There are more than 300 Islamic Financial Institutions (IFIs) globally managing more than US$1 trillion, a figure expected to reach US$4 trillion by 2012. Industry experts maintain that the industry is growing at a rate of 10% to 15% per annum across borders even in non- Muslims countries. 

IFIs must create a robust IT platform of solutions to deliver technology driven innovative products and services to their clientele. There are more than 35 global and regional vendors that offer Islamic Banking System (IBS) services for Islamic banks & IFIs. Efforts to computerize the IT system in accordance with Shariah tend to be developed in-house in the initial stages, directly under the supervision of Shariah scholars and Islamic banking experts. 

Alternatively, global vendors can build a competitive edge by getting their software endorsed by independent Islamic finance institutions namely Accounting and Auditing Organization for Islamic Financial Institutions (AAOIFI) and such. Islamic banking IT solutions can be resolved either by implementing a new system or installing only the relevant functional system or modules from existing core banking systems. 

This system implementation is a pivotal transition which comes with some major risks. To date, a number of banks have gone through this transition since there is no complete ‘off the shelf’ product. It will not be an easy task to implement the system successfully without an excellent project management process, and without a team inclusive of technical experts, Shariah scholars and banking specialists, consultants and such. 

Constant growth in the number of IFIs and Islamic banks require that IT systems are in place to compete with both new entrants and existing market players, whether conventional or Islamic. Advanced technology will reduce cost significantly, as well as manual workload, inefficiencies, transaction processing time and so on while enhancing customer satisfaction with sophisticated facilities. 

This Shariah-compliant system involves an out-of-the-box implementation which disturbs the existing IT system by requiring various customizations to the traditional core banking solution. Sometimes this layer sits on top of this Islamic finance functional application layer or else integration will not support other applications. Hence there may be a need for another middleware. Flexibility, timing and affordability become a question mark at this point. 

The acquisition of ready-made, plug and play modern components can be integrated smoothly either by interfacing directly to the core banking software (or through an establishment of middleware). Today, Information System Strategy is at the heart of the banking sector and it will determine the success of the business. 

The IT team especially cannot enjoy the liberty of implementing IT systems like in conventional banks. In IBS each and every matter has to go through a Shariah Supervisory Board (SSB) to obtain the necessary approvals. Furthermore, Islamic banking systems require more information disclosure. This transition or system implementation in an Islamic bank will easily consume a minimum of six months and above depending on the complexity of the implementation project. 

Core issues 

Conventional core banking software have been developed based on interest which is fixed and defined calculation methods. Once the formula is fixed the interest rates will be credited into the relevant accounts as per the command.

But in the case of IFIs and IBs, the profit is unknown until the maturity date of the business contract / investment made. In addition, the sharing of profit can vary according to Mudarib — Rab al Mal sharing percentages, types of accounts, tenor period, risk ratios, utilization percentages and profit equalization ratios. This may vary in different jurisdictions and between banks too. 

Since profit distribution is one of the main differences between Islamic banks and conventional banks, profit distribution methodology should be thoroughly tested from Shariah to Accounting. IFIs require much matured profit distribution system, despite the increase in the number of global core banking system vendors incorporating the Islamic banking support to their product offerings. 

From a technical point of view, Islamic banking IT solutions and software must be flexible, user friendly, accessible, scalable, compatible (able to run in different platforms and operating systems), highly secure with preventive features and have automated implementation with modern and reliable database technology. 

With the latest developments in technology, Islamic banking software should be able to swiftly migrate or adapt to the advanced technology as and when necessary while constantly taking into consideration global best practices and processes. The system can be developed and installed as a browser platform / web based system or MS platform / desktop platform with advance programming languages. Even now the interest has been shifting to open source system for implementation. 

Many software systems for the banks were developed with heavy development costs, after a number of years of research and development with equal amounts of testing. The Islamic finance industry is seeing everyday a new IFI. New start-up institutions will find it difficult to afford this strategic investment at the initial stages in order to build a robust IT platform with rich functionality. 

On the other hand, the Islamic finance industry requires trained professionals with in-depth knowledge about Islamic finance and field expertise in this emerging sector in order to provide quality, uninterrupted service to clients. 

Another important area to focus on is IBS training to bank staff, as well as translating the Islamic banking concepts, workflows and consequences to the technical experts so that they can develop and strategically fit a system to the IBs business strategy requirements. 

Finally, customizations of conventional banking software have been overshadowed by the demand from IBs for IT platforms to develop their own competitive edge over others. Many software systems were developed for conventional banks. When Islamic banks request for a software system, conventional ones are generally customized to suit some of the IB’s needs. Many are either customized to suit the IB’s requirements, or come with worked solutions to expel in-built conventional parameters, including terminology and such. With just one core banking software available in the market for Islamic banking that is in line with the AAOIFI and IFSB regulations and that complies with international and Islamic regulations, the Islamic finance industry is projected to adopt competent banking systems satisfying its distinctive needs and requirements. 

‘This article was first published in IFN Volume 7 Issue 19 dated the 12th May 2010’ 

http://www.sheikhmubarak.com/ib_articles/A_Glimpse_into_Islamic_Banking_Software_Systems.pdf. 

© Islamic Finance Today

The recent outing of two of the backbones of the recent Islamic Finance phenomena in the Mid East (organised Tawarruq and some types of Sukuk) as possibly Haraam has thrown the cat amongst the pigeons. Now, all of sudden – well meaning Islamic bankers and their customers are finding themselves stuck in the middle. Are they dealing with the Halal or the Haraam? And what now for the future – as it is clear that the ‘innovative’ progress of the last few years have been reset (product wise, Islamic finance is now where it was many years ago).

Sure, some Islamic Financial Institutions (IFI’s) are going to ignore the recent fatwa against organised Tawarruq (as they did with Inah) and will press on with issuing dubious (in terms of the Sharia) Sukuks and other similar veined products & services – but lets face it, these IFI’s aren’t really Islamic in the truest sense and will be regarded as what they actually are: wolves in sheep’s clothing specifically set-up to separate uninformed Muslims from their cash.

But not all IFI’s are like that. Many are trying to come to terms with their ‘Islamicity’ and are struggling to strike the right balance between providing a Halal service and running a profitable operation. However, the dearth of genuinely acceptable products & services – coupled with the wildly inconsistent fatwas being issued by scholars with different perspectives of the law means that such a struggle will only deepen and make life much more difficult for the industry as a whole.

But is this such bad news? Is there in fact a shining gold lining to this overcast cloud?

THE 2 TYPES OF ISLAMIC FINANCE:
The current Islamic Finance industry is split into 2 separate distinct groups, being 1) Ibaha-based Islamic Finance and 2) Sunnah-based Islamic Finance

Ibaha-based Islamic Finance – this is based on the permissibility precept and is probably 90% of current Islamic financial activities and will remain dominant for the foreseeable future. However, it has an increasing chorus of critics because of its similarity with modern Riba-based financial activities and often highly questionable product offerings. Ibaha-based Islamic Finance will continue to be accused of providing conventional interest-based finance, dressed up as Islamic – and this could seriously damage the long-term prospects of the industry.

Sunnah-based Islamic Finance – this is REAL Islamic finance in the sense that it is ‘Islamic in nature & spirit’ and not just ‘permissible’ and is based on the trade & economic elements of Retrofiqh (the original legal rulings/principles/actions of the Prophet Mohammed, pbuh).  In essence, we are talking about doing what the prophet and his immediate followers did and clearly recommended/approved of in terms of finance, trade and business. The activities in this sector are limited but are truly grounded in the Islamic tradition and are therefore Taqwa resolute. This is not a backward step – but simply a distinction between permissible finance (which allows sometimes contentious activities such as organised Tawarruq and Inah) and true Islamic finance (which focuses more on emulating the business activities and counsel of the prophet and his undeviating companions and Taqwa – not just profit – based modern business and finance solutions).

The premise of this distinction is to highlight the growing belief amongst Islamic finance practitioners & customers that the real future of Islamic finance is not more innovation along the lines of interest-based finance, but in the past: taking Sunnah-based activities, making them applicable to the modern era and assimilating & converging it with the Halal elements of conventional finance so that it becomes an indistinguishable part of the mainstream global economy. Islam, after all, is for the whole of humanity.

The entrepreneurial impetus of the main developed countries (Venture Capital, Private Equity, Venture Philanthropy, etc) is surprisingly aligned with some of the primary ethos of Sunnah-based Islamic Finance and thus, IFI’s have a great opportunity to lead the way in establishing real Islamic Finance – thereby enhancing their position in this fundamentally global industry.

One way this can be achieved is by using modern English terminology instead of Arabic ones to describe Sunnah-based Islamic Financial activities, as breaking the language barrier is one of the key ingredients required to successfully enter new markets because it enables Sunnah-based Islamic Financial transactions to be identified with modern capitalist ones (and this aids in propagating Halal transactions across both Muslim and non-Muslims spheres).

For instance; if we go to a traditional western investment bank and say we want to do a Musharakah deal, we might get shown the door pretty fast even if we have a really good deal for them, whereas if we say we want to do a venture capital/private equity deal – we might get shown the board room – although the deal is one and the same (see: Wittgenstein’s philosophy of language).

Some example of language parity:
The terms: “Procurement Services” is the same as the original, spot-payment based Murabahah (which is mentioned in verse 275 of Al-Baqarah and it is clear from this verse that God has defended it – the original, traditional Murabaha, not the current artificial/financing Muajjal-Murabaha hybrid – and is therefore the most virtuous of all business activities in religious terms).

The terms: “Investment Management, Business Representative/Agent & Outsourced Business Process” are the same as Wakalah (this is the way the prophet started in business himself, as a wakil – business agent of Khadija, r.a. and is therefore the 2nd most virtuous of all business activities in religious terms).

The terms: “Venture Capital, Joint Ventures, Private Equity, Venture Philanthropy, Social Enterprise” are the same as Mudarabah & Musharikah, etc (this is where huge growth can be achieved in new non-Muslim markets).

The terms: “Social Security Contribution (or Social Levy), Grants & Charity” are the same as Zakah, Qard Hasan and Sadaqah (which are the prime components of the Muslim welfare system). If we can focus and direct the considerable ‘charity’ wealth of the Muslims, we can achieve momentous positive change – and the impact of this change will generate the momentum to positively change the socio-political sphere, potentially resulting in more Islam focused nations and governments.

The above are some areas where Sunnah-based Islamic Finance can achieve a huge level of convergence & assimilation with the non-Islamic financial world. It is the real future of Islamic Finance, as it will allow it to stay grounded in its roots (and to maintain its form AND substance) and yet successfully expand into new territories & new markets.

And this is very important because if IFI’s persist in purveying just Ibaha-based products & services – they will continue to be accused of being “wolves in sheep’s clothing” (i.e. providing conventional interest-based finance, dressed up as Islamic), and this could seriously damage the long-term prospects of this unique industry.

© Islamic Finance Today
The commercialisation of the Islamic financial system in the 1970s was greeted with both hope and scepticism. More than three decades later the system is widely accepted and practiced worldwide. But the future of Islamic finance remains shrouded with uncertainty due to the lack of uniformity in the system’s application. One such area of uncertainty relates to Shari’ah (Islamic religious law) supervision and implementation by Islamic financial institutions.

Islamic financial institutions are guided by a legitimate control body known as the Shari’ah Supervisory Board (SSB), which consists of a number of Shari’ah advisors. The purpose of the SSB is to ensure that the financial institutions operate in conformity with Shari’ah and are usually made up of a number of jurists who provide clarification in regards to any Shari’ah related questions that the financial institutions may have. These SSBs are hired by the financial institutions and act as an internal control body in the organisation, therefore, enhancing the credibility of the bank in the eyes of its customers, and bolstering its Islamic credentials.

The role of the SSB is thus seen as being similar to that of company auditors. Even though, the financial institution compensates them, the SSB members are expected to retain their independence. And just like auditors, SSBs certify at the end of the year whether the financial institutions operations were in conformity with Shari’ah. This task includes reviewing products and policies of the financial institution, and deciding on whether a new financial instrument introduced by the organisation is religiously acceptable.

Theoretically if the SSB refuses to endorse a product, the financial institution should automatically remove that product from their portfolio. Also in theory, the SSB would perform a religious audit of all accounts. The reality however is more complicated. Surveys conducted by researchers in Islamic financial institutions has revealed that in many cases the review is treated as a routine matter, with boards approving decisions already made by the bank’s management.

The Accounting and Auditing Organization for Islamic Financial Institutions (AAOIFI) has tried to regulate the role of the Shari’ah advisors by setting standards for appointment and composition of SSBs. According to the standards, the authority to appoint SSB members should be vested in the annual general meeting of all shareholders of the institution. The justification for such action is that SSBs members will be free from any undue pressure from the management board if they do not have the power to appoint or dismiss them. The AAOIFI standards also specify the presence of three Shari’ah advisors as the minimum number required in a SSB.

The AAOIFI regulatory framework and guidelines are yet to be applied by institutions worldwide and variations in Shari’ah governance still exist. A review of the Shari’ah governance and supervision models used by financial institutions reveals inconsistencies between national models of governance. There are five countries that follow their own Shari’ah governance regulations. These countries are Bahrain, Indonesia, Iran, Malaysia, and Pakistan. A review of these national models of governance reveals that contrary to AAOIFI regulations, not all Islamic financial institutions utilise the services of SSBs. In Malaysia and Pakistan financial institutions only require one Shari’ah advisor, while Iran does not require institutions to have their own SSBs or advisors.

Another concern expressed by consumers and critics relates to the Shari’ah advisors’ potential conflict of interest. The advisors are employees of the financial institution and perform their duties relating to Shari’ah implementation and supervision. But unlike other staff members, Shari’ah advisors in some countries are permitted to be employed by more than one financial institution. As these advisors are seen as internal Shari’ah auditors rather than external auditors, being employed by more than one institution is seen as a direct conflict of interest.

The variation in the number of advisors in financial institutions and the permission to act as Shari’ah advisor for more than one financial institution is related to the limited pool of qualified Shari’ah advisors available worldwide. A look at the global situation reveals the extent of this problem. In Britain, the most active European market in the Islamic banking sector, the Financial Services Authority watchdog in November 2007 highlighted possible “significant” conflicts of interest in that concentration of expertise. The agency reported that the shortage of appropriately qualified scholars raised concerns over the ability of SSBs to provide rigorous supervision.

One of the world’s most respected scholars, Sheikh Nizam Yaquby, in a recent interview described the challenge of having a very limited pool of Shari’ah advisors. According to Sheikh Yaquby there are about 60 scholars in the world qualified to advise banks involved in Islamic finance. This number is not even sufficient to fill the demand in the Middle East. Therefore, one way banks are overcoming this shortage is by hiring scholars and advisors who are already performing their duties in other organisations.

This shortage of qualified scholars leads to the obvious question of training of Shari’ah advisors. There are various opinions on what qualifications are required for an individual to be prepared for the duties of a Shari’ah advisor. In countries like Pakistan, the central bank (State Bank of Pakistan) requires financial institutions to only hire those individuals who meet the specified “Fit and Proper Criteria”. These requirements specify that the individual be trained in religious education (Dars-e-Nizami curriculum offered by Madrasas). Since this education requires schooling through Madrassas, one would expect that the training of Shari’ah advisors would take 11 years or more. Considering the fact that many of those educated in religious education, may not be too well-versed in banking and finance knowledge, the advisors may require additional training time for such education, and this would add to the overall training time. The amount of time required for training means that the shortage of Shari’ah advisors will continue to be an issue for the industry for some time.

Another issue faced by the industry is the lack of educational infrastructure. As stated earlier, the training of advisors in religious education is no longer sufficient in the commercial world. Therefore, understanding the application of Shari’ah rules in the banking and finance industry is an area that future Shari’ah advisors need to be trained in. Unfortunately, the industry has lagged behind in setting up appropriate institutions that would help bridge this educational and training gap.

In the past, any Shari’ah advisors were trained in a handful of institutions in countries like Pakistan, Malaysia and Bahrain. This lack of educational infrastructure has further added to the limited number of qualified Shari’ah advisors that are available worldwide. While some action has been taken to address this (like the opening of a dedicated university in Malaysia), the number of institutions operating are not enough to meet the growing demand of the industry. The Islamic finance sector needs to address these concerns to ensure that the system remains viable in the long run and does not compromise on issues related to transparency and quality of Shari’ah supervision. There are a number of steps that the industry and governments of Muslim countries can take to address the shortage of qualified advisors. The financial institutions and governments can jointly invest in the establishment of further training institutions. These institutions would not only help train the students in religious education, but with the involvement of financial institutions, the students would also get trained in the practice of Islamic banking and finance. The AAOIFI regulation of a minimum of three Shari’ah advisors serving on a SSB should also be implemented. The regulation though should require that at least one member of the SSB be a junior advisor. This requirement would give junior Shari’ah advisors the opportunity to work with experienced advisors and would act as a means of getting ‘on the job’ training for the junior staff. If implemented, this requirement would help overcome some of the issues related to the lack of trained and qualified Shari’ah advisors, and would help improve the quality of Shari’ah supervision.

As the world’s economy struggles through one of its more difficult periods, many businesses are looking at the Islamic financial sector as a legitimate alternative to the current financial system. To be able to take advantage of these emerging opportunities, the Islamic finance sector has to prepare for the associated growth. Through the combined efforts of governments and financial institutions in the Islamic finance sector, the training of more Shari’ah scholars can be further improved. This in turn would ensure that Islamic financing remains a viable option in the long run.

Bibliography:
Abbas, M. (2008), “Shortage Of Scholars Troubles Islamic Banks,” International Herald Tribune, January 22.

Rammal, H.G. (2004), “Financing Through Musharaka: Principles And Application,” Business Quest, Online, available at: http://www.westga.edu/~bquest/2004/musharaka.htm

Rammal, H.G. and R. Zurbruegg (2007), “Awareness Of Islamic Banking Products Among Muslims: The Case Of Australia,” Journal of Financial Services Marketing, Vol. 12(1), 65-74.

Warde, I. (1998), The Role Of Shari’ah Boards: A Survey. San Francisco: IBPC Working Papers.

Should we be surprised?  Many commentators have been forecasting something of this nature for a number of years based on the underlying concerns regarding the US economy.  The Research Intelligence Unit for example has been following the series of events that have led up to this year’s collapse and gave out warnings of such a shock for a number of years.  Whilst no one could predict the precise moment of events as they unfolded, many were sounding the alarm that the rails were loose but the train kept on moving at full speed until its inevitable derailment.

As economist James Galbraith says, a well-functioning financial system has rules and it’s when the rules are relaxed that shady practices and get rich quick schemes flourish.  This is what happened in the [sub-prime] mortgage system in 2005 and 2006, triggering off a bigger collapse.  This collapse has spread out to the entire globalized economy.  The implications of the financial crunch and the subsequent bail-out on the US economy and its currency, the global commodity markets, on other major economies in Europe, India, China and the wider world are yet to be fully realized. 

There are of course developing nations like Sri Lanka, for instance, which is said to be somewhat insulated from the US led meltdown due to the lower levels of financial integration with the global system.  However, many people with foreign income are affected and this would have an impact on the demand for luxury goods like local condominiums and vehicles.  For the average citizen, the impact of lower demand for the island’s exports will have a significant impact on their economic well-being.   The garment industry was perhaps the first to feel the pinch from declining US demand.  Moreover the uncertainty regarding the availability of finance as well as the negative sentiments prevailing in most of Sri Lanka’s export markets has hit many exports.  The negative impact on the Colombo tea auctions has been acute to the extent that the government had to intervene with a home-spun bail-out package.

Conspiratorial context

So how long will the global recession last?  From a historical perspective, the series of events that have taken place of late are in keeping with the recent pattern that has been characterized by a shift in economic power from the West to the East, particularly in the direction of India and China.  The markets in Europe have had severe slumps at various times during the past few decades and recession has always followed.  The early nineties was a case in point for the UK whilst the US had a recession in 2001.  Meanwhile, strong growth has characterized Asian economies during the same period with increasing trade volumes being a driving factor of the growth.  The difference with the latest shock to the market is the sheer magnitude of the collapse that has touched all corners of the world economy. 

However, if we go back even further, to the 19th century, we could find some comfort in the knowledge that financial markets have always fluctuated, slumped and recovered.  Conspiracy theorists have always asserted that shadowy and powerfully figures that lurk behind the scenes have always made a killing on depreciated stocks each and every time there was a recession or depression.  The grey area between public and private finance is said to offer ample scope for taking advantage of such times for those on the sunny side of asymmetrical market information.

A case in point, when Napoleon escaped from Elba in 1815, the London gold market hiked overnight by over 25 percent as the UK treasury gave orders to dispatch gold to the Duke of Wellington who was preparing to stop Napoleon with military force.  Only following the decisive battle of Waterloo did gold prices ease.  So those in the know made plenty of bucks in the meantime.

Returning to this generation, Gary Allen wrote in 1979; “Whatever the future holds, you can bet it will be unstable with wide swings in the value of the dollar and precious metals. As long as Volcker’s sponsors know in advance what his policies will be, they will make big money.” This accurate prediction was followed by 20 percent interest and 25 percent inflation.

In another example, Business week, Feb. 20, 1984, stated, “The worst market for traders is a stable one…. Investment banks now have a greater than ever vested interest in market instability. They can rack up enormous profits by guessing right about rapid, wide swings in profits, prices and interest rates.” It is obvious that they can rack up “enormous profits” if they know in advance what the monetary decisions will be.

Eustace Mullins in his book The World Order – A Study in the Hegemony of Parasitism (1985) says: “Anyone who seriously believes that no one knows in advance what Federal Reserve decisions will be is too naive to be allowed out on their own; anybody who believes that there is no one who can tell the Federal Reserve Board what its policies are to be is even more out of touch with reality”.

According to some sources, including Bloomberg, the bailout itself is likely to result in a skewed distribution of rescue funds.  As the man in charge of the rescue package is a Wall Street veteran, the Wall Street bailout has the danger of being biased in favour of the special interests that have a greater influence on those holding the purse strings.  Goldman Sachs and Morgan Stanley are amongst some of the names that are said to be in the list of institutions that will benefit disproportionately from the $700 tax-payer allocation.  With some ten percent of the $700 billion going directly to those responsible for the mess in the form of due payments and incentives to top executives, the guilty don’t seem to have done too badly this time around either.

Shari’ah consequences

Some observers have claimed that Islamic finance which has been on a spectacular growth path over the past seven years might actually benefit from the collapse in confidence in the conventional financial system.  The financial consultant agency BDO Stoy Haywood for instance has claimed that increasing numbers of investors will now turn to the Shari’ah compliant financial sector as they have far less exposure to the ‘toxic debt’ that characterizes the US finance institutions.   There is information from the UK to suggest that this is already taking place, not just amongst the Muslim communities but also amongst non-Muslims who are vexed at what’s going on. 

Statistics tell their own story.  The Dow Jones Islamic Market (DJIM) index only lost 2.74 percent in September whilst almost all other indices around the world shed around 20 percent.  The Sukuk (Islamic bond) index of City group was the best performer, loosing only 0.27 per cent and was the only index anywhere to remain positive for the year to date (October).  However, the overall level of sukuk issues for the year thus far remains well down as compared to 2007.  The Secretary-General of the Accounting and Auditing Organization for Islamic Financial Institutions (AAOIFI) told a conference in Dubai recently that only $14 billion worth of sukuk had been issued so far this year, compared with $40-50 billion last year.

Many jobs are also at stake as the current crisis is likely to shift the labour market supply curve to the right.  With lots of moving and shaking going on in the conventional sector as everyone from the janitors to senior banking professionals feels the threat of retrenchment, Islamic banking could use this opportunity to do some head-hunting that can compensate for the gap in current demand for qualified Shari’ah compliant finance professionals.  Failure on the part of vocational and academic institutions to keep pace with the demand for professionally qualified people in the Shari’ah compliant industry has resulted in a shortfall in professionals amidst growing demand. 

Other opportunities may also arise with more high-net-worth individuals switching to the ‘safer bet’ Shari’ah compliant option.  The operation of Wealth Management arms of conventional banks as well as independent financial agencies have witnessed strong growth in recent years especially in South Asia where there has been an increasing demand for wealth management services amongst a growing middle and upper class. 

However, anyone expecting a sea-saw effect on the Islamic finance sector would be out of touch with reality.  The financial crunch has resulted in falling commodity prices, especially oil along with a marked drop in real estate prices which has started to hit the Shari’ah compliant sector.   The direct impact comes from the fact that the Shari’ah compliant sector relies on these real assets in order to support Shari’ah compliant finance deals.   So to some extent, the current situation has demonstrated that Islamic finance is operating in a distinctly un-Islamic economic system whereby Shari’ah compliant windows get directly affected when the house catches fire.

Opportunities

So to some extent the current situation offers an optimal opportunity for Islamic economists and academics to put forward an alternative system.  Adnan Khan notes a number of key points that we can build on to stress the fundamental difference between the two systems of finance and economics. Some of these differences are fundamental and too far reaching to deal with in the short term even though the glaring weaknesses in the conventional system have surfaced for all to see.  Take for instance the paper currency system that is backed up by absolutely nothing tangible since 1972.  Any system claiming to be Islamic has to be based on silver, gold or a similar commodity of value.

Likewise Islamic economics cannot promote a so-called dual-economy separating the ‘financial and ‘real’ segments. Everything would be real.   Much of the dealings that take place in the ‘financial economy’ are anyway prohibited under Islam.  Banks would be active in performing many of their functions as collectors of deposits in order to reinvest funds in to the ‘real economy’.

Similarly, under an Islamic system taxation would be based on wealth and not income. Ownership rights too would be distinguished into state, public and private.  Many resources would fall into the category of public property whereby their benefit would have to be open for enjoyment by all citizens.  This is derived from the hadith of the Prophet: “Muslims are partners in three things: in water, pastures and fire”.  The implications of this hadith is that water resources, forests, firewood, pastures for livestock, electricity and oil fields and refineries belong to the community.   Thus, the privatization of water for example would not be permitted.

Outlook

The Shari’ah compliant sector’s ability to draw in both Muslims and non-Muslims will depend on how well this alternative system is marketed as a more stable and ethical long-term option.  The industry will also have to withstand opposition from anti-Shari’ah finance  groups, mostly based in the US who spread myths about its dangers to Western civilization.  

Essentially, the message that the Islamic banking sector engages in lower risk profile investments should be in tune with current times.  It also abstains from a number of unethical practices including ‘short-selling’ which describes selling a stock which you do not own in order to benefit from its falling price.  Even the US banned this practice for a limited time in the aftermath of the Lehman collapse but then reversed the ruling. 

The world economic outlook report of the IMF has claimed that the ‘world economy is entering a major downturn in the face of the most dangerous shock in the mature financial markets since the 1930’s’.  Whilst the global economy grew by 3.9 per cent in 2007, the forecast for 2008 has been revised down to 3.9 per cent and just three percent for 2009.  This would make 2009 the worst year since 2002 according to the IMF.

Since the report was released, the Central Banks of a number of powerhouse economies made a unison rate cut.  These included the US and the UK which slashed their rates by 0.5 per cent whilst China, Canada, Sweden and Switzerland also cut their rates. The IMF supported the move that was aimed at mitigating the impact of the credit squeeze on the real economy. 

Offering some hope for the battered economies, the IMF report did claim that there is ‘no risk of a Great Depression’.  However, subsequent information suggested otherwise as economies in Europe including the powerhouse Germany which claimed they were now officially in recession.  A G20 meeting was hosted by G.W Bush in November where further attempts at facing the challenge in concert were made.  This represents a style u-turn on the part of the most unilateral US leader as his last days in office seem to have witnessed a shift towards multilateralism.

The coming year 2009 is likely to pose stiff challenges to the Islamic finance industry despite a steady and consistent increase in the demand forecast.  Lower credit availability in 2009, slack demand from the developed world that will reduce commodity prices, and uncertainty regarding currency are all likely to pose serious challenges.  In the final analysis, there will be few winners. 

Politically, the evolving scenario is likely to offer greater influence and sway to the larger developing nations on the world stage.  This might also open more doors for Shari’ah compliant finance to be discussed and debated on the world stage.  One can only hope for change that will lead to the emergence of a more ethical economic system for all concerned.

Sources: Al Jazeera, BBC, Bloomberg, China Peoples Daily, Conway, Edmond, IMF, www.informaitonclearinghouse.com, Kettell, Brian, Pakin, Brian, Research Intelligence Unit, Trends Research, Eustace Mullins.

© Islamic Finance Today – Pioneer Publications (Pvt) Ltd

Environment to the fore

Much attention was on Abu Dhabi between 21 -23 of January as the National Exhibition Centre hosted the World Future Energy Summit (WFES).  Labeled as a ‘carbon neutral event’ it witnessed a gathering that included many of the leading figures who are working to propel the environmental issue further to the fore.

One of the main attractions at the event was the unveiling of Masdar city development project model, a joint collaboration between the World Wide Fund for Nature (WWF) and the government of Abu Dhabi.  The project ‘Masdar’, meaning ‘source’ in Arabic, is set to be the world’s most environmentally friendly city with zero-carbon, zero-waste and free of motorized transport.  The $15 billion development is expected to reach full completion in 2012.

Whist ironic it is commendable that the city surrounded by oil fields is taking steps to make a real and positive contribution to developing an alternative future that is sustainable based on a realization of the finite nature of fossil fuels. The new city is expected to meet standards set out by the WWF under the ‘One Planet Living’ programme whose vision is of a world where people everywhere can lead happy, healthy lives within their fair share of the Earth’s resources.  On the practical side, a key feature of the six kilometre – wide city will include Photovoltaic  panels for electricity generation, cooling via concentrated solar power, water provision through solar-powered desalination plants and the irrigation of crops grown outside the city with treated waste water. 

Green investments
Masdar is one of numerous clean energy projects pipelined in the UAE region like a nation-wide network of carbon capture storage projects to pump gases into oilfields, thus lowering emissions and increasing output.  However, it is not clear at this stage as to what type of funding option will be utilized for these green ventures and if any role is planned on leveraging on Shari’ah compliant finance.  One reason is that the response of the Shari’ah compliant finance sector to the challenges posed by the environment has been somewhat slow to date.  However, some positive developments can be noted.

Last year the Malaysian Amanah Raya Investment Bank teamed up with the Asian Finance Bank (AFB) to launch the Islamic green fund in order to leverage the two growth areas.  The $294 million green fund was set up to invest in environmentally friendly projects that are also compliant with Shari’ah laws like bio-fuel ventures.  This move was followed-up with an announcement that AFB and Amanah Raya also plans to launch a second ‘Islamic Green Fund’ worth some $1 billion by June this year also to focus on developing environmentally friendly projects in Asia and the Middle East.  Incinerator projects, waste re-cycle plants, and alternative energy ventures are likely to benefit.

It is expected that Shari’ah  compliant funds will have a role to play in developing projects like the Masda city development in the long-term due to their lucrative potential as well as attractiveness to ethical investors, both Muslim and Non-Muslim.  The Abu Dhabi project is expected to result in the world’s largest hydrogen power plant to supply 500MW of clean power as well as to develop the world’s first 100MW concentrated solar power project. 

The fully functional city is expected to meet the One Planet Living programme’s ten guiding principles related to sustainability.  These are zero carbon, zero waste, sustainable transport, sustainable materials, sustainable food, sustainable water, habitats and wildlife, culture and heritage, equity and fair trade, and, health and happiness.

Sounds far fetched?  Perhaps, but the reality of global warming and climate change poses a very ominous danger to the whole of mankind and the possible scenarios are catastrophic.  

An unfolding crisis
Consider the Fourth Global Environment Outlook (GEO-4) compiled and published by the United Nations Environment Programme (UNEP) which includes the contributions of 390 experts who have contributed studies, data and research. The conclusion reached in the report is an eye-opener. “Humanity is changing the earth’s climate so fast and devouring resources so voraciously that it is poised to bequeath a ravaged planet to future generations’

This most comprehensive publication cataloguing climate change since the Brundtland Report in 1987 comes in the wake of a year that has up to now been dominated by climate change. The latest in a series of disasters was the wild-fires in the US state of California. November 2007 witnessed the destruction of some 1,500 homes and burned down 674 square miles across five – counties  from  Ventura  to  Mexico and the property damage is estimated to have topped $1 billion in San Diego County alone.

One unique feature of these fires that distinguished them from other disasters such as hurricane Katrina, where the frontline victims were the poor, is that the rich have been disproportionately affected. The hardest hit areas this time around were up-market homes. All the more reason perhaps, for US policy-makers to take note of the latest UN report calling on them to ‘propel the environment to the core of decision-making’ in order to address an unfolding crisis. Failure to do so would undoubtedly jeopardize our future generations. The impact on the US, the world’s leading polluter and a climate treaty offender and its less guilty climate offenders would not be easily disentangled.

For example, Chile’s 16 million population adds little to the green-house gas effect but is currently paying the price. According to sources, the country’s glaciers are vanishing whilst mudslides are becoming commonplace and spring-time snow is replaced by tepid rains. Mc Clatch reports that last May, an entire lake in southern Chile disappeared almost overnight as the Tempano Glacier that had acted as a dam melted and destabilized. These rapid transformations are spurring the country’s scientists to attempt to solve the puzzle of the impact over the coming years. With over half of the 120 glaciers under observation reported to be shrinking, with many vanishing at twice the rate of last year, scientists will have to work over – time to find the  answers.

However, the Chilean researchers are not alone as they scramble for solutions. Neighbouring Argentina is facing drought on its side of the Andes due to falling rain levels whilst shrinking glaciers pose dangers to water supplies in Bolivia. They all agree that an era that they had become accustomed to in terms of their geo-physical environment is now over and the future is one of uncertainty.
The UNEP report claims that the global average temperatures rose by 0.74 degrees Celsius  (1.33 Fahrenheit)  over the past century and are forecast to rise by 1.8 to four  C  (3.24-7.2 F) by 2100, citing estimates by the 2007 Nobel Peace co-laureates, the Intergovernmental Panel on Climate Change. 

The report also addresses issues arising out of a rise in the global population. The current total of six billion human earthlings is expected to swell to and peak at 9.7 billion by 2050.

Thus, meeting the nutritional and survival needs of the people will pose new challenges that need to be factored-in now. Land degradation and deforestation in Africa is estimated to have reduced production of food by 12 per cent since 1981. Fish consumption is said to have tripled over the past 40 years whilst the catches have stagnated or declined. The report also claims that over 30 per cent of amphibians, 23  per  cent  of  mammals  and  12   per   cent  of  birds are currently   under   threat   while  many   other   vertebrates may not even have been assessed. 
Not seeking to paint a "dark and gloomy scenario", the UNEP took note of some successes in the areas of combating ozone loss and chemical air pollution. However, it warned that in some cases, progress achieved in pollution reduction in the developed world was at the expense of  the developing world where  the  industrial  externalities  and  its impacts  had been effectively exported or outsourced.                   .  

The role of Islamic Finance

A Middle East Economic Digest (Meed) survey conducted in 2007 showed that the vast majority of Gulf Business leaders were in favour of clamping down on unsustainable environmental practices with new legislation.  This first effort to ascertain business opinion on climate change in the GCC found that 99 per cent of respondents believed that businesses have an obligation to behave in a sustainable way whilst 84 per cent wanted to make it a legal requirement.

Even in the non-business community many people’s expectation on Islamic finance is of an alternative to the ‘dog-eat-dog’ style capitalism that has dominated the economic development of the world in recent decades.  This approach surely bears the brunt of responsibility for the damage caused to the environment.

Islamic environment funds and Shari’ah compliant financing mechanisms need to seriously consider supporting projects that are involved in carbon trading, bio-fuel ventures, solar and hydrogen power plants, waste incineration and re-cycling projects.  Such investments are the need of the coming hour and scholars should consider new and innovative approaches to addressing the issues.
Developments in technology also provide new and exciting opportunities for matching the dual goals of ensuring Shari’ah compatibility and environmental friendliness.  For example, the Swedish motor manufacturer, Volvo, has developed a series of low CO2 emission vehicles as well as engines that run on a hybrid mix of the bio-fuel ethanol and diesel.  These cars have the added option of a ‘Alcoguard’ that prevents the vehicle from starting if the driver is over the (alcohol) limit.

If Shari’ah finance simply becomes a parallel financing vehicle that allows investors to traverse along the same path as the rest of the industrialized world, with no consideration to the environmental impact, then its long-term creditability as a meaningful alternative will be seriously undermined amongst all communities.  Whilst bankers will always pursue returns and profits on their investments, a tunnel vision of this variety will only hasten a deterioration in the quality of life of future generations.  Moreover, it would not be in keeping with the sprit of the faith.  

A case in point, rain is said to be a blessing for mankind that rejuvenates the earth to make it fertile.  However, due to our unchecked pursuit of wealth and the consequent abuse of the natural resources that we have been blessed with, rain in many parts of the world has turned into ‘acid rain’ causing more damage than good. Thus, unchecked capitalism has turned a ‘blessing into a curse’

Source: Abu Dhabi News.Net, Himendra Mohan Kumar, Thomson Financial, M N Siddiqui, Meed

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