July 26, 2014    3 minute read

Islamic Finance In A Secular World

   July 26, 2014    3 minute read

Islamic Finance In A Secular World

Described as an “old skeleton in a modern dress”, Islamic Finance (IF) has recently exploded as an alternative to conventional approaches to finance. Going into the future, is such an alternative a viable option, or merely a fad?

With the first full-fledged compliant bank opening in 1975 (the Dubai Islamic Bank), modern IF has been gaining ground ever since. In essence, the industry is based on sharia (Islamic law). This leads to two key principles: the sharing of profit and loss, and the prohibition of interest (Riba) in financial transactions.

As a global industry, IF is expected to hit US$2tn by the end of 2014: 78% in Islamic banking, 16% in Islamic bonds (sukuk), and the rest in microfinance and Islamic insurance (takaful). Whilst this pales in size to conventional finance, IF only emerged in the second-half of the 21st Century and is currently playing catch up. In fact, according to Muhammad Zubair Mughal, of the AlHuda Centre of Islamic Banking and Economics, the industry is set to experience double-digit growth from 2014 onwards.

Reasons for the growing prevalence largely fall on the trends towards alternative routes in Europe following the financial crash, as well as growing awareness. Such trends can be seen in Britain, which recently became the first western country to issue a sukuk (which was ten times oversubscribed), something George Osborne hopes will help cement London as a global financial centre. However, Britain is not alone, and countries such as Singapore recognise that “the sun is shining on Islamic finance”, and are vying for a piece.

With a better return on average assets, and stronger liquidity, IF certainly weathered the 2008 crash better than conventional finance. However, it is the future prospects that really set it apart as something to watch. According to PwC, by 2030 95% of the Muslim population will reside in Africa and Asia, and such areas are beginning to experience accelerated growth and growing intra-regional trade. With recent studies highlighting a US$13.2bn gap in SME financing across the MENA region, due to lack of sharia-compliant products, it is likely that the growth of the above regions will only lead to more of this – a huge opportunity for IF.

However, whilst promising, the industry as a whole is still relatively new to the scene, which poses fundamental issues. For example, a lack of regulatory standards specific to IF could lead to underlying risks developing in the system. Coupled with an absence of money and capital markets, there is a long way to go until the industry becomes a wholly viable alternative.

Yet despite the further evolution needed in IF, it is hard to disagree with Ashruff Jamall, who claims “speculation around the future of Islamic Finance is over”. Indeed, with a compound annual growth rate of 23%, and only more potential for growth, the industry looks set to enjoy a profitable future; in the meantime, core systems need to be established to ensure this potential does not go to waste.

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