Opposition to Suez development plan circles on potential sukuk structures

Egypt’s government faces new opposition to its plan to develop the lands surrounding the Suez Canal, in part because the projects could use the land to issue sukuk.  Critics say that this would put the lands at risk of being taken by foreign investors in case of a default and the government has not provided sufficient clarity to refute these fears.  What is needed is a simple acknowledgement that any sukuk would be asset-based, which is likely not the message President Mursi wishes to communicate prior to an election.

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Egypt sukuk likely to be asset-based, not asset-backed

Egypt announced plans for sukuk in early 2014 in a recent bond offering document.  The description of how the sukuk would interact with standard clauses limiting secured bond issuance suggests that Egypt will eventually use an asset-based structure in contrast to talk earlier of the Egyptian government leading with an asset-backed issuance.  

Sukuk would provide a long-term source of financing in contrast to the shorter tenor offerings the government has used to finance the growing budget deficit since the revolution.  With an election near, it is unlikely this will change soon, but after the election the government will face pressure from investors to finalize an agreement with the IMF if it hopes to tap the longer-term markets with a sukuk.

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Corporate—not sovereign—sukuk will help Egypt’s economy the most

The Egyptian economy is paralyzed by the lack of an agreement with the IMF and the political power struggle over the sukuk bill is not helping anything.  Best scrap the sovereign sukuk law for now and focus on enabling companies to issue sukuk once the foreign exchange crisis ends.  

UPDATE (via @Reuters): "Egypt's top religious authority approves law to issue islamic bonds"

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Islamic agricultural finance can benefit many not served now by Islamic banks

Agricultural finance is a relatively small part of the Islamic finance industry, something that is not entirely surprising given the arid conditions and high and rising level of food imports of some countries where Islamic finance has the greatest level of assets (e.g. the GCC).  However, there are many areas where Islamic finance is growing—and where the Muslim population that could potentially be served by greater focus on agricultural financing is significant.  

In an earlier blog post, I cited statistics from a paper written by the CEO of Pakistan’s Small- & Medium-sized Enterprise Development Authority (SMEDA) showing that for Pakistan, 45% of the workforce was employed in agriculture generating 20.9% of the country’s GDP, yet Islamic financing provided to agricultural clients represent just 0.1% of total assets. Since I wrote that post, Pakistan’s Meezan Bank announced that it was launching several agricultural financing products.  

In two other countries, Shari’ah agricultural finance has been growing, and seems set to continue to grow.  In Egypt, the Principal Bank for Development and Agricultural Credit (PBDAC) is expanding the Islamic finance it can provide up to LE50 million ($7.5 million), potentially up to double that level in June, according to the head of Islamic transactions, Abdel Rahman Al Kafrawi, speaking to Reuters.  Al Kafrawi also said that, of the 5.8 million landowners, the availability of Islamic agriculture finance could increase the take up of financing from about 1 million now to 3 million, without specifying a time horizon.

Meanwhile in Afghanistan, a USAID-funded organization, the Agricultural Development Fund, says 70% of the $11 million in financing it provided through April 2012 was Shari’ah-compliant.  According to the Reuters article cited above, “the ADF [as of October 2012] had provided loans to more than 15,000 farm households in 30 of Afghanistan's 34 provinces; it says it expects to reach 60,000 farmers by the end of 2014.”

All three of these developments are positive, but developing Islamic finance for agriculture and making it available will not work in isolation in the absence of demand for Islamic agriculture financing.  Just providing financing will not make a sustainable contribution to growth, but it can help because the aversion to interest-based loans limits the demand for credit.        

    

“The Afghan government is using Islamic financial contracts to extend credit to farmers in areas where conventional banking has not fully satisfied demand for funds […]Demand for such [Islamic] financing has been particularly strong in rural communities because people there tend to be conservative”

“[PBDAC’s] chairman Muhsin Al Batran told reporters last September that the bank would expand its Islamic services since a considerable proportion of farmers declined to take conventional loans because of Islam's ban on interest.”

Any time there is a subset of people who refuse to use interest based loans, their demand for credit (unless there is Islamic financing available) will be almost perfectly inelastic—even when borrowing costs fall, demand for credit will not rise accordingly.  In the case of Afghanistan, it appears from the perspective of the ADF that the demand for Shari’ah-compliant financing compounds a general shortage of financing (whether conventional or Islamic).  

These factors—if the growth can continue and be done with proper risk management by the organizations to ensure that the non-performing loans stay at reasonable levels—should make Islamic agricultural financing more successful.  Besides developing new markets for Islamic banks (in particular), they will provide financing to areas of the economy in many countries employ a large proportion of the labor force relative to the share of its contribution to GDP.  However, if it is to be sustainable, there has to be proper regulation which is more likely to be present in Pakistan (where Islamic finance is relatively well developed) than in Egypt and Afghanistan (where Islamic banking is a relatively new development and the regulatory system may not be as well prepared to ensure the stability of banks offering Islamic finance products, particularly those products that do not mimic conventional loans in their risk profiles.  

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