Islamic finance and its growing potential

By Norbaizurah Abdul Jabar

According to the Islamic Finance Development Report 2019, Islamic finance industry’s assets grew to US$2.5 trillion in 2018 from US$2.4 trillion in 2017.

Iran, Saudi Arabia and Malaysia were the largest markets of the 61 countries that reported Islamic financial assets, with all three recording more than US$500 billion in assets. 

This growth was slower than the previous years due to the sluggish economy caused by trade war and other ridiculous political feud.

Now, what is Islamic finance? The report stated a huge US$2.5 trillion assets but do we know why we have Islamic finance? 

Islamic finance is commonly known as Shariah compliant finance. It mirrors the conventional products but under Islamic finance, all documents and operations are fully Shariah compliant. It is also an alternative financing to conventional mainly for Muslims in avoidance to Riba businesses.

What is Riba anyways? Why do Muslims need to detach themselves completely from Riba and how does it work?

Riba is defined as ‘an addition to’ or ‘excess’ over the original price of the good or services. In the simplest term, riba is referred to as a benefit gained by a party without any consideration. Basically, the benefit gain is literally making money strictly from money.

Quran, the noblest book for Muslims, avoidance of riba has been mentioned multiple times in different verses. 

To understand Islamic finance, we need to see the difference between islamic and conventional products. Let us look at this scenario.

Abu wishes to take a housing loan of RM300,000. The purchase price of the house is RM300,000 and Abu has placed a 10% down payment which is equivalent to RM30,000. The balance of RM270,000 will be financed either via a housing loan provided by a conventional bank or an Islamic bank. Below are his findings:

Based on the rationale given by the conventional bank officer, the 8% rate imposed is to accommodate cost incurred by the bank in order to sustain its operations.

As for Islamic bank, the officer highlighted the following:

  1. Bank and customer will enter into a Musharakah Agreement (partnership) in which Abu and the bank both invest in the said property. The bank’s and Abu’s shareholding will be 90% and 10% respectively.
  2. The bank will then lease its 90% shareholding to Abu.
  3. Abu will then make monthly payments and with each payment, the bank’s shareholding will progressively reduce.
  4. At the end of financing tenure, the bank has no equity, thus Abu has complete ownership over the property.

The rental payment constitutes the amount borrowed (principal) and the 8% imposed represents the appreciation rate of a property over 30 years. At the end of the tenure, the Islamic bank will not be the owner of the property. In fact, throughout the 30 years, the Islamic bank will not enjoy any benefits nor gain from co-owning the property. Hence the reason for the rate imposed.

Now we keep saying so what? Islamic banking products are just mirroring conventional banking. How is it different, if both pricing are the same and interest is changed to profit just to cater for shariah compliance? 

Regardless of which Islamic bank Abu enters into a partnership with, ultimately Abu is still obliged to pay the repayment. So, while the means might be different, the outcome is still the same. 

Well, why don’t we take halal meat and non halal meat for instance. If we place halal and non halal meat side by side in a supermarket, which meat will the Muslims purchase? Naturally the halal (slaughtered) meat.

Will the taste of the meat be different? It will still taste the same. Just like the pricing of the Islamic Banking retail products, is it better than the conventional ones? Unlikely.

Interestingly, Dr. Shamsiah Mohamad, in her recent interview with Tijarah, stated that whilst conventional and Islamic banking might result in the same outcome in pricing, tenure and obligation, the main difference is that conventional banking provides a loan contract whilst Islamic banking has a sale contract with the obligor.

In Islam, if the contract is a loan contract, any pricing imposed above the principal is deemed as riba. Shamsiah currently sits on the Shariah Advisory Council (SAC) of the Securities Commission (SC) and Bank Negara Malaysia (BNM).

Shariah compliant financing is a must for Muslims. 

Lastly, going back to the example of halal and non-halal meat, whilst it is required that Muslims are only to consume halal meat and refrain from consuming non-halal meat, does this mean that non-Muslims are not allowed to consume halal meat? 

Of course not. Non-Muslims are allowed to consume halal meat just as they are allowed to utilise Islamic finance products. In fact, sukuk is the fastest growing Islamic finance instrument, with sovereign sukuk issuance issued by non-Muslim countries such as Hong Kong and United Kingdom. More on sukuk in my next article…

Norbaizurah Abdul Jabar is an Islamic Capital Market trainer from Masryef Management House, a licensed Shariah Advisory firm.

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