Islamic Finance: A Growing Force in Global Economy

The global financial crisis has highlighted numerous economic problems stemming from the pervasive influence of interest — the root cause of economic injustice. The conventional banking system thrives on this practice by compounding the lending amount in the name of profit. The world has realized the ill that compound interest has brought, and in the wake of massive recessions and inflation, there is a growing shift towards Islamic financial Instruments (IFI).

IFI promises economic justice by balancing social and economic aspects, aligning individual and social interests, and harmonizing the needs of individuals, families, society, and the State in one holistic approach toward progress for all. Though nascent in evolution, Islamic banking seems all set to rise as a dominant force in the coming decade.

Following data is good evidence for this prophecy.

In 2021, the total asset value of the global Islamic finance markets reached USD 4.5 trillion, with projections indicating it will grow to USD 6.67 trillion by 2027. Currently, Islamic finance represents a USD 3.9 trillion industry, spanning over 85 countries. A closer examination of the data reveals that just 10 countries account for nearly 95% of the world’s Shariah-compliant assets. Saudi Arabia and Iran lead with a 25% to 30% market share each, followed by Malaysia (12%), the UAE (10%), Kuwait and Qatar (5.5%), Türkiye and Bahrain (3.5%), and Indonesia and Pakistan (2%).

In the Western world, London has established itself as a hub for Shariah-compliant finance. Today, over 20 banks in the UK offer Islamic services, and five of these banks are fully Sharia-compliant, including Al Rayan Bank. Al Rayan Bank currently provides Islamic financial products to over 85,000 customers in the UK.

Other European countries have also made significant strides in this field. Luxembourg, for example, became the first Eurozone country to issue a sovereign sukuk and now hosts around 30 Shariah-compliant funds. Germany has issued several sukuks and licensed its first full-fledged Islamic bank, KY Bank AG, in 2015. Switzerland, meanwhile, has focused more on Islamic insurance, or takaful.

Sukuk is about the finance provider having ownership of real assets and earning a return sourced from those assets. This contrasts with conventional bonds where the investor has a debt instrument earning the return predominately via the payment of interest (riba). Riba or excess is not allowed under Sharia law. Since Sukuk is backed by assets, it is gaining global recognition.

In Pakistan, the Islamic banking industry is thriving, with 22 Islamic Banking Institutions (IBIs) in operation, including major players like Meezan Bank, Dubai Islamic, Al-Baraka, and Bank Islami Pakistan. Conventional banks such as Faysal Bank have also begun converting to Islamic instruments, setting a blueprint for others to follow.

A KAP (Knowledge, Attitudes, and Practices) study conducted by the State Bank of Pakistan (SBP) in 2014, surveying over 10,000 households, found that 74% of respondents were willing to switch to Islamic banking.

Islamic banking has gained an unexpected boost with its launch in Russia. President Vladimir Putin signed a law introducing Islamic banking in four major Muslim-dominated regions — Chechnya, Dagestan, Tatarstan, and Bashkortostan — as part of a two-year pilot program starting September 1. If successful, the model will be implemented nationwide.

This development underscores the growing global acceptance of Islamic banking.
According to Anatoly Aksakov, Head Financial Market Committee, Russia’s State Duma, Islamic banking is expected to attract USD 11 to USD 14 billion in joint projects with Muslim countries and generate significant investment inflows from Turkey, Iran, and other Asian countries. Dr. Diana Galeeva, an academic adviser at Oxford University, believes that Russia has strong strategic motivations to develop itself as a center for Islamic banking, although it will take time, expertise, and mutual understanding between Russia and the Muslim world to realize this potential. She notes that the “diversifying opportunities created by Islamic banking have become particularly timely[].”

In Pakistan, the banking industry is undergoing an interesting transformation, with more foreign banks than local ones transitioning to Shariah-compliant banking. This consistent trend of conventional banks being acquired by Islamic banks is unique to Pakistan and rarely seen elsewhere. The history of Faysal Bank is particularly noteworthy, as it presents the largest conventional to Islamic conversion in the world and its exponential growth since validates IFI’s popularity and success.

Today, 22 financial institutions in Pakistan are licensed by the State Bank of Pakistan to offer Islamic financial services — Six full-fledged Islamic banks and 16 conventional banks with Islamic banking windows, operating more than 5100 branches across various cities. Considering that conventional banking has taken centuries to reach its current level of maturity, we may be seeing IFIs to combat it on equal grounds soon.

Hamza Habib is a senior analyst. He can be reached at [email protected]