Factors Constricting The Growth Of Islamic Banking Finance Essay

Islam is non merely one of the greatest monotheistic faiths, meaning entry to the will of Allah, but as system of life in entireness. It prescribes a complete codification of behavior for every twenty-four hours human life in all its domains and manifestations

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Kotz ( 1978 ) says that the conventional Bankss and few households who control them have “ entree to other peoples ‘ capital ” . He points out that “ the wealthiest and most powerful capitalists operate through Bankss ” and that these Bankss are besides the major shareholders in and creditors of the largest non-financial corporations. Mishan ( 1971:205 ) observes “ aˆ¦ it would be irrational for the loaner to be willing to impart every bit much to the hard up as to the richer members of the society, or to impart the same sums on the same footings to each ” .

Galbraith ( 1975 ) justly points out that “ those who least need to borrow and those who are most favoured are in the planning system. Those who most rely on borrowed financess, or least favoured are in the market system ” .

Schmidt ( 1974 ) while showing his positions about the economic jobs of that clip said that “ The universe economic system has entered into a stage of extraordinary instability and its future class is perfectly unsure ” . The Holy Qur’an says that “ Mischief has appeared in the land and the sea, on history of work forces ‘s ain making. ” ( 30:41 ) . What the Holy Qur’an declared 1400 old ages ago, is every bit true even today.

Looking at the insufficiencies of the predominating economic system, in advancing existent economic wellbeing of the multitudes, Muslims all over the universe stared to re-discover the wisdom and balance of Islamic economic system. This led to a Renaissance, during the last few decennaries of economic idea and system as enunciated by Islam. The rush gained impulse with the find of oil and end point ballooning up of the national income of many Middle Eastern states. In the procedure, attending was focused on Islamic Economic System, Islamic banking and riddance of involvement ( riba ) in conformance with the injunctions contained in the Holy Qur’an and expressions of the Holy Prophet ( Peace be upon him )

Constrain factor to Islamic banking growing:

ISLAMIC banking industry has been seeking for the last over two decennaries to widen its outreach to convey it at least to the degree of conventional banking. But the absence of Shariah-compliant legal model – needed to do interest-free banking acceptable ( and make sound fiscal establishments ) – is the major snag behind its low incursion in the fiscal market.

It is the clip to take stock of challenges faced by the Islamic Bankss as they need a figure of back uping institutions/arrangements to execute maps which are being carried out by assorted fiscal establishments in the conventional model. Attempts should be made to modify the bing construction to supply better merchandises and quality service within the scope of Islamic Torahs.

Some of the most of import challenges confronting the Islamic banking industry are identified as follows.

Legal Support: Islamic jurisprudence offers its ain model for executing of commercial and fiscal contracts and minutess. However, commercial banking and company Torahs appropriate for execution of Islamic banking and fiscal contracts do non be. Muslim banking contracts are treated as purchasing and merchandising belongingss and hence are taxed twice.

The commercial, banking and company Torahs contain commissariats that are narrowly defined and forbid the range of Islamic banking activities within conventional bounds. It is necessary that particular Torahs for the debut and pattern of Islamic banking be put in topographic point. The legal model of Islamic banking and fundss might include the undermentioned:

a. Islamic banking tribunals: The disputed instances of the Islamic Bankss are capable to the same legal system and are dealt with the same tribunal and justice as the conventional one while the nature of the legal system of Islam is wholly different. To guarantee a proper, speedy and back uping Islamic legal system, amendments in bing Torahs, which are abhorrent to injunctions of Islam, are required to proclaim Shariah compliant jurisprudence for declaration of differences through particular tribunals.

B. Amendment of bing Torahs: Islamic banking has some sort of resemblance to universal banking, hence, Torahs and ordinances have to be amended consequently to suit this new construct such as subdivisions 7 ( signifiers of concern in which the banking company can prosecute ) and 9 ( prohibition of trade ) of the Banking Companies Ordinance 1962 while Muslim Bankss are large or sweeping bargainers in world.

c. Islamic banking jurisprudence: In the absence of Islamic banking Torahs, the enforcement of understandings in tribunals may necessitate excess attempts and costs. Therefore, banking and companies ‘ Torahs in several states require suited alterations to supply a flat playing field for Muslim Bankss. Furthermore, international credence of Islamic fiscal contracts requires them to be Shariah compatible every bit good as acceptable under the major legal governments such as Common jurisprudence and Civil jurisprudence systems.

d. Islamic banking balance sheet: Muslim Bankss do non demo assets financed through Ijara, Murabah etc. , on balance sheet because subdivision 7 of Banking Regulation 1962 does non let a bank to ain belongings or plus which subdivision 9 prohibits to come in into any sort of trade. However, all the assets owned by Muslim Bankss be mentioned in their balance sheets.

e. Monthly payment understanding: The lodging finance is executed on the footing of Decreasing Musharaka by the Islamic Bankss. Under this mode the house is jointly owned by the bank and the client. The bank rents out its portion to the client on Ijara footing. The Islamic bank while put to deathing Ijara with the partner/customer uses the term ‘Monthly Payment Agreement ‘ alternatively of holding the Ijara understanding with the client. It is so named as to safeguard the bank ‘s involvement in instance of refusal by the client to pay leases. No legal screen is provided to the Islamic bank to get the better of this hazard.

f. PLS sedimentations: Deposits in Muslim Bankss are normally based on rule of net income and loss ( Musharaka or Murabaha ) . If something happens and the bank suffers loss it has to be transferred to the depositor straight. This fright of loss is the biggest barrier to lodge mobilization in Islamic Bankss. In some instances, it leads to withdrawal of financess. The depositors should be provided with some sort of protection.


Islamic prudential ordinances: Supervision of Islamic Bankss is every bit of import. At present, deficiency of effectual prudential ordinance is one of the failings of the Islamic banking industry. For case, renting prudential ordinances are applied to Ijara where the nature of both is different, such as taking progresss. The bank is the proprietor in Ijara ; so taking progresss will render the contract of Ijara for transition into Musharakah whereas the regulations of Ijara are applied to it, which is illegal. And some of the Islamic Bankss are utilizing the term of security, hence doing the Ijara contract non-Shariah compliant as utilizing the deposited amount under the header of Ijara security ( ‘Rahn ‘ ) is nil but Riba which is purely prohibited by Islam.

Furthermore, Ijara funding is capable to compulsory insurance which is basically prohibited. Hazards: The nature of hazard in Islamic banking is different from those of conventional banking and hence some particular prudential, accounting and auditing criterions should be applied to them.

Benchmark: Taking the conventional involvement based benchmarks ( Kibor and so forth, ) as the base of pricing an Muslim fiscal merchandise puts Muslim Bankss at the clemency of their conventional equals. A negative perceptual experience is created among the patronage that there is no prudent difference in Islamic bank merchandises as these are besides utilizing the same involvement based benchmark. The mechanism for long-run funding could be devised on the footing of predominating leasing system adopted by the private landlords while leasing their assets/properties etc. Shariah based merchandise: All Islamic fiscal establishments offer the same basic merchandises, ( 90 per cent Murabaha and Ijarah ) but the job is that each establishment has its ain group of Islamic bookmans on the Shariah board to O.K. the merchandise. Consequently, the really same merchandise may hold different characteristics and will be capable to different sort of regulations in these establishments.

Lack of standard fiscal contracts and merchandises can be a cause of ambiguity and a beginning of difference and cost. In add-on, without a common apprehension on certain basic foundations, farther development of banking merchandises is hindered.

Nature of Islamic banking: Muslim Bankss are offering merely Murabaha and Ijarah while go forthing the nucleus and difference devising Islamic fiscal instruments such as Musharakah and Murabah. It is necessary to heighten and ease the execution of existent Islamic banking activities i.e. advancing hazard sharing through equity type installations on the plus side and net income sharing investing histories on the support side. Lender of last resort installation: Muslim Bankss are loath to come in into long-run minutess due the deficiency of handiness of settlement through secondary market. There is liquidity support in the signifier of loaner of last resort installation.

There is no proper mechanism of transparence and revelation to the populace in order to guarantee consumer protection as provided by Shariah. Islamic future exchange: In conventional system, long-run finance is provided through long-run bonds and equities. Apart from the general populace, the most of import beginning of these long-run investings are investing Bankss, common financess, insurance companies and pension financess. Muslim Bankss do non cover with involvement bearing bonds. Therefore, their demand for equity markets is much higher. On the top of it, the most of the merchandises in Muslim Bankss are based on goods and trade goods while monetary values and currency rates go up and down often, making a large hazard for them being bargainers in world particularly in the instance of Salam and Istisna’a. To fudge the hazard, they are in demand of derivative merchandises and accordingly of Future Exchanges.

How successful has Islamic Finance been, both in Islamic and non Islamic states?


Islamic finance is based on rules of sharia law, or “ Muslim jurisprudence. ” Major rules of sharia law are a prohibition on involvement, a prohibition on uncertainness, attachment to put on the line sharing and profit-sharing, publicity of ethical investings that enhance society, and asset-backing. The international market for Islamic finance has grown between 10 % to 15 % yearly in recent old ages. Islamic finance historically has been concentrated in the Persian Gulf states, but has expanded globally to both Muslim and non-Muslim states. There is a little but turning market for Islamic finance in the United States. Through international and domestic regulative organic structures, there has been attempt to standardise ordinances in Islamic finance across different states and fiscal establishments, although challenges remain.


Islamic finance was practiced preponderantly in the Muslim universe throughout the middle-ages, furthering trade and concern activities with the development of recognition. In Spain and the Mediterranean and Baltic provinces, Islamic merchandisers became indispensable jobbers for trading activities. In fact, many constructs, techniques, and instruments of Islamic finance were subsequently adopted by European moneymans and business communities. In contrast, the term “ Islamic fiscal system ” is comparatively new, looking merely in the mid-1980s. In fact, all the earlier mentions to commercial or mercantile activities conforming to Islamic rules were made under the umbrella of either “ interest-free ” or “ Muslim ” banking. The basic rule of Islamic banking is the prohibition of Riba or involvement, which has rarely been recognized as applicable beyond the Islamic universe, but many of its guiding rules have, consciously or unconsciously, been accepted. The bulk of these rules are based on simple morality and common sense, which formed the footing of many faiths, including Islam.


International Scope of Islamic Finance

Modern Islamic finance has existed internationally since the 1970s. Presently, Islamic finance represents a little but turning section of the planetary finance industry. Estimates vary of the entire size of assets held internationally under Islamic finance, runing upwards from $ 800 billion and with growing rates of 10 % to 15 % yearly over the past 10 old ages. The planetary market for Islamic bonds, known as sukuk,5 is estimated to be $ 70 billion presently and is projected to make $ 100 billion by 2010.6 Global issue of sukuk has increased more than five-fold from 2004 to 2009

Support for Islamic finance varies in the Middle East. In some states, such as Libya and Morocco, Islamic Bankss are considered by some to be tied to Islamic political parties and accordingly have been refused licences. Other states, including Jordan, Tunisia, and the Sudan, have been receptive to Islamic finance, sing Islamic fiscal merchandises as an chance for making capital and furthering economic development. Islamic finance is turning in Europe and North America, countries in which Muslims are in the minority. In August 2004, the United Kingdom ‘s Financial Services Authority ( FSA ) approved a banking licence for the Islamic Bank of Britain ( IBB ) , the state ‘s first Islamic bank. The IBB would function the consumer market with shariah-compliant merchandises. In March 2006 ; the FSA licensed the European Islamic Investment Bank as the United Kingdom ‘s first independent bank for shariah-compliant investings.

With an estimated five to seven million Muslims in the United States, there is turning involvement for Islamic finance and concern chances for loaners. Some have suggested Islamic finance may be an attractive option for investors as conventional finance faces challenges from the U.S. subprime loaning crisis and recession concerns. In the United States, SCF mostly exists in personal place mortgages. Guidance Residential ( Reston, Virginia ) reportedly has financed over 5,000 shariah-compliant mortgages since

2002.13 Other fiscal mediators that provide Islamic-based place mortgages include

University Islamic Financial ( Ann Arbor, Michigan ) , Devon Bank ( Chicago, Illinois ) , and American Finance House Lariba ( Pasadena, California ) . HSBC is the lone big commercial bank that offers U.S. Islamic finance and is focused on New York. 14 The Federal National Mortgage Association ( Fannie Mae ) and the Federal Home Mortgage Corporation ( Freddie Mac ) purchase shariah-compliant mortgage contracts from fiscal mediators, leting suppliers to arise farther mortgages. In 2007, Freddie Mac reportedly purchased more than $ 250 million in Islamic place loans, a little but noteworthy fraction of the endeavor ‘s $ 1.77 trillion in concern activities

Other signifiers of shariah-compliant services are offered in the United States every bit good. For case, Devon Bank and Zayan Finance offer SCF for commercial existent estate. Shariah-compliant common financess are offered by mediators such as the Amana Mutual Funds Trust, Azzad Funds, and the Dow Jones Islamic Fund.16 In 1999, the Dow Jones presented its first Islamic market index, which follows shariah-compliant stocks internationally. The Dow Jones maintains more than 70 indices in its Islamic series and is advised by an independent Shariah Supervisory Board advocate

International fiscal mediators besides provide SCF in the United States. Islamic investors from the states of the Gulf Cooperation Council ( GCC ) have sought to diversify their fiscal portfolios geographically and to put their oil wealth in U.S assets. For case, the Bahrain-based Arcapita Bank has structured many shariah biddable traffics in personal equity and existent estate in the United States.18 Additionally ; U.S.-based companies have taken advantage of alternate support beginnings through Islamic-financing abroad. Harmonizing to Standard & A ; Poor ‘s, Loehmann ‘s Holdings, Inc. and East Cameron Gas Company have issued rated shariah-compliant bonds.

Fiscal establishments seeking to offer shariah-compliant merchandises typically have a shariah supervisory board ( or at a lower limit, a shariah counsellor ) . The shariah board would reexamine and O.K. fiscal patterns and activities for conformity with Islamic rules. Such expertness raises the attraction of shariah-compliant fiscal mediators to investors sing SCF.20 Shariah is unfastened to reading and Islamic bookmans are non in complete conformity sing what constitutes SCF. Islamic finance Torahs and regulative patterns vary across states. The deficiency of coincident point of views makes it hard to standardise Islamic financing.21 many perceivers view standardisation of SCF ordinances as of import in increasing the marketablity and credence of Islamic merchandises.

International establishments have been established to advance international consistence in Islamic finance. For case, the Islamic Financial Services Boards ( IFSB ) puts forth criterions for supervising and regulation.22 As another illustration, the Accounting and Auditing Organization for Islamic Financial Institutions ( AAOIFI ) , issues international criterions on accounting, scrutinizing, and corporate governance.23 Many taking Islamic fiscal centres around the universe have adopted international SCF ordinance standards.24 U.S. federal banking regulators have provided some formal counsel about Islamic merchandises. The Office of the Comptroller of the Currency ( OCC ) issued two directives refering shariah-compliant mortgage merchandises. In 1997, the OCC issued counsel about ijara ( “ rental ” ) , a fiscal construction in which the fiscal intermediary purchases and later leases an plus to a consumer for a fee. In 1999, the OCC recognized murabaha ( “ cost-plus ” ) , under which the fiscal intermediary bargains an plus for a client with the apprehension that the client will purchase the plus back for a higher fee.


Islamic banking an surrogate to interest-based banking is non banking in the traditional sense of the word. It derives its inspiration and counsel from the spiritual edicts of Islam and has to carry on its operations purely in conformity with the directives of Shariah. Islamic fiscal system employed the construct of engagement in the endeavor, using the financess at hazard on a profit-and-loss-sharing footing. At present, there are more than 300 Muslim Banks and other fiscal establishments pull offing financess to the melody of $ 300 billion, with sedimentations transcending $ 120 billion and runing in 48 states. To avoid involvement, Islamic Banks have developed profit-sharing strategies in tapping and mobilisation their resources. Both Muslim Banks loaning policy and loaning rules are first-class tools for making and developing enterprisers. In relation to entrepreneurs, the position of the Islamic Bank is either of spouse or investor, whereas, for conventional Bankss the relationship is more of creditor-debtor. Entrepreneurs who maintain a relationship with Islamic Banks are expected to be more ethical and non be involved in concerns that are prohibited by the Islamic Torahs.


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