SBP sees prospects for Islamic finance sustainability

WASHINGTON: Governor State Bank of Pakistan Dr Shamshad Akhtar has said there are promising prospects for sustainability of Islamic finance but stressed the need to address associated challenges concurrently while opportunities created by the discipline are exploited.

In a keynote address on ‘Islamic Finance in Southeast Asia: Local Practice, Global Impact’ at Georgetown University, the SBP chief assessed that Islamic Finance now seems to be a reality and is on its way to be institutionalised, although at different levels in different countries. The Western world, she noted, is also now selectively and cautiously positioning to invest in this system.

There are promising signs that Islamic Finance trends are sustainable. Spread across 70 countries, Islamic Finance has grown to almost a trillion dollar industry. Despite its growth, given its current size and composition it is still a niche market in the overall global financial industry.

“Prospect for the industry are quite bright given strong demand for financial services from a large segment of about 1.4 billion Muslim populations and need to channel effectively rising foreign savings and high net worth individuals,” she stated.

Dr Akhtar said the growth in Gulf Cooperation Council has been exceptional with Bahrain emerging as a main center adopting and implementing Islamic banking regulation, being the first central bank to issue Sukuk and establishing centre for Islamic finance education, etc Iran and Sudan declared sometime back 100 percent conversion to Islamic banking.

Within South East Asia, Malaysia stands out with $31 billion Islamic banking assets, $1.7 billion Takaful industry and has the largest Islamic private debt market, which constitutes 45.5 percent of total Malaysia debt market. Other countries in South East Asia have smaller Islamic financial markets and Singapore has positioned to offer strong wealth management potential. In South Asia, Pakistan stands out for its proactive and systematic stance to evolve Islamic finance industry, she added.

“In all these countries, assets of Islamic banking grew faster than the overall banking assets and scope and coverage of financial services extended to retail and consumer finance, private equity, structured products, insurance and project finance etc.”

Distinct from Islamic countries, is the interest of few global financial centres such as London that now provide policy and tax incentives to promote Islamic finance industry to attract funds from high net worth clients. Same motivation seems to have driven global banks such as HSBC, Standard Chartered, Deutsche Bank, Citibank etc to set up special hubs to structure Islamic finance products. “In reality, while current hype in industry may be partially driven by availability of surpluses generated by oil revenues, Islamic banking is emerging as an alternative financing option that coexists alongside the conventional financial industry.”

“Moving from traditional Islamic products, now the industry is offering consumer financing for residential purposes and structuring financing vehicles for supporting infrastructure and housing finance projects etc.” Continuing, she said, product innovation is emerging with several different types of hybrid Sukuks and other combination of structures, which involve different forms of Musharikas with other products.

Notwithstanding these developments, increasing share of equity based credit products, such as Murabaha and Ijara, remain the dominant form of Islamic financing across the Islamic financing institution. These trends are expected to persist and the industry is set to grow. Standard & Poor Services Rating Agency estimates that the industry has potential to grow to $4 trillion over medium term.

She said exceptional growth in Islamic Finance, particularly since 2000, which has coincided with growth in oil revenues, has raised questions whether interest in Islamic Finance is one-time phenomena and what are the future prospects and sustainability of the industry.

Dr Akhtar dilated on sustainability prospects and challenges facing Islamic Finance and concluded that encouraging developments and trends lend confidence that this industry has taken off.

“While the size of Islamic financial industry is still quite small as a proportion of the total world’s financial assets, the current growth trends and the investments in infrastructure in development of its Islamic Finance networks and its regulatory and supervisory systems, lend confidence that this industry has promising potential.”

She believed the sustainability of Islamic Finance would rest in how the international community builds on the momentum achieved thus far. This would require further deepening the efforts to enhance the legal and regulatory framework of Islamic finance consistent with the international practices; continued efforts to conform and align the structures and products in line with the Shariah principles would help Muslim population’s motivation to turn to this alternative mechanism of financing; recognising that Islamic finance has perpetuated and changed the dynamics of cross border private capital flow this industry has great potential to augment the process of globalisation and financial integration, but this requires more cooperation and vigilance on the part of home and host regulators; launching aggressive effort to implement the evolving Islamic financial regulatory and supervisory standards and capturing the different types of risks associated with Islamic finance, while launching consumer protection frameworks; and promoting more financial diversification by encouraging financial innovation and Islamic capital market development.