enforceability opinions are rendered. Both international and U.S. finance practitioners are likely to be involved in an Islamic finance and investment transaction. It will become apparent that these are structured financings that are more similar to conventional financings than not, although there will be a need to seek guidance in addressing the (relatively small) portion of the transaction that is divergent from the conventional.

Michael J.T. McMillen is a partner at Curtis, Mallet-Prevost, Colt & Mosle. He focuses his practice in the finance sector, particularly on Islamic finance, project and infrastructure development and finance, investment funds and real estate.

1. Michael J.T. McMillen, Islamic Capital Markets: Market Developments and Conceptual Evolution in the First Thirteen Years, available athttp://papers.ssrn.com/sol3/papers.cfm?abstract_id=1781112, summarizes developments in the Islamic finance and investment industry since the mid-1990s.

2. The factors favoring an increase in US activity are enhanced by related global developments. For example, Middle Eastern and Southeast Asian governments are actively promoting Islamic finance and investment, particularly in the infrastructure sector. As another example, there are significant increases in the volume of sukuk issuances (sukuk are Islamic asset and whole-business securitizations that are commonly, but inaccurately, described as "Islamic bonds"), in the first quarter of 2012 (volume was US$43.5 billion, an increase of 55 percent over 2011, and the best year on record). Notably, in 2011, for the first time in history, sukuk issuance volume in the Gulf Cooperation Council exceeded conventional bond issuances in those countries.

3. Michael J.T. McMillen, Trends in Islamic Project and Infrastructure Finance in the Middle East: Re-Emergence of the Murabaha, available athttp://papers.ssrn.com/sol3/papers.cfm?abstract_id=1753252.

4. Regarding the ijara and diminishing musharaka, see Michael J.T. McMillen, Islamic Shariáh-Compliant Project Finance: Collateral Security and Financing Case Studies, 24 FORDHAM INTERNATIONAL LAW JOURNAL 1184 (2001).

5. In a home purchase financing, there is one bank payment at the time of house acquisition.

http://www.newyorklawjournal.com/PubArticleNY.jsp?id=1202562605596&thepage=3