Mohsin Ibrahim – Toronto Canada
Islamic Financial Institutions - Challenges and Opportunities: By Mohsin Ibrahim
By Mohsin Ibrahim – Toronto Canada
A quick look at any major news paper or international business journals will tell us how the Islamic Financial Institutions (IFI) have been growing globally at a tremendous rate compared to their competitors i.e. conventional banks. Simple facts which can be verified though different establishments and resources show us that the industry has more than 250 institutions globally, approximately US $300 billion in assets, and a strong growth rate of 15% per annum for the last five years.
Although the major hubs of Islamic finance are the Muslim populated Countries and their financial institutions, some of the major western players included are Citigroup, HSBC, and UBS. Countries like US, Canada, and UK are gradually getting involved in increasing their knowledge and offering Sharia compliant products to their ever increasing Muslim population.
With the petrodollars pouring into the GCC countries, investments are being made internationally and in surrounding countries. All this shows us that there is a bright future prospect for the Islamic Financial Institutions, but it also brings challenges and opportunities for existing and forth coming players.
Few of the challenges faced by the IFI are listed below:
Lack of Regulatory Structures / Authority: The Islamic finance industry needs to develop and implement regulatory bodies like the GAAP, Basel, SOX, etc. that can minimize risk and set a platform for minimum requirements to classify and operate as an Islamic financial institution. Although there is the Accounting and Auditing Organization for Islamic Financial Institutions (AAOIFI), membership is voluntary. To start with, the central banks of all Muslim countries should make it compulsory for any IFI to be a member of the AAOIFI once its rules have been agreed upon by all leading Sharia scholars.
Variation in Interpretation of the Sharia Law: Malaysia, Bahrain, UAE, Pakistan, all seem to have their own interpretation of the Sharia law. There are even differences between banks within the same country. This has lead to many less religiously motivated organizations like Citigroup and HSBC to tap into the Islamic financial market without being monitored and/or questioned on the co-mingling of funds. There should be a uniform interpretation of the Sharia law approved by all major scholars and representing all Muslim countries. This once approved should be implemented and monitored through the central bank of the respective countries.
Liquidity: Conventional banks can park and or borrow funds overnight at a minimal interest rate. Islamic banks due to their nature of probation of interest have a major issue with this which leaves them with excess funds sitting idle and results in loss of income. A solution for all is still to be created.
Lack of Scale: Major conventional banks that have assets of US $100 billion or more take advantage of scale in branding, capital access, cheaper purchasing, better ideas, data centers, utilities, software developments, etc. On the contrary Islamic banks lack major players that can not only act as local leaders, but also global players. The only two recent biggest initiations have been Al-Masraf bank of Bahrain with and Noor Islamic bank of Dubai. Mergers and acquisition within countries or cross-border mergers between Islamic banks can help creation of mega/global Islamic banks.
Image and work of the Sharia: Currently the Sharia is viewed by many as a constraining authority. It should be viewed as an innovator and a creative department. Also the role of the Sharia should be divided into advisory and compliance/governance. The advisory function should include product innovation, while the compliance/governance function should be more of an audit role.
True Purpose of Islamic Banks: The true purpose of creating Islamic Financial Institutions was to develop a community/society that would have access to interest free financial resources normally declined by many conventional banks. This would create entrepreneurs that were normally declined due to lack of collateral. IFI are innovating new products to compete with conventional counterparts, but are they helping the entrepreneurs based on the partnership structure (Mudaraba)?
Currently majority of the business of Islamic banks is based on Murabaha (cost-plus sales) and Ijarah (lease). Although acceptable, modes of business by the Sharia, these were introduced to compete with conventional banks and gradually move towards the true Islamic concept of partnership i.e. Mudaraba.
Training and Educating the frontline and Customers: Due to a shortage of skilled professionals in the Islamic banking industry many of the current staff recruited is from the conventional banks that see this as another new product in the market. This effects the cross selling ability of the frontline who lack knowledge of the true nature and purpose of Islamic banks and their products.
Huge investment needs to be done in training the staff and educating the customers on how the Islamic banking is different from the conventional banks and what are its benefits. One approach can be a mass marketing campaign that would include all Islamic banks in their respective country to pool in funds and simply utilize different channels of media marketing to educate customers
Brand Image: Many Islamic financial institutions take their brand image for granted and think that just adhering to the Sharia law is sufficient to maintain and grow in a market. With new players entering the market every year, competition is growing and there will be a shift in competition from conventional banks to between IFI. Islamic financial institutions need to uniquely identify themselves as either only retail banks, or investment banks, or commercial banks, or as a global bank, or even a combination of few areas.
Few of the opportunities include the following:
Muslim Population: The Muslim global population was about 19% in 2000, which is expected to reach about 30% by 2025 (Source: Ten Trends to Watch in 2006 – The McKinsey Quarterly). This shows a huge market potential for the Islamic Financial Institutions globally.
GDP growth: The per capita income of countries like UAE and other GCC countries is growing rapidly along with the annual growth percentage of many Muslim countries. This shows a huge potential of disposable income and entrepreneurship opportunities for IFI.
Venture Capitalist: With the petrodollars flowing in and the nature of Islamic banking i.e. investment through partnership, the area of venture capital needs to be exploited for innovators, entrepreneurs, and research and development for small to mid-sized companies.