Islamic banking is sitting on the horns of a double dilemma. Islamic financial institutions have to compete with conventional banks if they have to stay in contention and yet be compliant with Sharia principles while carrying on business.
On the other hand, due to their relatively smaller size and operations, Islamic banking products tend to become more costly, further limiting the scope. In fact, according to the latest numbers out in the market, the average return on equity of Sharia compliant financial institutions has fallen in comparison to the situation one year ago.
A bigger dilemma is that Islamic finance is in need of a paradigm shift if it has to remain genuinely compliant with the principles of Sharia and yet make money. Islamic finance has been mimicking most of the conventional finance products as there is constant pressure from shareholders as well as from the market for such products. But in practice, most of the times, this amounts to merely structuring of the products in a way that would make them appear compliant rather than genuinely following the tenets of ethical investing.
This invariably happens when the product modelled is based on money-making considerations alone, which is the case with most conventional financial products, while that is no basis for an Islamic equivalent to enter the market with. When a conventional product happens to set the benchmark in terms of return, the comparable Islamic product cannot afford to under perform, which necessitates a lot of camouflaging and structuring schemes. But the important issue is that an unethical income does not become justifiable just because it is called something else. This is where the structuring of some of the Islamic products still requires a lot of convincing. Interest or accrual by way of other unethical practices by any other name is just as bad.
Whenever a new Islamic product is introduced, the banks make it a point to emphasise that it has been approved by its Sharia advisory panel. But seldom is it explained how the product actually meets the compliance criteria as there is very little transparency in this respect.
On many occasions, the Sharia expert present while announcing the new product sounds simply unconvincing as the complex transactions cited for establishing compliance might sound good on paper, but would make little sense in terms of their practical implications. There may be several aspects of the suggested deals that do not confirm to the prevailing market realities.
New concepts, products
One hardly comes across instances in which products have been shot down by the Sharia advisory panels. The panels have an interest in pushing new concepts and products, because there is a commercial angle involved in every product introduction. There is also a commercial consideration involved in the consultation process and it is difficult to imagine that these considerations do not exert an influence on how a particular product is interpreted.
As it is, structuring is the key in determining whether a product is compliant or not. Sometimes, it takes the most ironical routes in making a transaction compliant. A most interesting case in this respect was the high profile acquisition of a leading British multinational wine and retail distribution business through one of the biggest landmark transactions in the region in the nineties. The transaction was completed with resources drawn from investors who strictly followed the principles of ethical investing. Thanks to the brilliant structuring of the deal, which involved a complex web of cross-investments, special purpose vehicles and innovative loan products, the original investors had no connection with the final deployment of the funds, although the transaction was for all practical purposes used to fund a patently non-compliant business. Of course, this was not an admittedly Sharia style deal, but the sources of funding were such that the business model under discussion could never have been supported.
Unfortunately, many of the so-called ‘compliant’ products in the market follow this kind of strategy and are, therefore, bound to fail on closer scrutiny, if greater transparency is allowed. It’s a different matter if the issue is of an yes or no proposition though.
The writer is a journalist based in Dubai