Islamic Finance gif T


he topic of the discussion in the workshop was what Is- lamic finance does and does not change, but this topic was kept vague so as to keep the choice of topics wide open for participants. This discre-


tion proved very useful. This paper looks at the angle of what I regard as a structure/ objective mismatch in Islamic finance. The term “Islamic finance” course signi- fies a wider meaning than just its banking constituent, but as that constituent is its most dominant and consequential part, the meaning term “Islamic finance” in this article is mostly restricted to banking.


The role of conventional (commercial) banks has traditionally been, and for the most part remains, the provision of short-term finance to trade industry and commerce. On the other hand, long run communal (Ummatic) goals -including promotion of growth, im- provement in distributional equity and the alleviation of poverty - initially formed the focal points of Islamic finance for resource allocation.


However, when entering the market Islamic banks adopted conventional organisational l. In retrospect, it can be seen that these forms are not suitable to serve the original Islamic finance objectives, as early pioneers of Islamic finance implied. Despite this, there were solid reasons behind the choice made by the early pioneers. For a long time, Mus- lims had been living with and dealing with commercial banks. Early writers on Islamic finance found certain elements of these operations unacceptable from an Islamic viewpoint: the use of interest as payment for loans advanced by these banks, or for deposits which the banks obtained. If the charging of interest was to be removed from commercial, they would be an obvious choice for the first institutions to attract at- tention as conforming to Islamic norms.


Traditional Islamic participa- tory finance– mudarabah and muskarakah - based on the sharing of profit and loss, could take the place of interest, it was thought, as the return on funds committed to business or paid to depositors. A Shari’ah-inspired ‘‘no risk no gain” philosophy was proposed, and soon was being promoted as the sole, inviolable and final principle for Islamic fi- nance. However, the proponents of this system failed to spot a vital point: structures erected to


meet short term ends rarely prove to be an ef- ficient method for achieving long term goals. All-important fact lies at the heart of much divergence in views on the convergence of the Islamic and mainstream financial sys- tems. On the one hand, there are those who argue that the convergence is imminent, though it might remain asymptotic. This dis- covery is, of course, nothing new: one could have easily seen imminent convergence as the logical consequence of the organisation- al forms chosen by Islamic financiers. On the other hand – and this is more interesting - there are those who stress that the scope for convergent evolution of the two systems is very limited, due to the narrow range of Islamic financial instruments, even if we ig- nore other obstacles.


It is easy to be elated by the fact that over the decades – especially during the past 10 years – Islamic finance has made great strides: the industry has experienced dra- matic growth and transformation. Its reach; coverage; risk diversification; development of regulatory frameworks; professional edu- cation programs, and international funds movement have all improved, and are accel- erating, within a rapidly globalised environ- ment. Opportunities for Islamic finance are increasing; challenges too. The total volume of Islamic assets held by Islamic and con- ventional banks together was expected to cross the USD one trillion mark in 2010; a comforting prospect.


But one must not be oblivious to the paral- lel provided by the growth of conventional finance, which has also been expanding at a pace at least as fast, if not more. The result is a conservative estimation of the ratio of shares of worldwide market assets between the two sectors at a consistent 1: 80. Islamic finance is still t no more than a candle facing the sun.


Moreover, the bulk of Islamic financial busi- ness is conducted by Islamic “windows,” or subsidiaries of the Western banks. Are the two sectors realistically comparable on any performance or achievement criteria. This imbalance can be traced back to the uni- directional dynamic at work in the conver- gence of Islamic and Western banks: so far, we have seen little impact of Islamic finance on its mainstream counterpart.


The ability of Islamic finance to change in the near future will be largely determined by the facts stated above. “Follow the leader” has been the general rule: Islamic finance has been sucked into the mainstream whirl- pool on the matters of product designing; rules and regulations; setting of standards; universal benchmarks; risk management, and rating procedures. In the course of time, however, this may change; Islamic finance may, hopefully, have some impact on the moral and ethical regulatory and social re- sponsibility aspects of the global financial architecture, for reasons which I will men- tion later.


Table 2: Oligarchic concentration of advisory positions in Islamic financial institutions


No. of advisory board positions


467 400 339 253


Total number of scolars


94 38 20 10


Occupancy per scholar (minimum)


2 4 6


15


Occupancy per scholar (mean)


5.0


10.5 16.9 25.3


Source: Constructed using data provided in the report “Top Shari’ah Scholars in GCC: Funds @Works”


U.S. Derivatives and Money supply and World Stocks and Bond (March 2009)


Particulars


Derivatives U.S. commercial banks World Stocks and Bonds World GDP


U.S. Money supply (M3)


U.S. Dollars (Trillion)


1140 120 60 16


Source: Compled from IMF and World Bank data Wikipedia, the free encycclopedia (27.1.2010)


Convergence: Its Nature and Consequences The term ‘‘convergence” has been increasingly used in the more re- cent literature on Islamic finance. Interestingly, most writing discuss- ing convergence emanates from the Wes; particularly, from econo- mists working within international financial institutions, the World Bank or the IMF. Despite much discussion, however, the nature and implications of convergence remain largely unexplained. In its literal meaning, the word conver- gence signifies the two objects from opposite directions moving together so that the gap between them becomes steadily narrower. If each objects approaches at the same speed, convergence would be rather; however, a form of con- vergence is still possible even if one object’s movement is ar- rested or delayed while the other moves. Differences, depicted in Figure One, between the two processes – bidirectional and unidirectional - may not have the same message or consequences.


2011 February Global Islamic Finance 23


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