DOES ISLAMIC FINANCE MATTER?

Much needs to be done for it to truly reach its potential.

THERE IS MUCH HYPE ABOUT Islamic finance and it’s potential. However, the truth is that it remains a niche player. Global Islamic finance assets were estimated at $1.66 trillion in 2013 by the recently issued “State of the Global Islamic Economy 2014-15” report – which also forecasts the potential universe of Islamic finance assets in its core market to touch $4.2 trillion in 2014.

However, despite the surge and purported popularity of Islamic finance, the industry is inconsequential in comparison to conventional finance. Islamic finance assets are heavily concentrated in the Middle East and Asia, and overwhelmingly in the Islamic banking sector.

Islamic banking assets ($1.0 trillion plus) are less than 1 per cent of global banking assets and even the optimistic potential levels for 2014 would be about 3 per cent of global commercial banking assets.

There is a long road ahead for Islamic finance to achieve mainstream status. It does distinguish itself from conventional finance with its strong ethical foundations.

Islamic finance is based on four guiding principles and building blocks: (a) risk sharing; (b) social justice; (c) ethical principles; (d) poverty alleviation. It expresses an intent to meet the financial needs of participants with integrity and in a manner that is just, fair, trustworthy and honest, while ensuring more equitable wealth distribution.

These Islamic principles uphold the principles of integrity, transparency, fairness and good corporate governance, helping curtail excessive risk taking. These ring true in a global context of growing inequality and lack of social justice.

The Great Financial Crisis has caused a fundamental loss of trust by the general public in the financial system. Reduced trust in the financial system has increased the cost and lowered the availability of capital for non-financial firms.

Surveys show that the public now has the least trust in bankers, regulators and politicians. The 2014 Edelman Trust Barometer shows that banks and financial services continue to be the least trusted industry globally, more deeply mistrusted than the media. Islamic finance should capitalise on this opportunity by highlighting its ethical standards and risk sharing principles.

THE POTENTIAL FOR ISLAMIC FINANCE

Why could Islamic finance become important? The world’s Muslim population is expected to rise from 1.7 billion in 2014 to 2.2 billion by 2030, according to the Pew Research Centre.

Additionally, by 2030, the median age in Muslim-majority countries is expected to be 30 while about 29 per cent of the global young population (15-29) is projected to be Muslim, promising a burgeoning middle class.

The economies that comprise the OIC region had a combined nominal GDP of $6.7 trillion last year and are estimated to grow at an average pace of 5.4 per cent during the 2015-19 period. With the demand for financial services typically growing faster than income as countries develop from low-income status, there is scope for fast growth of Islamic finance. But this merely an opportunity.