Forbes Special Report, etc.

Forbes released a Special Report on Islamic finance. Although the U.S. has not shown much interest in changing regulations to put Islamic finance on a level playing field with conventional finance, other countries like the U.K., Malaysia, Singapore, Japan, Dubai and Bahrain are vying to be the largest hubs of Islamic finance. The growth in Islamic investing is one area in which ethical investing has begun to grow out of being a niche market within the global financial system, although it is still small compared with the system as a whole. The growth, however, has come with challenges. One of the greatest is the shortage of Shari'ah scholars who know both the Shari'ah, financial services and with enough knowledge of English "to wade through hundreds of pages of a prospectus or legal documents".

Forbes also provides a historical analogy to the development of Islamic finance in the conventional finance market. This was the gradual move away from prohibitions of interest (usuria) in Catholicism. Although there is nothing that suggests that the prohibition of interest in Islamic finance will be circumvented, the historical analogy provides a warning against focusing on the form, rather than the spirit, of the prohibition of riba. The tension between the letter and spirit of Islamic law is the subject of a piece by Haider Ala Hamoudi, a professor at the University of Pittsburgh.

One of the areas in which the U.S. has seen significant growth in Islamic finance is in equity mutual funds, the subject of one article in Forbes.

Islamic banks in Pakistan report the need of short-term liquidity instruments, a need filled using short-term government bonds by conventional banks. The increased cost of products used by Islamic banks in the absence of liquidity management products may slow growth in demand because, as the CEO of Meezan Bank Irfan Siddiqui noted, people's demand for Islamic banking depends on the service and price, in addition to its Shari'ah-compliance. The government of Pakistan announced on April 25th that it has appointed manager of the first rupee-denominated government sukuk, expected to be Rs. 20 billion ($309 million).

The fifth Islamic bank in the U.K., Gatehouse Bank, is now open. The takaful industry, now at $3.5 billion, is expected to grow to $10 billion by 2012. Despite unsolved regulatory and tax issues, Indonesia plans to issue up to $2 billion in sovereign sukuk this year to finance the country's large budget deficit. Islamic finance, while still at an early stage, is growing in Canada. The Kuwaiti exchange will allow the selling of Islamic options on stocks using the controversial arboun structure. Although very little has been done in Islamic finance in France, the government is setting up two round tables to assess the feasibility of Islamic finance in France, in part to attract funds from the Middle East caused by the significant increase in the price of oil.

The requirement of compulsory zakat recently enacted in the UAE has attracted criticism from a notable Shari'ah scholar, Sheikh Hussein Hamed Hassan, who says it is an individual, not institutional requirement.

Rapid growth of Islamic finance accompanied by heterogeneity of interpretations, lack of standardization

A recent report on Islamic finance from Moody's says that while Islamic finance is growing rapidly, there is great heterogeneity between different Islamic financial institutions. This heterogeneity, Moody's believes, is not the result of fundamental differences in views about Islamic finance, but are focused on differences in interpretations of the Shari'ah-compliance of specific products. Standard & Poors believes the $50 billion mark for sukuk issuance will be crossed shortly and the $100 billion mark will be surpassed by the end of the decade.

Mohammed Daud Baker, a Shari'ah scholar from Malaysia, believes that Islamic finance should have greater standardization of products. He also commented in opposition to creating an Islamic 'gold standard'.

UAE law on Islamic finance, Singapore, Indonesia, South Korea moving into Islamic finance

The United Arab Emirates (UAE) has a new law regulating Islamic financial institutions, replacing a law passed in 1985. The country has seen the ratio of assets in Islamic financial instituions grow rapidly to 13.5 percent, which exceeds Malaysia's 12%. The announcement described the new law as creating a Shari'ah Council to supervise Islamic finance activities, but was unclear about whether this would replace the individual Shari'ah boards at Islamic financial institutions.

At the launch of the Chartered Institute for Management Accountants (CIMA) Islamic finance qualification, the Deputy Finance Minister of Malaysia pushed for standardization in Islamic financial products. Bahrain-based International Islamic Financial Market (IIFM) is nearing completion of a standardized commodity murabaha contract that will be acceptable in many jurisdictions. The commodity murabaha transaction has recently been criticized, but still represents a large share of the transactions occuring in Islamic finance. The IHI newsletter in February (PDF version) provided a discussion about this criticism.

Despite lacking significant local demand for Islamic financial products, Singapore is moving ahead in its goal of attracting Islamic finance to the city-state with the creation of a level-playing field for Islamic finance including in taxation. Because Islamic financial transactions currently use transfers of assets between issuers and special purpose vehicles (SPVs) used in the financing process, they are often tax-disadvantaged compared to conventional financial products.

Indonesia's parliament is expected to pass a law to allow the government to issue sukuk. Despite having the largest number of Muslims, Indonesia has lagged behind in Islamic finance.

The Yemen Times has an interesting article describing the basics of Islamic finance. Shari'ah-compliant investment in gold has been launched on the Dubai exchange. Pakistan will issue a domestic, rupee-denominated sukuk for $318 million soon. South Korean banks are preparing to enter the Islamic financial industry.

Sheikh Usmani's opinion on sukuk

Sheikh Yusuf deLorenzo, a prominent Shari’ah scholar, translated the opinion of Sheikh Taqi Usmani on the permissibility of many forms of sukuk into English. One form of sukuk that Sheikh Usmani focused was the requirement that the underlying assets be purchased at face value, not market value, and also that payments to the sukuk holders be linked to an interest rate. The main problem with linking sukuk returns to the interest rate is that the structure forced the manager of the enterprise to make an interest-free loan to investors if profits fell below the benchmark interest rate that would be repaid when profits were higher or at the time of asset repurchase. Sheikh Usmani believes that instead of benchmarking payments to investors and managers of sukuk-financed enterprises, these payments should vary based on the profitability of the business.

Sheikh Usmani also presents a very interesting perspective on the development of Islamic finance that resembles conventional finance. The goal of building Islamic banks created the (undesirable from a Shari’ah perspective) necessity that products be Shari’ah-compliant versions of conventional products. However, this was supposed to be temporary. Sheikh Usmani writes:

“It was expected that Islamic banks would progress in time to genuine operations based on the objectives of an Islamic economic system and that they would distance themselves, even step by step, from what resembled interest-based enterprises. What is happening at the present time, however, is the opposite. Islamic financial institutions have now begun competing to present themselves with all of the same characteristics of the conventional, interest-based marketplace, and to offer new products that march backwards towards interest-based enterprises rather than away from these.”

The future of Islamic finance, in Sheikh Usmani’s view, is to focus on differentiating Islamic finance from conventional finance. Many involved in the industry, although not necessarily those whose livelihoods depend on fees for engineering Shari’ah-compliant versions of conventional financial products, would agree with Sheikh Usmani when he says, “It is now incumbent upon these Islamic banks and financial institutions to cooperate among themselves for the purpose of developing authentic products that are far removed from empty stratagems, free from all association with riba, and that aim to serve the higher purposes of Islamic law in the spheres of economics, development, and social justice.”

Social responsibility and Islamic finance, subprime crisis impact on Islamic finance, retakaful

The Islamic equity fund industry is beginning to promote itself based on similarities with socially responsible investing. This is an overdue development because although many people, both Muslims and non-Muslims, understand how socially responsible investing works, many are unaware of how many similarities there are between socially responsible investing and Shari'ah-compliant investing. Both use negative screens to exclude companies operating in unethical industries and both exclude largely the same types of companies. Islamic screens exclude those producing alcohol, tobacco, weapons, pork, gambling and financial services. Socially responsible screens generally exclude alcohol, tobacco, weapons, meat processing , gambling, 'exploitative' financial services like payday lenders, and those companies with poor labor and environmental records. The similarities are so great because both are looking at a double bottom line: creating profits and avoiding social harm. Islamic finance has potential to grow in popularity among non-Muslims who are looking to invest ethically by the ethical underpinnings of Islamic finance, says the head of the Islamic Bank of Britain. Faith-based funds based on many different faiths are also attracting attention.

In the wake of the subprime debt crisis, more attention is paid to the benefits of Islamic finance that could have avoided the problems encountered by investors who weren't aware of what they were actually buying in the CDOs and CDSs they held. The Reuters article highlighted the additional transparency in Islamic financial products, as well as the protections provided by the prohibition of trading debt and speculation inherent in Islamic finance. One area in which protection could be provided is by the asset-backed nature of Islamic financial products. However, this should also provide some protection to many of the securitized products, the value of which have been written down to near zero, which were based on a very tangible asset, real estate.

The subprime crisis and the likely US recession have taken a toll on Islamic finance. Sukuk issuance in the first quarter was only $2.3 billion, less than one-half the level in the first quarter of 2007. However, the sukuk issuance in 2008 is expected to rebound and many of the sukuk have been delayed, not scrapped altogether. One forthcoming sukuk will be issued in Malaysia by the Islamic Development Bank. The controversy over the structure of ijara sukuk will continue when rules are debated at the International Islamic Finance Forum in Dubai.

The growth in the takaful industry is likely to produce growth in Islamic reinsurance, retakaful.