17- Growth In Islamic Banking

The Islamic Banking system can attain significant growth if the value proposition is better understood. Any misconception about Islamic banking, once eliminated, will certainly encourage and entice more Customers (irrespective of race and religious believes) to switch from existing conventional to Islamic banking. Perhaps, the true value propositions have been not been fully revealed by conventional banks with Islamic subsidiaries, fearing that Islamic banks will cannibalize their existing conventional banking businesses. One key misperceptions until today (although Islamic banking has been introduced in Malaysia since 1983), is that Islamic banking is exclusively for Muslims. With the affixing of an "i" to Islamic banking products rather than applying the Arabic contract name,  has to certain extend make the product more acceptable to non-Muslims.

The Writer's concern is that till date, Islamic subsidiaries are more comfortable to emulate whatever products currently offered under their conventional counterparts rather than do more complex products like Specific Investment and Musharakah financing. One or two Islamic banks (not Islamic subsidiary) have shown some effort but the offering are not openly marketed.

Islamic banking products and services address the requirement for all, regardless of race and religious belief. For Muslims, it will fulfil their religious obligations where they must refrain from taking usury (or interest). For non-Muslims, it provides viable alternatives to their conventional banking products. Comparatively, the latter is predominantly driven by floating interest rate system, as opposed to Islamic banking that offering more flexibility from fixed, hybrid of fixed and variable profit rate mechanism, thus promoting certainty, clarity and predictability in its financial transactions. In addition, Islamic banking also offers profit-sharing contracts for example, Diminishing Musharakah financing which we discussed in previous Topic 16.  Customers, particularly the Depositors (or investors in the true sense of risk and reward arrangement), can enjoy higher returns (at agreed profit sharing ratio) from profits generated from the bank's investment in financing and other ventures as opposed to conventional banking model where profits generated from the bank's business is not shared but predetermined on placement of the deposits. Technically, in a rising deposit rate trend, depositors who place funds under a long tenure conventional fixed deposits will lose out while depositors of Islamic banking deposits will continue to enjoy uptrend movement of the profits rates (irrespective of their placement tenure) which is normally benchmarked against the "interest rate trend" due to competition.

With regards to Islamic banking financing products, particularly debt financing. the pricing is determined as a fixed selling price which incorporates and predetermines the profit levels that the Islamic bank will charge for the whole financing tenure. This will enable the Customers (or the borrower as termed under conventional banking) to better manage their cash flow, unlike conventional banking loans where the interest rate is on a floating basis.

The 1997 financial crisis taught us a great lesson where floating interest rate pricing had caused hardship to both businesses and consumers alike. We have to accept the fact that our whole economy is still driven based on conventional economic theory. On top of that, the "interest upon interest" or compounded method used by conventional banks, is strictly prohibited under Islamic banking. Late charges on overdue installment is normally charge as a deterrent and whatever income derived from late charges are given to charity unlike conventional banking, late charges shall be part of the bank's income.

Effective next couple of sessions, we shall focus on Islamic banking funding system covering various Islamic banking deposits (for consumer, corporate and interbank money market) and how profits are shared between bank and the depositors. We shall also make comparative analysis between Islamic and conventional deposits for better understanding on the differences.


 

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