Islamic Banking: Opportunities and Obstacles for the U.S. Financial Industry

The Islamic banking industry has grown dramatically since the 1960s into a multinational industry with a substantial impact on global finance. This sector largely involves religious (Shari’ah) and cultural norms into its mission, transactions and processes. Intending to promote the public good, Islamic banking forbids usury, interest-based financing and profits from alcohol, tobacco and pornography.

It accounts for more than $250 billion dollars, and has grown at least 10% each year during the past ten years. Supporting this extensive growth is oil windfalls from Islamic countries and the fact that the Islamic population (around 1.5 billion) is growing at one of the fastest paces. Currently, only about 300 Islamic banking institutions and European banks like HSBC and BNP Paribas are already in this market. Growth opportunities abound for these companies, and many Islamic Banks have already listed on the London Stock Exchange. Foreign banks, operating in countries with Muslim populations.

The Islamic banking sector reaches a growing segment of the world’s population that seeks alternative financial services. Furthermore, investments in these banks offer some protection from global financial shocks. For instance, Islamic banks were unaffected by the financial shock after September 11.

Estimates forecast that Islamic banks could manage as much as half of all Muslims’ individual savings worldwide in a decade. The industry also caters to a large number of high net worth individuals (HNWIs) given the prosperity in the Gulf region and provide financing to large-scale construction projects in emerging markets. Not only could it possibly give foreign banks a larger reach into the Islamic world and exposure to large deposits in Gulf countries, but also it conceivably opens them to Muslim communities in their own respective countries.

Additionally, completely buying out Islamic banks exposes foreign banks to retaliation from customers resulting from anti-Western sentiment. Furthermore, banks such as those in the US face domestic political pressures. An example of this was the Middle Eastern company Dubai Ports World’s unsuccessful attempt to manage US ports. Opposition by the majority of Americans was politically disastrous for those supporting the bid, and the bid was ultimately overturned.

To deflect the impact of anti-American sentiment on operations, foreign banks have considered joint ventures with Islamic Banks. Ownership risks exist for joint ventures, which involve nationally-owned Islamic banks, because governments could jeopardize American banks’ ownership. There is a substantial transfer risk in that according to law and religious doctrine, US banks may be forbidden to take profits out of some countries. Also while US banks may have experience in volatile economies, many do not have significant experience in religious banking and a highly-regulated finance market. Likewise, religious panels have been considered.

Investment from US banks and buyouts are welcomed by some Islamic banks. Partnerships allow more services in terms of Shari’ah principles to be offered. These banks also seek a larger share of the world financial market and new investments. To attract more clients, Islamic banks are addressing issues like measuring liquidity and extensive debt services for companies. This requires innovation and reform of current policies, and partnerships can conceivably help Islamic banks expand with greater ease from foreign banks’ global reach and expertise in daily operations.

One obstacle for Islamic banks concerns its deficiency in accounting standards. Although the Accounting and Auditing Organization for Islamic Financial Institutions (AAOIFI) exists to create industry standards, greater measures need to be taken such as hiring talent and promoting innovation to be able to attract investment. To devout Muslims, Western banks’ involvement may trigger fears of Western control over banking and the sacrifice of Shari’ah principles for the sake of capitalism. This may turn away devout customers who want to ensure that the bank’s profits are distributed equitably.
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