ISLAMIC BANKING AND FINANCE IN THE CONTEMPORARY WORLD

DISSERTATION


Shakeel Ahmad (shakeeluae@gmail.com)
Facilitator: Dr. H. K. Pradhan (pradhan@xlri.ac.in)

Executive Post Graduate Program (Ex-PGP) in Management
XLRI (http://www.xlri.ac.in), Dubai (http://www.xlri-dubai.net/)
Approved for submission: February 2004





Acknowledgements
I am grateful to Dr. H.K. Pradhan, my guide, for his continuous encouragement that enabled this study of a subject that had remained within my heart, since early ages. His teachings of International Financial Management provided insights beyond theoretical concepts, and his friendly style inspired the quest for excellence. I am thankful to XLRI, an institution that provided me with the opportunity to pursue this post graduate study in management, for which this dissertation project was undertaken.
I take this opportunity to express my sincerest gratitude to all the members of Islamic Banking and Finance Community (IBFnet) in the Yahoogroups mailing list. Islamic finance community has worked hard in providing a wealth of resources on the internet. They deserve appreciation and rewards from no less an entity than Allah SWT Himself.
Special thanks go to Dr. Obaidullah, the IBFnet’s founder. This dissertation work would not have been possible without the special help and encouragement from Dr. Shahid Ebrahim – it is difficult to express my special thanks for him, in a few words.
Finally, the time that I devoted on the Ex-PGP, and this project, was taken away from my family whose support acted not only as facilitator but also was a source of continuous inspiration.
Exploratory Channel:
Sequence Title Page
1 Introduction 3
2 Why Islamic Banking? 4
3 Islamic Banking and Finance (IFB) Sector, now 6
4 Why is Islamic Banking and Finance (IBF) creating ripples? 6
6 Literature Review 7
7 Islamic Banks 10
8 Brief History 11
9 Concepts behind Islamic Banking and Finance 13
10 Distinguishing Features 13
11 Role of Islamic Banks 14
12 Prohibition of Interest 14
13 Table-2: Comparison between Riba and Profit 15
14 Table-3: Differences between Islamic & Conventional Banking 16
15 Key Islamic Financial techniques/ Products 17
16 Box-1: Islamic Financial Instruments 19
17 Islamic Derivative Products 21
18 Advantages of Islamic Finance 21
19 Box-2: Landmark Islamic finance deal inked 23
20 Perceived Disadvantages of IBFs 24
21 Impediments to the growth of IBFs 24
22 Recommendations to counter Impediments to growth of IBFs 36
23 Latest Developments 38
24 Box-3: How Islamic is Bank Negara’s IIMM? 40
25 Islamic Bonds (Sukuk) Funds 41
26 Box-4: Conventional Investors find Islamic Bonds attractive 41
27 Box-5: US$250 Government Islamic Leasing Securities 42
28 Box- 6: Islamic Development Bank launches bond issue worth $400m 43
29 Box-7: Latest Trends & Challenges 45
30 Box-8: Bahrain: LMC to issue $1.2b bonds 46
31 Rating Agencies 48
32 Basel II Implications 49
33 Important Institutions 49
34 Conclusion 51
35 References 54
36 Appendix-A0: Estimation of TAI for UAE 59
37 APPENDIX-A: Competitiveness of Banking Sector In Case of Opening Local Markets to GCC Banks 59
38 APPENDIX-B: Islamic Financial Institutions in the World 61
39 APPENDIX-C: Islamic Equity Funds in the World
68
40 APPENDIX-D: The Dow Jones Islamic Market Indexes 72
41 APENDIX-E1: Assets, Deposits and Loans of 53 Conventional local Banks in GCC 73
42 APENDIX-E2: Assets, Deposits and Loans of 8 Islamic local Banks in GCC 74
Introduction: To start with graphics may not be a novel idea, but if you are associated in any way with promoting deposits or instruments of a conventional bank anywhere in the world, these graphics must already have left some alarm bells ringing in your mind. 32.83% CAGR in Deposits and 24.69% CAGR in total assets over a four-year period in a country which was written off the books of financial wizards and stock-market punters after the Asian Currency Crisis. In figure–1, the rapid rise can be seen not in one aspect but in all major aspects of banking and finance reinforcing the belief that the growth rate witnessed was an all encompassing one. The question that arises at this moment is whether this growth rate is sustainable. An answer to that would be premature without looking at the reasons behind this phenomenon, and whether the same success story is repeated anywhere else in the world.
We will try to answer some of the above questions, and also try to see if the growth in Islamic banking and finance sector could have been better. If yes, we will try to peep into the reasons behind less than expected growth.
Much has been written by historians about the feudal lords who by virtue of charging high interest rates controlled those in desperate need to finance their survival. Financial clout led to political clout and ended up in enslaving the masses. Before the historians touched upon this exploitation of the masses, religious scriptures had already warned of usurious acts existing in the society.
In the Old Testament (King James Version), Exodus, Chapter 22, verse 25:
If you lend money to any of my people that is poor by thee, thou shalt not be to him as an usurer, neither shalt thou lay upon him usury.
Leciticus, Chapter 25, verses 34-36:
And if thy brother be waxen poor, and fallen in decay by thee; then thou shalt relieve him: yea though he be a stranger, or a sojourner, that he may live with thee.
Take thou no usury of him, or increase: but fear thy God; that thy brother may live with thee.
Why Islamic Banking? The New Testament also contains edicts on the same line. Thus the very mention of usury and the suggestion to avoid indulging in this act in Judaism and Christianity implies its existence in ancient times and the ills that it carried along for the society.
Despite the warning against this practice, the system prospered. Modern financial system learnt a lesson from these religious warnings and tried to adopt a system that limited the extent of usurious exploitation to a great extent. By creating a market for debt, based upon ‘perfect competition’, it propounded an end to exploitative nature of usury and thus evolved the system of interest rates which was supposed to be determined by the market forces freely competing with each other. What we see today is an expansion of the ancient feudal system into a global arena with nations facing the same plight as did individuals earlier.
From the traditional Jewish lending system of the Shylocks to the Indian feudal system, there is no need to strain our memories much. What is definitely cause for stress is the false claim of the contemporary world order to have relieved the masses of this burden of debt. Figures 2a and 2b show how countries, instead of individuals, are getting trapped into slavery. There is no doubt that Debt to GDP ratio is a robust indicator of the Debt burden of countries. If we compare the ratios that triggered the 1980s Debt crisis with the levels being experienced, now, we can see that the situation is no better, and could be enough cause for the unipolar world of the day. Despite the claim that modern interest-based system is not exploitative or usurious, because the interest rates or debt-service payments are within limits, Figures 2c and 2d provide a different picture altogether.


The transition of the world from a multipolar world order to a unipolar one has not been without pain and suffering. It is not easy to emphatically pronounce that the cause for this has been the interest-based system, but nobody should doubt that the cause has been the financial system as a whole. Interest-based system is one component of the economic system where the concept of money itself, as a worthless piece of paper carrying immense power, may be ill-conceived.


Fig-3a and 3b: Interest rates and export prices in Latin America (1972-1986)
Source: Andres Bianchi et al., “Adjustment in Latin America, 1981-86,” in V. Corbo, M. Goldstein, and M. Khan, ed., Growth Oriented Adjustment Programs, Washington, D.C.: International Monetary Fund and The World Bank, 1987.
Similarly, the argument that low interest rates cannot cause countries to lose their sovereignty also does not hold much ground. The diagnosis of the Debt Crisis of early 80s suggests that even low interest rates (Figure-3a), acting as a trap (particularly when they are floating rate, as majority of debt was) could cause countries to come down to their knees. Flushed with funds, due to the sharp oil price increase in 1973-74 leading to booming deposits by Oil-rich countries, international commercial banks were eager to lend at lower interest rates enticing the third world to borrow more and more. The debt burden measured by Debt-to-GDP ratio (Fig-2b) is an indication of the inevitable crisis that was waiting to happen.
The urge to have a system that claims to provide a solution to such financial crises grows after every financial (monetary, exchange rate, stock market or Debt) crisis. It is not hard to understand that if the value of money carried its real worth, currency crises could be avoided. If the paper being traded in stock exchanges were actually trading at their genuine value, with no speculation, bubbles that occasionally burst would not exist. If the interest-free banking system could see the light of the day, no debt-crises would occur, as all the financing would be PLS (Profit-and-Loss Sharing arrangement of Islamic financial system). Islamic banking and finance based on the Islamic economic system must be taken seriously, therefore.
This paper looks into the realities associated with this system which is growing at a much faster pace than its counterpart, and is making its conventional competitors stand up and have a look. The success of the Islamic system can be gauged by the rush among the conventional banks to open their own ‘Islamic windows’ not just in countries dominated by Muslims but also in rest of the world. Some of the Western banks already having dedicated Islamic subsidiaries are: Citibank, HSBC, American Express, ABN Amro, BNP Paribas, Bank of America, Stantad Chartered, Commerzbank, Barclays, Deutche Bank, ANZ Grindlays, Golman Schs, Royal Bank of Canada, Pictet & Cie, UBS, Flemings, Merrill Lynch and Kleinwort Benson. And the list is growing. With countries like Pakistan, Sudan and Iran adopting 100% Islamic Banking, the prospects of more countries to follow suit rising, the conventional counterparts cannot sit back and see their market share being eaten away.
Islamic Banking and Finance (IFB) Sector, now: It is difficult to obtain exact figures on the size of the Islamic financial sector. Without doubt, it is small in comparison to the conventional financial sector but it is experiencing strong growth. Iqbal and Mirakhor (1999) report that Islamic banks grew from an asset base of $5 billion in 1985 to a level of over $100 billion in the late nineties. The chairman of Dubai Islamic Bank and Emirati Minister for Financial Affairs, Mohammad Khalfan bin Kharbash, recently noted that the number of Islamic banks has grown from 34 institutions in 1983 to 250 today, operating and managing assets of $200 billion (Phillips, 2001). The annual growth rate for Islamic financial institutions varies from 15 to 40 percent annually (Hamwi and Aylward, 1999). Yet, a comparison of the assets of all Islamic banks to HSBC, just one of the world's largest banks with assets of $569 billion in 1999 (Azzam, 2000), demonstrates how small the Islamic sector remains on the world banking stage.
Nevertheless, Islamic banking is spreading and gaining acceptance in both Muslim and non-Muslim countries. In 1999, the Middle East alone had 12 top-tiered Islamic banks with total capital of about $1.8 billion and assets of approximately $18 billion. Bosnia Bank International became operational in March 2001, positioned as a regional Islamic bank for the Balkan area, with wholesale and retail services in Bosnia (Carvalho, 2001). Many of the Islamic banks are gaining strength and achieving profits. For example, Al Rajhi Banking and Investment Corporation posted a net profit in 1997 of $347 million and return on capital of 25% (Hamwi and Aylward, 1999). Bank Al-Jazira, by far the smallest bank in the Saudi Islamic banking sector, grew profits by forty-one percent in 2000 (MEED, 2001).
Why is Islamic Banking and Finance (IBF) creating ripples?
Looking at the growth rates of IBF in comparison to the conventional banking, the reason may be obvious (Figure-4).

Malaysia being a pioneer in expansion of IFB products, our calculations for the CAGR for its leading bank BIMB (Bank Islamic Malaysia Berhard) between 1998 and 2002 yield the following results: Deposits grew at 32.4%, Investments at 39.3% and Total assets at 28.3%. It will be an impossible task for any conventional bank to match these figures during the period. For the sake of diversity in outlook, we compared the figures for two banks in UAE under the same ownership - National Bank of Abu Dhabi, a Conventional Bank and Abu Dhabi Islamic Bank, an Islamic bank. The results are even more astounding, as depicted in Figure-5.
None of the Islamic banks yielded any negative growth rates during the period under study while thirteen conventional banks in terms of Loans, seven in terms of Assets and eight in terms of Deposits reported negative CAGR. The data for all these banks are provided in Appendices-E1 and E2.
Table-1: Comparison of CAGR for 53 conventional and 8 Islamic banks in GCC
Average CAGR (1999-2001) Financing (Loans) Deposits Assets
Local Conventional Banks 7.3% 7.6% 9.5%
Local Islamic Banks 19.2% 21.4% 18.6%
Western banks and financial institutions, like Chase Manhattan, J.P. Morgan, Goldman Sachs, Commerzbank AG, Deutsche Bank AG, HSBC, Citicorp and Bankers Trust, have joined the race for providing Islamic products, but they currently exist in trade and other forms of short-term finance, mostly. Independent financial institutions based on Shari'ah are also becoming common for the Western banks and financial institutions. Citicorp’s Islamic banking unit in Bahrain established in 1996 is an example. Standard Chartered Bank Malaysia Bhd. is planning to extend its Islamic banking services to become a total money management and financial provider within two to three years (The Star, May 17, 2001). From less than 10 Islamic mutual funds a decade ago to over 90, now, according to a report by Wall (2001), is no mean achievement. High-tech fever has not caused Islamic financial Web sites to crop up and grow along with Islamic Finance.


Literature Review: The information on Islamic Banking & Finance is available in many forms, e.g., PhD dissertations (El-Bdour, 1984; Khan, 1983), books written by leading academics and practitioners (e.g. Homoud, 1985; Shirazi, 1990), published research in the form of reports (Ahmad, 1987; Iqbal and Mirakor, 1987) and journal articles (e.g. Erol and El-Bdour, 1989; Erol et al., 1990; Shook and Hassan, 1988; and Sudin et al., 1994). Because of Riba, Islamic banks have had to develop financial products which are not in conflict with the Sharia'h. The task has been achieved by creating a number of special financial products (Ali and Ali, 1994).
The main thrust of Islamic financial contracts is on profit and loss sharing, which can be deemed as equity (Musharakah) and hybrid (modified Mudharabah and Ijara) facilities (Ahmad, 1994). However, the risks of these vehicles are inherently higher than conventional ones as espoused by Ebrahim (1999). One definition of an Islamic Bank is a bank that, by its own choice, opts to comply with two sets of law: the law of the Land (Jurisdiction); and the Islamic Law (Shari'ah). This is why Islamic bankers have two types of legal counsel: traditional "lawyers" and "Shari'ah Councils" (Al-Bahar, 1996).
"Islam is deeply concerned with the problem of economic development, but treats this as an important part of a wider problem, that of total human development. The primary function of Islam is to guide human development on correct lines and in the right direction. It deals with all aspects of economic development but always in the framework of total human development and never in a form divorced from this perspective" (Al-Harran, 1993). The Shari'ah specifies, inter alia, rules that relate to the allocation of resources, property rights, production and consumption, and the distribution of income and wealth (Iqbal and Mirakhor, 1987).
Islamic banking advances the following set of beliefs: interest as a reward for saving does not have any basis as a moral foundation; abstinence from spending of present income does not deserve a financial reward; and to benefit from money is to transform the money into investments, conditioned to accept risks and bringing the knowledge of other factors of production together (Presley, 1988).
Rayner (1991) lays down four elements of a contract on a property (mal): they are lawfulness, existence, deliverability and precise determination. Ebrahim (1999) explains that profits on Murabahah facilities are generally higher than conventional loans because Islamic instruments are structured to share the risk of the asset or venture. Hence, the "profits" and "interest-charge" implied are similar in outcome, although not by design (Iqbal and Mirakhor, 1999; Rosly, 1999). Thomas (1995) is of the view that Riba, Gharar and Maysir manifested in the conventional system can wreak havoc in an economy as advanced as the USA, as depicted by the massive failures of US savings and loans institutions of the 1980s. Islamic banking aims to promote economic growth through risk-sharing instruments whose payoffs fluctuate with economic output and do not structurally impair the economy in the manner of excessive fixed-interest debt does in a poor economic environment such as a recession (Asquith et al., 1994; Andrade and Kaplan, 1998).
The potential of Islamic fixed income securities backed by an Ijara facility is discussed by Kahf (1997).
Islamic Derivatives: These comprise both Islamic Futures and Embedded Options in a contract. However, the development of it is largely unrealized (Khan, 1995). Ebrahim (2001) recommends to design, develop and implement Islamic hedging and risk minimizing facilities such as Islamic futures (Bai Al-Salam/Istisna), Islamic swaps, etc. (Iqbal, 1999). (Ebrahim, 2000) further recommends to design, develop and implement Islamic facilities that enhance the competitive ability of Islamic banks and reduce their risk exposure.
The excessive use of credit facilities by Islamic banks globally has drawn the ire of scholars such as Ahmad (1989) and El-Naggar (1994). Conventional futures are very controversial with the Ulema - religious scholars (Kamali, 1999). It should be noted that certain Ulema such as Justice Taqi Usamani have given their verdict allowing contracts with embedded options (Kahn, 1999).
Part of the study of Erol and El-Bdour (1989), conducted in Jordan, aimed at establishing the attitude of local people towards Islamic banking. The results suggest that religious motivation did not appear to play a primary role in bank selection; the opening of new branches was not an important factor in increasing the utilization of financial services provided by Islamic banks; while 39.4 per cent of respondents would withdraw their deposits if an Islamic bank did not generate sufficient profit to make a distribution in any one year, 30.4 per cent would retain their deposits because the Islamic bank could distribute a higher dividend the following year.
Gerrard & Cunningham’s (1997) study establishes that, in Singapore, which has a minority of Muslims in its population, both Muslims and non-Muslims are generally unaware of the culture of Islamic banking. Also the two separate groups have different attitudes towards the Islamic banking movement, with the degree of difference depending on the nature of the respective matter put to them. For example, when asked what they would do if an Islamic bank did not make sufficient profits to make a distribution in any one year, 62.1 per cent of Muslims said they would keep their deposits within the Islamic banking movement, while 66.5 per cent of non-Muslims said they would withdraw their deposits.
Much has been written since the early 1960s on the theme of the bank selection process (see, for example, the published articles of Anderson et al. (1976); Holstius and Kaynak (1995); Kaynak (1986); Kaynak et al. (1991); Laroche et al. (1986), and the working paper of Chan (1989)). Erol & El-Bdour (1989) and Erol et al. (1990) compared the bank selection process in relation to "conventional" and Islamic banks. Sudin et al. (1994) compared responses about the bank selection criteria of both Muslims and non-Muslims.
In addition to establishing attitudes towards Islamic banking, Erol and his co-researchers (1989 and 1990) sought to establish, then compare, the bank selection criteria of customers of conventional and Islamic banks in Jordan. Sudin et al. (1994), among other things, sought to establish the relative importance of certain bank selection criteria using a sample of Muslims and non-Muslims, none of whom had to be patronizing an Islamic bank at the time of the study. The three most important criteria in the bank selection process for Muslims were: first, "the provision of a fast and efficient service"; second, "the speed of transaction"; and third, "friendliness of bank personnel". As regards the non-Muslims, the three most important bank selection criteria were: first, "friendliness of bank personnel"; second, "the provision of a fast and efficient service"; and third, "the reputation and image of the bank".

ISLAMIC BANKS: An Islamic bank is an intermediary and trustee of other people’s money like any conventional bank with the possible difference that the payoff to all its depositors is a share in profit and loss in one form or the other. This difference introduces an element of mutuality in Islamic banking, making its depositors as customers with some ownership rights inherent within it. However, in practice, Islamic banks hardly look different from its conventional counterpart in terms of organisational set-up (Dar and Presley, 2000).
Islamic banking has been defined in a number of ways. General Secretariat of the OIC’s definition goes like this: “An Islamic bank is a financial institution whose status, rules and procedures expressly state its commitment to the principle of Islamic Shariah and to the banning of the receipt and payment of interest on any of its operations” (Ali & Sarkar-1995)
Unlike conventional banks, however, Islamic banks offer PLS accounts, among others, which do not guarantee a fixed certain return on investment deposits. This leads to a reluctance of deposit holders, who have no representation in the organisation, to use PLS accounts. The bank faces a similar problem on the assets side when it comes to investing on PLS.
The essential feature of Islamic banking is that it is interest-free. Although it is often claimed that there is more to Islamic banking, such as contributions towards a more equitable distribution of income and wealth, and increased equity participation in the economy (Chapra l982), it nevertheless derives its specific rationale from the fact that there is no place for the institution of interest in the Islamic order.
It is simply an accepted fact that there are sufficient Muslim investors and borrowers in both Islamic and non-Islamic countries to warrant the attention of traditional banks who seek to serve such clients and capture a potentially profitable slice of a still relatively untapped market. Just as interesting and useful for non-Islamic bankers are the lessons learned from the innovation and creativity applied in meeting Islamic criteria.
Some products are more Islamic and than others. The basic principle is that interest - usury or Riba used interchangeably - is prohibited on the principle of no pain no gain. What a "pure" Islamic banking seems to be structurally very similar to venture capital finance, non-recourse project finance or ordinary equity investment. The investor takes a share in the profits, if any, of the venture and is liable to lose his capital. It involves investing but not lending and therefore on a systemic basis is similar to the German, Japanese and Spanish banking systems rather than the British or American systems.
Just as in the process of converting interest into capital gains for tax purposes, early Islamic investors were content to enter into zero-coupon bonds or discounted Treasury bills and receive the interest foregone in the form of capital gains.
Beyond the question of interest or Riba lies an ethical issue. Islamic investments exclude tobacco, alcohol, gaming and other "undesirable" sectors. Islamic investors, by and large, are motivated in their choice of investments by much the same criteria as their Western ethical counterparts. The search for acceptable investments is balanced by natural risk-aversion. Islamic borrowers, on the other hand, also demonstrate a reluctance to give away a share in the profits of their enterprise. It is not therefore surprising that most of Islamic banking takes the form of one type of mark-up or other rather than profit-sharing.
An analysis of the products suggests that Islamic banking has six key features:
• free of interest,
• trade-related and there is a perceived "genuine" need for the funds,
• In its purest form, it is equity related,
• meant to avoid exploitation – no usury,
• invests ethically,
• there are retail and wholesale applications.
Under the current interpretation of the rules governing Islamic banking, Usury and Riba are regarded as synonymous. The prohibition is on interest and not just on usurious interest. In practice, there appears to be more emphasis on the prohibition and restructuring of interest than on the potentially exploitative aspect of financing.
Brief History: It is worth noting that there is nothing new or particularly Islamic or Christian about Usury or interest controls. In 24th century B. C. Manu established a rate ceiling of 24% in India. Later, Hammurabi, King of Babylon, authored laws around 19th B. C. established a cap on lending rates. On loans of grain, which were repayable in kind, the maximum rate of interest was limited to 33 1/3% per annum. On loans of silver, the maximum legal rate was 20% although it appears that in some cases rates of 25 per cent per annum were charged. The law remained for most of the next 12 centuries but as with any law "regulatory arbitrage" took place and was subsequently eliminated. Unfair practices also existed. For example, creditors were forbidden from calling a loan made to a farmer prior to harvest. If the crop failed due to weather conditions, all interest on the loan would be cancelled for that year. In the case of houses, due to the scarcity of wood, a door could be used as collateral and was considered to be separate from a house. The 6th century Greeks, through the laws of Solon, lifted all maximum limitations on the legal rate of interest a moneylender might charge. The temple at Delphi was the "City" or "Wall Street" of the Greek Empire lending money for interest regularly. Credit regulation was once again part of the legal code at the start of the Roman Empire. The legal limitation on interest was established at 8 1/3% per in the 5th century B.C. Julius Caesar’s attempts to control interest rates could well have been the real reason for his assassination since many the Roman senators were the main moneylenders. (This section is drawn from Edwardes-2000. The reader is also referred to Armstrong-1987, for more details).
Back to the present day, quite a few Western countries have Usury laws that prohibit excessive interest rates. The UK’s usury laws which prevented "excessive" interest were abolished in 1854. South Africa and the US still have usury laws. Usury results when a lender charges more than the legal amount of interest permitted in that geographical area. Usury percentage limits vary by state, in USA, and at least one state, Virginia, has no usury limit. Today most of the states have had their ability to limit interest rates curtailed by over-riding US Federal law. Higher than permissible rates have been regarded by US Federal banking authorities as penalty fees and insurance premiums. And the federal rate limits are high. (Refer to Edwardes-2000).
In some states there is no restriction on the rates used for lending to incorporated entities. The controls are often on lending to persons. The usury rate usually is variable depending on market rates. In September 1998 in North Dakota it was 10.556%. California has recently imposed strict consumer lending limits. But these only apply to state banks and not to national banks. The California Constitution allows parties to contract for interest on a loan primarily for personal, family or household purposes at a rate not exceeding 10% per annum (compound annual percentage rate). The allowable rate in California is 5% over the amount charged by the Federal Reserve Bank of San Francisco on advances to member banks on the 25th day of the month before the loan. The usury laws do not apply to any real estate broker if the loan is secured by real estate. This applies whether or not he or she is acting as a real estate broker. The limitations also do not apply to most lending institutions such as banks, credit unions, finance companies, pawn brokers, etc. State laws place limitations on some of these loans, but at a higher percentage rate than the usury laws listed above. (Refer to Edwardes-2000).
In the Old Testament (King James Version), Exodus, Chapter 22, verse 25:
If you lend money to any of my people that is poor by thee, thou shalt not be to him as an usurer, neither shalt thou lay upon him usury.
Leciticus, Chapter 25, verses 34-36:
And if thy brother be waxen poor, and fallen in decay by thee; then thou shalt relieve him: yea though he be a stranger, or a sojourner, that he may live with thee.
Take thou no usury of him, or increase: but fear thy God; that thy brother may live with thee.
THE New Testament also contains edicts on the same line. Thus we can see that Judaism and Christianity are no different in terms of prohibition of usury.

Chronology of recent historical events in the industry:
1963: Egypt interest free savings banks, not overtly Islamic - invested in trade and industry on the basis of share in profits.
1971: Egypt Nasr Social bank, still no overt reference to Islam.
1973: Conference of Islamic finance ministers.
1975: Islamic Development Bank, Jeddah, fee based and PLS, revolving capital.
1975: Dubai Islamic Bank, UAE, first Islamic Commercial Bank in the world.
1970’s: Faisal Islamic Bank of Sudan / Egypt; Bahrain Islamic Bank; Malaysia, Philippines, Nigeria, Indonesia; Islamic Finance House, Luxembourg; DMI Geneva; Al Rajhi London, Denmark, Australia, South Africa; HSBC Amanah Fund; ANZ First ANZ International Murabah Ltd., IBU of United Bank of Kuwait.
Time payment contracts such as retail installment contracts are not generally treated as loans and the usury laws normally do not apply to them. There are no limits on finance charges for the purchase of personal, family and household goods or services at this time. The maximum interest rate for car loans is almost 22%. Banks also treat interest charges for third party credit cards such as Visa, MasterCard and American Express as not being subject to Usury law limitations. (Refer to Edwardes-2000).
In transactions for the purchase of goods or services which are not for personal, family or household purposes, there are normally no limits to finance charges except those set by the parties. Limited liability companies and limited liability partnerships can no longer assert usury as a defence in civil recovery actions. The usury interest limit that applies to limited liability companies and limited partnerships has been raised from 30% per annum to 50% per annum to equate to the level that applies to corporations. (Refer to Edwardes-2000).
But there is a problem with usury laws as can be seen in South Africa. If there is a particularly risky investment and an interest rate limit, then banks will simply not lend. The poorest will find themselves deprived of financing, and under a free market there will be a shift to quality or to those that do not really need financing. Unless there is government imposed mandatory or tax driven lending to certain sectors or public opinion pressure, certain sectors or individuals deemed risky by the banks will simply not get the funding required. (Refer to Edwardes-2000).
The Concepts behind Islamic Banking and Finance:
Distinguishing Features: The economic doctrine of Islam is based on encouraging free markets, discouraging price controls and forbidding financial contracts based on riba, gharar and maysir.
Riba (Charging of Interest): Taking or paying of interest (riba) is prohibited by Shariah (Islamic law). The concept of riba extends beyond interest and usury, and volumes have been written by scholars to explain the concept. In simple terms, riba can be considered as exploitation of one party who owns a product (that includes money and capital) and which another party wishes to acquire. Although interest comes very close to this concept, it is still better to consider riba as “unfair exploitation”.
Ebrahim (1998) explains that “Riba is expounded by Ibn Qayyim & Al-Jawziyya (n.d.), another prominent Islamic scholar, to imply (i) any form of unfair trade, market manipulation or engaging a market participant to trade under duress (riba-al-fadl) and (ii) risk-free debt contracts (riba-al-nasi'ah). From a financial economist's perspective, riba-al-nasi'ah can be defined as a risk-free return from an investment vehicle or strategy.” (see also Chapra-1986, Rahman-1969, Saeed-1995, Thomas-1995).
Gharar (Uncertainty): The existence of uncertainty in a contract is prohibited because it requires the occurrence of an event which may not ultimately occur. “Full disclosure” by both parties is the norm in contractual relationships. Any type of transaction where the (i) subject matter, (ii) the price, or both are not determined and fixed in advance amounts to “uncertainty”. Thus hedging and dealing in derivatives is not allowed.
Maisir or Speculation: Speculation is equivalent to gambling, and therefore is prohibited. Derivative transactions like Options, Futures, Swaps and forward contracts (that insure profit) are considered un-Islamic. They are also considered un-Islamic because for most of them, rates are determined by interest differentials.
Zaka’h: A taxation system inherent in the Islamic system based on the principles of social justice and equity.
Implying social justice and general welfare: The basic principle is that everybody should be able to fulfill at least the basic needs.
Conforming to Shariah: The Quran and Hadith clearly specify the guidelines for individual, social, organizational, governmental behaviour, and thus become the basic pillar for any Islamic system, with the banking and financial system being no exception.
Qard-e-hasna (benevolent loan), or Qard Hassan: Qard-e-Hasna means an interest free loan and is the only type of loan permitted by the Shariah. The loans are made from the pooled donations of the members and are generally granted to those who are facing emergency personal crisis. This form of finance is very important part of Islamic financial system and all members are encouraged to become regular donors so that the fund may be strengthened for the benefit of all Muslim The guiding principle again is the social justice and general welfare. Some Islamic banks provide the privilege of interest free loans only to the holders of investment account with them. Some extend to all bank clients. Some restrict it to needy students and other economically weaker sections of the society. Yet some other Islamic banks provide interest free loans to small producers, farmers and entrepreneurs who are not qualified to get finance from other sources. The purpose of these loans is to help start them their independent economic life and thus to raise their incomes and standard of living. Banks usually charge a small fee (say, 1.5%) annually to cover their administrative costs, etc.
Profit and loss sharing (PLS): It is an alternative to interest-based transactions.
Risk sharing: No risk, no gain is the basis.
Prohibited Investments and Permissibility of Activities: Investments should only support Halal (permitted) activities. So, investments involving products like pork, alcohol, pornography, arms & ammunitions, Cinema, Tobacco, Conventional Financial Services and activities like gambling are prohibited.
Hoarding: Hoarding money is considered improper in Islam; money is merely a means of exchange and should not be treated as a commodity. Islam encourages Trade and Enterprise, which can generate wealth for the benefits of the community as a whole with PLS as its core.
Role of Islamic Banks: The role of Islamic banks becomes difficult compared to their conventional counterparts because of the basic principle that money is not supposed to earn interest. This eliminates a major role of the financial institution. So, what do they do? They invest in viable projects, with reliable borrowers. If the project succeeds, the banker shares in the profit, if it fails, he suffers the losses.
Prohibition of Interest: Prohibiting the receipt and payment of interest is the nucleus of the system, supported by other principles of Islamic doctrine advocating risk sharing, individuals' rights and duties, property rights, and the sanctity of contracts. Similarly, the Islamic financial system is not limited to banking, but covers capital formation, capital markets, and all types of financial intermediation. Since prohibition on transactions based on interest payments is the most important factor and is at the heart of the Islamic financial system, it will be unjust not to provide some light on it.
The basic philosophy underlying transaction of money is that the one who is offering his money to another person has to decide whether:
(a) He is lending money to him as a sympathetic act or,
(b) He is lending money to the borrower, so that his principal may be saved or,
(c) He is advancing his money to share the profits of the borrower.
Table-2: Comparison between Riba and Profit
Riba Profit
1. When money is “charged”, its imposed positive and definite result is Riba 1. When money is used in productive activity (e.g., in trading), its uncertain result is profit.
2. By definition, Riba is the premium paid by the borrower to the lender along with principal amount as a condition for the loan. 2. By definition, profit is the difference between the revenue from production and the cost of production.
3. Riba is prefixed, and hence there is no uncertainty on the part of either the givers or the takers of loans. 3. Even if a sharing ratio is agreed in advance, profit is still uncertain, as its amount is not known until the activity is completed.
4. Riba con not be negative, it can at best be very low or zero. 4. Profit can be positive, zero or even negative.
5. From Islamic Shariah point of view, it is Haram (prohibited). 5. From Islamic Shariah point of view, it is Halal (allowed).
Making Money from Money is not permissible - the basic points of difference between money and commodity are highlighted to justify this. Money (of the same denomination) is not held to be the subject matter of trade, like other commodities. Its use is restricted to its basic purpose i.e. to act as a medium of exchange and a measure of value.
If money is to be exchanged for money or it is borrowed, the payment on both sides must be equal, so that it is not used for trade in money itself. In short, money is treated as "potential" capital. It becomes actual capital only when it joins hands with other resources to undertake a productive activity. Islam recognizes the time value of money, but only when it acts as capital, not when it is "potential" capital.
Muslim scholars term interest as Riba. Under Shariah, Riba technically refers to the premium that must be paid by the borrower to the lender along with the principal amount as a condition for the loan or for an extension in its maturity (Chapra 1985, p.64). In other words, Riba is the predetermined return on the use of money. In the past there has been dispute about whether Riba refers to interest or usury, but there is now consensus among Muslim scholars that the term covers all forms of interest and not only “excessive” interest (Khan 1985, p.52).
The most important characteristic of Riba is that it is the positive and definite result of money when changed. In other words, when money begets money, without being exchanged for goods or services, or without indulging in any productive activity, it is called Riba. The basic characteristics of Riba are:
• It must be related to loan;
• A prefixed amount of money to be paid when due;
• A time is fixed for the repayment; and
• All these elements for repayment are taken as conditions for loan.
Since Interest or Riba has emerged as the basic alternative for Profit, a comparison is justified between the two (Table-2).
Table-3: Differences between Islamic & Conventional Banking:
Characteristics
Islamic Banking System
Conventional Banking System

Guiding principle
Guided by Quranic edicts, Hadeeth, Islamic ethics and Islamic laws.
Guided by profit motive alone, with no religious or ethical considerations.
Ethics of financing
Financing being asset-backed, and meant for productive use helps reduce the overall debt burden.
Debt burden arising out of excessive use of credit leads to bankruptcies, and waste of financial resources.

Liquidation Assets An Investment Account Holder will have similar rights as shareholders. Depositors are paid before the shareholders.
Involvement of risk & Equity financing
Equity financing is available to a project or venture that involves profit-and-loss sharing. Risk-sharing and profit sharing go together.
Commercial banks do not usually indulge in equity financing, only venture capital companies and investment banks do. Conventional banks carry much less risk, major part of the risks being transferred to the borrowers.

Return on Capital Depends on productivity, idle money cannot earn any return. Money is not capital per se, only potential capital . Even idle money in bank deposits earns returns.
Prohibition of Gharar (uncertainty)
The existence of uncertainty in a contract is prohibited because it requires the occurrence of an event which may not ultimately occur. “Full disclosure” by both parties is the norm in contracts. Derivatives trading e.g. options are considered as having elements of Gharar. Trading and dealing in derivatives are widely considered as the main source of liquidity in the conventional financial, commodity and capital markets.

Profit and Loss Sharing
Most transactions are based on this variable returns, dependent on lenders’ performance. Greater share of risks forces them to manage risks more professionally, to ensure better returns than conventional accounts. Depositors & investors have opportunity to earn higher returns than in conventional systems.
There is no relationship between bank performance and returns to the depositors or investors, who mostly enjoy a risk-free return. Conventional institutions mostly act as intermediaries between lenders & borrowers enjoying almost a risk-free spread.

Zakat It has become one of the functions of the Islamic banks to collect and distribute Zakat. Government Taxes perhaps serve the same purpose - mode and rate of charging are different, though.
Compounding or Interest on interest The Islamic banks have no provision to charge any extra money from the defaulters. It can charge additional money (compound rate of interest) in case of defaulters.
Money-Market Borrowing For the Islamic banks, it is comparatively difficult to borrow money from the money market. For commercial banks, borrowing from the money market is the main source of liquidity.
Developing expertise Since it shares profit and loss, the Islamic banks pay greater attention to developing project appraisal and evaluation systems. Since income from the advances is fixed, it gives little importance to developing expertise in project appraisal and evaluations.
Viability v/s credit-worthiness The Islamic banks, on the other hand, give greater emphasis on the viability of the projects. The conventional banks give greater emphasis on credit-worthiness of the clients.
Relationship with Clients The status of Islamic bank in relation to its clients is that of partners, investors and trader. The status of a conventional bank, in relation to its clients, is that of creditor and debtors.
Capital Guarantee No guarantee. Built into the system.
Deposit insurance None An integral component
Key Islamic Financial techniques: Islamic banking and financial institutions have developed a wide rage of techniques which allow them to uphold the religious and legal principles while enabling them, at the same time, to offer viable financial products. The search is actually still going on to find newer techniques, and for variations based upon the existing ones to offer more attractive and useful instruments for the investors. The following list covers many of them, but must not be considered as exhaustive:
Mudaraba (Participation or trust financing): It involves two parties, the managing trustee (Mudarib) and the beneficial owner (Rub-ul-Maal). Usually the investment account holders are the provider of funds, and the Islamic Banks are the managing partner (mudarib). The Islamic Financial Institution may either put up all the funds itself and undertake responsibility for investing in them, or alternately it can provide funds to a customer who then acts as Mudarib. The borrower retains a fixed percentage of profits, the Islamic Financial Institution’s reward is a fixed percentage in the balance of the revenue generated by the investments and the remainder goes to the investors. Underlying principle is ‘no-pain-no-gain’, i.e., no one is entitled to any addition to the principal sum if he does not share in the risks involved. Although profits are shared on a pre-agreed basis, losses are wholly suffered by the Rub-ul-Maal.
Musharaka (Equity Financing): It is quite similar to the Mudarabah contract. It involves financing through equity. Here the partners or shareholders for a Project use their capital through a Joint Venture, Limited Partnership to generate a profit. Profits or losses will be split between the shareholders according to some agreed pre-formula depending on the investment ratio.
Difference between Mudaraba and Musharaka Contracts: In a Mudaraba contract, the managing agent (beneficiary or the borrower, called the Mudarib) does not have any financial participation. In a Musharaka contract, the agent is a financial partner along with the provider of fund (Rubb-ul-Maal of Mudaraba contract) sharing the gain or loss at the pre-designated ratio which is likely to be higher than what he is likely to get in a Mudaraba contract. Thus, in Mudaraba, the agent acts as a working partner who does not bear any losses and simply manages the fund (the project in which the fund is invested), whereas in Musharaka, all the parties are shareholders in the venture.
Murabaha (Cost-plus financing): This technique is extensively used to facilitate trade financing activities of Islamic Financial Institutions. The Mudaraba and Musharaka transactions are often seen on the retail liability side of Islamic banks. The asset side whether retail or wholesale is quite risky. The most common such financial instrument is the 'mark-up' structure called Murabaha. It sounds quite similar to a "repo" agreement commonly used in the West.
In a Murabaha transaction, the bank finances the purchase of an asset by buying it on behalf of its client. The bank then adds a "mark-up" in its sale price to its client who pays for it on a deferred basis. The 'cost-plus' nature of Murabaha sounds very much like the interest into capital gains manipulations of tax-avoiders. Islamic banks are supposed to take a genuine commercial risk between the purchase of the asset from the seller and the sale of the asset to the person requiring the goods. The bank stands in between the buyer and the supplier and is liable if anything goes wrong. There is thus some form of guarantee with respect to the quality of the goods provided by the bank to the end user in the strict form of Murabaha. Title to the goods financed may pass to the bank's client at the outset or on deferred payment. From the perspective of modern finance, a Murabaha facility is equivalent to an asset-backed risky loan. If the capital markets are perfect and all agents in the economy have equal access to information, then competition between Islamic banks and conventional banks would result in Murabahah having the same expected return as that of conventional loans.
Baimuajjal (Deferred Payment Sales): The payments for this sale could be either in installments or a one-off deferred payment as per agreement between the parties at the time of the sale, and cannot include any charges for deferment. This is like as a Murabaha mode of investment with an exception that the sale under this cost-plus sale mode of investment is made on a credit basis rather than cash. It is deemed acceptable to charge higher prices for deferred payments. Such transactions are regarded as trades and not loans.
Ijara (Operating Lease): It involves leasing of machinery, equipment, buildings and other capital assets. The financier purchases the asset and leases it to the end-user for an agreed rental which may be fixed in advance or subject to occasional review by a mutually acceptable third party, e.g. an international firm of accountants. Insuring of the asset remains a contentious issue.
Ijara wa iqtina (Financial Lease): This is a leasing structure coupled with a right available to the lessee to purchase the asset at the end of the lease period (Bay’ al Wafa). The lessee agrees to make payments into an Islamic investment account (with right to all profits) to be used in or towards financing the ultimate purchase of the asset. The instrument has been used increasingly in a range of asset classes including ships, aircrafts, telecom equipment and power station turbines, etc.
Baisalam or Bai’ Salaf (Purchase with deferred delivery): It is a short-term commodity finance contract in which the buyer (usually of agricultural or manufactured products) pays the seller full negotiated price of a product that is promised for delivery at a later date. It has similarities with the forward contracts of conventional financial systems except that in Islamic instruments the rate of return is tied to each transaction rather than to a time dimension. Another difference lies in the fact that in Salam, the buyer pays the entire amount in cash, at the time of contract. Both the quality and quantity of the sold products are definitely specified in the contract. The counter-party risk in Al Salam is one-sided as it lies with the buyer alone (the IBF) unlike the forward contracts in which it affects both parties. Hence, it is expected that this risk will be priced one way unless a security is provided by the seller. This involves the bank paying for the producer's goods at a discount before they have been delivered or even made. Difference of opinion exists on whether the subject of Bai Salam transaction should be available in the market at the time of the contract or whether it is enough that the asset will be available at the date set in the contract for delivery. Difference of opinion also can be seen on the minimum time period between the date of contract and delivery of assets.
The party on the purchase side of the contract may sell the asset back to the party on the sale side of the contract or to a third party for a profit. The purchaser/ financier may also sell the assets by way of a parallel Bai Salam contract (a salam contract with a third party) to hedge the asset-risk or for profit.
The stipulation of full cash prepayment in Al Salam contracts is meant to facilitate working capital finance wherein the party on the buyer side is the IBF institution. Since full prepayment is involved, the price paid is lower than the future spot price of the goods in question unlike the futures or forward price which is always higher than the spot price. An important feature of Al salam contract is the underlying asset which must be standardizable, of determinate quality and easy to be quantified.
Istisna and Parallel Istisna: It involves a deferred delivery sale contract similar to salam. It is also similar to conventional work-in-progress financing of capital projects like construction. It is also used for trade finance such as pre-shipment export finance. In this contract, the seller ( Al Sani’), based upon an order from purchaser (Al Mustasni’), undertakes to manufacture or have manufactured/ acquired the subject item (Al Masnoo’) as per purchaser’s specifications. The price, payment structure and the date of delivery are fixed in advance. In parallel Istisna, the Al-Sani’ may enter into a second Istisna’ contract (subcontract) with a third party to manufacture the subject item unless Al Mustasni’ (ultimate purchaser) has stipulated in the contarct specifically for Al Sani’ to manufacture himself.
Similarity with Bai Salam contract: Sale of a product not available at the time of the deal.
Difference with Bai Salam contract: In Bai Salam, full price for the asset must be paid at the outset, whereas in Istisna, payment in full or in installments may be made at any agreed upon time (even beyond delivery date).
Similarity with Ijarah: In Istisna, al-sani’ may either provide the raw material or labour. The labour part is the similarity with Ijarah.
Arbun or Urboun (Pre-purchase of right to acquire asset): The purchaser makes a deposit (a down-payment, which may be a fraction of the price) for the purchase of an asset at a later date on the understanding that, should the sale of the assets not proceed (say, if the purchaser chooses not to proceed), the seller will be permitted to retain the deposit. Because of its similarity to an option, it has met with varying levels of approval from the schools of Islamic jurisprudence. A lot of work will be required to mould the instrument so as to remove any possibility of speculation ensuring total acceptability.
Khiyar al-shart: This is a sale contract concluded at the time of signing the agreement, but where one of the two parties to the contract has a right to cancel the sale within a stipulated time. Cancellation is not contingent upon any uncertain future event. For example, party A enters into a contract with party B to sell a given quantity of equity stock on an agreed price, today. Party A has the right to either confirm or rescind the contract by a certain time in the future (let’s term it as “maturity”). If Pmaturity > Pcontract, A may choose to rescind the contract and instead sell the stock in the market. The similarity of the exercise features of this contract with the conventional Put Option invites some controversy.
Al Bay Bithaman Ajil: BBA, popular in Malaysia, is a mark-up sale in which payments are delayed and made in equal installments. Theoretically, in the contract of BBA the bank sells the product (a house, equipment or machinery, etc.) to the customer at a mark-up price, whose content consists of the cost price plus a profit margin. The client may be allowed to settle payment by installments within a pre-agreed period, or as a lump sum. It is similar to a Murabaha contract, but with payment on a deferred basis. The BBA facility can also be utilised for refinancing of assets owned by the Customer, and the proceeds to be utilised for the Customer’s working capital.
Syndication: Islamic Financial Institutions are increasingly prepared to participate in large project financing, and are getting ready to compete with their conventional counterparts. The syndication works on the techniques discussed above, most popular being the Mudarabah contract modified to suit the technicalities.
Jo’alah: A party undertakes to pay another party a specified amount of money as a fee for rendering a specified service in accordance with the terms of the contract stipulated between the two parties. This mode usually applies to transactions such as consultations and professional services, fund placements, and trust services.
Certificates of sale: It has been suggested that consumers buying consumables on credit would issue 'certificates of sale' similar to letters of credit. These could be encashed by the seller at the bank at a discount. This seems very similar in structure to Baisalam.
Prizes and bonuses: Iran and Pakistan have both attempted to fully Islamise the entire banking. Iran converted to Islamic banking in August l983 with a three-year transition period. In Iran banks accept current and savings deposits without paying any return. The banks are permitted to offer bonuses and prizes on these deposits very similar to the UK’s premium bonds. This is apparently not regarded as gambling by the Iranian Islamic banking units.
No fee accounts: There is a substantial Muslim population in South Africa and they are serviced by two small Islamic banks. The main product being offered is the "no fee" current account which is also provided by the conventional banks by arrangement. Transaction charges are waived and interest is not paid on current accounts.
Gifts: Gifts to depositors are given entirely at the discretion of the Islamic banks on the basis of the minimum balance. These gifts may be monetary or non-monetary are based on the banks’ returns.
Non PLS Modes: Non-Profit-and-Loss Sharing Modes. They are used in cases where PLS modes cannot be implemented, e.g., in cases of small-scale borrowers or for consumption loans.
Qard Al Hasnah (Beneficence Loans): Zero return loans that Islam edicts for Muslims to make to the needy. Banks can only charge the borrowers a one-off service fee to cover the administrative expenses, but this fee cannot be related, by any means, to the loan amount or its maturity.
Islamic Derivative Products: Salam (Bai Al Salam), Urboun (Arbun) and Khiyar al-shart are the existing derivative products approved by some schools of Islamic jurisprudence. Dr. Kenneth Baldwin has suggested some Profit Rate Swaps that replicate the risk management capability of conventional interest rate swaps, using Sharia-compatible building blocks (existing and extensively used instruments).
It is generally assumed that the term "Islamic Derivatives" is a contradiction. The requirements of derivatives and rules of Shariah at first sight are diametrically opposed and all derivatives are therefore Haram. But it is important to recall the generalised definition we use of a financial derivative. It is simply a financial instrument that is derived from another financial instrument or a combination of such instruments. It is argued that as derivatives "unquestionably" involve interest or interest-based products they are contaminated and should be prohibited. Well, derivatives only involve interest if one or both parties using the derivative seek to hedge the derivative. It could be argued that Murabaha could involve interest if the parties seek to match the interest free but guaranteed return product with an interest-bearing equivalent. Islamic banking derivatives should be perfectly acceptable so long as they do not involve interest.
The literature contains hardly any serious criticism of the interest-free character of the operation, since this is taken for granted, although concerns have been expressed about the lack of adequate interest-free instruments. There is a near-consensus that Islamic banks can function well without interest. An International Monetary Fund (IMF) study by Iqbal and Mirakhor (l987) found Islamic banking to be a viable proposition that can result in efficient resource allocation.
Advantages of Islamic Finance:
 Efficient allocation of funds: Since allocation of funds by banks will be dependent upon the soundness of projects under the PLS arrangements, the allocation is more efficient.
 Productive use of capital: Banks are likely to know their fund users better in order to ensure that the funds are used for productive purposes. In this way, both the fund providers and the financial intermediary contribute to promoting productive economic activities and greater financial responsibility. Thus, IBFs would promote economic growth [Chapra (1998), Siddiqui (1983)]
 Similarly, since banks have no pressure of fixed regular payments on deposits, the efficiency of allocating resources to profitable and more productive use is further boosted.
 Equitable distribution of wealth: The efficiency in allocation leads to this, and creates additional wealth as well. Interest distribution is considered unjust and inequitable because it is not based on any productive use of capital, and it exploits the misfortune of the borrower (who has run out of money).
 Generation of employment: Productive use of capital implies investments and creation of jobs. The investment is not dependent upon the cost of capital (and positive NPVs) or time value of money, hence number of investible projects is likely to be much higher resulting in larger capital formation.
 Saving in information costs: Being a partner of the entrepreneur (or a firm), the financial institution has easier and cheaper access to information on matters relating to the firm. This may make credit rating agencies redundant, and lending more efficient.
 Saving in deposit insurance costs: Risk-sharing concept built into the IBF system, there will be no need for deposits to be insured.
 Reduction of debt burden: The IBF system of equity financing encourages debt to be swapped with equity which can help many developing countries get rid of the immense debt-burden. Instead of rescheduling of existing loans or selling Brady bonds at heavy discounts, which does not help relieve the pressure much, converting debt to equity promises a much more fruitful alternative.
 Promoting Ethical behaviour: Because of its strong emphasis on the ethical and moral dimensions of doing the business and selecting the activities/ commodities to be financed, the Islamic financing institutions could play an important role in promoting socially desirable investment and corporate behavior. In this context, it is worth mentioning that Islamic financing institutions are subject to Shariah (Islamic Law) regulations in addition to conforming to the conventional regulatory standards. This is further expected to ensure greater prudence and responsibility.
 Higher profits: Account holders under Islamic finance could expect higher profit from their investment as Islamic banks are required to share the entire net profit according to the agreed formula rather than just a portion of the profit, as is the conventional practice.
 Reduction in run-on-deposits: Banks using profit and loss sharing (PLS) to mobilize resources are less likely to face a sudden run on their deposits.
 More stable economic environment: The perspective of investments is long-term in comparison to short-term expectations of returns in conventional financial system – this may result in a more stable economic environment less dependent on business cycles.
 Less likelihood of flight of capital: Under Islamic finance, debt instruments that may be created through selling goods and services on credit are not readily tradable. This greatly eliminates the possibility of sudden mass movement of funds from one country to another.
 Reduction in speculative transactions: Examination of daily records of trading in financial markets vividly shows that institutional participants carry out huge speculative transactions. More often than not, such transactions are sources of instabilities. In contrast, Islamic banks and financial institutions are inherently prevented from carrying out such activities. As a result destabilizing speculations would be significantly curtailed in financial markets, although liquidity will remain with secondary market trading allowed in stocks or investment certificates.
 Reduction of inflationary pressures: Under Islamic economics the inflationary pressures would be reduced to a great extent, as over or under-supply of money with respect of supply of goods is not allowed (money directly linked to supply of goods in the economy).
 Reduction in unproductive use of borrowings: By eliminating unnecessary and excessive borrowing (borrowing beyond productive use), risk to lenders is reduced under PLS, as lending is directly related to project appraisals and feasibility.
 Automatic Shock-absorption: For banks involved in the equity-based system, Khan (1986) argues that the shocks to asset positions are immediately absorbed by changes in the values of shares held by depositors in the bank. This makes the real values of assets and liabilities of banks equal at all times, preventing banking crises. Nienhaus (1986) agrees with the argument.
 Guaranteed market of practicing Muslims. Islam being the fastest growing religion in the world further enhances the potential marketability of IBF instruments.
Perceived Disadvantages of IBFs:
 With PLS, the role of the bank undergoes a change from being an intermediary trader of money, earning profits from the margin between lending and borrowing, to being an investing partner. The role of an investment bank brings in added costs:
o Search cost resulting from the need to decide on the most profitable ventures. With an Islamic bank required to finance so many different kinds of businesses, acquiring skills in all of them may be immensely costly.
o Monitoring costs resulting from the need to prevent mishandling of the venture and fraudulent means (including creative accounting) adopted by borrowers/ partners are in addition to those involved in conventional financial system.
o Managing costs incurred because of its obligation as a partner in the PLS deals.
 Determination of mechanism for profit sharing in the short-term is difficult in a PLS system based on returns only from productive deployment of funds. In the absence of a standard mechanism for profit/ loss sharing (both for short-term as well as long-term), the possibility of exploitative contracts cannot be eliminated.
 Eliminating interest may reduce the propensity to save (with banks) or invest (considering the risk associated with returns), thus curtailing economic growth affecting employment (Pryor-1985), generation of wealth and its distribution. Of course, IBF proponents do not agree, as an opportunity for equitable sharing of wealth earned from productive activities could be enough stimulant for investors.
 Dispute settlement mechanism adds to the cost further, as the account put forward by the borrower (entrepreneur) may not be convincing enough for the banks or other investor partners. Fixed return of the conventional system has no such costs.
 A risk sharing proposition of IFBs and resulting absence of deposit insurance system leaves small investors in the risky avenues, particularly when the Islamic financial institution carries fraudulent intentions.
 Curtailing speculative activities in the secondary market would be extremely difficult resulting in the same risks and costs that the conventional financial systems carry.
 The mark-up system of most of the non-PLS schemes resembles the interest-based system to the extent of becoming indistinguishable, sometimes, and provides unscrupulous financiers opportunity to replicate the conventional system.
 Additional cost of supervision by the Sharia Board: Product development, its offering, agreements between counterparties, functioning of the IBF system, accounting, etc need to be Sharia compliant which needs certification by the Sharia Boards resulting in additional cost burden over the IBF Operators.
 Account holders under Islamic finance could expect higher profit from their investment as Islamic banks are required to share the entire net profit according to the agreed formula rather than just a portion of the profit, as is the conventional practice.
Impediments to the growth of IBF: The impediments are being discussed in this paper after grouping them in seven broad categories: (1) Social Impediments, (2) Economic Impediments, (3) Financial Impediments, (4) Structural Impediments, (5) Institutional Impediments, (6) Political Impediments, Technological Impediments, and (7) Religious Impediments.
1. Social Impediments: Humans are undoubtedly the most important resource endowment for any country. Their development is the key to the competitiveness of any nation in any sphere. Even in the field of IBF, it is the level of human development in the promoter nations that will ultimately steer the IBF into a competitive arena. The Human Developed Index (HDI) available with the Human Development Report brought out by United Nations Development Programme (UNDP) is a composite index that measures achievements of a country in three basic parameters of human development (HDR 2003). These are: (i) longevity measured by life expectancy at birth, (ii) knowledge, measured by a combination of the adult literacy rate and the combined primary, secondary, and tertiary gross enrolment ratio, and (iii) standard of living, measured by GDP per capita.
It is worthwhile, then, having a look (Figure-7) at the HDI of member nations of Organization of Islamic Countries (OIC), having some kind of IBF (as they are the promoters of IBF), in comparison with some of the world leaders (promoters of Conventional banking & financial system).
Accumulation of human capital is an indicator of endogenous growth and is often used in empirical growth models. In most regressions, this variable turns out with a positive coefficient (Barro, 1991). The highest ranked country among the Islamic countries, in terms of HDI, is Brunei with a rank of 31, the second highest being Bahrain at 37, both of them with so small a population that their impact on the development of as important a system as IBF is not expected to be large. However, in terms of developing a financial market (and related systems, also in terms of IBF) the maximum effort has been made by Bahrain after Malaysia (Countries with 100% Islamic Financial system in place, i.e., Iran was placed at 106, Sudan at 138 and Pakistan had a rank of 144 in HDR of 2003). The development in the area is not likely to bear much fruit unless the promoter countries of IBF take giant steps towards developing their most important infrastructure element, i.e. the Human Resources. The initial successes may remain at superficial levels, and sustainability of growth and the challenges posed to the conventional financial system may remain feeble otherwise. At the moment, it poses a significant impediment to the growth of IBF.
(a) Societal Impediments: The basic societal fabric builds the psyche of the masses. Coming out of this box, then, is not easy. After initial leadership over a long period, when the Islamic society ultimately lost its primacy to the Western world because of their consistent multi-dimensional development activities, it seems the members of the Islamic society also lost the motivation to win back. This has had a lasting impact on the society in all spheres that are cited next. Islamic Financial Institutions as part of this society have a strong barrier to scale, and along with its parent society has a backlog of many generations to clear.
Social alienation, particularly in the wake of 11th September, may detract non-Muslims even further away from anything Islamic, and act as a major source of impediment.
(b) Educational Impediments: Education is the backbone of any development, and is one of the most important reasons behind the lost glory of the Islamic society. The absence of Islamic Banking and Finance from the horizon, for centuries, is pointer enough towards lack of education and research. However, figure-8 provides the status of education in the Islamic World represented here by countries of the Organization of Islamic Countries (OIC) Countries that have IBFs in comparison with some of the world leaders.
In terms of Adult literacy and Education Index (a measure that provides a composite indicator of the level of education), all the countries in the OIC sample lag behind the world leaders. In terms of Public Expenditure on education reported as percentage of respective GDPs, Saudi Arabia’s figure is encouraging as it leads the sample in this respect (except Yemen, whose ratio could be misleading as the GDP figure is too small) but also increased from 6.5% in 1990 to 9.5% during 1998-2000 (data refers to the year during this period for which it was available) which shows its recent commitment towards educating its citizen. But the scenario in all other countries even in this respect is no different from what is projected by the Adult literacy or the Education Index.
The enrolment into educational institutions provides indication towards the future of education in a country. From the data available in the Human Development Report 2003 (HDR 2003) for 175 countries, we find that, among the OIC countries, only Guyana with 91% enrolment (although its overall HDI rank is a poor 92) was part of the top quartile of Combined primary, secondary and tertiary gross enrolment ratio, during the year 2000-01 compared with thirty (30) non-OIC members. The second quartile of ranks had twenty (20) OIC members while the third quartile had seventeen (17) and the last one had sixteen (16) of them. More than sixty-one percent (61%) OIC members fell in the lower half, compared with thirty-three percent (33%) of non-OIC members. The full list of 174 countries had 31% OIC members (54 numbers), whereas the lower half of the ranks, based on combined enrollment, had 45% of them. This presents a gloomy picture not only for the present but has repercussions for the foreseeable future. Only exponential growth in enrollments, now, can provide some hope of catching up with rest of the world.
(c) Psychological Impediments: Psychological mindset needs to change for those who have been using the conventional banks and FIs as well as those for those who have been abstaining from them due to their anti-usurious beliefs. This tantamounts to a paradigm shift that is not easy to happen in a short period and it requires a lot of concerted effort on all fronts. On the other hand, psychological pressure on the Islamic institutions, in general, from fundamentalist organizations is keeping a check on declaring innovations that they could launch otherwise.
2. Economic Impediments: Size of the economy is an important indicator of the kind of flow passing through the banking and financial channels that the IBF have to chase. Considering that home banking and financial institutions have a clear advantage over foreign institutions, GDP should be a good indicator for development of these institutions. Looking at the GDP of the IBF promoter countries (our sample of OIC having some type of IBF) vis-à-vis rest of the world provides some clue as to why it may be difficult to promote the IBF in the era of opening economy where they have to compete with the world players too. The GDP of all the sample Islamic countries put together was less than 17% of the GDP of USA. When we add Japanese GDP to the GDP of USA, the sample Islamic countries do not reach even 12%. What influence an economy like USA or Japan can have on the prosperity of a financial system can be seen from this fact. The chart (Figure-9) therefore excludes USA, Japan, Germany, UK, France, China and Italy the top seven nations (constituting of 68.75% of World GDP, the world being represented, here, by 170 nations included in the HDR 2003) so that the remaining figures could be comparable.
3. Financial Impediments:
a. Lack of active capital market: Equity is an excellent source of capital and organizations are likely to exhaust this source before exploring other means when planning to acquire, upgrade or produce technology to sell as a product. An absence of active capital market hinders technology intensive, high capital endeavors as well as any expansion of such projects. Since acquisition of technology is capital-intensive, the payback period for which is usually long, whereas bank borrowings seldom indulge in 100% financing or long-term financing, it is almost an impossible source for the start-ups, capital markets have proven to be the most successful and feasible means of financing.
b. Lack of active debt market: The absence of secondary debt market in UAE is also a serious handicap for the investing community. As a result, debt issues become illiquid and costly. There is no scope of long term debt financing and with bank financing catering to short term or medium term finance, it acts as a deterrence to technology intensive ventures. At the same time, bank finance is mostly suitable for Working Capital financing rather than Capital Expenditure funding that is required for Technology-intensive ventures.
c. Lack of Money Market: It is another major impediment leaving the market not just illiquid and costlier, but also leaves the government devoid of financing its expenses through a cheaper and liquid medium.
d. Supportive Institutions for Venture Capital Financing: The strongest form of Islamic financing being the PLS forms of Mudarabah and Musharakah, Venture Capital financing (VCF) should have been the strongest in the countries that promote the IBFs, but the reality is surprisingly different. VCF needs institutional support in terms of an active network of financiers, entrepreneurs, technology promoting institutions like Private and Government R&D laboratories, Universities, Stock Exchanges and regulatory framework, etc. A Silicon Valley type network of alliances is required which is largely absent in the OIC. Some efforts in the direction of establishing technology parks and business incubators have started in some countries, but they have a long way to go. For individual small economies it may take a lot of time to achieve the critical mass, a strong need therefore is for the association of countries like the GCC or ASEAN to pool their resources.
e. Lack of an active secondary market: Secondary markets are in the process of evolving and it will take time before they could really provide this market with the required liquidity. Secondary markets do not just become meeting points between the investors and the corporates, they become a benchmark for the health of the whole financial system.
f. Lack of Business incubators: Incubators connect talent, technology, capital and know-how to leverage entrepreneurial talent, accelerate the development of new knowledge-based businesses and thus speed up the commercialization of new knowledge and technology. Although the system has started in some countries like UAE, it will take time in shaping up to a stage where it could be of real use. There is a strong relationship between the financial institutions and the business incubators. Business incubators cannot grow without financial support and growth in the sector means a growth in demand for the financial sector. Hence a lack of this system, in the Islamic countries, is an impediment to the growth of IBF system.
4. Structural Impediments:
• Financial Engineering: The structuring of any new system that can pose real competition to an existing well-established system requires not just a robust structure to start with but a structure that supports innovation and continual improvement. Financial Engineering is an integral part of the financial service provider so that innovative products can be offered regularly to keep the depositors/ investors interest in the system alive. For a relative newcomer, with variants far less in number and the scope limited by restrictions by Sharia, Financial Engineering acquires all the more importance, more so because of the need to differentiate itself from the conventional products.
• Lack of Islamic credentials of the product: The products based on Sharia Committee of banks do not necessarily satisfy the psyche of the masses unless backed by religious edicts and logical reasoning. Currently, all products except those based on Mudaraba and Musharaka principles leave doubts in the minds of people who want Sharia-compliant products. The penetration would have been much faster had these doubts been cleared.
• The mark-up system of most of the non-PLS schemes resembles the interest-based system. As discussed above, if the stronger Islamic instruments based on PLS principles were dominant, the IBF system could attract more investors to its fold. The current scenario can be judged from the proportion of funds based on the two types of systems, namely PLS (stronger Islamic system) and the mark-up type systems (weaker Islamic system).
It is obvious from Fig-10a that the depositors’ preference is for PLS type deposits (ready to take larger risk, and choose stronger Islamic products) whereas the banks are more risk averse and prefer to indulge in Mark-up type financing, as can be seen from Fig-10b. The Bahrain market’s position is even more tilted towards the non-PLS schemes for deposits.
• Maturity mismatch: It can be seen from the maturity structure for the Bank Islam Malaysia Berhard (BIMB) that the maturities on the deposit side (Figure-11a) are totally different from the maturities of the financing side (Figure-11b). The situation of other IBFs in the world is not much different in terms of maturity-mismatch. This creates problems in the cash-flow matching, too. Deposits with maturity of more than one year being less than 1% is a clear sign of lack of investors’ confidence in the system. This may be as a result of other impediments under discussion.
• Unclear product proposition or processes: Competing with the conventional counterpart in marketing abilities is not easy for a relatively new entrant like IBF. Lack of skills that help in the matter is currently an impediment that can be removed only through learning which is path-dependent and will take time to set in.
• Additional risks: The PLS mode has its inherent risks similar to those of Venture Capital Financing or those faced by Equity financiers rather than the Debt financiers. In fact, PLS modes have in-built risk component wherein the financier has to share the risk of failure (loss) along with the entrepreneur (the borrower). Even the operational mode is more complex than the Conventional Debt financing, e.g., calculation of the share in profit and loss, feasibility and profitability studies of ventures being financed and their continuous monitoring and audit. Further, PLS modes of financing are not ted to collaterals, as do the conventional loans.
Even no-PLS modes have unique risks, e.g., the Salam or Bai Salaf contracts expose them to commodity risk in addition to the credit risk. Similarly, the Ijara contracts differ from conventional lease contracts in that the leased assets have to be carried on the Balance Sheet of the Bank which limits the transferability of substantial risks and rewards to the lessee. The Finance by IBFs are mostly backed by tangible assets whose market value may not be constant over time. This volatility is in addition to the normal depreciation of assets. Basel Committee’s recommendation for Capital Adequacy does not incorporate this volatility. Another example is that of the Displaced Commercial Risk which endangers the competitiveness of IBFs in the long run. It is the pressure on the IBFs to pay higher returns than that it is obliged to (as per agreed terms) in order to make its returns more lucrative than the market returns, this involves paying the investors from its own share of profits which actually belonged to the IBFs’ sharehlders.
Conventional financiers as well as the investors can use derivative instruments to hedge various types of risks to a great extent which is largely absent in IBF System, and this poses a major impediment to the growth of this system unless alternative comparable or better mechanisms are evolved. Lack of liquidity itself poses a major risk, both for the borrower as well as for the lender. For detailed insight into unique risks involved in Islamic Banking, the reader may refer Chapra & Khan (2000) and Hassan (2000).
• Financially weak institution offering the product: In a market with very high prospects for growth there is always a rush for every Tom, Dick and Harry to adopt a me-too strategy and entering without having a look at their own credentials. Islamic Financial Institutions are weaker, in general, compared to the Conventional ones, and the rush to launch a new institution to grab the fast buck exposes the weakness further. For weaker institutions, it becomes much more difficult to convince customers on the viability of their products and services. The need for Sharia Compliance makes the task even more difficult.
• Size of the IBFs: Most of the IBFs are extremely small in size compared with the multinational banks operating in their markets. All the IBF fund put together does not match the funds with Multinational banks like HSBC or Citibank. Size carries the power in the market, and smaller size of IBFs, at present, does prove to be a source of impediment in that respect.
5. Institutional Impediments:
(a) Absence of a uniform regulatory framework: It is still evolving in some areas whereas in some other areas it is entirely absent. For example, the oldest of such institutions, AAOIFI had come out with only 16 financial accounting standards in the ten years since its inception in 1991 [October issue of the quarterly “Islamic Banking Hub” of Bahrain reports ‘43 standards and statements’ having been issued]. Formation of such organizations is taking time mainly because of difficulty in developing consensus among Islamic nations, and also because of difficulty in making the regulations compatible with the conventional regulations.
(b) Lack of acceptance of existing Regulatory bodies: For example, even after twelve years of existence, the AAOIFI’s standards are mandatory only in Sudan, Bahrain and Jordan. Saudi Monetary Agency just ‘requests’ Saudi banks to seek guidance from the AAOIFI standards. Zaher and Hassan (2001) provide a comparative study on the salient features of Islamic Banking Supervisory Systems in 15 countries.
(c) Absence of an Islamic Financial Network free from ribawee dealings: Networks play a major role in encouraging a system to grow and sustain the growth over longer terms, in the absence of which the growth may be lumpy in nature. Mutual cooperation in the networks helps pooling of resources and optimizing their exploitation to gain competitive advantage. What is seen today in the IBF world is some pockets of excellence in countries like Malaysia and Bahrain with a few institutions like Islamic Development Bank (IDB) playing some inspiring roles, but to bridge the huge gap with respect to the competitors in the conventional sector, a lot more is required a lot more quickly.
(d) Absence of Islamic Central banks except in three countries (Pakistan, Sudan and Iran) that have converted their banking system to 100% Islamic. In other countries, even after twenty eight years of the modern Islamic Banking and Finance experience, dependence on the conventional systems of the Central banks is a good explanation why the growth in this sector with immense potential is not happening at the desired pace.
(e) Clash with the mainstream regulations, particularly in the non-Islamic nations. Some examples: (i) the treatment of Ijara as Lease instead of mortgage, (ii) imposition of taxes despite the zakat, as an integral part of Islamic system, having the same functionality – amounting to double taxation effectively, (iii) regulatory fees – double payment due to the requirement to meet dual regulations.
(f) Limited availability of risk management and analysis tools to hedge against volatility poses an additional burden for IBFs and results in maintaining higher levels of liquidity.
(g) Lack of trained personnel: With the number of educational institutions and training centres catering to the need of this rapidly growing segment being limited, non-availability of qualified personnel who can analyse and manage portfolios is a major impediment.
6. Political Impediments:
• Political pressure, in general, on Islamic institutions from the Western World, particularly in the wake of 11th September not only affects the system physically but it has an impact on the psyche. For, example, almost every financial transaction (particularly relating to an Islamic Institution) is being monitored. From UAE, no amount in excess of AED 2,500 can be repatriated without leaving a copy of identity which then goes into the system under scrutiny.
• Lack of economic, military and political prowess of countries sponsoring the Islamic Financial system, only adds to the other weaknesses of the system. Freezing of accounts by the super-powers at short notices, and arbitrarily, is only a symbolic threat to this institution.
A country’s environment conducive to investments boosts the growth of financial systems. An environment fraught with risks, on the contrary, impedes it. Many organizations try to capture countries’ environment to reflect this aspect. Freedom indices like “Index of Economic Freedom” developed by Heritage Foundation of USA, “Freedom in the World” by Freedom House (emphasis on Political and civil rights) of USA and “Economic Freedom of the World” by Frazer Institute of Canada capture the economic environment of countries. All of them point towards an overall lack of freedom in most of the OIC countries. Erb et. al. (1996) report country risk analysis being carried out by organizations like (a) Bank of America World Information Services, (b) Business Environment Risk Intelligence (BERI) S.A., (c) Control Risks Information Services (CRIS), (d) Economist Intelligence Unit (EIU), (e) Euromoney, (f) Institutional Investor, (g) Standard and Poor's Rating Group, (h) Political Risk Services: International Country Risk Guide (ICRG), (i) Political Risk Services: Coplin-O'Leary Rating System, (j) Moody's Investor Services. They provide ratings that try to capture ratings based on qualitative and quantitative information into a single index.
In the ICRG composite risk ratings for March 2003, the least risky OIC country (Brunei) was ranked six (6). The top twenty (20) least risky countries included only three OIC countries (Brunei, UAE and Kuwait) out of the forty-four (44) OIC countries for which ICRG provides country risk ratings. Top half had just fourteen (14) countries (32%) whereas the bottom half had thirty (30) countries (68%) of them.
Table-5: ICRG composite risk ratings for 44 OIC member countries (March 2003)
Top quartile 2nd quartile 3rd quartile Bottom quartile Total OIC countries
Numbers 6 8 15 15 44
Percentage 14% 18% 34% 34% 100%
The trend indicates that OIC member countries are considered as riskier than non-OIC countries for financial investments. This is also reflected in the incoming Foreign Direct Investment (FDI) in these countries, and suggests that the Governments and Institutions in these countries need to do a lot.
7. Technological Impediments: The Islamic world has not kept pace with the developments in rest of the world. Technology being the backbone of banking and financial system and the main driver of market power today, lagging behind in technology means backwardness in every sector of the economy. Various measures of Technological strength like Technological Achievement Index developed by UNDP is a composite index providing enough indication of the level of Technology in a country. The promoters of IBFs, Islamic countries, fall far behind the promoters of conventional financial system. Other indicators have developed by many other agencies and independent researchers point towards the same backwardness of the group.
Indicator of new technology diffusion has been considered as ICT (Information and Communications Technology) by many agencies including UNDP, as this is what has revolutionized the integration of the world into a global village speeding up innovations by pooling talents together. Figure-13 represents a comparison between the Islamic world with a few of the world leaders. The picture is not much different from what is seen with other indicators. Except for United Arab Emirates (UAE), we hardly see any potential competitors to the countries promoting conventional systems of banking and finance. The best performer in Telephone Mainlines per thousand people from the Islamic world is placed at 31st position with a value of 259. Similarly, in terms of Internet Users per thousand people, the highest place for an Islamic Country goes to UAE at the 19th position (315 users), next best is Malaysia at the 26th place (273 users); in terms of Cellular penetration per thousand people, the highest ranked Islamic country is UAE at the 24th place with 616 users, but the next best falls at 32nd position with 460 users. From the chart in Figure-13, we can see that almost half of the Islamic countries have no significant place. This, then, poses a significant impediment to the developments in the area of IBF in the modern world driven by ICT.
Technology Achievement Index (TAI), developed by United Nations Development Programme (UNDP), focuses on achievements of a country as a whole in the technological arena. The Index has been found to be relevant for the least developed countries to the same extent as for the most highly developed countries. The index is based upon the four elements: Technology creation: number of patents per capita and royalty/ license receipts per capita, Diffusion of recent innovation: internet users as percentage of population, Diffusion of old innovation: electricity and telephone consumption per capita (logged), Human skills: Mean years of schooling and gross enrolment in tertiary science and mathematics education (Desai-2001). Figure-14 compares OIC member countries for which the Index value is available (and UAE as per authors’ own calculations presented in the Appendix A0) with others.
Archibugi and Coco (2004) have developed a New Indicator of Technological Capabilities for Developed and Developing Countries (ArCo). This index is an improvement upon the TAI and UNIDO’s Industrial Performance Scoreboard. This index takes into account more variables associated with technological change. Similar to TAI, three main components considered are: (a) the creation of technology, (b) the technological infrastructures and (c) the development of human skills. Eight sub-categories have also been included. ArCo also allows for comparisons between countries over time. Figure-14 provides a comparison in this respect.
8. Religious Impediments: For a detailed treatise on the effect of religion on economic or development activities, the reader is referred to Noland (2003)
• Lack of consensus on issues: Developing a consensus on any religious matter has always been a difficult task. It becomes even more difficult when a matter as complex as the financial system comes up for discussion. Despite Quran being the most lucid religious book, creative minds tend to interpret the verses to their own benefit. Thus, just on the matter of interest there are many schools of thought, e.g., although the vast majority accepts that all forms of interest are un-Islamic and therefore prohibited, one group believes that only exploitative interest rates fall under the category of Riba, and prohibited (and what is the dividing line between the exploitative and the non-exploitative?), yet another group believes that despite the interest declared as un-Islamic, there is no need for a regulatory system to control dealings in interest and people should be free to follow whichever system suited them best, postponing God’s judgment for the Last Day (Khan-2000).
• Absence of a central religious body with universal appeal or control only exacerbates the matter. Some even argue that religion must not be mixed with the daily lives of people. But Islam does not distinguish between the two. Although religious faith cannot be forced upon people, clear guidelines and regulatory mechanisms would help those who wish to become a part of Islamic way of life.
• Divided House: Despite being the most promising religion capable of maintaining its structure through guaranteeing a non-modifiable holy book in the form of the Quran, the world of Islam is divided among sects some of which would like to oppose a proposal just for the sake of it. The flexibility in religious practices and the heterogeneity in the thought-patterns of groups could actually act as facilitator of innovation as can be witnessed in developments in Malaysia, Bahrain and UAE, but the same to diffuse to the rest of the Islamic world needs a change in paradigm that will need institutional support in limiting other impediments.
• Rise of fundamentalism: Despite the tenets of Islam being strongly based upon “tolerance”, and “peace”, the shift from a tolerant society to an intolerant one (whatever be the reasons) is diverting the attention of Muslim youth away from acquiring knowledge and making best use of it to prosper in all aspects of human life.
Recommendations to counter the impediments to the growth of IBFs: The recommendations obviously emerge from the above discussion on impediments. For the Islamic Financial System to exploit its competitive advantages for maximum benefits, it has to remove the impediments in its way. It must control the impact of those factors that are not directly under its control.
Educational: The foremost and urgent requirement is the advancement in the educational arena supported ably by research work in all areas that can enrich the level of education. It is important to understand that the people of the OIC region have different socio-cultural and religious orientations from those in the Western world. Therefore, simply adopting the Western system may not be so useful. In fact, there is a real threat of an increase in the level of confusion in the minds of the students if the available systems are not adjusted to suit their special needs.
The Western educational system has advanced so well that it cannot be dumped without jeopardizing the educational development of the young generation. Further, it is no use re-inventing the wheel all over again. Therefore, a framework that can properly adapt the Western system of education to the local needs of the region in every respect (language, socio-cultural and religious requirements, educational level of parents, pace of learning, etc.) is preferable. Development of a workable and sustainable infrastructure requires a lot of time, effort, investment and will power. Coordination between countries with similar cultural background, in this respect, and pooling of their resources will help speed up the process of building the required infrastructure related to research & development of educational media as well as related to actual imparting of education to the needy. These efforts have to consider education at all levels. The system has to be attractive enough for the students to reduce their dropout ratio at all levels. Since dropout ratio is also tied up with the state of economy, efforts towards making the region’s economy stronger are required. Thus, we can visualize the strong inter-relationship between various aspects that need attention, all at the same time, in order to provide a recipe for success. Figure-15 tries to capture this inter-relationship.
Societal and Psychological: The social fabric needs to undergo deep introspection to trace the reasons behind the declining value systems followed by concerted efforts to build them back to their original levels where they were so attractive to the outside world that societies as a whole adopted them voluntarily. This requires a deep-rooted support from institutions and government agencies. At the psychological level, the confusion in the minds of the modern youth craving for modern ways of life and at the same time seeking solace in the roots have to be cleared. Islam is the only religion that clears the air of confusion through an authentic institution in the form of Quran by clearly recommending Muslims to pursue the worldly pleasures without compromising with the religious value system. Guidelines cannot be any clear, which means that there is something wrong with the educational, political, and socio-cultural systems prevalent today. Thus, there is a need for thorough overhaul.
Economy: Economy is the backbone without which no system can stand on its own, and if it does seem to do so for a while, it cannot sustain for long. Therefore, there is a need for accelerating the growth in all spheres of economic activity, at a much faster pace than others, in order to overtake them soon. This needs efforts to come out of isolation, develop common markets among member countries, and make a combined effort towards capturing the global markets backed by competitive products manufactured indigenously. The countries will have to graduate from their trading paradigm to an all-encompassing capability-building paradigm. This needs cooperation at all levels for pooling of resources, but demands a lot of sacrifice from individual nations. Alternative options hardly exist.
Financial: There is an urgent need for an active capital market, an active debt market, an Islamic money market, Supportive Institutions for Venture Capital Financing and business incubators, an active secondary market for Islamic debt instruments and Sharia-compliant equities, etc. to bring dynamism into the Islamic Financial Sector. Dynamic Financial Engineering is the need of the hour for a nascent financial sector with great potentials. It needs a lot of effort towards the development of a research base supported by an innovative educational and training system. Islamic credentials of financial products must be established in order to gain acceptability and remove any confusion from the minds of those craving for ethical or Islamic products. Clarity in product propositioning and processes is vital in this respect. Survival of a banking or financial system is contingent upon controlling the maturity mismatch in Islamic debt portfolio. Mechanisms need to be devised to contain additional risks inherent in the Islamic Financial systems. This needs additional efforts from Financial Engineers to develop Sharia-compliant hedging instruments. It also requires much better coordination between Sharia Boards and Financial Engineers across borders.
Institutional: A uniform regulatory framework is an ideal proposition, but if complete uniformity is difficult to achieve in the short run, the existing regulatory frameworks must attempt to limit the mismatch to the minimum, and continue with their goal of having one such framework in the long run. This requires the coming together of not only the regulatory authorities but also the religious scholars on a common platform to sort out any differences that are natural to exist. These differences can be positively utilized to boost creativity and innovativeness. Lot of examples exist to take inspirations from. To start with, acceptance of existing Regulatory bodies is vital, and must be encouraged at all costs. A head-on clash with the mainstream regulations must be avoided, at least in the beginning, so that the Islamic financial instruments can be marketed in countries where there is little possibility of establishing an Islamic regulatory system in the near future.
The wings of institutions must spread to reach every nook and corner of the world which requires an Islamic Financial Network to be established. Pooling of resources together, and establishment of an Islamic Central bank with its branches in every country will enhance the pace of development in the Islamic financial arena, provide strength to match (and later, supersede) the conventional counterparts, and encourage others to join the bandwagon. Religious: The whole basis of this sector of financial system is based on religious edicts. Therefore, it is essential that consensus on issues related to Sharia is established. Since it is not an easy task for intellectuals to reach an absolute consensus on all issues, a working mechanism needs to be established to limit misunderstandings to the minimum and exploit the differences to generate creativity and innovativeness. A central religious body may sound like a distant dream today, but a Central Sharia Board to deliberate on matters related only to Islamic Finance should not be so difficult after all, particularly when the ultimate goal is the same, and the means to reach those goals (Quran and Hadeeth) are the same.
Finally, fundamentalism is the biggest enemy of anything Islamic. Although there is nothing wrong with the Islamic fundamentals, which are stronger than any other fundamentals, a lot of misunderstanding exists in the minds of not just the non-Muslims but also in the minds of Muslims. Lack of education is to blame. Islamic educational system is way behind other educational systems, and thus is unable to control the damage done to it by unscrupulous agents from within the community and beyond. It is not difficult for a religion whose fundamentals are built upon ‘peace’ and ‘patience’ to remove the tag of fundamentalism.
Political: All the recommendations are dependent upon governmental and institutional support, which makes it extremely important to have a political system that is conducive to development of Islamic Financial system.
Technological: There is no doubt in any mind that technology is an essential tool to gain competitive advantage in the modern world. It is an excellent medium to build capabilities and core competencies. Hence efforts are required not just towards use of latest technologies but also towards developing, on its own, compatible technologies and continuously upgrading them to keep ahead of the conventional counterparts. This needs emphasis on research & development activities and establishment of an infrastructure (soft as well as hard) base. Technology parks and establishment of a NASDAQ type stock exchange may not seem to be direct enablers for this purpose, but they would act as catalysts, and provide ingredients for long-term competitiveness.
Latest Developments: Bahrain Monetary Authority (BMA)’s efforts in establishing Bahrain as a hub of Islamic Banking, the future support from the planned Bahrain Financial Harbour and the launch of Dubai International Financial Centre – launched to coincide with Dubai 2003 (IMF/ World Bank Board of Governors Meet – September 2003), the improved regulatory controls promised by IIFM, IIRA and IFSB are certainly important developments in the recent past. Challenges of developing and sustaining the market for Islamic finance is no easy task, and concerted efforts from many sides are required.
The success of Dubai 2003 and the concurrent International Islamic Finance Forum, have been an exceptionally large morale booster for the Islamic Financial Community. The Forum marked coming together of the Institute for International Research (IIR), Dow Jones Indexes, the Saudi Economic & Development Company (SEDCO), iHilal Financial Services, Dubai Islamic Bank, Shariah Funds Inc. - a division of US-based Meyer Capital Partners, Oasis Global Management Company of Guernsey and South Africa and International Brunei Exchange, etc. Networks and alliances will decide the future of IBFs in a world where the conventional financial system is quite well entrenched.
Some of the latest developments are briefly discussed hereunder:
(i) Commodity Murabaha (Short-term Inter-bank deposit or placement): “Islamic Banking & Finance in the Kingdom of Bahrain”, a publication of the Bahrain Monetary Agency (BMA) provides the structure of Commodity Murababha contract in the Figure-16:
The process of Commodity Murabaha involves a Conventioanal Bank as a commission agent whose payment to Broker A on the Value Date includes interest for the period between the buying of Commodity and the deferred paymnet date (Value Date). The commodity provides the asset backing for the short-term inter-bank deal between the Islamic Bank and the Conventional Bank. The deal between the two banks involves the Murabaha mark-up only, and therefore accepted as Islamic. But, the deal does promote payment of interest between the commodity broker and the conventional bank which raises questions about the validity of Islamic spirit in the contract. But, Bahraini banks have utilised this innovation extensively ‘to bridge the liquidity gap’.
(ii) Islamic Credit Cards: Dubai Islamic Bank Visa card provides credit facilities and all the benefits of a normal credit card without any interest charges. So do other Islamic banks. This is one sector where it was difficult to imagine how the concept of interest-free credit could succeed. But, it gives us a picture of the level of convergence that is taking place. For a detailed discussion on these credit cards, the reader is referred to Darwish (2003).
(iii) Islamic Interbank Money Market (IIMM): Islamic Interbank Money Market (IIMM) has been operative in Malaysia since October 1998. Liquid money market is an important issue in the Islamic Financial system. The main concern of financial experts is how to improve liquidity in the Islamic financial markets with the Islamic concept of money as not being able to generate any income on its own. Money has to be associated with goods or service to generate income. Making Money from Money is not permissible – that is the basic difference between money and commodity. Money (of the same denomination) is not held to be the subject matter of trade, like other commodities. It can only be used as a medium of exchange and a measure of value.
If money is to be exchanged for money or it is borrowed, the payment on both sides must be equal, so that it is not used for trade in money itself. Money is just "potential capital”; to become real capital it must associate with other resources and undertake a productive activity. Islam recognizes the time value of money, but only when it acts as capital, not when it is "potential capital”.
For the conventional banking system, the inter-bank money market serves as an efficient means to transform excess money into income by short-term placements or overnight lending. With modern technology assisting such activities almost eliminating geographical barriers, transaction time and costs, this trade has been on the rise helping achieve great deal of liquidity in the money market. Interest-based system through inter-bank deals not only helps tackle the asset-liability mismatch but also allows generation of income out of it.
The Islamic banking system needs to tag some productive activity to every transaction which becomes an impossible task particularly for overnight trades. This means that Islamic banks have no motivation to deal in such trades making the money market highly illiquid. Although regulations can force a bank to part with its excess money to help another bank in need of cash without charging any interest on it. The Central banks can play an important role in this respect.
Bank Negara Malaysia allows Malaysian Islamic banks to participate in the interbank money market in order to prevent illiquidity. It also participates in open market operations to stabilize the market. A recent mechanism introduced for accepting “Islamic interbank deposits under the liquidity management operations based on the Islamic concept” is termed as “Wadiah Yad Dhamanah (Guaranteed custody). Under this concept, the Islamic banking institutions will offer to deposit their excess funds with the Central Bank over a period of time, as agreed between both parties. As a custodian to the deposits, the Bank is not under obligation to promise any return to the depositors. However, based on the Central Bank’s discretion, a sum amount of money may be paid as hibah (gift) to the depositors on the maturity date.” The total volume of Islamic money market instruments traded in the IIMM reached RM32.7 billion in the year 2002.
(iv) Islamic Bonds (Sukuk) Funds: The Islamic Bond market is becoming vibrant with successful large issues at international levels by Malaysia, UAE, Bahrain and IDB. Fig-4, showing growth of Malaysian Islamic Bond Market, provides us with a glimpse of growing Islamic bonds market. Recently, there has been a flurry of Bond issues by Islamic Financial Institutions, led by Bahrain and Malaysia. The news clip in Box-8 gives us an idea about the sincerity of the Bahraini Institutions in developing the primary as well as secondary Bond market. The biggest challenge for the bond market, of course, is acceptability of the fixed nature of return on these bonds by the Islamic scholars. The rental return on the Islamic leasing bonds (Ijara sukuk) is 60 basis points over the LIBOR for six months. Finding it difficult to understand how this bond was any different from a conventional bond, and whether this could be called an Islamic Bond at all, I posed the question to Islamic Financial Scholars on ibfnet@yahoogroups.com. [the most successful virtual discussion forum related to Islamic principles and the IBFs, launched by Dr. Obaidullah of XIM, Bhubneshawar]. Numerous responses came to the author including one from Dr. M Shahid Ebrahim (four of his papers are cited in this dissertation). They tried to convince us that the bond does not lose its Islamic character just because it is pegged to the LIBOR. But why LIBOR? Simply because, they do not have an alternative. It will take time, but the growth rate of innovations is encouraging. The only fear is whether we are proceeding on the right path, or are we straying towards the path followed by our cousins, and falling into a trap?
A general belief among the Islamic financiers is that any benchmark can be used, in calculating profit or rent, so that compliance with Shari'a principles is indicated. They think that as long as the document does not explicitly indicate that the profit or rent is LIBOR but only the benchmark for calculations is LIBOR, nobody would object. But, it will be too naïve a belief, as for many of us it is difficult to see a real financial difference between the conventional and Islamic financing when the actual amount paid by a customer under an Islamic financing has a link to LIBOR.
Structure of Sukooks in Bahrain:
(a) Al Salam Sukook (Figure-17): These Government securities are equivalent to Treasury bills, and the margin to the buyers (syndicate of Islamic Banks) is competitive with respect to returns from other conventional short-term money market instruments. The counterparty and the market risks involved are the sovereign risks, with Government acting as the seller and buyer of goods (Aluminium, in the case of Bahrain).
(b) BMA Ijara Certificates: BMA issued these 5 year 5.25% rental return Islamic Leasing Certificates worth $100 million, on the 3rd September 2001, another first by an Islamic Central bank. The second sukook (Issue size of $ 70 million) with a maturity of 3 years, annual lease rental return of 4.52% (paid semiannually) was issued on 27th February 2002.
Steps in an Islamic Leasing (Ijara) Sukook deal:

(i) Central bank, as Mudarib, issues Participation Certificates (backed by Special Purpose Mudarabah) to the market and collect subscription money.
(ii) The Mudarabah purchases specified tangible assets and Central Bank as Mudarib executes the deed. Property rights of the assets is transferred to the certificate holders with the possibility of further transferability of ownership and inherent benefits built-in.
(iii) Purchased tangible assets are then leased out on the basis of Ijara-wa-iqtina to earn rental income. Mudarib executes the Ijara contract against collaterals & security from the lessee, and collects rentals. The certificate holders having the property rights on the assets are the lessors and thus entitled to the rental proceeds.
(iv) Mudarib executes a contract for sale of the leased assets on maturity. Mudarabah is then liquidated and Sukook redeemed. The leased assets in this Sale deed may be purchased by the lessee or his agent, or any third party at a fixed price on maturity of Ijara. The property right to the asset is represented by the Ijara certificate.
(v) The Participation Certificates can be traded in the secondary market during the validity of Mudarabah.
So, how Islamic are these bonds? The debate on how far the fixed rentals/ guaranteed margins, or a fixed spread over LIBOR in the Islamic sukooks differ from the interest rates of the conventional bonds will continue. One simple test that can be applied to ascertain whether or not these returns are same as the interest rates is whether or not the asset or commodity backing is genuine. Asset or commodity backing can be considered as genuine if it satisfies the basic tenet of the Sharia, i.e., the transactions actually result in producing the asset or commodity at some level. The whole cycle of activity does result in some productive economic activity unless it is purely speculative, in any system whether conventional or Islamic. But, the test for Islamic sukook deal is whether the economic activity is related to the asset or commodity that is used as backing for the deals. A cursory look at the whole cycle leaves an impression that in the whole process, the asset or commodity acts like the hypothetical Eurodollar deposit used for the Eurodollar interest-rate futures traded on the Chicago Mercantile Exchange (CME) and the Singapore International Monetary Exchange (SIMEX). As in the case of the futures, the underlying asset may never actually change hands in the sukook deals. But jumping to conclusions so easily would be negating all the efforts put into these excellent innovations accepted by the Sharia Supervisory Boards.
The question whether or not the asset or commodity backing is genuine may not be answered easily, but what about the fixedness of returns guaranteed by these bonds? The price of an asset or commodity widely fluctuates in the market due to supply and demand factors in case perfect competition exists. In such a scenario, the prices can be predicted in the short run based upon the factors that govern the demand and supply. In case speculative players dominate the market or in case where cartels exist, which is the case in many product/ commodity markets (particularly in Aluminium) of the contemporary world, how can the prices be guaranteed? If the future prices cannot be guaranteed, how can a return from a deal in such products/ projects/ commodities be guaranteed? Is it not speculation? This is one of the arguments that form the basis for prohibiting a guaranteed return to investors.
The discussion on the BMA’s Al Salam Sukooks (described above) may yield interesting insights. It provides us with some explanation why the Ijara based bonds are replacing the Salam based bonds. Under Ijara concept, fixing a rent in advance may not be considered un-Islamic whereas in Al Salam concept, a fixed rate of return may be termed speculative and thus may not be allowed. Considering the fact that BMA’s Al Salam Sukooks are based on Aluminium as the underlying commodity, let us examine the fluctuation in the price of Aluminium during last five years. With Aluminium prices being so volatile, and guided by large international players, can the sovereign guarantee be sustainable? It is not difficult to conclude from the guaranteed rate offerings tagged to the recent bond issues that the necessity to provide the fixed returns as competitive as the returns from conventional securities of similar maturity may actually be guiding them instead of any forecasting methodologies.


This may be the main reason why some scholars have termed only two modes of transactions, Mudarabah and Musharakah as strongly Islamic (Siddiqui-1982, Mohsin-1982, Qureshi-1984, Qureshi-1985, Chapra-1982). Khan and Mirakhor (1987) argue on the same line and suggest “all other modes of operations … are recommended only in cases where risk-return sharing (i.e., Mudarabah and Musharakah) cannot be implemented.”
The size of the disposable funds owned by high networth Arabs is estimated to exceed $11 trillion. After 11th September 2001, in particular, there has been a rush to tap this fund which used to be mostly invested in the US markets. In this mad rush, is it a possibility that Islamic Shariah principles are being kept aside or backdoors are being invented in the name of innovation? A more transparent system will provide better explanation apart from being helpful in clearing doubts from investor’s minds.
(v) Global Bond Market Growth: As reported by failaka.com, USD180bn worth of funds were available for investment in Islamic-approved holdings worldwide as of mid-2002, an amount anticipated to grow by 15% YoY. Some indications of things to come are provided by the news item in Box-8. Some more developments are described below.
(vi) When Issue (WI): Players in the Islamic money market of Malaysia are allowed to perform WI transactions prior to the issuance date of the Islamic securities. WI is a pre-issuance transaction of debt securities that will be issued in the Islamic debt market to facilitate players in estimating the appropriate price to bid on the issuance date. The Council viewed that the WI transaction is allowed based on the permissibility to promise for sale and purchase transactions …… Bank Negara.
(vii) Sell and Buy Back Agreement (SBBA): The SBBA transaction is permissible, in Malaysia, as long as it is an outright sale and purchase and enforced by two different contracts for each transaction. In addition, compensation can only be effected on the party who defaulted on his promise …… Bank Negara.
(viii) Collateralised Borrowing: The National Shariah Advisory Council of Malaysia approved the proposal to introduce the collateral borrowing transaction in the Islamic money market based on the principle of Rahnu. The transaction is an alternative to the SBBA and the loan extended is based on the concept of Qardh. Although there is no profit element being introduced in the transaction, the banks are expected to prefer this transaction due to its simplicity and its mutual-help feature …… Bank Negara.
(ix) Islamic Securitization: Islamic Securitization in a wider sense is defined as the process of pooling assets, packaging them into securities, and making them marketable to investors. In Islamic finance, the concept of securitization is in consonance with what is known as Taskeek in Arabic, which is a process of dividing ownership of tangible assets, usufructs, or both, into units of equal value and issuing securities as per their value. The underlying assets, contracts, and payment mechanism, while being commercially viable must be aligned with the requirements of Sharia. By and large, the Sharia treatment of sukuk is similar to an equity security where shares are evidence of ownership in a going concern.
Islamic Development Bank’s recent debut issue of US$400 million Islamic sukuks received overwhelming response from both conventional and Islamic investors around the world. The issue size originally targeted at US$300 million was increased based on strong demand for the high quality instrument. The issue is unique in almost all its aspects ranging from the issuer, the guarantor, the arranger and more importantly the innovative structure of the deal, which is a combination of securitization of Ijarah, Mudaraba and Istisna contracts with a minimum of 51% on the Ijarah assets.
It should be noted that although some of these securitized financial instruments have been generally accepted as being in compliance with Islamic principles so that they can be traded in the secondary market, the negotiability of certain others still remain controversial due to their legal acceptability or compliance with Sharia. For instance, Murabaha is a transaction, which cannot be securitized independently to create a negotiable instrument to be traded in the secondary market. The certificate representing a monetary obligation from a third party or dayn arising out of a Murabaha transaction can be traded at face value and any difference in value will be tantamount to riba. However, if the security represents a mixed portfolio consisting of a number of transactions like Musharaka, leasing and Murabaha, then this portfolio may issue negotiable certificates, subject to certain conditions.
(a) Securitization of Mudaraba Bonds: AAOIFI’s Sharia standard No-18 defines the arrangement of Mudaraba bonds as below:
“The issuer of the certificates is the Mudarib, the subscribers are the capital owners and the realized funds are the Mudaraba capital. The certificate holders own the assets of Mudaraba operation and profit share as per agreement. The certificate holders, being the capital providers, bear the loss, if any.”
Mudaraba means an agreement between two parties where one partner gives money to another for investing in a commercial enterprise. The investment comes from the first partner who is called "Rab-ul-Maal" while the management and work is the exclusive responsibility of the other, who is called "Mudarib" and the profits generated are shared in a predetermined ratio.
The objects of a Mudaraba are restricted to only such businesses as are permitted under the Sharia. The concept of mudaraba is akin to revenue bond financing in the conventional system. Revenue bonds are generally backed by revenue generated mainly for public sector projects funded by the bond issue. The bondholders are solely dependent on the revenue generated by the project being financed and in the event of non-performance of the project, there is no recourse to the local government’s general treasury fund.
Likewise, the Mudaraba bonds give its owner the right to receive capital at the time the bonds are liquidated, and an annual proportion of the realized profits in accordance with the predetermined profit sharing ratio. The Mudaraba bonds can be instrumental in the process of development financing because it is related to the profitability of the projects.
(b) Securitization of Musharaka: AAOIFI’s Sharia standard No 18 defines the arrangement of Musharaka bonds as follows:
“The issuer of the certificates is the inviter to a partnership in a specific project or activity. The subscribers are the partners in the Musharka contract. The realized funds are the share contribution of the subscribers in the Musharaka capital. The certificate holders own the assets of partnership and are entitled to profit, if any”.
Musharaka bonds are relatively similar to Mudaraba bonds. The only major difference is that the intermediary-party will be a partner of the group of subscribers represented by a body of Musharaka bondholders in a way similar to a joint stock company while the Mudaraba capital is only from one party. In securitizing a Musharaka arrangement, every subscriber can be given a participation certificate, which represents his proportionate ownership in the assets of the venture or project for which financing is being raised.
Subsequent to the acquisition of substantial non-liquid assets, these Musharaka certificates can be treated as negotiable instruments and can be bought and sold in the secondary market.
There is a strong Sharia opinion against the trading of these certificates if the underlying assets of the Musharaka are in liquid form (i.e. in the shape of cash or receivables or advances due from others).
(c) Securitization of Ijarah: Ijarah sukuks have aspects in common with conventional asset-backed securities and are of particular interest to a broad range of investors representing both the conventional and Islamic financial communities. Benchmark for lease rentals can be based on a conventional index such as US$ LIBOR which can be either fixed or floating. Since Ijarah sukuks evidence the undivided pro-rata ownership of the underlying leased asset, it could be freely tradable at par, premium or discount. Such flexibilities can allow Ijarah sukuks to be priced at par with their conventional counterparts. A case in point is the issue of US$ 600 million 5-year floating rate trust Ijarah certificates by the Malaysian government in 2002. The issue was priced flat to the country’s conventional credit curve and attracted no premium despite being a new deal structure.
Ijarah is a contract, according to which a party purchases and leases out equipment required by the client for a rental fee. The duration of the rental and the fee are agreed in advance and ownership of the asset remains with the lessor. The lessor in Ijarah owns the leased assets, he can sell the asset, in whole or in part, to a third party who may purchase it and may replace the seller in the rights and obligations of the lessor, with regard to the purchased part of the asset. Typically, the issuer of the Ijarah certificates acquire assets, transfer its ownership to a special purpose vehicle (SPV, then sell investors shares in the SPV. The returns on the shares, which come from leasing out the assets owned by the SPV, could be either fixed or a floater. Thus, the expected returns are fixed and can be treated as predictable as the coupon on a conventional bond. A third party can also guarantee rental payments and since the yield is predetermined, the underlying assets are tangible and secured, the Ijarah certificates can then be traded in the secondary market.
The securitisation of leasing transactions and the creation of tradable, liquid investment funds have facilitated Islamic secondary market, which is instrumental in alleviating the liquidity constraints of Islamic financial institutions.
(x) Islamic hedge fund: At the outset of September 2003, the Saudi Economic and Development Company (SEDCO) launched the world's first-ever hedge fund compliant with Islamic Sharia'h law, in conjunction with Saudi Arabian financial services group Permal. Fund managers Fostman-Leff of New York were responsible for managing the fund which were expected to start doing business by early October 2003 (as per their press release).
SEDCO has been examining possible alternatives to prohibited derivates. One such alternative is based on an innovative concept like "stipulated options" - a buyer makes an advanced partial payment for deferred delivery of a product, and if he decides not to buy this later, the seller keeps the advance - closest analogy to an option in IBF system. Another such alternative likely to be used by them is the old concept of Al Salam, where one sells a commodity to a buyer against full up-front payment for delivery at a future date. An investor can hedge his downside risk by selling stocks to be delivered later, receive payment in advance for productive use without bearing the price risk.
SEDCO claims that the fund is fully transparent to investors. An existing Sharia'h compliant offer from this group is a 5-year medium-term note with 100% principal protection provided by Societe Generale.
Rating Agencies: Do we need separate rating agencies for the IBFs? Perhaps, yes. We have seen that the system in its purest form is entirely different from its conventional counterpart, hence the rating methodology has to be uniquely suited to the IFBs. This will be important for inter-bank dealings. Credit ratings for customers may not be different simply because the target customers are mostly the same for both. However, project evaluation becomes an important and integral role for pure IBFs based mainly on the PLS principles. This may require specialized technical skills largely absent in the present lot of banks the world over. Apart from the evaluation of projects, its monitoring during execution and participation in managing the project may be important to avoid false reporting by the other party. In an age where creative accounting is considered as creativity rather than sin, costs to the IBFs may escalate beyond expectations. On the other hand, the benefits resulting from IBFs are likely to far exceed the costs.
IDB initiated a scheme to establish an Islamic Rating Agency recently called the “International Islamic Rating Agency”(IIRA) to be incorporated as a profit-making independent company. IBFs will hold a total of 35% of the capital, the IDB 15%, and 50% will be held by rating agencies. A working group comprising of representatives from IDB, AAOIFI, selected Islamic banks and Malaysian Rating Corporation (MARC) has been formed.
Basel II Implications: The Basel Committee guidelines do not specifically focus on the Islamic Banking and Financial System, but still the adequacy norms and risk management are areas that affect them as much as they affect the conventional banks. The BMA has developed a framework, known as Prudential Information and Regulations for Islamic Banks (PIRI) which takes into consideration standards developed by AOOFIFI and the Basel Committee's various guidelines. When the International Islamic Financial Market, being developed in cooperation with the Islamic Development Bank and other central banks, will be operational the need to comply with the Basel II regulations would be felt even more.
The main problem for the IBF, today, even after more than twenty eight years in operation is in defining what they are all about, i.e., the confusion as to whether they are banks, mutual funds, asset managers, or investment funds. Although some of the regimes regulating Islamic financial institutions are already very stringent, and some like Bahrain which may claim to be over-regulated as they have started applying Basel II in terms of liquidity risk issues.
Some implications that can be more easily visualized are as follows:
- Cost implications (mainly for estimation of new risk components like operational risks). Majority of Islamic banks have no such liberty in investing a large amount for that purpose. Speculations are rife that banks will need to invest additional amounts (in millions) to comply with Basel II.
- CAR implications: There is much debate at present amongst western banks if Basel II will be implemented or not. This is because of the cost implication to implement operational risk monitoring which may cost billions.
There are views that in western countries it may likely improve the capital risk weighting for Islamic products. Products like mortgages already benefit from Murabaha structure in terms of capital risk weighting (50%) but Murabaha is not considered efficient in terms of early repayment, or determining a profit amount etc. Ijara is the preferred mode at present for developing mortgage products, but it attracts 100% capital risk weighting. One could argue that if Islamic mortgages based on Ijara are more efficient, they should attract less capital risk weighting. The Basel committee is unlikely to allow lesser risk weighting for lease across the board, as all banks will rush to reap benefits from Islamic leases. Modaraba and Musharika will continue to still attract 100% capital risk weighting.
Important Institutions supporting the development of IBF:
Institute of Islamic Banking and Insurance:
Dar Al-Maal Al-Islami (DMI): HQ in Geneva
Al-Baraka: HQ in Jeddah.
IIBI Established in 1991
Publications: (a) International Directory of Islamic Banks and Institutions 2000, (b) International Directory of Islamic Insurance 2000
AAOIFI: The Accounting and Auditing Organization for Islamic Financial Institutions is an Islamic international autonomous non-profit making corporate body that prepares accounting, auditing, governance, ethics and Shari'a standards for Islamic financial institutions.
Managed funds: over $200 billion
Agreement of Association signed by Islamic financial institutions on 26 February, 1990 in Algiers. AAOIFI was registered on 11 Ramadan 1411 corresponding to 27 March, 1991 in the State of Bahrain.
The International Islamic Rating Agency
The Islamic Financial Services Board
The International Islamic Financial Market, and
The Liquidity Management Center
The Dow Jones Islamic Market Indexes:
Dow Jones Islamic Market World Index
Dow Jones Islamic Market Titans 100 Index
Dow Jones Islamic Market Asia/Pacific Index
Dow Jones Islamic Market Europe Index
Dow Jones Islamic Market Canada Index
Dow Jones Islamic Market Japan Index
Dow Jones Islamic Market U.K. Index
Dow Jones Islamic Market U.S. Index
Dow Jones Islamic Market Technology Index
Some statistics related to the above indices are presented in Appendix-D
FTSE Global Islamic Index Series:
The FTSE Global Islamic Index Series (GIIS) are equity benchmark indices targeted at those who wish to invest according to Islamic investment guidelines. Islamic investing is growing by 12-15% per annum, as more and more international investment bodies stake an interest in this specialist service. The FTSE Global Islamic Index Series addresses this demand by creating a standard for applicable Islamic equity investing.
Initially pioneered in January 1999 by The International Investor (TII) and calculated by FTSE, the series was the first truly global Islamic Index series. It was designed to track the performance of leading publicly traded companies whose activities are consistent with Islamic Sharia principles.
Due to its success over the past months, the Global Islamic Index Series will now be incorporated into the FTSE family of indices. Using the FTSE World Index as the universe, TII applies Sharia principles, following guidelines provided by its Fatwa and Sharia Supervisory Committee to rule out those companies whose business activities are incompatible with the Islamic law.
After removing companies with unacceptable core business activities, the remaining list is tested by a financial-ratio "filter", the purpose of which is to remove companies with an unacceptable debt ratio. Finally, any "tainted percentage" of any cash dividend received by a company which is not in accordance with Sharia law is computed, and should be donated to a proper charity.
Sub-component Indices:
FTSE Americas Islamic Index
FTSE Europe Islamic Index
FTSE Pacific Basin Islamic Index
FTSE South Africa Islamic Index
Sector Screens:
By way of guidance, stocks whose core activities are or are related to the following are excluded:
a) banking or any other interest related activity
b) alcohol
c) tobacco
d) gaming
e) insurance
f) pork production, packaging and processing or any other activity related to pork
g) activities deemed offensive to the principles of Islam
h) sectors / companies significantly affected by the above
The companies that have incompatible lines of business are removed from the "universe" of stocks included in the FTSE World Index. Companies classified in other industry groups may also be excluded if deemed to have a material ownership in, or revenues from, prohibited business activities.
Financial Screen:
Debt ratio: (exclude companies) if Interest-Bearing Debt divided by Assets is equal to or greater than 1/3 or 33.33%. Companies that pass these screens are generally eligible for inclusion in the FTSE Global Islamic indices' investable universe.
Dividend Cleansing: "Tainted dividend" receipts relate to the portion, if any, of a dividend paid by a constituent company that has been determined to be attributable to activities that are not in accordance with Islamic Sharia principles and therefore should be donated to a proper charity or charities.
Sharia Scholars: The screening criteria of the FTSE Global Islamic range of indices is supported by the credibility of TII's Fatwa and Sharia Supervisory Committee (Sharia Board).
Conclusion: Dr. Ebrahim (1999) argues that the modes of financing selected should not only avoid riba, gharar and maysir but also be economically efficient. In search of this economic efficiency, Islamic Banks now participate in a wide financing domain stretching from simple Sharia-compliant retail products to highly complex structured finance and large-scale project lending. Muslims (and non-Muslims) can now obtain Islamic credit cards, can insure themselves and their property Islamically, can invest on line in Islamic funds can track their investments Islamically and can even get a Sharia-compliant mortgage from a US firm. Islamic banks are now better positioned than ever to participate not only in large scale corporate financing but also more complex wholesale transactions such as syndications and securitization. Bahrain's recent $255mn al-Hidd power financing is a case in point. Lead arranged by BNP Paribas, HSBC Amanah, Bank of Bahrain and Kuwait and Bank of Tokyo Mitsubishi, the $55mn Islamic tranche arranged by the Saudi-based Islamic Development Bank and Kuwait Finance House was hailed as a landmark in regional power finance. KFH had earlier helped set an inter-creditor agreement precedent when it secured in 1995 a $200mn Islamic tranche for Kuwait's $1.2bn Equate petrochemical project.
This convergence is evidence of how the Islamic financial sector is part of the globalizing trend and not rejectionist. In essence, Islamic finance offers another set of well-understood tools within the understood frameworks of modern banking and finance. - Abdulkader Thomas


At first glance, it looks like many techniques that the interest-free banks are practising are neither in full conformity with the spirit of Shari’ah nor practicable in the case of large banks (or the entire banking system). Moreover, they seem to have failed to do away with undesirable aspects of interest, and thus, they seem to have retained what an Islamic bank should eliminate. This is because these institutions have attempted to start from where the conventional banking system has left. The innovations, however genuine and worthy, seem to be swamped within the muddle of well-developed and widely accepted financial system of conventional banking and finance. For a commoner, it becomes very difficult to distinguish the Islamic instruments from the conventional ones. The solution lies not in changing the look or personality (face value) of the conventional instruments – which is the primary reason for all the confusion – but in evolving afresh. We feel that the basic infrastructure necessary for building an entirely new structure for the Islamic Financial System is not just available but is quite strong already. What is needed at this moment is an out-of-the-box thinking even if sounds like reinventing the wheel. This will require a bold initiative towards a total unwinding of the current system and a lot of unlearning before we could even conceive of a reasonable amount of success in clearing the clouds of ambiguity. Even if one concludes that the resource available with Islamic Financial System is peanuts compared to its conventional counterpart, there is no need to despair. The ultimate winner is the one who dares to dream. What is required at the moment is the “strategy as stretch and leverage” that Hamel and Prahlad (1993) advises.
Haron et al (1994) who pioneered the research on bank patronage in Malaysia found that almost 100 percent of Muslims and 75% non-Muslims were aware of the existence of Islamic banks. While applying Haron et al’s study, Gerrard and Cunningham (1997) found that just like their Malaysian counterparts, Singaporean Muslims were more aware of the existence of Islamic banking than the non-Muslims. Similarly, this study found no evidence of Muslims and non-Muslims differing in their bank’s selection criteria. In another study wherein the respondents were individuals who had financial decision-making authority in the Malaysian corporate sectors, and 80% of which were non-muslims, Ahmad & Sudin Haron found that more than 55 per cent perceived that both religion and economics were the patronage factors in this system. About 50 percent of the respondents believed that Islamic banking products and services had a good potential to be accepted by customers. About 75 per cent indicated that Islamic banks in Malaysia however had not done enough marketing in promoting their products and services to corporate customers. Almost half of the individuals surveyed believed that the Islamic banking system had a good potential as an alternative to the conventional system.
The future is definitely bright for the Islamic banking and finance. They have already established a niche by roping in the Muslim community. And their appeal is expanding, particularly with the number of proponents of Ethical Banking and Finance on the rise in other communities. In order to give the conventional system any semblance of competition, it has to grow out of the niche, and convince everybody not just about the ethical aspects but also the economic benefits that it carries – in fact it will have to prove that it is more profitable than its conventional counterpart.


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APENDIX A0: Estimation of TAI for UAE
Estimation of TAI for UAE to compare with TAI values of other countries in HDR (2001) is shown as below:
(A) Calculation of the Technology Creation Index:
Patent Index = (0.990 - 0)/ (994 – 0) ………………. (1999 figure taken from USPO for number of Patents) = 0.001
Royalty and Licence fee Index = 0 (assumed to be zero)
Technology Creation Index = (0.000 + 0.001)/ 2 = 0.0005
(B) Calculation of Diffusion of Recent Innovations Index:
Internet Host Index = (20.9 - 0.0)/ (232.4 - 0.0) = 0.090
High and Medium Technology Export Index (ERF-2002) = (16.0 – 0.0)/ (80.8 – 0.0) = 0.198
Diffusion of Recent Innovations Index =( 0.090 + 0.198)/ 2 = 0.288
(C) Calculation of Diffusion of old innovations Index:
Telephony Index = [log {407 (Tel mainlines per 1000 people) + 347 (Cellular mobiles per 1000 people)} – log(1)]/ [log(901)-log(1)] = 0.974
Electricity Index = 1, because its consumption of 9,892 KWH per capita is above the goalpost (6,969)
Diffusion of old innovations Index = (0.974 + 1.000)/ 2 = 0.987
(D) Calculation of the Human Skills Index:
Mean Years of Schooling Index = (10.5 - 0.8)/ (12.0 – 0.8) years: Expected Years of schooling from ERF (2002)
= 0.866
Gross Tertiary Science Enrolment Index = (3.2 – 0.1)/ (27.4 – 0.1) = 0.114
Human Skills Index = 0.980/ 2 = 0.490
Technology Achievement Index (TAI ) = (0.0005 + 0.288 + 0.987 + 0.490) / 4
= 0.441
APPENDIX-A: Competitiveness of Banking Sector In Case of Opening Local Markets to GCC Banks
(Kuwait Foundation For Advancement of Sciences)
Ghanem, AlMahmeed, AlMejren, ElSakka, Paul, Al MASARAF, (the official journal of the Union of Kuwaiti Banks, Issue no. 2, 2002).
1. Mudaraba and Murabaha services came at the forefront of Islamic banking services.
2. The Islamic financial institutions are seen as a strong competitor for the banks in Kuwait, now and in the future. Other banks in the GCC countries share the same view with the Kuwaiti banks.
Recommendations of the Study
By reviewing the weaknesses of the Kuwaiti banks compared to other GCC banks, we find that the Kuwaiti banks need to take the following actions:
- Explore methods to increase the return on their assets up to the levels prevailing at non- Kuwaiti banks.
- Increase the level of expenditure on training and human resources development.
- Increase the size of investment in information technology and communications up to the levels prevailing at non-Kuwaiti banks. - Increase the level of experience for national manpower.
- Increase the awareness as to the international financial developments and their local implications.
- Enhance their confidence in the ability to face foreign competition, and upgrade their readiness to meet the challenges of GCC banks or international banks.
- Exploit the opportunities offered by the GCC agreement on the liberalization of banking services.
- Increase the attention given to the evaluation and review of training activities, and ensure the good quality of the training provided to their staff , so as to more positively reflect on their performance.
- Create more stability for staff in order to avoid the adverse implications of the high turnover. - Improve staff productivity.
- Study the problem of staff absence and its reasons and treat it more seriously.
- Allocate more financial resources to enhance staff flexibility and reinforce their ability to work as a team.
- Periodic review of benefits and incentives, so as to ensure staff satisfaction and consistency of those systems with the standards prevailing in the industry.
- Improve annual planning and control systems.
- Improve FX and foreign operations risks management.
- Develop an IT strategy.
- Upgrade capital adequacy ratio to be in line with the levels prevailing at other GCC banks.
- Consider the opportunities of merging with other banks, whether local, Gulf or international.
- Study the opportunities of forming unions with other banks, whether local, Gulf or international.
- Adopt plans for diversifying products and markets in line with other GCC banks, and enhance the readiness for expansion in new markets.
- Adopt more intensive plans for automating banking operations in line with other GCC banks.
- Reinforce relationships with the segments of the general public and multi- national companies, likewise Qatari and Omani banks.
- Strengthen their presence in the areas of advisory and investment services, such as money markets, capital markets, futures, options, investment portfolios management, private funds management and investment advisory services.
- Reinforce their Islamic banking services in the areas of Murabaha, Mudaraba, Musharaka and Istisna.
- Start to use the Smart Cards, and expand in the areas of issuing certificates of deposits and rendering brokerage services, because their share of these services is the least among GCC banks.
- Activate the role of foreign exchange services and certificates of deposits in revenues generation, as these services rank the first at Omani banks and the second at Saudi and UAE banks.
- Expand services delivery through the internet, likewise the banks in UAE.
- Enhance the role of Musharaka and Istisna services as sources of income.
- Expand in advisory and investment services in the manner mentioned above, as such services represent an important source of income, particularly investment advisory services and investment portfolios management. There is also a need for expansion in futures and options.
- Expansion in insurance services to strengthen the role of these services as a source of income.
- Establish and enhance the presence in GCC and Arab markets in general, because the results of the study indicated that the strength of Kuwaiti banks association with their customers in GCC markets is the weakest, with the exception of Omani banks, and their association with their customers in Arab markets is also the weakest, with the exception of Omani and UAE banks.
APPENDIX-B: Islamic Financial Institutions in the World (Source: Islamic Institute of Banking and Insurance; http://www.islamic-banking.com/ibanking/ifi_list.php#albania)
1. Albania
a. Arab Albanian Islamic Bank, Tirana
2. Algeria
a. Banque Albaraka D'Algerie, Algiers
3. Australia
a. MCCA (Muslim Community Co-operative, Australia)
b. MCCU (Muslim Community Credit Union)
4. Bahamas
a. Akida Islamic Bank International Ltd
b. Bank Al Taqwa Ltd
c. Dar al Mal al Islami Trust, Nassau
d. Islamic Investment Company of the Gulf Ltd, Nassau.
e. Istishara Consulting Trust, Bahamas
f. Massraf Faysal Islamic Bank & Trust, Bahamas Ltd.
5. Bahrain
a. ABC Investment & Services Co EC
b. Al Amin Co. for Securities and Investment Funds
c. Albaraka Islamic Investment Bank
d. Arab Islamic Bank E.C
e. Bahrain Islamic Bank Bsc.
f. Bahrain Islamic Investment Co. Bsc. Closed
g. Bahrain Institute of Banking & Finance
h. Bank Melli Iran
i. Chase Manhattan Bank N.A.
j. Citi Islamic Investment Bank (Citicorp)
k. Dallah Albaraka (Europe) Ltd
l. Dallah Albarakah (Ireland) Ltd
m. Faysal Investment Bank of Bahrain
n. Faysal Islamic Bank of Bahrain (Massraf Faisal Al Islami)
o. Gulf International Bank BSC
p. Islamic Investment Company of the Gulf
q. Islamic Trading Company
r. ABC Islamic Bank
s. ABN Amro Bank
t. Deutsche Bank Rep office
u. Investors Bank
v. TAIB Bank of Bahrain
w. Turk Gulf Merchant Bank
x. Bahrain Monetary Agency
y. Shamil Bank
z. Khaleej Investment Company
aa. First Islamic Investment Bank
6. Bangladesh
a. Albaraka Bangladesh Ltd (Dallah Al Baraka Group), Dhaka
b. Islami Bank Bangladesh Ltd, Dhaka
c. Faisal Islamic Bank
7. British Virgin Islands
a. Ibn Khaldoun International Equity Fund Ltd
8. Brunei
a. Islamic Bank of Brunei Berhad
b. Islamic Development Bank of Brunei Berhad
c. Tabung Amanah Islam Brunei
9. Canada
a. Islamic Co-operative Housing Corporation Ltd, Toronto
10. Cayman Islands
a. Ibn Majid Emerging Marketing Fund (International Investor Group)
b. Al Tawfeek Co. for Investment Funds Ltd. Subsidiary of Albarka Group "DBG"
11. Denmark
a. Faisal Finance (Denmark) A/S
12. Djibouti
a. Banque Albaraka Djibouti
13. Egypt
a. Alwatany Bank of Egypt, Cairo
b. Egyptian Company for Business and Trade S.A.E
c. Egyptian Saudi Finance Bank (Dallah Al Baraka), Cairo
d. Gulf Company for Financial Investment
e. Faisal Islamic Bank of Egypt, Cairo
f. Islamic Bank International for Investment and Development, Cairo
g. Islamic Investment and Development Co., Cairo
h. National Bank for Development, Cairo
14. France
a. Algerian Saudi Leasing Holding Co. (Dallah Al Baraka Group)
b. Societe General
c. Capital Guidance
d. BNP Paribas
15. Gambia
a. Arab Gambian Islamic Bank
16. Germany
a. Bank Sepah, Iran
b. Commerz Bank
c. Deutsche Bank
17. Guinea
a. Massraf Faisal al Islami of Guinea, Conakry
b. Banque Islamique de Guinee
18. India
a. Al Ameen Islamic Financial & Investment Corp. (India) Ltd., Karnatka
b. Bank Muscat International (SOAG)
c. Al-Falah Investment Ltd
19. Indonesia
a. Al Barakah Islamic Investment Bank
b. Bank Muamalat Indonesia, Jakarta
c. Dar Al-Maal Al-Islami Trust
d. PT Danareksa Fund Management, Jakarta
20. Iran
a. Bank Keshavarzi (Agricultural Bank), Tehran
b. Bank Maskan Iran (Housing Bank), Tehran
c. Bank Mellat, Tehran
d. Bank Melli Iran, Tehran
e. Bank Saderat Iran, Tehran
f. Bank Sanat Va Maadan (Bank of Industry and Mines), Tehran
g. Bank Sepah, Tehran
h. Bank Tejarat, Tehran
21. Iraq
a. Iraqi Islamic bank for Investment and Development
22. Italy
a. Bank Sepah, Iran
b. International Trading Co. of Africa
23. Jordan
a. Jordan Islamic Bank (Subsidiary of Dallah Al Barka Group)
b. Jordan Islamic Bank for Finance and Investment, Amman
24. Kuwait
a. Gulf Investment Corporation
b. The International Investment Group
c. The International Investor, Safat
d. Kuwait Finance House, Safat
e. Kuwait Investment Co - Dar Al-IsethmarSecurities House
25. Lebanon
a. Gulf International Bank, Bahrain
b. Al Barakah Bank
c. Bank of Beirut
26. Luxembourg
a. Faisal Finance (Luxembourg) S.A
b. Faisal Holding, Luxembourg
c. Takafol S.A
d. Islamic Finance House Universal Holding S.A
27. Malaysia
a. Adil Islamic Growth Fund (Innosabah Securities Sdn Bhd), Labuan
b. Arab Malaysian Merchant Bank Berhad, Kuala Lumpur
c. Bank Bumiputra Malaysia Berhad, Kuala Lumpur
d. Bank Islam Malaysia Berhad, Kuala Lumpur
e. Bank Kerjasama Rakyat Malaysia Berhad, Kuala Lumpur
f. Dallah Al Baraka (Malaysia) Holding Sdn Bhd
g. Lembaga Urusan Dan Tabung Haji (Fund), Kuala Lumpur
h. Malayan Banking Berhad (Maybank), Kuala Lumpur
i. Multi-Purpose Bank Berhad, Kuala Lumpur
j. United Malayan Banking Corp. Berhad, Kuala Lumpur
k. Bank Muamalat Berhad, Malaysia
l. Securities Commission
m. Labuan Offshore Financial Services Authority (LOFSA)
n. Islamic banking & Takaful Dept, Bank Negara Malaysia
28. Malaysian banks with Islamic windows
a. Commercial Banks:
i. Affin Bank Berhad
ii. Alliance Bank Berhad
iii. Arab-Malaysian Bank Berhad
iv. Bank Utama (Malaysia) Berhad
v. Citibank Berhad
vi. EON Bank Berhad
vii. Hong Leong Bank Berhad
viii. HSBC Bank (M) Berhad
ix. Malayan Banking Berhad
x. OCBC Bank (Malaysia) Berhad
xi. Public Bank Berhad
xii. RHB Bank Berhad
xiii. Southern Bank Berhad
xiv. Standard Chartered Bank Malaysia Berhad
b. Finance Companies:
i. Alliance Finance Berhad
ii. Arab-Malaysian Finance Berhad
iii. Asia Commercial Finance Berhad
iv. EON Finance Berhad
v. Hong Leong Finance Berhad
vi. Kewangan Bersatu Berhad
vii. Mayban Finance Berhad
viii. MBf Finance Berhad
ix. Public Finance Berhad
x. United Merchant Finance Berhad
c. Merchant Banks:
i. Alliance Merchant Finance Berhad
ii. Arab-Malaysian Merchant Bank Berhad
iii. Aseambankers Malaysia Berhad
iv. Malaysian International Merchant Bank Berhad
v. Affin Merchant Bank Berhad
d. Discount Houses:
i. Abrar Discounts Berhad
ii. Affin Discount Berhad
iii. Amanah Short Deposits Berhad
iv. BBMB Discount House Berhad
v. KAF Discounts Berhad
vi. Malaysia Discount Berhad
vii. Mayban Discount Berhad
29. Mauritania
a. Banque Alabaraka Mauritaninne Islamique (Dallah Al Baraka Group), Mauritania
30. Morocco
a. Faisal Finance Maroc S.A
b. The Netherlands
c. Faisal Finance (Netherlands ) B.V
d. Faisal Finance (Netherlands Antilles) N.V
31. Niger
a. Banque Islamique Du Niger, Niamey
32. Nigeria
a. Habib Nigeria Bank Ltd
b. Ahmed Zakari & Co
33. Oman
a. Bank Muscat International
b. Bank Saderat Iran, Muscat
c. Oman Arab Bank
34. Pakistan
a. Al Faysal Investment Bank Ltd, Islamabad
b. Al Towfeek Investment Bank Ltd (Dallah Al Baraka Group), Lahore
c. Faysal Bank Ltd, Pakistan
d. National Investment Trust Ltd., Karachi
e. Shamil Bank
f. Meezan Bank Limited
35. Palestine
a. Arab Islamic Bank
b. Arab Islamic International Bank (AIIB) Plc
c. Cairo Amman Bank
d. Palestine International Bank
e. The Palestine Islamic Bank
36. Qatar
a. Islamic Investment Company of the Gulf Ltd, Sharjah
b. Qatar International Islamic Bank, Doha
c. Qatar Islamic Bank SAQ, Doha
37. Russia
a. BADR Bank
38. Saudi Arabia
a. Albaraka Investment and Development Co., Jeddah
b. Al Rajhi Banking and Investment Corp., Riyadh
c. Arab Leasing International Finance (ALIF) Ltd
d. Faysal Islamic Bank of Bahrain E.C., Dammam
e. Islamic Development Bank, Jeddah.
f. National Commercial Bank Ltd, Jeddah
g. Riyad Bank
h. Saudi American Bank, Jeddah
i. Saudi Holland Bank
j. Bank Al Jazira
39. Senegal
a. Banque Islamique Du Senegal
40. South Africa
a. Albaraka Bank Ltd, Durban (Dallah Al Baraka Group)
41. Srilanka
a. Amana Islamic Bank
b. Amana Takaful Limited
42. Sudan
a. Al Baraka Al Sudani, Khartoum. (Dallah Al Baraka Group)
b. Al Shamal Islamic Bank
c. Al Tadamon Islamic Bank, Khartoum
d. Animal Resources Bank
e. El Gharb Islamic Bank (Islamic Bank for Western Sudan)
f. Faisal Islamic Bank of Sudan, Khartoum
g. Islamic Bank of Western Sudan, Khartoum
h. Islamic Co-operative Development Bank, Khartoum
i. Sudanese Islamic Bank
43. Switzerland
a. Cupola Asset Management SA, Geneva
b. Dar Al Maal Al Islami Trust, Geneva
c. Faisal Finance (Switzerland) SA, Geneva
d. Pan Islamic Consultancy Services Istishara SA, Geneva
e. United Bank of Switzerland (UBS)
f. Pictet & Cie
44. Tunisia
a. Beit Ettamwil al Tunisi al Saudi, Tunis (Dallah Al Baraka Group)
b. B.E.S.T. Re-Insurance (Dallah Al Baraka Group)
45. Turkey
a. Albarakah Turkish Finance House Istanbul
b. Emin Sigorts A.S
c. Faisal Finance Institution, Istanbul.
d. Faisal Islamic Bank of Kibris Ltd, Turkey
e. Ihlas Finance House
f. Kuwait-Turket Evkaf Finance House
g. Asya Finans Kurumu A.S
46. United Arab Emirates
a. Abu Dhabi Islamic Bank
b. Bank Muscat International (SOAG)
c. Dubai Islamic Bank, Dubai
d. Gulf International Bank, Bahrain
e. Islamic Investment Company of the Gulf Ltd, Abu Dhabi.
f. Islamic Investment Company of the Gulf Ltd, Sharjah Subsidiary of Dar Al Maal Islami Trust
g. National Bank of Sharjah
h. HSBC, Dubai
i. National Bank of Dubai
47. United Kingdom
a. Albaraka International Ltd, London
b. Albaraka Investment Co. Ltd, London
c. Al Rajhi Investment Corporation, London
d. Al Safa Investment Fund
e. Bank Sepah, Iran
f. Dallah Al Baraka (UK) Ltd., London
g. Takafol (UK) Ltd, London
h. Barclays Capital
i. HSBC Amanah Finance
j. ABCIB Islamic Asset Management, Arab Banking Corp
48. United Kingdom banks with Islamic windows
a. ABC International Bank, London
b. ANZ International Merchant Banking, London
c. Arab Bank Plc, London
d. Riyadh Bank , London
e. Citibank International Plc, London
f. Cedel International, London
g. Dawnay Day Global Investment Ltd
h. Global Islamic Finance, HSBC Investment Bank Plc
i. Gulf International Bank Bsc, Bahrain
j. The Halal Mutual Investment Company Plc
k. IBJ International, London (Subsidiary of Industrial Bank of Japan)
l. J. Aron & Co. (Goldman Sachs International Finance) Ltd., London
m. Islamic Investment Banking Unit (IIBU), United Bank of Kuwait, London
49. Ireland
a. Al Meezan Commodity Fund Plc, Dublin
b. Jersey, UK (+534)
c. The Islamic Investment Company, St Helier.
d. MFAI (Jersey) Limited (formerly - Massraf Faysal Al-Islami Ltd, Jersey)
50. United States of America
a. Abrar Investments, Inc., Stamford CT
b. Al-Baraka Bancorp Inc. Chicago
c. Al-Madina Realty, Inc., Englewood NJ
d. Al-Manzil Islamic Financial Services
e. Amana Mutual Funds Trust, State St. Bellingham WA
f. Ameen Housing Co-operative, San Francisco
g. American Finance House
h. Bank Sepah, Iran
i. BMI Finance & Investment Group, New Jersey
j. Dow Jones Islamic Index Fund of the Allied Asset Advisors Funds
k. Failaka Investments, Inc., Chicago IL
l. Fuloos Incorporated, Toledo OH
m. Hudson Investors Fund, Inc., Clifton NJ
n. MSI Finance Corporation, Inc., Houston TX
o. Samad Group, Inc., Dayton OH
p. Shared Equities Homes, Indianapolis IN
q. HSBC, USA
r. MEF Money, USA
s. Islamic Credit Union of Minnesota, (ICUM)
t. United Mortgage
51. Yemen
a. Islamic Bank of Yemen for Finance and Investment, Sana
b. Saba Islamic Bank, Sana
c. Faisal Islamic Bank
d. Yemen Islamic Bank, Sana
e. Yemen National Investment Co., Sana


APPENDIX-C: Islamic Equity Funds in the World

List of Islamic Equity Funds (www.failaka.com)
Fund Name Fund Manager(s) Fund Promoter(s) Inception Min. Invest
Date
Global Equity Funds
1 Al Baraka Global Equity Mercury Asset Management Al Baraka Investment Bank Dec-97 $25,000
2 Al Rajhi Global Equity UBS Asset Management Al Rajhi Banking & Investment Jul-96 50 Shares
3 Al-Ahli Global Trading Equity Wellington Management Co. LLP National Commercial Bank (NCB) Jan-95 $2,000
4 Al-Bait Global Equity Fremont Investment Advisors Inc. Securities House Apr-00 $50,000
5 Al-Bukhari Global Equity Wafra Investment Advisory Group Wafra Investment Advisory Group Aug-98 $100,000
6 Al-Dar World Equities Pictet & Cie The International Investor/Pictet & Cie Feb-98 $100,000
7 Alfanar Investment Holdings Worms & Cie/SEDCO Permal Asset Management Dec-97 $5,000
8 Al-Firas Global Equity Arab Bank Plc Arab Bank Plc Oct-00 $10,000
9 Al-Kawthar Fund Wellington/Al-Ahli Global Trading Eq. National Bank of Kuwait Jan-95 $10,000
10 Al-Khair Global Equity Fund Pictet & Cie Bank Al-Jazira Sep-98 $5,000
11 Al-Safwa International Equity Roll & Ross Asset Management Al-Tawfeek Co. for Investment Funds May-96 $10,000
12 Arab Investor Crescent Fund Schroder Investment Mgmt Int'l Arab National Bank Apr-99 $5,000
13 Arzaq Investment Fund Global Alliance/Securities House Securities House Mar-98 $50,000
14 Bank Kanz Global Islamic Equity Bank Kanz Bank Kanz N/A $100,000
15 Barclays Global Equity Wellington Management Co. LLP Barclays Private Bank Feb-00 $1,000,000
16 Caravan Fund Wellington Management Co. LLP Commerical Bank of Qatar/BNP Dec-99 $10,000
17 Citi Global Portfolios SSB Citi Asset Management Citi Islamic Investment Bank Oct-97 $10,000
18 Dow Jones Islamic Index Fund Brown Brothers Harriman & Co. Wafra Invest. Advisory / AlTawfeeq Jul-99 $10,000
19 Global Equity 2000 Sub-Fund Alliance Capital Management LP First Investment Co Mar-00 $10,000
20 Hegira Global Equity Wellington Management Co. LLP Wellington Management Co. LLP Sep-96 $5,000,000
21 HSBC Amanah Global Equity HSBC Investment Funds (Lux.) SA HSBC Amanah Finance May-00 $5,000
22 Islamic Global Equity * N/A HSBC Bank USA Late 2001 $2,500
23 Miraj Global Equity Royal Bank of Canada Miraj International Investment Ltd. Aug-98 $10,000
24 Musharaka Equity Fund N/A Riyad Bank Jun-97 $10,000
25 Parsoli Global Equity Parosoli Capital & Finance Ltd. Parosoli Capital & Finance Ltd. Jun-01 £1,000
26 QIB Global Equities Global Asset Management (GAM) Qatar Islamic Bank N/A
27 SAMBA Global Equity SAMBA Capital Management SAMBA Capital Management Dec-99 $2,000
28 SUT Ethical Growth Fund Singapore Unit Trust Ltd. Malayan Banking & Daiwa Securities Aug-01 S$1,000
29 SUT Ethical Value Fund Singapore Unit Trust Ltd. Malayan Banking & Daiwa Securities Aug-01 S$1,000
30 TAIB Crescent Global Fund Wright Investors' Service TAIB Bank of Bahrain Mar-00 $100,00
31 UBS Islamic Fund Global Equities UBS, AG & UBS Brinson UBS Islamic Fund Mgmt Co May-00 $100,000
North American Equity Funds
32 Al-Ahli US Trading Equity INVESCO Capital Mgmt Inc. National Commercial Bank (NCB) Dec-92 $2,000
33 Alfanar US Capital Growth Worms & Cie/SEDCO Permal Asset Management Jun-99 $5,000
34 Alfanar US Capital Value Worms & Cie/SEDCO Permal Asset Management May-99 $5,000
35 Amana Growth * Saturna Capital Saturna Capital Feb-94 $100
36 Amana Income * Saturna Capital Saturna Capital Jun-86 $100
37 Azzad DJIM Index Fund * Azzad Asset Management Azzad Asset Management Dec-00 1,000
38 Azzad Growth Fund LP Azzad Asset Management Azzad Asset Management Feb-98 $50,000
39 Azzad Income Fund Azzad Asset Management Azzad Asset Management Sep-01 $1,000
41 Dow Jones Islamic Index (US) Fund * Allied Asset Advisors Funds Allied Asset Advisors Funds Jun-00 $500
42 SAMI Navigator Nova Bancorp Group Nova Bancorp Group Jul-99 C$500
European Equity Funds
43 Al-Ahli Europe Trading Equity Gulf Int'l Bank (UK) Ltd. National Commercial Bank (NCB) Nov-94 $2,000
44 Al-Dar Europe Equities Pictet & Cie The International Investor/Pictet & Cie Feb-98 $100,000
45 Alfanar Europe Worms & Cie/SEDCO Permal Asset Management Jan-99 $5,000
46 Al-Sukoor European Equity Commerz Int'l Cap Mgmt/Al-Tawfeeq Co. Commerz Bank/Burgan Bank Mar-00 1 Share
47 Al-Thoraiya European Equity Lomard Odier & Cie Bank Al-Jazira Sep-99 $5,000
Small Cap & Technology Equity Funds
48 Al Rajhi Small Companies Franklin Mgmt & Lord Abbott Al Rajhi Banking & Investment Jun-99 200 Shares
49 Al-Ahli Small-Cap Trading Equity Wellington Management Co. LLP National Commercial Bank (NCB) Aug-98 $2,000
50 Alfanar Essex Technology Worms & Cie/SEDCO Permal Asset Management Jun-99 $5,000
51 Orbitex Islamic Comm. & IT Fund Orbitex Management Ltd. Orbitex Management Ltd. Dec-99 $50,000
52 TII Small Cap Equity (European) Pictet & Cie The International Investor Dec-96 $100,000
Balanced, Secured & Other Equity Funds
53 Al Hilal Fund Mercury Asset Management Abu Dhabi Islamic Bank (ADIB) Apr-00 $10,000
54 Al Kawthar Global Equity Secured National Commercial Bank (NCB) National Bank of Kuwait Sep-99 $10,000
55 Al Rajhi Balanced Fund I Al Rajhi Banking & Investment Al Rajhi Banking & Investment Nov-98 $5,000
56 Al Rajhi Balanced Fund II Al Rajhi Banking & Investment Al Rajhi Banking & Investment Dec-98 $5,000
57 Al-Ahli Global Equity Secured (Series B) Wellington Management Co. LLP National Commercial Bank (NCB) Nov-99 $25,000
58 Al-Ahli International Equity Secured Deutche Bank National Commercial Bank (NCB) Feb-00 $25,000
59 Al-Ahli US Equity Secured Deutche Bank National Commercial Bank (NCB) Oct-99 $25,000
60 Alkhawarizmi Fund AXA Rosenberg The International Investor Jul-97 $100,000
61 BHLB Pacific Dana Al Mizan (Balanced) BHLB Pacific Trust BHLB Pacific Trust Mar-01 RM 1,000
62 Faysal Shield Fund Banque National de Paris Faysal Islamic Bank of Bahrain Nov-99 $100,000
63 Mutajarah Fund (Balanced) Swiss Alternative Investment Strategies Group (SAIS) Towry Law International Oct-01 $100,000
64 Profit Sharing Fund (Aman-1) (secured) Al Rajhi Banking & Investment Al Rajhi Banking & Investment N/A $2,000
Emerging Market & Country Equity Funds
65 Al Arabi Saudi Co. Shares Arab National Bank Arab National Bank May-93 SR 10,000
66 Al Rajhi Egypt Equity EFG Hermes Al Rajhi Banking & Investment Jun-97 200 Shares
67 Al Rajhi Local Share Fund Al Rajhi Banking & Investment Al Rajhi Banking & Investment Jul-92 1 Share
68 Al Rajhi Middle East Equity Bakheet Financial Advisors Al Rajhi Banking & Investment May-98 200 Shares
69 Al-Ahli Saudi Trading Equity Bakheet Financial Advisors National Commercial Bank (NCB) Jun-98 SR 5,000
70 Al-Dar Eastern Europe Equities Pictet & Cie The International Investor/Pictet & Cie Feb-98 $100,000
71 Al-Taiyibat Fund (local share) Bank Al-Jazira Invesmtent Services Bank Al-Jazira Sep-98 SR 10,000
72 First Arabian Equity 2000 N/A First Investment Company N/A
73 Ibn Majid Emerging Markets UBS Brinson The International Investor Nov-95 $100,000
74 Khaled Ibn el-Waleed Fund PrimeCorp. Investment Management Al-Mal Islamic Company N/A
75 Oasis Crescent Fund Oasis Asset Management Ltd. Oasis Asset Management Ltd. Jan-99
76 Parsoli Islamic Equity Parosoli Capital & Finance Ltd. Parosoli Capital & Finance Ltd. 1996
77 Pure Specialist Fund Futuregrowth Unit Trust Management Futuregrowth Unit Trust Management Jun-92 R 200
78 Riyad Equity Fund 2 (Saudi Shares) Riyad Bank Riyad Bank Nov-96 SR 10,000
Asian Equity Funds
79 Al-Ahli Asia Pacific Trading Equity Gulf Int'l Bank (UK) Ltd. National Commercial Bank (NCB) May-00 $2,000
80 Al-Mashariq Japanese Equity Julius Baer Asset Management Bank Al-Jazira Apr-00 $5,000
81 Al-Nukhba Asian Equity Nomura Investment Bank Al-Tawfeek Co. for Investment Funds Jul-98 $10,000
82 Mendaki Global Fund DBS Asset Mgmt Mendaki Holding Pte. Ltd Sep-97 S$1,000
83 Mendaki Global Fund DBS Asset Mgmt Mendaki Holding Pte. Ltd May-91 S$500
Malaysian Equity Funds
84 Abrar Investment Fund Abrar Unit Trust Managers Abrar Unit Trust Managers 1996
85 Amanah Saham Bank Islam BIMB Unit Trust Mgmt Bhd. Bank Islam Malaysia Bhd Jun-94 500 Shares
86 Amanah Saham Darul Iman PTB Amanah Saham Darul Iman PTB Amanah Saham Darul Iman Oct-94
87 Amanah Saham Wanita Hijrah Unit Trust Management Bhd Hijrah Managers Bhd May-98 RM 100
88 BBMB Dana Putra BBMB Unit Trust Management BBMB Unit Trust Management Jun-96
89 BHLB Dana Al-Ihsan BHLB Pacific Trust BHLB Pacific Trust May-98 RM 500
90 Dana Al-Aiman Mara Unit Trust Mara Unit Trust May-68 RM 100
91 Kuala Lumpur Ittikal Fund Kuala Lumpur Mutual Funds Kuala Lumpur Mutual Funds May-97 RM 1,000
92 Mayban Dana Yakin Mayban Mgt Berhad Mayban Mgt Berhad Nov RM 1,000
93 Pacific Dana Amana Pacific Mutual Fund Trust Pacific Mutual Fund Trust Apr-98 RM 1,000
94 RHB Mudarabah Fund RHB Unit Trust Management RHB Unit Trust Management May-96 500 Shares
95 Tabung Amanah Bakti Asia Unit Trust Berhad Tabung Amanah Bakti May-71 RM 500
96 Tabung Ittikal Arab-Malaysian Arab-Malaysian Unit Trusts Bhd Arab-Malaysian Unit Trusts Bhd Jan-93 500 Shares
Islamic Bonds (Sukuk) Funds
97 RHB Islamic Bond RHB Unit Trust Mgt RHB Unit Trust Mgt Jun-00 RM 1,000
98 Kuala Lumper Islamic Bond Fund Kuala Lumper Mutual Funds Kuala Lumper Mutual Funds Aug-01 RM 1,000
99 Dahlia Syariah Income Fund Mayban Life Assurance Bhd. Mayban Life Assurance Bhd. Aug-01 RM 1,000


APPENDIX-D: The Dow Jones Islamic Market Indexes
Descriptive Statistics Market Capitalization Data (USD Billion) Component Weight (%)
Index Name Component Number Full Float-adjusted Mean Median Largest Smallest Largest Smallest
Dow Jones Islamic Market Index 1,422 7,603.2 6,591.6 4.6 0.8 234.2 0.0 3.55 0.00
Dow Jones Islamic Market Titans 100 Index 100 4,806.6 4,391.8 43.9 27.5 234.2 4.2 5.33 0.10
Dow Jones Islamic Market Europe Index 271 2,004.2 1,634.2 6.0 0.9 142.1 0.0 8.70 0.00
Dow Jones Islamic Market Asia/ Pacific Index 479 980.2 631.3 1.3 0.4 30.9 0.0 4.89 0.00
Dow Jones Islamic Market Technology Index 292 1,504.5 1,336.5 4.6 0.6 223.4 0.0 16.71 0.00
Dow Jones Islamic Market Canada Index 65 111.0 83.1 1.3 0.7 8.5 0.1 10.28 0.06
Dow Jones Islamic Market Japan Index 192 574.7 401.4 2.1 0.7 30.9 0.0 7.69 0.00
Dow Jones Islamic Market U.K. Index 101 723.7 710.3 7.0 0.9 142.1 0.1 20.01 0.01
Dow Jones Islamic Market U.S. Index 572 4,456.5 4,209.5 7.4 1.4 234.2 0.1 5.56 0.00

Performance Price Return (%) Annualized Price Return (%)
Index Name 1-Month YTD 2002 1-Year 3-Year 5-Year
Dow Jones Islamic Market U.S. Index 0.50 -3.78 -22.59 -24.93 -23.32 -4.34
Dow Jones Islamic Market U.S. Index 0.85 -4.15 -23.31 -25.18 -21.86 -4.26
Dow Jones Islamic Market U.S. Index -0.57 -8.18 -18.27 -24.44 -22.09 -6.77
Dow Jones Islamic Market U.S. Index -3.31 -6.90 -13.95 -22.90 -27.26 0.01
Dow Jones Islamic Market U.S. Index -1.71 -2.48 -39.18 -36.71 -39.45 -6.83
Dow Jones Islamic Market U.S. Index -2.11 2.49 -22.75 -17.92 -30.87 -6.92
Dow Jones Islamic Market U.S. Index -3.63 -7.61 -9.25 -19.35 -28.80 0.69
Dow Jones Islamic Market U.S. Index 0.55 -7.84 -9.25 -19.35 -28.80 0.69
Dow Jones Islamic Market U.S. Index 1.69 -1.47 -25.71 -25.61 -22.64 -4.01

Fundamentals P/E (including negative) P/E (excluding negative)
Index Name Trailing Projected Trailing Projected P/B Dividend Yield (%) P/ Sales P/ Cash Flow
Dow Jones Islamic Market U.S. Index 18.42 16.60 19.59 16.91 3.08 1.80 1.42 11.95
Dow Jones Islamic Market U.S. Index 22.24 18.36 19.40 16.91 3.04 1.98 1.75 12.34
Dow Jones Islamic Market U.S. Index 15.43 14.13 16.10 14.45 2.46 2.88 1.14 9.56
Dow Jones Islamic Market U.S. Index 17.29 16.66 19.76 17.18 2.11 1.88 1.24 10.28
Dow Jones Islamic Market U.S. Index 22.88 19.31 22.87 19.55 3.12 0.61 1.73 14.35
Dow Jones Islamic Market U.S. Index 21.79 14.32 19.14 14.32 2.06 0.66 1.52 9.07
Dow Jones Islamic Market U.S. Index 32.03 18.84 24.58 18.84 1.69 0.94 1.06 10.62
Dow Jones Islamic Market U.S. Index 54.03 26.97 14.96 13.77 1.49 3.09 1.08 9.32
Dow Jones Islamic Market U.S. Index 21.16 18.33 21.56 18.33 3.96 1.36 1.70 13.78


Appendix-E1: Assets, Deposits and Loans of 53 Conventional local Banks in GCC (US$ Millions)
Source: Research Unit of the Institute of Banking Studies, Kuwait
Assets Deposits Loans
Bank/ Year 2001 2000 1999 2001 2000 1999 2001 2000 1999
Abu Dhabi Commercial Bank 7,241.24 6,889.63 6,280.50 5,679.71 5,426.96 4,945.30 4453.6 4703.2 4050
AlAhli Bank of Kuwait 3,859.42 3,772.11 3,818.22 3,254.46 3,163.51 3,210.13 1769.6 1625.1 1679.1
Al-Ahli Bank of Qatar 581.10 720.41 732.53 512.78 654.00 644.62 291.88 333.93 364.73
Al-Ahli United Bank 4,102.72 3,512.35 865.97 3,145.19 2,740.21 713.02 1882.7 1766.3 526.82
Al-Bank Al-Saudi Al-Fransi 10,681.64 10,146.85 8,668.23 9,101.41 8,767.28 7,438.68 4479.7 4304.2 3853.5
Arab Bank for Inv. & Foreign Trade 1,572.79 1,509.88 1,435.01 1,215.31 1,130.05 1,060.83 348.92 336.1 336.83
Arab Banking Corporation 26,586.00 26,676.00 24,358.00 21,544.00 21,758.00 20,158.00 14225 14039 12903
Arab National Bank 10,784.30 10,052.71 9,466.77 9,196.05 8,714.86 8,360.40 3948.5 3715.3 3445.9
Bahrain International Bank 887.52 1,039.53 966.81 365.95 339.63 353.76 12.36 16.85 17.56
Bahrain Middle East Bank 512.83 620.85 655.58 189.53 271.86 267.56 14.53 12.53 13.12
Bahraini Saudi Bank 595.40 529.86 424.86 482.11 424.52 327.14 329.15 323.31 266.64
Bank Al-Jazira 1,364.41 1,383.23 1,322.26 1,154.20 1,178.03 1,133.66 568.59 556.85 460.65
Bank Dhofar Al-Omani Al-Fransi 876.61 708.80 680.34 737.09 581.51 556.10 705.96 553.35 513.15
Bank Muscat 3,501.86 3,477.18 1,942.10 2,901.22 2,927.21 1,661.78 2855.9 2592.1 1514.1
Bank of Bahrain & Kuwait 2,928.57 2,815.42 2,734.25 2,322.70 2,190.26 2,094.25 1278.7 1328.3 1344.8
Bank of Kuwait & Middle East 3,519.18 3,379.74 2,949.60 2,941.91 2,800.08 2,434.47 1383.7 1209.4 1095.4
Bank of Sharjah 524.82 514.15 465.52 409.31 404.25 363.43 280.43 298.04 266.81
Burgan Bank 4,839.90 3,721.98 3,777.05 3,994.08 3,141.46 3,195.10 1861.2 1644.5 1545.4
Commercial Bank International 651.76 542.28 469.55 548.74 450.96 390.47 469.47 400.4 357.94
Commercial Bank of Dubai 2,002.46 1,945.28 1,697.09 1,609.16 1,566.68 1,355.11 1237.2 1276.9 1239.7
Commercial Bank of Kuwait 5,504.05 5,056.48 4,530.84 4,278.49 3,822.62 3,646.12 2856 2377.4 1946.3
Commercial Bank of Qatar 1,430.77 1,391.51 1,274.92 1,102.22 1,064.76 1,026.26 749.87 667.37 627.37
Doha Bank 1,786.99 1,514.04 1,391.18 1,562.85 1,325.92 1,227.07 907.97 772.01 746.96
Emirates Bank International 6,405.88 5,335.05 5,605.89 4,622.91 3,671.30 4,554.79 4669.5 3062.9 4049.4
First Gulf Bank 937.99 652.11 556.94 762.82 489.69 408.61 466.91 382.45 356.51
Gulf Bank 6,114.70 5,413.48 5,840.87 5,246.43 4,626.97 5,069.92 3213.5 3067.3 2259.4
Gulf International Bank 15,232.00 15,119.50 15,679.40 10,949.70 11,414.50 11,462.40 3309.4 3923.1 4038
Industrial Bank of Kuwait 1,338.88 1,153.60 1,149.35 160.83 427.13 334.69 334.81 279.53 242.26
Investment Bank 700.28 676.03 607.64 549.59 534.58 478.41 465.6 434.71 399.66
Kuwait Real Estate Bank 2,151.98 2,117.96 1,788.29 1,403.49 1,342.08 1,092.75 1316.9 1192.9 1385.6
Mashreq Bank 6,181.22 6,014.33 5,442.62 5,113.20 5,049.63 4,524.65 2849 2941.5 3039.8
Middle East Bank 673.25 659.81 592.90 467.88 470.06 421.34 324.95 332.13 355.45
National Bank of Abu Dhabi 8,782.33 9,921.12 8,526.32 7,550.78 8,758.01 7,520.84 5538.4 5259.4 4559.7
National Bank of Bahrain 2,867.93 2,753.40 2,628.11 2,426.49 2,280.39 2,078.90 1200.3 1150.2 1068.2
National Bank of Dubai 8,893.32 7,664.57 6,784.70 7,514.11 6,329.01 5,480.48 1957.3 1902.2 1869.6
National Bank of Fujairah 717.79 752.42 667.25 554.03 594.20 522.26 412.89 436.3 386.13
National Bank of Kuwait 14,553.07 13,401.85 12,482.31 12,484.89 11,461.41 10,579.95 5089.3 4580.3 4245.7
National Bank of Oman 2,471.76 2,120.60 2,163.62 2,082.72 1,667.79 1,696.13 1871.3 1670.8 1599
National Bank of Ras Al-Khaimah 659.93 508.06 492.12 504.75 358.91 346.02 480.34 371.84 358.38
National Bank of Sharjah 557.38 505.20 423.17 355.05 346.67 289.76 355.44 362.01 332.03
National Bank of Umm Al-Qaiwain 466.00 461.81 478.03 327.56 328.07 346.73 315.35 317.33 329.05
Oman Arab Bank 832.49 718.40 685.22 705.77 594.36 571.16 600.01 591.42 550.62
Oman Housing Bank 429.18 429.15 444.56 16.36 23.08 80.86 412.99 421.62 435.05
Oman International Bank 1,748.80 1,921.68 2,172.34 1,295.70 1,423.04 1,656.34 1187.6 1332 1456.9
Qatar National Bank 7,795.86 6,763.51 6,141.24 6,416.61 5,444.03 4,934.41 5234.8 3744.3 3982.1
Riyad Bank 17,931.71 17,494.69 17,188.55 14,728.05 14,572.26 14,298.21 5657.3 5473.5 5165.6
Saudi American Bank 20,621.20 21,543.73 20,546.25 17,618.37 18,051.68 17,404.47 8984.2 8418 8452.9
Saudi British Bank 11,192.84 11,521.39 9,939.69 9,700.65 10,153.44 8,622.26 4277.5 4620.6 4338
Saudi Hollandi Bank 6,720.04 5,713.56 5,054.27 5,878.18 5,004.67 4,455.20 3067.3 2676.4 2454.2
Saudi Investment Bank 4,072.27 3,634.40 3,525.94 3,340.74 2,973.05 2,944.47 2009.7 2000.6 1885.8
Union National Bank 3,612.72 3,300.15 2,682.51 3,169.94 2,879.03 2,324.94 2155.7 2029.5 1788
United Arab Bank 484.50 464.59 411.46 358.74 350.17 310.47 364.86 341.22 321.91
United Gulf Bank 931.15 712.32 733.01 443.27 385.48 448.08 78.85 93.45 99.73

Appendix-E2: Assets, Deposits and Loans of 8 Islamic local Banks in GCC (All figures are in US$ Millions)
Source: Research Unit of the Institute of Banking Studies, Kuwait

Assets Deposits Loans
Bank/ Year 2001 2000 1999 2001 2000 1999 2001 2000 1999
Al-Rajhi Banking & Investment Corp. 13,815.03 12,997.68 11,448.90 10,542.35 9,785.78 8,661.74 11,275.91 10,520.67 9,243.73
Kuwait Finance House 7,733.64 6,632.26 5,817.23 5,779.20 5,065.40 4,388.63 5,875.00 4,937.21 4,092.62
Dubai Islamic Bank 4,175.44 3,205.90 2,543.70 3,573.03 2,661.05 2,077.63 3,399.98 2,595.28 2,096.63
Abu Dhabi Islamic Bank 1,664.61 1,188.18 725.72 1,167.26 804.43 408.24 1,460.42 1,038.86 648.05
Shamil Bank of Bahrain 1,241.90 1,316.34 1,092.05 58.19 64.73 44.3 677.92 580.08 555.91
Qatar Islamic Bank 1,212.82 1,115.02 1,094.23 1,003.48 910.66 902.34 974.20 940.30 860.66
Qatar International Islamic Bank 741.67 576.29 505.45 613.95 467.64 419.24 654.38 507.29 439.33
Bahrain Islamic Bank 508.47 516.85 414.86 401.54 408.57 366.26 406.30 417.60 354.87