The future of Islamic finance in a global economy

FCO Minister, Baroness Warsi, spoke at the Oxford Centre for Islamic Studies.

This was published under the 2010 to 2015 Conservative and Liberal Democrat coalition government

I’m delighted to be here this evening to discuss something which, for me, really matters.

And it is an honour to be able to explain why in such grand surroundings and with such a distinguished audience. Our world is still reeling from the effects of the economic crash. All hands are on deck as we, here in Britain, deal with the biggest budget deficit since the war. In government, this doesn’t just pose a challenge for the Chancellor – it is a challenge for all of us. As Ministers, it is our duty to help develop greater resilience in Britain’s economy. Each of us, whatever our department, has to focus on growth.

Because Britain’s place in the global race impacts on every single person in this country.

In my role at the Foreign and Commonwealth Office and as Minister for Faith and Communities, I see the power of economic diplomacy as well as political diplomacy. I’m proud that the FCO is a trade ambassador for the UK – and Islamic finance forms an important part of that. After all, the UK has become the western hub for this sector – a sector which has grown despite the downturn. This is not about saying that Islamic finance holds all the answers to our economy’s ills.

It’s not about making a simple pros and cons comparison with conventional banking. Nor is it about developing simplistic, faith specific products that only appeal to a narrow market. But it is about increasing options, maximising the products and services we have to offer. And, it is ultimately about making Britain the preferred choice for the Muslim world to invest in and do business with.

It was on a visit to Malaysia and Indonesia that I became acutely aware of the power and potential of Islamic finance. Globally the market has grown 50 per cent faster than the traditional banking sector. Sharia compliant assets rose by more than 160 per cent between 2009 and 2011. And Islamic Finance investments are now already worth $1.8 trillion dollars – with the industry forecasting this to grow to $2.5 trillion by 2015. And here in Britain there are already great examples of the sector’s successes.

More than a dozen banks in London delivering Islamic finance transactions, five of which are stand alone Sharia-compliant. And London’s skyline has been transformed by Sharia deals – the Shard, Chelsea Barracks, Harrods, Olympic Village, all financed in whole or in part by Islamic Finance.

Each of these is a powerful symbol of the sector’s rapid rise and a daily reminder of the importance of engaging with potentially lucrative new markets in the Muslim world and beyond. And, to further cement our world-leader status, London has been chosen to host the 9th World Islamic Economic Forum in October – the first time it’s been held outside the Muslim world. This rapid increase is, for me, something to celebrate and something to build upon. So today I want to talk about what this government is doing to continue moving us in the right direction. But first let me start by giving you three reasons why, more than ever, I believe the time is right for Islamic finance.

First and foremost, we today find ourselves competing in a global race in a changing economic landscape. Economic power is shifting to the east, to China and to India, and also to the burgeoning middle classes in the Middle East and South East Asia. Britain, and British businesses of all sizes, can no longer afford to ignore new and emerging markets. We need to demonstrate to the world that UK is a first class destination for foreign investment and commerce – to show that Britain is open for business. London is sending that message out loud and clear.

It still remains the world’s No1 financial centre, and that is not a position that we can afford to lose - not least because one pound in every nine to the Exchequer comes from the City. The capital’s time-zone, legal system, comprehensive regulatory framework and track record of innovation led to its endorsement as a RenMinBi trading hub.

Since September 2011, when the Chancellor and Vice Premier Wang Qishan called for the development of the offshore market in London, there has been strong growth across the board, and 28% of all international RMB payments are now made in the UK. London is an attractive destination for investment on this scale because of its world class expertise, not just in banking, but in law, accountancy and insurance, to name but a few - all backed by first class educational institutions.

From Edinburgh to Exeter, Oxford to Cambridge and beyond, our education system is world renowned. Around the world, whether in Kuala Lumpur, Singapore or Tokyo, the chances are you will meet a banker trained in London. But we cannot sit back or be complacent. We are facing increased competition from Dubai, New York and Hong Kong, as well as future regional hubs, such as Nigeria, in its bid to become an African financial capital. We must constantly be striving for more, and Islamic finance provides one area where development is possible. It’s not a silver bullet, but it is a golden opportunity.

Not least because 10 of the word’s 25 rapid growth markets are Muslim-majority countries. But it’s not just Muslims who are in the market for Islamic finance. This is a global, mainstream sector that has a global market, and as such Britain has the opportunity to utilise it.

Secondly, Islamic finance’s taps into today’s appetite for ethical finance. After the financial crash – when it became clear that the link between risk and reward was broken – the absence of riba, or interest, appeals to many more people. We have seen the Archbishop of Canterbury, Justin Welby, speak of the morality of the city being overwhelmed by a ‘culture of entitlement’, disconnecting it from what would be considered reasonable in the rest of the world. The Archbishop of Westminster, Vincent Nichols, has identified “a tendency for business people to feel they need to adopt a different set of values in business than those which they apply in the rest of their lives.”

The need to provide for the common good was a message echoed by Pope Francis, when he attacked the “cult of money and the dictatorship of a faceless and inhumane economy”. Of course, this raises the question: should faith and finance mix? All the world’s major religions warn of the dangers of an obsession with wealth. The Christian Gospels after all make clear that it is easier for a camel to go through the eye of a needle than for a rich man to enter into heaven. In Buddhism, desire is one of the three great poisons.

And in Islam, two ravenous wolves remaining amongst sheep whose owner has lost them will not be more harmful than a Muslim seeking after wealth and status is to his Deen.But this does not mean that religion and business are incompatible. As the Chief Rabbi, Lord Sacks, explained: “The way to build better business is to build a lasting economy that places ethics and morals at its heart and visibly demonstrates their importance. Ethics and business are not adversaries. In the long run they need each other.” In fact, the trend of people seeking investments that comply with their own philosophies and beliefs is not new and it’s not the preserve of Islam. Since it adopted it ethical policy in 1992 the Cooperative bank has turned away loan applications worth a reported £900million. We are seeing the effects of this trend across the world.

In Turkey, the value of assets held by Participation banks, those whose practices are structured in accordance with Islamic law, has increased by 1000 per cent in a decade. The share of these banks has increased from 2% a decade ago to 6%, and the Turkish government is looking to increase this to 15 per cent over the next decade. In America, Sabbath economics, which employ the principles of the Biblical Sabbath and focus on the redistribution of wealth, are thriving. With the simple intention of countering the ‘Wall Street economics’ of getting the greatest possible return, this model aims to do the greatest possible good and getting a decent return in the process. With Qard Hassan, the good or benevolent loan, Islamic finance aims to establish a caring society, mobilise wealth, encourage good deeds and help those in need. And that’s something I would like to call on all Islamic banks, indeed all banks, to work to achieve.

So Islamic Finance could be a sensible, measured banking option, at a time when confidence remains low and the Government is working with the G8 to improve the transparency of financial institutions. And this is the third reason why Islamic finance is an important option because we cannot simply carry on as before. We need to rebalance and diversify our economy. We need to consolidate and protect our existing position. We need to engage with new markets, products and regions.

To go beyond the borders of the EU and our traditional trading partners and to connect with the increasingly global economy. The Prime Minister has called for a modern industrial strategy that supports businesses where we have a competitive edge, and encourages the high growth industries of the future. And this includes financial services.

But just as we need to re-balance the nation’s economy to promote stability and resilience, we should encourage individual sectors to diversify. And again, there is a place here for Islamic finance.The first rule of financial advice is to “diversify your portfolio” – the unique approach of Islamic Finance would help the banking sector to do just that. That is not to say the Islamic finance was immune to financial crisis. Tightening of liquidity and the collapse in commodity and oil prices did have an impact on Islamic finance institutions.

Yet Standard and Poor’s 500 fell by more than 10% more than its Islamic counterpart, demonstrating the power and the potential of this sort of transaction. Islamic financial transactions are based on risk sharing, not just profit. Strict due diligence is used to assess the viability of a business proposal before funding is agreed. And since the project must generate legitimate income and wealth – a philosophy that you “cannot sell what you do not have” – the Islamic finance sector has some degree of protection from speculation, or Gharar.

So this is a case of right time, right place for Islamic Finance. I am proud to say that the Coalition Government agrees. By establishing the UK’s first ever ministerial-led Islamic Finance Task Force, with the ministerial clout of several departments. It is jointly chaired by me at the Foreign Office and Greg Clark, the Financial Secretary to the Treasury.

And it is supported by Alan Duncan at the Department from International Development; Lord Green at the Department for Business; David Willetts the Universities and Skills Minister; and Lord Deighton, the Commercial Secretary to the Treasury. That’s six Ministers looking to build upon London’s status as a centre for Islamic Finance. And they are supported by a strong team of industry practitioners – three of whom I’m very pleased to see in the audience this evening: Shabir Randeree, Group Managing Director of DCD London and Mutual PLC, Dr Mohammad Abdel-Haq, CEO of Oakstone Merchant Bank Ltd and Richard de Belder, Partner of international law firm SNR Denton. The Task Force has five specific focuses: supporting the market; financing infrastructure; regulation; education; and communications. I will take each in turn.

First, supporting the market. To this end, we have begun to examine ways of removing barriers and supporting market-driven growth and innovation. With a specific aim to maintain a favourable tax and regulatory framework for Islamic Finance to give London a competitive edge, building on what the UK has already done with Islamic mortgages and the tax system to ensure Sukuk are not penalised. So we are looking at alternative finance schemes like Murabahas and Wakalas to give students the option to have their student loans financed in a Sharia-compliant way. And with Green Deal providers we are exploring ways to make the Green Deal available under Sharia principles. In each case, we will consider how to overcome the tax and legislative barriers to them. By working with the industry, we will support it in its aim to broaden the range of products and services, reducing the risk of over-exposure and ensuring that high quality Islamic alternatives are available to customers.

Second, financing infrastructure. There are also major opportunities to attract investment into the UK as demand for Islamic finance increases and we are looking at ways the Taskforce can mobilise funding, for example in to the top 40 priority infrastructure projects indentified in the National Infrastructure Plan. This is a huge opportunity for the UK, and is a cross-Government effort. The Financial Secretary of Treasury, the Commercial Secretary to the Treasury and I are looking at this in great detail. We will be engaging with private investors, Sovereign Wealth Investors, and major stakeholders including the Islamic Development Bank, in order to realise this vision.

The new Financial Services Trade and Investment Board, created in this year’s budget, will have the authority and expertise to identify trade and investment priorities, and to support UK firms in pursuing these vigorously across the globe. This board is the clearest indication of the Government’s ambition to promote the financial services industry.

Third, regulation. The Task Force is also considering regulation around Islamic finance, because the governance arrangements and infrastructure that underpin the sector will be critical to ensuring its future stability and viability. The system needs to be resilient enough to be able to prevent and withstand shocks, with a strong safety net in place to protect consumers. What is more, these arrangements and risks need to be globally recognized, with effective and enforceable standards. This would require harmonization.

So the Task Force will be working with the Prudential Regulation Authority, the Islamic Financial Services Board other international standards bodies. The Task Force will also consider what role the UK can play in establishing these global standards, and whether financial ratings agencies can adequately reflect the unique characteristics of Islamic institutions.

The fourth work stream is looking at ways of promoting and exporting UK Islamic Finance education, training and research expertise.The UK is already a major global provider in the specialist legal expertise required for Islamic finance. 25 law firms provide legal services in Islamic finance. The UK also leads on providing qualifications for the global industry. With more than a dozen colleges, universities and business schools offering a qualification in Islamic Finance. But we want to go further.

The Task Force is supporting the promotion of UK institutions abroad and encouraging engagement and links with partners in Muslim majority countries. And we will look at the introduction of accreditation for Islamic finance education as well as a regulatory body for training providers.

Finally, communications. Crucial to our plans to support market growth is showcasing London as a preferred destination. London offers world-class financial and associated services, including accountancy, law and arbitration, fully geared to the requirements of Islamic finance, enabling every stage of a deal to be completed in one financial centre. Utilising the “GREAT” brand which was so successful during last year’s Jubilee and Olympics, we are developing GREAT-themed promotional material, to raise the profile of the UK Islamic Finance industry around the world.

And finally let me touch on a further dimension to this: looking at how Islamic finance can feed into our foreign policy objectives. This is particularly relevant to post -Arab Spring countries who are currently undertaking political and economic transition. Across the region only 18% of adults have a formal bank account. That is the lowest account penetration in the world and, with religious beliefs one of the most commonly cited reasons, the World Bank estimates that developing financial products compatible with religious beliefs could see this figure rise by 10 percentage points. The governments of the region are promoting Islamic finance, and as a result growth in the sector is expected be significant and could mean that the regional industry is six times larger in 2015 than it was in 2010.

For example, in Egypt, the Freedom and Justice Party (FJP), have said that they intend to boost the Sharia-compliant share of banking assets from 7% to 35% within five years. Morocco has began establishing an exhaustive legal package to ensure Islamic Finance is competitive and announced that it would like to become a region hub for the industry. Meanwhile, the Tunisian government has, for the first time, announced that they will launch a sovereign Sukuk.

There is an opportunity for the UK, and the Islamic finance sector in particular, to support this process by providing the expertise, financial innovation and services that this developing industry needs to grow. Supporting economic transition in the region in a tangible and proactive way. Helping these countries to overcome the challenging economic problems that they face.

Islamic finance has huge potential in the global economy – not many sectors are predicted to grow five-fold by the end of the decade. There is a clear demand which must be met and, in order to retain London’s status as the financial centre of the world, the City must respond. That is why the Government is committed to working with the industry to promote London as its financial centre. Islamic finance has a potential market base of more than two billion people, notwithstanding those drawn by ethical, not religious considerations. In the wake of the financial crisis, the principles upon which Islamic finance are based seem more important, more attractive, than ever before.

Principles of balance; shared risk; fairness; due diligence; oversight and transparency. Principles that prevent you from selling what you don’t own or attaching a value to assets that do not exist. But, as I’ve said, Islamic finance is not a cure-all.

Although it weathered the financial crisis to an extent, there was still a significant contraction due to tightening liquidity and the collapse in global oil and commodity prices. And of course, there are ongoing conflicting interpretations of what activities are Sharia compliant, which can and do themselves, create investor uncertainty. And the sector is still developing: the revival of Islamic finance is only 50 years old, whereas conventional banks have been around for 500 years. Modern Islamic Finance is, after all, in relative terms, at the beginning its life cycle. So although it is something that brings immense opportunities – it also has its challenges. The Government’s role is to create the regulatory and tax frameworks to allow the market to thrive, and, ultimately, help to produce the growth that Britain needs. And by championing Islamic finance I believe we are doing just that.

Published 7 June 2013