Introduction to Islamic Banking and Finance. M Kabir Hassan

After that, commercial banking started in 1970s with the establishment of the Dubai Islamic Bank. Ever since then, the Islamic financial institutions penetrated different parts of the world including the Middle East, East Asia, South Asia, Northern Africa, and Europe.

      Thomson Reuters reports that there were as many as 1,389 Islamic financial institutions operating globally by the end of 2017 and at least 45 countries have regulations supporting Islamic finance operations.⁴⁴

Table 1.1. Growth in Islamic banking and finance (2012–2017).

      Source: Thomson Reuters Global Islamic Finance Report 2018.

      According to the Global Islamic Finance Report 2019, global Islamic finance assets reached $2.6 trillion in 2018.⁴⁵ Table 1.1 gives a snapshot of growth in Islamic banking and Islamic finance since 2012.

      As much as 71% of the global Islamic financial assets are held by Islamic banking institutions including full-fledged Islamic banks and Islamic banking windows of conventional banks. The total number of Islamic banks and Islamic windows operating globally has reached 505 in 2017.

      Among individual countries, the market share of Islamic banking in national banking in Saudi Arabia, Kuwait, Bahrain, Qatar, United Arab Emirates, Malaysia, Pakistan, and Indonesia remains at 52%, 46%, 30%, 26%, 22%, 26%, 15%, and 6%, respectively. Table 1.2 gives the share of different countries in the global Islamic banking assets.

      In more recent years, Islamic finance industry assets grew by a Compound Annual Growth Rate (CAGR) of 6% to $2.6 trillion in 2018 as compared to 2012. Quarterly panel data from 2013 to 2018Q1 in Table 1.3 reveal that profitability in Islamic banks has generally been impressive. Furthermore, in Brunei, Egypt, Kuwait, Malaysia, Sudan, and Turkey, the cost to income ratio is below 50%. Except in Bahrain, the gross non-performing finance ratio is lower than 10% in all countries. It shows high asset quality in Islamic banking with low infection ratios. Finally, the capital adequacy ratio on average is greater than 13% in all countries. This shows that Islamic banks are solvent and have the ability to withstand financial shocks.

Table 1.2. Share of countries in global Islamic banking assets.

Country	Share in Global Islamic Banking Assets (%)
Iran	34.40
Saudi Arabia	20.40
UAE	9.30
Malaysia	9.10
Qatar	6.00
Kuwait	6.00
Turkey	2.60
Bangladesh	1.90
Indonesia	1.80
Bahrain	1.70
Sudan	1.60
Pakistan	1.20
Egypt	0.80
Jordan	0.70
Oman	0.60
Brunei	0.50
Others	1.40

      Source: Islamic Financial Services Industry Stability Report 2018.

      There is a significant potential for further growth in enabling financial inclusion in Muslim majority developing countries. A survey of 65,000 people from 64 countries highlights that Muslims are comparatively less likely than non-Muslims to have a formal account or save at a formal financial institution.⁴⁶ In countries like Afghanistan, Morocco, Iraq, Niger, and Djibouti, the percentage of the adult population with no bank accounts for religious reasons stands at 33.6%, 26.8%, 25.6%, 23.6%, and 22.8%, respectively.⁴⁷

Table 1.3. Islamic banking indicators globally.

      Source: Authors’ calculations from IFSB Data.

      Furthermore, Sub-Saharan Africa accounts for less than 2% of the Islamic finance assets globally even though the continent’s Muslim population is 250 million, and according to the World Bank, as many as 350 million Africans do not have a bank account.⁴⁸

      In June 2014, Britain became the first non-Muslim country to issue Sukuk, which is an Islamic substitute for the bond. Besides that, Singapore and Hong Kong are other non-Muslim-majority countries that have also issued Sukuk in the past. Among the major companies, Goldman Sachs and General Electric’s GE Capital have also sold Islamic bonds in the past few years. The Economist reports that some non-Muslims may be drawn to pious banks for ethical reasons since Islamic law forbids investments in stocks of companies which deal in arms, alcoholic drinks, and tobacco.⁴⁹

       1.1.7Islamic investments

      In Shari’ah-compliant asset management, there are more than 1,410 Shari’ah-compliant mutual funds operating globally. By the end of 2017, the total global Islamic assets under management (AUM) stood at $110 billion as shown in Table 1.4.

      In Islamic capital markets, Sukuk is an instrument representing ownership in the underlying asset to the proportion of investment in that underlying asset. The underlying physical asset can be financed using Islamic trade- and lease-based modes of financing. The funding for the asset comes from issuing participation certificates (i.e. Sukuk) to the investors. The returns on these assets come in the form of profit on sale or rentals on the use of the assets, which are paid by the issuer of Sukuk. Sukuk is one of the significant contributors to the total assets of the Islamic finance industry with a total outstanding value of $426 billion in 2017. Overall, 19 countries observed Sukuk issuances, amounting to $85 billion in 2017. Among these, agency Sukuk constituted a 6% share, whereas sovereign issuances and corporate issuances constituted 31% and 63% shares, respectively.

Table 1.4. Growth in Islamic fund assets.

      Source: Thomson Reuters Global Islamic Finance Report 2018.

      In Islamic investments, to determine the eligibility of a company with regard to Shari’ah compliance, two sets of criteria are employed. The first step is the qualitative screening. In this process, the companies are screened on the basis of whether their core business is in conformity with Islamic principles or not. Companies dealing in prohibited goods and services are considered non-eligible for selection in the Islamic index or portfolios. For instance, if a company sells goods and services such as alcoholic drinks, arms, pork, intoxicants, pornography, or betting, the company is considered Shari’ah non-compliant. If a company engages in interest and gambling-based financial products, such as conventional banking, leasing, and insurance, the company is rendered non-eligible for selection in the Islamic index or portfolios.

      After eliminating firms with Shari’ah-non-compliant business operations, the remaining firms are evaluated on quantitative indicators. These quantitative indicators are related to Shari’ah-non-compliant leverage, Shari’ah-non-compliant investments and Shari’ah-non-compliant income. Finally, the dividend income obtained on Halal stocks is purified to exclude the Shari’ah-non-compliant portion of the income from dividends.

      Figure 1.2 plots the daily closing index values of the Dow Jones Islamic Market World Index from May 2009 to May 2019. The holding period return for the overall period was 135% during the 10-year period. The average annual return during the period is clocked at 10% per annum, whereas the CAGR has remained at 9% per annum.

      Figure 1.2. Dow Jones Islamic Market Index closing values (May 2009–2019).

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