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Inside front cover (213mm width x 276mm height trim size) Inside back cover (213mm width x 276mm height trim size)

WiA Delegate Publication �

Words into ActionDelegate Publication

for The Annual Meetings of

the Islamic Development Bank GroupDakar, Senegal �2-�3 Jumad Awwal �428H (29th-30th May 2007)

European Headquarters5 Ella Mews, Hampstead

London NW3 2NHUnited Kingdom

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PublishersPeter M. Antell

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AuthorsAbdulhadi AyyadYoucef El Djezairi

Mark FordEleanor Gillespie

Kevin GodierJack Hamilton

Ian LewisAndrew Maiden

Nadine MarroushiChris Wright

©Copyright 2007, Faircount Ltd. All rights reserved. Reproduction of editorial content in whole or in part without written permission is prohibited. Faircount Ltd does not assume responsibility for the advertisements, nor any representation made therein, nor the quality or deliverability of the products themselves. Reproduction of articles

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2

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ForewordProgramme of events

The Islamic financial marketsSupporting roles

Sharia compliance: New beginningsFinance: The centre of attractionSharia Committees: Giving moral authoritySukuks: Leading the wayFinancial instruments: The search for alternativesProject financing: Fast forwardTakaful: Finding the wayFinancial products: Welcome to the newRegulation: Keeping standards high

Getting it right - The fight against corruptionEdging towards a new growth paradigmLines of communication - Infrastructure developmentFacing the world - The trade potentialThe balance of riskStock markets - Working at their own pacePrivate matters - Equity funds

Nigeria: Economic reformsGCC banks: Fighting fitNorth Africa: Slow off the markEurope: Solid progressSouth Asia: Taking the leadSouth East Asia: Room for improvement

Development: Working togetherAgriculture: Digging deepInfrastructure: Building for the futureUtilities: Power to the peopleManufacturing: Built to lastTelecoms, IT & Outsourcing: Cornering the market

.ةيزيلكنالاةغللاعيضاومنمضتاراطإلخاديبرعصنتاحفصلايف

.يزيلكنالاصنلاتحتيبرعلاصنلابيكرتليهستلكلذو،يزيلكنالاصنلامقرلفدارم»مقر«دجويةيبرعلاةمجرتلاةيادبيف

.ةيزيلكنالاةغللاعيضاومنمضتاراطإلخاديبرعصنتاحفصلايف

.يزيلكنالاصنلاتحتيبرعلاصنلابيكرتليهستلكلذو،يزيلكنالاصنلامقرلفدارم»مقر«دجويةيبرعلاةمجرتلاةيادبيف

The opening of ABN AMRO’s Islamic window in Malaysia this March marked

a significant step on the bank’s progress to establishing itself in the key world-wide markets for sharia compliant products.

Bank Negara Malaysia, the central bank, approved the launch of the service in February. In time, subject to Bank Negara approval, ABN AMRO plans to expand this into a fully fledged subsidiary. The launch was second in a series of launches which began in November last year, when the bank rolled out its first Islamic consumer and commercial banking business in Pakistan. Similar launches are planned in 2007 for the United Arab Emirates, Indonesia and Singapore.

The bank aims to establish itself strongly in these markets as it already has a long-standing reputation and experience throughout the region. “Islamic banking is not entirely new to us. ABN AMRO has been serving the Muslim communities since our first Asian office opened in Jakarta in 1826,” says Jeroen Drost, ABN AMRO’s CEO in Asia. This is almost as long as the bank has existed. King Willem I founded the Netherlands Trading Society in the Hague in 1824 and this organisation was later transformed into the modern bank.

In more recent times, ABN AMRO has been actively offering Islamic structured product solutions to its commercial clients. Starting in the UAE in 2004, the bank has successfully closed Islamic structured transactions in Indonesia, Kazakhstan, Kuwait, Oman, Pakistan, Qatar, Saudi Arabia and Turkey. In January of this year the bank launched the world’s first sharia compliant index-tracking investment product, which was listed on the SWX Swiss Exchange and was linked to the performance of the Liechtensteinische Landesbank Top 20 Middle East Total Return index. It comprises large-cap stocks in Bahrain, Egypt, Jordan, Kuwait, Lebanon, Oman, Qatar and United Arab Emirates.

Having already established a successful track record structuring Islamic money market solutions, it is a logical next step for ABN AMRO to launch its “bread and butter” commercial and consumer banking products in Pakistan, Malaysia and other markets. On the commercial banking side, this will include provision of working capital and trade and export financing. The consumer banking offer will range from mortgages and personal loans through credit and debit cards, to insurance and investment products. High

Shared valuesSharia compliant banking is a natural progression for the Dutch giant ABN AMRO

net worth individuals and private investors will be catered for by teams operating jointly out of London and Singapore.

“With our long standing experience in servicing the Muslim communities in the commercial sector, it is a natural step for us to expand to our consumer clients,” says Drost. “We realized from the success and growth of Islamic banking that establishing a presence in this sector should mean something more than just capitalizing on a growing market segment; it should be driven by the needs of our clients. Hence we decided to provide Islamic banking products that would serve the genuine financial needs of our commercial and consumer clients, starting with clients in the Middle East and South Asia,” he explains.

Demand is “solid and growing” he adds. “We have been seeing strongest demand for Islamic banking products and services among our core mid-market client base. Meeting the needs of this market underpins the Group’s strategic focus. This also fits well into our Asia growth strategy which is focused on the mid-market segment. And equally important, Islamic banking is value based and community focused; qualities that are clearly in line with ABN AMRO’s stated corporate values.”

Islamic banking is indeed one of the fastest growing segments in the financial services industry. Globally, the Islamic financial services industry today stands at an estimated size of USD 380 billion and is growing at 15%-25% per annum, depending on markets. It is a young and growing industry, and continues to evolve and expand both financially and geographically.

By positioning itself in the leading markets for Islamic banking at this moment, ABN AMRO sees significant growth possibilities. The sector is still at its nascent stage, says Drost, but growth is rapid and product innovation is ongoing. The participation of global banks such as ABN AMRO, which brings its high standards into the sector, means that the current niche could well grow into a mainstream banking channel.

“There is a clear and growing demand for Islamic banking – especially from commercial and retail clients in indigenous Muslim countries and also from Muslim minorities in non-Muslim countries, “ says Drost. “Islamic products and services meet both the financial and religious needs of these client groups. It is therefore widely expected that the Islamic banking industry will see continued and sustainable growth.”

As for ABN AMRO, “we intend to be a major player in this area,” says its CEO. “We’re here to stay and we will strive to ensure that our products and services remain up to date, innovative and meet our local client needs.” g

ABN AMRO Advertorial feature

4

Foreword

Since its inception, modern Islamic finance has been frequently criticised

as a minority religious option, which exists more to salve consciences than to provide competitive financial solutions for people and businesses. With the prospect of increasingly rapid expansion ahead, it is now even more important for the sector to demonstrate that it offers financial products as good as, if not better than, those available from conventional banks.

This booming industry must also show that it operates with the same standards of disclosure and transparency that investors routinely demand from all global finance.

Critics say many institutions are taking advantage of the huge demand for Islamic services to sell customers financial products that appear extremely uncompetitive when compared to their conventional equivalents.

But no one doubts that Islamic finance has emerged as a major element in the global financial services industry. One aim of this book is to give an objective overview of the achievements so far, and the paths that Islamic financiers are taking to develop the institutions and instruments that can help the wheels of commerce turn better, to significantly improve the economic prospects and living standards of the world’s huge Muslim populations.

A better way aheadIslamic finance is a tool for development,

as well as for structuring international bank deals. It can do this by the sort of direct project financing provided by multilateral institutions, such as the World Bank, African Development Bank and Islamic Development Bank. It can also do this by facilitating trade, to help create wealth that reaches down to the very poorest strata of society.

IDB Group President Dr Ahmad Mohamed Ali has highlighted the contribution that Islamic finance is making to global trade, pointing out that trade had a special significance for Islamic finance. Indeed, “it is around trade that the basic principles of the Islamic financial services industry have evolved.”

Dr Ali argued that Islamic finance could be successful in promoting free and fair trade “only if it is fully integrated with the international financial architecture.” The IDB has taken up this challenge, which will ideally lead to increased competitiveness and greater public trust in Islamic finance.

“In this era of globalisation, I feel it is imperative that Islamic finance must work hand in hand with the supervisory and regulatory agencies in the West to ensure financial stability and sustain investors’ confidence,” Dr Ali said. “The IDB, in close co-ordination with a number of leading

central banks of its member countries, the Islamic Financial Services Board and the Accounting and Auditing Organization for Islamic Financial Institutions, is playing a crucial role in strengthening the architecture and infrastructure of the Islamic financial services industry.

According to Dr Ali, building public trust is essential for future development. “Acceptance and confidence of the public in the financial services industry plays a vital role in their decision to demand and access financial services. In providing its services, [the industry] offers innovative variants in the menu of alternative products available in the traditional financial markets. This widens the potential significance of the industry to cater not only to the requirements of Muslims, but also the needs of the traditional markets. Islamic finance, therefore, contributes to greater competitiveness and public welfare and enhances the quality of financial services to the society.”

The Islamic finance industry is maturing quickly as an instrument of development, as well as emerging as a significant tool of commercial finance. The most basic aim of what follows is to provide an overview of quite how wide-ranging the Islamic finance industry has become, both in the instruments it provides to enhance commerce and development, and in its geographical reach. g

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Dr Ahmad Mohamed Ali,IDB Group President

“Islamic finance contributes to greater competitiveness and public welfare and

enhances the quality of financial services

to society”

Helping Organisations WorkTransforming strategy into reality

Hay Group is a global management consulting firm that works withleaders to transform strategy into reality. We develop talent, organisepeople to be more effective and motivate them to perform at their best.With 89 offices in 47 countries, we work with over 7000 clients acrossthe world.

For over 60 years, we have been renowned for the quality of our research

and the intellectual rigour of our work. We transform research into actionable

insights. We give our clients breakthrough perspectives on their organisationand we do it in the most efficient way to achieve the desired results. Our focus

is on making change happen and helping people and organisations realise

their potential.

We are pleased to have the Islamic Development Bank as one of our clientsand we work with clients across many of the member countries from the

private, public sectors, across every major industry and we work with them

across a range of issues such as:

Building employee motivation and engagement

Leadership development and talent management

Boosting organisational performance

The challenges from globalisation

Making mergers and acquisitions work

Government reform

Making teams work effectively

Job Evaluation

Reward Information Services

Rewarding for performance and results

We don’t believe any one particular area of expertise is the magic answer.

We work together with our clients to design customised solutions combininga range of services, depending on what we really feel they need.

“Hay Group is the bestbridge I’ve seen to takestrategy across toreality”

HAY GROUP CLIENT

Hay Group (Middle East)PO Box 30987DubaiUAET+ 971 4 3247396F+ 971 4 3247395www.haygroup.com

Hay Group (Africa)

(South Africa)Hay Group1st Floor; Village WalkCentre - Maude StreetSandown - SandtonJohannesburg - 2196South AfricaT: (27) 11 783 2632F: (27) 11 884 2104

Hay Group (Asia)

Hay Group Pte Ltd10 Hoe Chiang Road#04-03/05 Keppel TowersSingapore 089315T: (65) 6323-1668F: (65) 6225-3089www.haygroup.com/sg

Helping Organisations Work Transforming strategy into reality

Hay Group is a global management consulting firm that works with leaders to transform strategy into reality. We develop talent, organise people to be more effective and motivate them to perform at their best. With 89 offices in 47 countries, we work with over 7000 clients across the world.

For over 60 years, we have been renowned for the quality of our research and the intellectual rigour of our work. We transform research into actionable insights. We give our clients breakthrough perspectives on their organisation and we do it in the most efficient way to achieve the desired results. Our focus is on making change happen and helping people and organisations realise their potential.

We are pleased to have the Islamic Development Bank as one of our clients and we work with clients across many of the member countries from the private, public sectors, across every major industry and we work with them across a range of issues such as:

Building employee motivation and engagement Leadership development an d talent management Boosting organisational performance The challenges from globalisation Making mergers and acquisitions work Government reform Making teams work effectively Job Evaluation Reward Information Services Rewarding for performance and results

We don’t believe any one particular area of expertise is the magic answer. We work together with our clients to design customised solutions combining a range of services, depending on what we really feel they need.

“Hay Group is the best bridge I’ve seen to take strategy across to reality”

HAY GROUP CLIENT

Hay Group (Middle East) PO Box 30987 Dubai UAE T+ 971 4 3247396 F+ 971 4 3247395 www.haygroup.com

Hay Group (Africa)

(South Africa) Hay Group 1st Floor; Village Walk Centre - Maude Street Sandown - Sandton Johannesburg - 2196 South Africa T: (27) 11 783 2632 F: (27) 11 884 2104

Hay Group (Asia)

Hay Group Pte Ltd 10 Hoe Chiang Road #04-03/05 Keppel Towers Singapore 089315 T: (65) 6323-1668 F: (65) 6225-3089 www.haygroup.com/sg

�

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Dubai: +971 4 883 9464 - Abu Dhabi: + 9712 634 6776 - Paris: +33 1 64 47 37 18 - Houston: +1 281 646 2400

U1000705IDB.qxd 29/03/07 14:13 Page 1

Foreword

Islamic financial services are without doubt rising to greater prominence in the

global financial system, and over the last decade or so have rapidly extended beyond predominantly Muslim emerging economies to major developed economies. This growing significance demonstrates the viability of Islamic finance as a basis for financial intermediation that supports economic growth and national development.

Sharia rules and principles govern the lives of hundreds of millions of Muslim globally, and it is only fitting that these values be extended into the financial sphere of their lives. While Islamic finance was initially developed to fulfil the needs of Muslims, Islamic financial services have now gained universal acceptance, and the appreciation of their potential has motivated international financial institutions to venture into this fast expanding market. Indeed, financial institutions the world over are introducing Islamic financial services alongside conventional products and are constantly developing and introducing innovative sharia compliant products to suit market demands. Industry commentators now think of the Islamic finance industry as a significant sector of the global financial industry, and Islamic financial products and services are seen as an alternative financial toolkit within the global system.

While this can be seen as a significant and positive development in the global financial system, this extremely rapid growth poses a major challenge both to regulators and to international intergovernmental organisations that are entrusted with the task of monitoring the soundness and stability of the financial systems in various jurisdictions, as well as to the market players themselves.

ForewordConsistency, standardisation, harmonization, and integration seem to be the flavour of the day at the many gatherings on Islamic financial services, and in discussions on the rapid growth and development of the sector over the past few years.

In light of these developments, the two fundamental challenges facing the Islamic financial services industry are to ensure that the industry operates (1) as an integral part of the international financial system; and (2) on a sound and stable basis.

The integration of the Islamic financial services industry into the global financial system will to a large extent be facilitated by high quality prudential standards which, while complementing existing international standards, also address the specificities of Islamic finance. We believe that the Islamic Financial Services Board (IFSB) has a significant role to play in promoting and facilitating this integration. The work of the IFSB focuses on the development of a prudent and transparent Islamic financial services industry through introducing new, or adapting existing, international standards consistent with sharia principles, and proposing them for adoption. The work of the IFSB thus complements that of the Basel Committee on Banking Supervision (BCBS), the International Organisation of Securities Commissions (IOSCO) and the International Association of Insurance Supervisors (IAIS).

The IFSB has, to date, issued three standards or guiding principles for the Islamic financial services industry, namely those on capital adequacy, risk management, and corporate governance, as well as two exposure drafts (on transparency and market discipline and the supervisory review

process, respectively) that are scheduled for adoption as standards by the IFSB Council by the end of 2007. Work is also ongoing for three new standards on specific issues on capital adequacy, corporate governance of Islamic collective investment schemes, and corporate governance of takaful undertakings. In developing its standards and guidelines for the Islamic financial services industry - broadly defined to include banking, capital markets, and insurance - the IFSB does not attempt to reinvent the wheel. Rather, it complements the standards and guidelines aimed at the conventional financial services industry that are issued by its international counterparts (BCBS, IOSCO and IAIS).

Like other international standard setting organisations, the IFSB does not have the power to enforce the implementation of the standards and guidelines it promulgates. In this respect, the IFSB endeavours to develop high quality standards and guidelines while working together with regulatory and supervisory authorities in member countries, as well as other relevant international organisations, to conduct awareness programmes such as workshops and seminars to facilitate the implementation of its standards and guidelines.

The Islamic Development Bank (IDB) is a founding member of the IFSB, and is a strong supporter of its efforts. Many IDB members are also represented in the IFSB membership and I take this opportunity to express my appreciation to these governments and organisations which have extended their kind co-operation in facilitating and promoting the efforts of the IFSB in their respective countries and jurisdictions. g

Professor Rifaat Ahmed Abdel Karim, Secretary-General, Islamic Financial

Services Board

“The IFSB does not attempt to reinvent the wheel. Rather, it complements

the standards and guidelines aimed

at the conventional financial services

industry that are issued by its international

counterparts”

©U

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Synergy

cggveritas.com

Passionate performance

and powerful innovation now

go by a single name.

Dubai: +971 4 883 9464 - Abu Dhabi: + 9712 634 6776 - Paris: +33 1 64 47 37 18 - Houston: +1 281 646 2400

U1000705IDB.qxd 29/03/07 14:13 Page 1

Inside the IDB

�

The Muslim umma (community) encom-passes some of the world’s wealthiest

regions, typified by the Gulf states, which are not only themselves developing at breakneck speed, but whose huge liquidity is stimulating an unprecedented investment boom in other parts of the Islamic world. The umma also includes many millions of Muslims who number among the world’s poorest populations; for many of these impoverished communities, essential improvements in their standards of living, overall economic situation, and outlook for a better life for their families depends on the sustainable support of external agencies, including multilateral development banks (MDBs) such as the Islamic Development Bank (IDB).

In this world in flux, according to IDB President Dr Ahmed Mohamed Ali, rapid and phenomenal changes to the global economy have created a special challenge for the IDB and its member states. Its mission now is “to promote comprehensive human development, with a focus on the priority areas of alleviating poverty, improving health, promoting education, improving governance and prospering the people. This is a cause like no other [and the] IDB is privileged to be entrusted with the responsibility.”

In between some of the world’s richest and poorest populations, millions of other Muslims are confronted by the challenge

so familiar to many emerging markets, which are experiencing the transition from predominantly agrarian into industrialised (and post-industrial) consumer societies, peopled increasingly by ageing urban populations whose material preoccupations are very different to those of their parents.

While the rise of Islamic radicalism has preoccupied so much of the global media, the central reality for a majority of the global Muslim population is meeting the challenge of adapting to economic and social transition enacted at a speed unprecedented in history. Across the umma, this more affluent, urbanised population is looking to formulae that will speed this adaptation while not losing track of their social and moral compass. This trend helps to explain why the emergence of Islamic financing products has held such resonance for so many investors, savers, and consumers: the boom in Islamic financial services – which has made it one of the fastest-growing, most important asset classes in global banking and finance – is the product of a time of unprecedented upheaval for many societies.

To make sure that the boom does not end, existing institutions are having to expand to help structure and regulate the market; new institutions – from regulators across the Organisation of the Islamic Conference (OIC) countries to investment funds – are required to absorb demand; a wide range of players, from sharia (Islamic law) scholars

Community of interests buoys up Islamic financial marketsAmid ever more testing challenges in a fast-moving financial arena, the IDB can be a catalyst for change in the burgeoning Islamic economy, writes Youcef El Djezairi and Jack Hamilton

4

to quantitative strategists at bulge bracket banks, are entering the industry.

The IDB has, since its foundation in 1975, been an important institution in the Islamic economy, working especially closely to help alleviate pressures on OIC governments. As it develops new financial products, the Jeddah-based bank is well placed to act as a catalyst for positive change, in such critical sectors as infrastructure development and stimulating trade between countries that have long depended on their links with the traditional industrialised powers, while largely ignoring the potentials for working more closely with their neighbours.

The bank’s extensive trade promotion between its 56 member countries, and its long-established trade finance operations are thus focused on promoting the objective of economic emancipation. “Member countries have no alternative to closing ranks and forming a single bloc to meet the challenges and inevitable consequences of globalisation, relying on their strong links, their economic integration, and their huge human and material resources,” says Dr Ali. In this core business, the IDB can truly play the role of catalyst.

Big resources, huge challengeThe IDB has set itself a daunting task by making the defeat of poverty in member countries its top priority, since these economies include some of the world’s poorest countries: in 2002, just under 400 million of the 1 billion people estimated to be in absolute poverty lived in 31 of the 56 IDB member countries.

But against this challenge, the bank is able to deploy major resources. The great strength which it hopes to use to improve the lot of its most deprived citizens is that, as well as having some of the least developed countries of the world among its 56 members, it also has a handful of the wealthiest. These wealthy members, including Saudi Arabia and other Gulf states, already contribute the lion’s share of the IDB’s equity capital and have already extended significant help to the wider global community.

“The relatively richer developing member countries are assisting and supporting the lesser endowed members to make the IDB the living embodiment of the real South-South co-operation with AAA rating from Standard & Poor’s,” says Dr Ali.

Vision for the futureThe IDB is committed to creating the sort of sustainable development that can help close the wealth gap, and the pre-eminent platform on which the bank has chosen to further these goals is the IDB Vision 1440H – a strategy aimed at meeting a series of goals for the benefit of the whole Muslim world by 2020.

The IDB describes Vision 1440H as a “unique approach”, which has made “human dignity the cornerstone of the bank’s development agenda”. Its main strategic objectives are to reduce poverty and empower ordinary

Islamic Development Bank headquarters, Jeddah, Saudi Arabia.

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The Islamic financial markets

WiA Delegate Publication �

people. Vision 1440H was launched at the bank’s May 2006 31st Annual Meeting, held in Kuwait. Since then, its leaders – notably former Malaysian Prime Minister Dr Mahathir Mohamed and former Indonesian President Professor Bacharuddin Jusuf Habibie – have worked to harness resources from across the Muslim world in the cause of development.

Their findings are expected to inform and act as a further springboard for action at the IDB’s 32nd Annual Meeting, to be held in Dakar, Senegal.

At a meeting of the IDB board in January 2007, President Dr Ali said the bank would rally international financiers to join it in establishing regional funds to support infrastructure projects in member countries. Advances have already been made. In October 2006, IDB became a strategic partner of the Government of Indonesia, to support a new Islamic Infrastructure Fund for the country.

Banking on change Another of the strategic objectives being advanced by Vision 1440H is the development of the Islamic banking industry. The IDB is working with many other Islamic and non-Islamic multilateral finance institutions; some projects are well advanced.

Two years ago, it joined with the Kuala Lumpur-based Islamic Financial Services Board, which serves as an international body for setting standards in the Islamic financial services industry, to develop a ten year plan. This included a strategic vision to develop Islamic financial intermediation at national and international levels. In late 2006, the IDB’s Waqf Fund allocated US$600,000 to a Co-operation Programme with the IMF to promote Islamic banking and finance.

The IDB has also capitalised Islamic banks around the world. It was finalising

a stake in Tayssir Bank, which will be the first Islamic bank established in France, as this report went to press. In January 2007, it approved a US$15 million global line of finance to three banks in Uzbekistan. In the previous year, it extended capital to four Islamic banks throughout the umma, and to one takaful company.

It is also doing its bit to create the necessary financial products. The IDB worked with the Bahrain-based Liquidity Management Centre, which facilitates the investment of Islamic banks’ surplus funds into quality short- and medium-term financial instruments, to identify a negotiable short-term liquidity instrument, called “the short-term sukuk programme”. This involved the bank intervening in the market to solve the chronic problem of liquidity management in Islamic financial institutions.

In 2006, the IDB approved a 500 million Islamic dinar limit under the “reverse murabaha” instrument, which it developed to mobilise short-term resources from the market. This new scheme has attracted significant interest from financial institutions and central banks in member countries. In May 2006, the bank also adopted revised guidelines for syndicated and two-step murabaha financing. The ceiling for approved amounts was raised, together with that of the components of the currency basket. Additionally, it is now possible to use those resources to finance imports from diverse sources of supply.

It is via such schemes that the bank mobilises market resources to support its development and trade finance operations. Meanwhile, it has significantly increased its own capacity to support deals and initiatives, doubling its capital to US$40 billion in 2006, to strengthen its lending capabilities. The subscribed capital was increased by US$9.2 billion to approximately US$20 billion.

Social supportThis financial business is rooted in the realisation of an Islamic vision of development, which is seen as the optimum means of bringing social progress to member countries, as well as Muslim communities elsewhere, in accordance with the principles of sharia.

Development finance is focused on development assistance in the form of project financing, trade financing, technical assistance and grants.

During its first three decades – the period 1975-2005 – the IDB Group (excluding its ICIEC affiliate) financed nearly 5,000 projects totalling US$41.4 billion. Trade finance accounted for 59.5% of the total and project financing 38.5%, with the remainder going in technical assistance and special assistance. The largest sectors in which the bank invests are public utilities, the social sector, and transport and communication. Smaller but also significant sectors include industry and mining, agriculture and financial services. 4

Nearly one-third of project financing is carried out through leasing and just under one-quarter through loans, with istisna’a and instalment sales at just under one-sixth each.

The bank also operates a series of specialist funds, such as the Infrastructure Fund, a private investment vehicle focusing on infrastructure development in member countries; the autonomously managed Unit Investment Fund, which assists the IDB in sourcing additional funds through the securitisation of its lease and instalment sale assets, in accordance with the Islamic concept of mudarabah; and the close-ended Awqaf Properties Investment Fund, which develops and invests in socially, economically and financially viable awqaf real estate properties.

The bank’s programmes reach around the world: projects approved at the March 2007 board meeting show a typical cross section of assistance, including loans from US$10 million to US$130 million to finance road building in Kyrgyzstan and Morocco, the expansion of Iran’s Khozestan steel plant, the development of vocational colleges in Uzbekistan, a power transmission project in Tajikistan, the construction and equipping of health facilities in Togo and mines in Mauritania. Nearly US$300 million in import trade financing was approved for operations

Ali: This is a cause like no other and the IDB is privileged to be entrusted with the responsibility.

The relatively richer developing member

countries are assisting and supporting the lesser

endowed members

Global leadership from Asia

The IDB Vision 1440H strategy is being led by two of the most influential politicians to emerge from the Asian region in recent decades. Former Prime Minister of Malaysia Dr Mahathir Mohamed is guiding the programme. He has co-opted more than 220 intellectuals and experts to contribute ideas to lay out a series of significant challenges, both for the IDB itself and for Islamic finance in general.

Alongside him stands Professor Bacharuddin Jusuf Habibie, former President of Indonesia, who issued a challenge calling on the IDB to “re-examine its role and reinvent itself to tackle the vastly different challenges within the Muslim community and outside it.” Habibie told the September 2006 International Monetary Fund/World Bank Annual Meetings in Singapore that radical developments worldwide meant change was inevitable. “In many Muslim countries, especially the least developed member countries of the IDB, the progress towards achieving their Millennium Development Goals is far behind the minimum performance benchmarks, especially as a result of heavy indebtedness, food insecurity, high unemployment rates, and low human development.” In this context, the bank’s vision, which started as a dream of 1.3 billion people, had been “transformed into an implementation programme for 6 billion people without exception.”

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Humanitarian supportThe IDB has already supported the foundation or improvement of 4,566 primary schools, 576 secondary schools, 59 colleges and universities and 204 vocational training centres.

In health, it has financed projects at 2,683 primary healthcare units, 97 district and regional hospitals, and 23 specialist and referral hospitals.

It has paid for 29,700 boreholes and supported the installation of 15,800 water points for agricultural use, at least 300,000 hectares of irrigation as well as 7,000km of rural and feeder roads, 4,934km of trunk roads, 14,000MW of power supply and 11,312km of transmission lines.

The bank has a long record of providing funds for humanitarian causes, relieving the suffering of ordinary people caught up in some of the world’s most intense geopolitical conflicts as well as the most devastating of natural disasters.

The IDB has allocated US$250 million to a joint programme to finance the rehabilitation of facilities and projects destroyed during the Israeli bombardment and invasion of Lebanon in 2006. The programme, which is also supported by the Islamic Chamber of Commerce and Industry and the General Council for Islamic Banks and Islamic Institutions, aims to raise US$1 billion capital. In addition to US$215 million of “ordinary” finance, including istisna’a, ijara and instalment sale projects, the programme has advanced US$30 million in the form of Qard Hassan, and a US$5 million emergency grant for medicines and other essential emergency materials. The IDB’s contribution has been specifically geared towards construction and rehabilitation of destroyed infrastructure facilities, including schools, hospitals, power networks and

involving corporations from all around the Muslim world.

At the other end of the spectrum, the Waqf Fund provides grants and special assistance for just a few hundred thousand dollars to build schools, colleges and health centres in Bosnia and Herzegovina, Ethiopia, Malawi, Somalia, the Philippines, India and even in Canada and the United Kingdom. The bank has also provided technical assistance for social and infrastructure projects.

Through its programmes of concessional financing, which are aimed at some of the poorest member countries, the IDB has already financed US$4.2 billion worth of projects, half of which were for pro-poor activities. It has financed projects to increase employment opportunities, to provide market outlets for the rural poor, to improve basic rural and pre-urban infrastructure such as the supply of drinking water and electric power, and to expand education and health facilities. In addition, it has implemented training programmes aimed at women to help them to participate more in the economies of their countries.

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roads, in addition to new public sector projects in co-ordination with the Lebanese Government.

In terms of geopolitical assistance, the bank has also provided long-term help to mitigate the suffering of the Palestinian people. Since 2000, the IDB has operated two funds, the Al-Aqsa and Al-Quds funds, which sponsor projects in the Palestinian Territories. The two funds have disbursed a total of US$686 million, helping to build tens of thousands of houses, roads, schools, water and electric lines and to provide health and education services to those most affected by the Israeli occupation, invasions and arrests.

The most important recent project of natural disaster relief in recent years has been the US$500 million assistance package for tsunami victims in Indonesia, Maldives, Somalia, Thailand, India and Sri Lanka. Help was focused on relief operations and the reconstruction of infrastructure, especially in the key areas of education, health, energy and transportation. US$300 million worth of projects have already been implemented. One recent project to be approved was a US$32.15 million istisna’a and grant finance for the development of Belawan and Sibolga Fishing Ports in Indonesia. The emergency assistance programme also provided US$35.5 million istisna’a and instalment finance for the reconstruction of IAIN Ar-Rniry University in Aceh.

The IDB has also provided US$103 million Emergency Assistance for Combating Bird Flu in a number of member countries.

The IDB’s programmes reach around the world. Pictured here, health education in Togo.

The IDB has already financed US$4.2 billion

worth of projects

Creating the Poverty Alleviation Fund

In February 2007, IDB President Dr Ahmed Mohamed Ali and Board of Governors Chairman Abdoulaye Diop, who is also the special envoy of the President of Senegal, led a high-level IDB delegation on a tour of heads of state, including Iran, Algeria and Libya. This was intended to mobilise resources for the creation of a Poverty Alleviation Fund (PAF), which was expected to be launched at the bank’s annual meeting in May 2007.

The PAF will be a waqf fund backed by capital of US$10 billion. Its inspiration arose from the Extraordinary Summit of the Organisation of the Islamic Conference held in Mecca in December 2005, which issued an appeal for member countries to provide the capital for a special fund to tackle unemployment and create new opportunities. By February 2007, the fund had already received contributions from 21 member countries. King Abdullah Bin Abdul Aziz of Saudi Arabia promised US$1 billion in starting capital. Kuwait pledged US$300 million.

The PAF is “urgently looking for ways to increase the limited resources dedicated to health, education, infrastructure projects, small and medium establishments in order to combat poverty in the least developed among the member countries,” said Dr Ali. It was “the best example of solidarity among the member countries of IDB towards fighting poverty in which each member country participates, not as a donor or receiver, but according to its financial ability and the will to help others.”

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that commercial hub. Dr Taha sees Dubai as an ideal location for expansion, as an increasing number of Middle East banks are based there, and demand for export credit is most strong. He saw the UAE, which attracted more than US$12 billion foreign direct investment in 2005, as a model.

The 13-year old corporation provides sharia compliant insurance and reinsurance for commercial and non-commercial risks. It also provides investment insurance and reinsurance against country risk, emanating from foreign exchange transfer restrictions, expropriation, war and civil disturbance and breach of contract by the host government.

ICIEC has become closely involved in facilitating investment, managing the IDB Group’s technical assistance programme on investment promotion and launching technical assistance programmes in a number of countries. Dr Taha observes that ICIEC’s involvement in investment schemes can further reduce political risk, given that its parent, the IDB, includes the target countries among its shareholders. Indeed, in 2006 ICIEC had no claims arising from its regional coverage.

Impressive growth Another IDB affiliate, the Islamic Corporation for the Development of the Private Sector (ICD), recorded its best results in its seven-year existence during 2006. Preliminary financial figures show a 124% increase in lines of finance – a programme introduced just three years ago. Investments in partner companies increased by 40% and medium-term financing rose by 24%. In total, overall investment operations increased by 37% from about $166.4 million in 2005 to almost $227.9 million a year later.

This massive expansion in business has created a surge in overall revenues, which grew by 55% to US$24.7 million. Meanwhile, costs were kept under tight control, growing by only 5.9%. The result was an 87.5% leap in gross profits to approximately US$18 million.

Chief Executive Officer and General Manager Dr Ali Soliman explains that ICD’s success comes from offering “a mix of financing that is tailored to meet the needs of each project. I believe that our best results have been in providing lines of financing to commercial banks and national development financing institutions, from which the capital needs of small and medium-sized enterprises are met. These lines are used quickly and meet real needs in the business community in our member countries.”

Building a community of trade and business: IDB affiliatesThe global trade finance community has been endowed with a new player, the International Islamic Trade Finance Corporation (ITFC), which held its first general assembly on 24 February 2007 at its headquarters in Jeddah. ITFC has been launched with an initial capital of US$300 million, financed via a pre-operational loan from its parent organisation, the IDB.

According to Dr Ali, the corporation should boost member countries’ economic development by enhancing regional trade: “This initiative will work to alleviate economic burdens and combating poverty in the least developed member countries. ITFC will provide more resources to the Islamic Development Bank to finance exports and investments and secure necessary guarantees that will facilitate greater trade exchange regionally.”

The level of trade between member countries of the Organisation of the Islamic Conference (OIC) is currently modest. The ITFC will develop and finance inter-regional trade, streamlining the development effect of trade financing operations and upgrading the capabilities of the member countries in the field of exports. It will also monitor market trends and will launch specialised funds.

As well as its main role of financing trade within the OIC, the ITFC is also committed to increasing the sophistication of Islamic trade finance and its global reach. It will develop a more diverse range of financial instruments and sharia compliant products for trade financing. It will also help enterprises in member countries to access the international capital markets. It

will advance these global objectives hand in hand with country specific projects. For example, the corporation plans to work with member countries to stimulate the creation of investment opportunities and to enhance their export capabilities. It will also provide technical assistance and training to local banks to improve their ability to offer professional trade finance products.

ICIEC growthThe ITFC is only the latest of the IDB’s trade-focused affiliates, following on from the Islamic Corporation for the Insurance of Investment and Export Credit (ICIEC).

One notable knock-on effect of the IDB’s highly successful trade promotion strategy has been the strong growth in demand for investment and credit insurance in the OIC countries. In February 2007, ICIEC – the IDB subsidiary that specialises in insuring country and political risk – requested an increase in capital from its shareholders to meet this demand. General Manager Abdel-Rahman Taha wants to triple ICIEC’s capitalisation to US$450 million, from US$144 million, to take place by the end of 2007.

Speaking at the Broader MENA Investment Summit held at the Dubai International Financial Centre, co-organised by ICIEC and the World Bank Group’s Multilateral Investment Guarantee Agency (MIGA), with which it works in close partnership, Dr Taha said the region’s commitment to liberalisation and economic integration had led to higher inflows of investment, which had created greater trade flows and demand for insurance.

ICIEC has also announced that it will open its first foreign representative office in Dubai. ITFC will also open an office in

Member countries have no alternative to closing ranks and forming a single bloc

to meet the challenges and inevitable consequences

of globalisation

The IDB has paid for 2�,700 boreholes and supported the installation of 15,�00 water points for agricultural use, and more than 300,000 hectares of irrigation. 4

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ICD’s core business is the direct finance of projects or companies. Its main operations are centred on the provision of equity and term financing to commercially viable enterprises that need restructuring and modernisation.

New projects approved at the end of 2006 include an instalment sale financing facility for a pharmaceutical company in Saudi Arabia, an additional global line of financing to Azeri banks for the development of SMEs, and an additional financing facility for a real estate development company in Saudi Arabia. In limited cases, ICD also finances green field projects. For example, it is currently co-financing a US$32 million bulk terminal project in Djibouti with the African Development Bank and Saudi-based MIDROC, part of the Al-Amoudi Group.

Priority projects for the ICD are those that will have a significant developmental impact on the country. It gives special attention to projects in the technology, telecommunications, power, water and sanitation, healthcare, pharmaceutical, and industrial sectors.

In order to keep a diversified portfolio and operate in a cost efficient and effective manner, ICD is developing intermediary investment vehicles, such as leasing companies and investment funds to reach the private sector,

in co-operation with both multilateral and national financial institutions.

The IDB advances professionalism for the global Islamic finance sector through the Islamic Research and Training Institute. The institute is dedicated to increasing both the supply and quality of Islamically trained and qualified experts in all financial and economic fields. It organises training, seminars and conferences in collaboration with national, regional and international institutions. It also manages a series of databases, including a register of Muslim experts and a database on trade information and promotion. One of its main achievements has been to create an information system dedicated to Islamic banking and finance.

At the same time, IRTI specialists are working with financial institutions in the sector to research the development of sharia compliant financial models, applications, and methods.

The IDB and its affiliates are playing an important role in supporting initiatives to develop social, economic and political solutions to many of the world’s poorest countries. Working together with, and in parallel to, the markets, it can make a difference, by helping to apply the Islamic world’s growing financial muscle for the betterment of all. g

The bank intends to rally international financiers to join it in establishing regional funds to support infrastructure projects in member countries.

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يــتـلاةــمـخـضـلاةــعـيرــسـلاتارــيـغـتـمـلاتدأدــحـتقــلـخىــلايــمـلاــعـلاداــصـتـقالااــهـفرــع.هتاسسؤمو»ةيمنتلليمالسالاكنبلا«ـلةـيـمـنـتـلاعـيـجـشـتوزـيزـعـتيـه،نآلاكـنـبـلاةـمـهـمناتالاــجـمـلاىــلـعزــيـكرــتـلاعــم؛ةــلـماــشـلاةــيـناــسـنالارــيوــطـت؛رــقـفـلاةدــحنــمفــيـفـخـتـلـلةــيوــلوالاتاذرودنـيـسـحـت؛مـيـلـعـتـلاوةـيـبرـتـلـلجـيورـتـلا؛ةـحـصـلايـطـعـتةزـيـمـلاهذـه.ةـيرـشـبـلاراـهدزاو؛ةـموـكـحـلاهــعورــفو»ةــيـمـنـتـلـليــمالــسالاكــنـبـلا«نــعةــحـمـلثادــحالــجانــمةــلـمـحـلانوردــصـتـيمــهراــبـتـعاــبةـــيداـــصـتـقالاةـــمـظـنالارـــبـعةـــمـخـضتارـــيـغـتـم.ةيمانلاةيمالسالا

Inside the IDB

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The growth in the Islamic finance sector has paralleled the general trend for

greater “Islamisation” of Muslim post-colonial societies; in this case, Islamic finance did not step into a vacuum of alternative financing schemes, but rather represented a growing consciousness of the need for financing arrangements to be acceptable from an Islamic viewpoint.

The earliest of the quasi-Islamic alternative financial institutions is the Kuwait Fund for Arab Economic Development. The establishment of the Kuwait Fund was also a catalyst for a number of other significant multilateral and inter-governmental institutions that provided financial support, in the form of non-commercial loans to support the construction of industrial, technical, and “developmental” infrastructure projects. The Kuwait Fund shot to prominence soon after its founding in 1961 and remains relevant today.

Perhaps confusingly, while The Kuwait Fund retains its original name, its remit has grown far beyond the Arab, or even the traditionally known Islamic world, to cover developmental projects in the Americas and East Asia; the fund now operates in a total of 68 countries, while Arab countries still account for the lion’s share of loans given out.

The financing structure operated by the Kuwait Fund is not explicitly Islamic, but the loans given to countries as far-flung as Jamaica, Cameroon, and Cambodia are notable for their less-than-market interest

rates; in some cases, where the Kuwait Fund competes with other Islamic institutions, their loans are competitive in terms of the total cost of capital. In fact, since the long-term loans are given at interest rates lower than borrowing rates set by all of the major central banks, in most cases they amount to grants on which the fund actually loses money. It is also worthwhile mentioning that one of the main requirements of many Islamic financing schemes - that the financing is attached to tangible assets - is fulfilled by the projects which the Kuwait Fund supports.

Kuwaiti support In the beginning, the Kuwait Fund was a sum of money looking for places to go. While the money originally came from the vast petroleum wealth of the Kuwait in the form of grants and loans, it is now almost entirely self-reliant. At the close of FY 2005/2006, loans from Kuwait made up KD129 million of the total loans held by the Kuwait Fund, compared with a gross of more than KD3.7 billion.

Somewhat unexpectedly, the fund seems to have escaped what some thought would be its Achilles’ heel: a close link between the fund’s assistance packages and Kuwaiti politics. For example, during the 1990s, the fund discontinued its support for infrastructure projects only to Iraq, and not to other pro-Iraq states such as Jordan or Yemen, a singular feat for a third-sector body in Kuwait.

Supporting rolesA range of multilateral and bilateral Arab & Islamic institutions complement the IDB’s work in promoting Islamic finance, writes Abdulhadi Ayyad

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It is this ability to remain insulated from the grassroots of Kuwaiti influences - where demand for Islamic financial products is strong and growing - which means that the Kuwait Fund is not likely to join the Islamist bandwagon.

The fields where the Kuwait Fund operates, however, are circumscribed by governmental demands in the countries where the loans are executed. At the close of FY 2005/2006, industrial projects made up less than 10% of total outstanding loans owned by the Kuwait Fund, compared with 34% for transportation and 23% for energy and electricity projects.

This emphasis on infrastructure reflects the priorities of regional governments, the usual debtors of the Kuwait Fund’s loans, who are more concerned with the operation of a state’s structure than with the growth of an independent capitalist class.

The Arab Fund for Economic and Social DevelopmentSlightly younger than the Kuwait Fund, the Arab Fund for Economic and Social Development has its offices just a few kilometres away on the other side of Kuwait City.

While located in Kuwait, and with Kuwaitis well-represented at Director level, all Arab League states are members of the Arab Fund; this has made the fund more restricted in the areas where it operates, but the areas of investment seem largely similar to those of the Kuwait Fund. For example, at the close of FY 2005/2006, nearly half of loan commitments were made to transportation projects, which in Arab League states operate in a highly regulated public sector. Similarly, social development projects accounted for 10% of commitments at the end of the same fiscal year. As with the Kuwait Fund, the Arab Fund remains, at the present time, impervious to consumer demand for Islamic finance products; again, like the Kuwait Fund, almost all loans are made with a significant grace period and at non-commercial interest rates.

One of the strengths of the Arab Fund, given its lack of profile in the industrial and manufacturing sector, is the robust supervision of the construction projects they approve; it makes a point of vetting the technical credibility of any project it finances. This is a key strength that the Arab Fund should promote, particularly if it would like to increase its exposure in the industrial/manufacturing sector; not least because such projects have accounted for only 7% of the fund’s loans over the past two decades.

The Kuwait Fund’s remit has grown far beyond the Arab,

or even the traditionally known Islamic world

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Supporting roles

WiA Delegate Publication 17

Opec Fund for International Development In 1971, the UAE established the Abu Dhabi Fund for Arab Development, which has now grown into the Abu Dhabi Fund for Development. Together with the Kuwait Fund, and funds of the governments of Venezuela, Nigeria, Iraq, Iran, Saudi Arabia and others, these efforts were pooled and co-ordinated in 1976 in the Opec Fund for International Development (OFID).

OFID’s operations are slightly more varied than the others and, importantly, private sector loans are available to enterprises operating in up to 110 countries. During the FY 2005/2006, OFID financed or part-financed four private sector projects in food processing, construction, shipping and finance; these had an average value of US$4.4 million compared with an average of over US$11.5 million for the public sectors they finance.

The Kuwait Fund’s emphasis on infrastructure reflects the priorities of regional governments.

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Outlook for Islamic financing The lack of consumer demand, which would lead to a greater need for Islamic financing, and the relative unimportance of the private sector, means that innovative financing agreements for industrial projects are under-served.

The use of istasna’a, which lends itself to manufacturing and production, would allow the sponsorship a greater number of industrial activities. But the multilateral and governmental nature of these funding houses means that change and response to market demand will be slow. Likewise, since many of the important backers of the Arab Fund, and Kuwait as the sole governmental backer of the Kuwait Fund, are paid-up members of the IDB, these funds will most probably remain complementary counterparts to the work of the IDB. g

ىرخأةيمالسإتآشنمادــيازــتـماــيـعولــثـمـتةــيـمالــسالاةــيـلاــمـلادراوــمـلاعـمقـفاوـتـتةـيـلاـمةـمـظـناوتاـبـيـترـتىـلاةـجاـحـلـلنـعةـحـمـليـطـعـتةزـيـمـلاهذـه.ةـيـمالـسالاةـيرـظـنـلاضـعـبيـفواـضـعـباـهـضـعـبلـمـكـتيـتـلاتاـسـسؤـمـلايــمالــسالاكــنـبـلا«رودقوــفـتومــعدــت،تالاــحـلايــلاــمـلاعــضوــلاعــيـجـشـتوزــيزــعـتيــف»ةــيـنـمـتـلـل.عسوأوبحرأقاطنىلايمالسالا

Islamic finance

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The strong demand for sharia compliant products suggests that the Islamic finance

industry is set to enter the mainstream, but the demand driving the industry’s strong growth is also revealing its weaknesses. These include an inability to provide the market with the types and quantities of products that customers want, a lack of standardisation and underdeveloped tools for liquidity and risk management.

“Inspired by religion and fuelled by the oil boom, the industry is growing at around 15% [per annum] but it is still nascent,” is how the Central Bank of Lebanon’s first Vice-Governor, Dr Ahmad M Jachi, describes the state of the Islamic financing industry. Lebanon has licensed four Islamic banks, three of which have started operating and so far they have secured just 0.5% of the market says Jachi, who points out that the industry still has a lot of thinking to do.

“Islamic investors still have few products to choose from… and there is a lack of an Islamic money market,” he says. The central banker also points to legal and regulatory issues as well as matters of corporate governance that need to be reviewed. “Investors are exposed to higher risks than in conventional banking,” he adds.

Demand-driven conversions Yet, across the Muslim world, banks that have plied conventional products are now launching sharia compliant products, and

some are now becoming primarily Islamic institutions.

Secretary-General of the Islamic Financial Services Board (IFSB), Professor Rifaat Ahmed Abdel Karim, says this is a demand-driven trend. He sees a “decisive shift in the Middle East towards Islamic products” because of “strong consumer preference” in favour of such offerings. “Already, we’ve seen conventional banks become sharia compliant,” he says and adds that this trend “will continue, perhaps accelerate.”

“In ten years there will be more Islamic banks in the UAE than conventional banks,” says Mohamed Abdullah, Chief Executive of Sharjah Islamic Bank (SIB), which until 2002 when it opted to go sharia compliant, was known as National Bank of Sharjah. Other UAE banks to follow SIB’s suit include Middle East Bank, which became Emirates Islamic Bank, while in February 2006 Dubai Bank became one of the latest UAE banks to reveal a new Islamic identity.

“Pakistan is a late starter,” says Governor of the State Bank of Pakistan, Dr Shamsad

New beginningsNew Islamic banks are opening across the Muslim world, conventional banks are adopting Islamic banking principles, and new sharia compliant products are being launched, writes Mark Ford

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Akhtar who, when describing the rapid growth of Islamic finance in the world’s second most populous Muslim-majority country, said: “It is no surprise that we have an explosion in the global Islamic finance industry.”

“Pakistan has six Islamic banks and we’ve licensed about 150 Islamic branches, all within around three years,” she says. Islamic banks have taken as much as 3% market share in some segments during that time. Foreign investors have appeared keen to take stakes in banks in a country with a potential market of 136 million Muslims. Pakistan is also looking at developing a sukuk market and introduce takaful. “The introduction of Islamic pension funds is on the agenda too,” says Akhtar.

She says Pakistan wants to draw on the expertise held by international Islamic financial institutions to develop the sector even more. “Islamic banking, being in its infancy, cannot develop many products alone so Pakistan plans to develop alliances with regional and international banks,” says Aktar who notes the inroads that the likes of HSBC and Citibank have made in the sector. “We hope to partner such institutions,” she says.

Hubs emergingFinancial centres from Kuala Lumpur to Singapore are bidding to become hubs in the Islamic finance industry, and London is keen to play a part too. “Islamic finance is fast moving into the mainstream,” says Economic Secretary to the Treasury, Ed Balls. He talks about an “explosion of Islamic finance mortgages in the UK” and a range of sharia compliant products from British financial institutions “enabling Muslim businesses the same flexibility as their counterparts.”

A high-level group from London visited Dubai in November 2006, with Ed Balls promoting London as “the best partner globally for financial partners to deal with.”

Dubai is positioning itself as an Islamic finance hub in the Gulf. “The Dubai Government is supporting Islamic Finance is several ways,” says Managing Director of Islamic Finance at Dubai-based IHG Securities, Khalid Yousaf. “The largest sukuk has been launched on the Dubai Financial Market, which has declared itself the first Islamic financial exchange in the world. The Dubai International Financial Exchange will list Islamic products and instruments for secondary market trading and the first Islamic Commercial Arbitration Centre has been established in Dubai,” adds Yousaf, was Dubai International Financial Centre’s Director of Islamic Finance before joining IHG Securities.

Different approachesThere is not a consensus within the Islamic finance industry yet. Sharia scholars may disagree with each other over what is halal (allowed) and what is haram (forbidden) in

Across the Muslim world, banks that have plied conventional products

are now launching sharia compliant products

Banks in some Muslim countries, such as Bahrain (pictured) operate a strict segregation policy whereby men and women bank in separate areas.

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Islamically-structured financial instruments. Fundamental differences in approach that question the purpose of the Islamic finance movement are also emerging.

“Islamic finance promotes equity-based financing,” says the Governor of the State Bank of Pakistan, Dr Shamsad Akhtar, who argues that sharia compliant structures could play a substantial role in emerging markets without saddling their economies with huge debts. “Islamic finance is rooted in an ethical framework,” she says, arguing that it can be a force for good in developing countries. “It can create credit expansion without leading to macroeconomic problems,” she adds, echoing a view that suggests conventional banking played a large part in creating the huge emerging market debts that mushroomed in the 1990s.

Business firstSome Islamic bankers say in private that their shareholders see little more than commercial opportunity in the Islamic finance market, while other industry players take a neutral

IHG Securities has launched Abu Dhabi Organics, an initiative to grow food in the desert to feed the people of Abu Dhabi.

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position. “We’re in the business of banking, not in the business of religion,” says Jachi. He says it’s his job to make sure there is sharia compliance and “beyond this we don’t interfere.”

Other organisations emphasise the socio-economic contexts of Islamic finance. “IHG has launched several projects with a main focus on economic and social progress,” explains Yousaf. “It has launched Abu Dhabi Organics, an initiative to grow food in the desert to feed the people of Abu Dhabi. This initiative will create a niche in the food market; it will cut down the import of foodstuffs.” Money generated from this will be ploughed into other development initiatives.

Challenges aheadElsewhere in this journal, analysts will consider some of the key issues facing the Islamic finance industry, which include some significant skills gaps, poor levels of standardisation, virtually non-existent secondary sukuk markets, and a lack of liquidity and risk management control. g

Moody’s Bank Ratings Coveragefor IDB Member Countries

Multilateral Development Bank Islamic Development Bank

BahrainBankMuscat International B.S.C. BBK B.S.C. National Bank of Bahrain BSC

Bahrain - Wholesale Arab Banking Corporation B.S.C. Gulf International Bank BSC Investcorp Bank B.S.C. United Gulf Bank B.S.C.

EgyptBank of Alexandria SAE Banque du Caire SAE Banque Misr SAE Commercial Intl. Bank (Egypt)SAE National Bank of Egypt SAE

IndonesiaBank Danamon Indonesia TBK (PT) Bank Internasional Indonesia PT Bank Mandiri (P.T.) Bank Negara Indonesia TBK (P.T.) Bank Permata TBK (P.T.) Bank Rakyat Indonesia (P.T.) Bank Tabungan Negara (P.T.) Pan Indonesia Bank TBK (P.T.) PT Bank Lippo Tbk PT Bank Niaga Tbk

JordanArab Bank PLC Cairo Amman Bank Housing Bank for Trade & Finance

KazakhstanAlfa-Bank Kazakhstan Alliance Bank ATF Bank Bank CenterCredit Bank TuranAlem Caspian Bank Development Bank of Kazakhstan Eurasian Bank Halyk Savings Bk of Kazakhstan JSC Nurbank KazAgroFinance, JSC Kazakhstan Mortgage Company JSC KazkommertsbankTemirbank Texakabank Tsesna Bank

KuwaitAl Ahli Bank Bank of Kuwait and Middle East Burgan Bank Commercial Bank of Kuwait Gulf Bank Gulf Investment Corporation Kuwait Finance House National Bank of Kuwait

Kyrgyz Republic AsiaUniversalBank JSC

LebanonBank Audi BLOM BANK s.a.l. Byblos Bank S.A.L.

MalaysiaAmBank (M) Berhad CIMB Bank Berhad CIMB Investment Bank Credit Suisse (Labuan) Branch EON Bank Berhad Hong Leong Bank Berhad HSBC Bank Malaysia Berhad Malayan Banking Berhad Public Bank Berhad RHB Bank Berhad Southern Bank Berhad Standard Chartered Bank Malaysia

MoroccoAttijariwafa Bank BMCE Bank Credit du Maroc

OmanAlliance Housing Bank BankMuscat S.A.O.G National Bank of Oman Limited Oman Arab Bank (SAOC) Oman International Bank (SAOG)

PakistanHabib Bank Ltd. MCB Bank Limited National Bank of Pakistan United Bank Ltd.

QatarCommercial Bank of Qatar Doha Bank Qatar National Bank

Saudi Arabia Al Rajhi Bank Arab National Bank Bank Al-Jazira Banque Saudi Fransi National Commercial Bank Riyad Bank Samba Financial Group Saudi British Bank Saudi Hollandi Bank Saudi Investment Bank

Tunisia Amen Bank Arab Tunisian Bank Banque de Tunisie Banque Int'le Arabe de Tunisie Societe Tunisienne de Banque

Turkey Akbank TAS Anadolubank AS Denizbank A.S.Export Credit Bank of Turkey A.S. Finans Finansal Kiralama A.S. Finansbank AS Fortis Bank A.S. HSBC Bank A.S. (Turkey) Oyak Bank A.S. T.C. Ziraat Bankasi Tekfenbank A.S. Turk Ekonomi Bankasi AS Turkiye Garanti Bankasi AS Turkiye Is Bankasi AS Turkiye Sinai Kalkinma Bank. AS Turkiye Vakiflar Bankasi TAO Yapi ve Kredi Bankasi AS

United Arab EmiratesAbu Dhabi Commercial Bank Abu Dhabi Islamic BankDubai Islamic Bank Emirates Bank Int'l PJSC HSBC Bk Middle E. Ltd (UAE Br) MashreqBank psc National Bank of Abu Dhabi National Bank of Dubai PJSC National Bank of Ras-Al-Khaimah Union National Bank PJSC

For more information please contact Mardig Haladjian at 357.25.586.586 or mardig.haladjian@moodys.com or visit www.moodys.com.

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ةلماشةروصقـــيوـــسـتىـــتـحواجـــيورـــتواقالـــطامـــتـيفـــيـكماــكـحاعــمىــشاــمـتـتيــتـلاةــيـعاــنـصـلاتاــجـتـنـمـلاةـيـمالـسالافراـصـمـلايـفسـيـل،ةـيـمالـسالاةـعـيرـشـلادـعاوـقـلـلاـقـفو،يـفرـصـمـلاعاـطـقـلارـبـعاـمـنا،طـقـفبـــلـطـلانإ.عاـــطـقـلااذـــهلـــمـعيـــفةدـــمـتـعـمـلاةــقـباــطـموةــيـشاــمـتـمتاــجوــتـنـمىــلـعدــيازــتـمـلا

عاـطـقـلاناىـلـعلدـي،ةـيـمالـسالاةـعـيرـشـلاماـكـحاليــفطاــشـنـبلــمـعـلاأدــبـيـس،يــمالــسالايــلاــمـلا،دــيازــتـمـلابــلـطـلااذــهنــكـل،دــئاــسـلاهاــجـتالايذــلا،لــئاــهـلاوــمـنـلاىــلاةــعاــنـصـلاهذــهـبعــفدــي.اهفعضطاقننعهتاذتقولايففشكي

Moody’s Bank Ratings Coveragefor IDB Member Countries

Multilateral Development Bank Islamic Development Bank

BahrainBankMuscat International B.S.C. BBK B.S.C. National Bank of Bahrain BSC

Bahrain - Wholesale Arab Banking Corporation B.S.C. Gulf International Bank BSC Investcorp Bank B.S.C. United Gulf Bank B.S.C.

EgyptBank of Alexandria SAE Banque du Caire SAE Banque Misr SAE Commercial Intl. Bank (Egypt)SAE National Bank of Egypt SAE

IndonesiaBank Danamon Indonesia TBK (PT) Bank Internasional Indonesia PT Bank Mandiri (P.T.) Bank Negara Indonesia TBK (P.T.) Bank Permata TBK (P.T.) Bank Rakyat Indonesia (P.T.) Bank Tabungan Negara (P.T.) Pan Indonesia Bank TBK (P.T.) PT Bank Lippo Tbk PT Bank Niaga Tbk

JordanArab Bank PLC Cairo Amman Bank Housing Bank for Trade & Finance

KazakhstanAlfa-Bank Kazakhstan Alliance Bank ATF Bank Bank CenterCredit Bank TuranAlem Caspian Bank Development Bank of Kazakhstan Eurasian Bank Halyk Savings Bk of Kazakhstan JSC Nurbank KazAgroFinance, JSC Kazakhstan Mortgage Company JSC KazkommertsbankTemirbank Texakabank Tsesna Bank

KuwaitAl Ahli Bank Bank of Kuwait and Middle East Burgan Bank Commercial Bank of Kuwait Gulf Bank Gulf Investment Corporation Kuwait Finance House National Bank of Kuwait

Kyrgyz Republic AsiaUniversalBank JSC

LebanonBank Audi BLOM BANK s.a.l. Byblos Bank S.A.L.

MalaysiaAmBank (M) Berhad CIMB Bank Berhad CIMB Investment Bank Credit Suisse (Labuan) Branch EON Bank Berhad Hong Leong Bank Berhad HSBC Bank Malaysia Berhad Malayan Banking Berhad Public Bank Berhad RHB Bank Berhad Southern Bank Berhad Standard Chartered Bank Malaysia

MoroccoAttijariwafa Bank BMCE Bank Credit du Maroc

OmanAlliance Housing Bank BankMuscat S.A.O.G National Bank of Oman Limited Oman Arab Bank (SAOC) Oman International Bank (SAOG)

PakistanHabib Bank Ltd. MCB Bank Limited National Bank of Pakistan United Bank Ltd.

QatarCommercial Bank of Qatar Doha Bank Qatar National Bank

Saudi Arabia Al Rajhi Bank Arab National Bank Bank Al-Jazira Banque Saudi Fransi National Commercial Bank Riyad Bank Samba Financial Group Saudi British Bank Saudi Hollandi Bank Saudi Investment Bank

Tunisia Amen Bank Arab Tunisian Bank Banque de Tunisie Banque Int'le Arabe de Tunisie Societe Tunisienne de Banque

Turkey Akbank TAS Anadolubank AS Denizbank A.S.Export Credit Bank of Turkey A.S. Finans Finansal Kiralama A.S. Finansbank AS Fortis Bank A.S. HSBC Bank A.S. (Turkey) Oyak Bank A.S. T.C. Ziraat Bankasi Tekfenbank A.S. Turk Ekonomi Bankasi AS Turkiye Garanti Bankasi AS Turkiye Is Bankasi AS Turkiye Sinai Kalkinma Bank. AS Turkiye Vakiflar Bankasi TAO Yapi ve Kredi Bankasi AS

United Arab EmiratesAbu Dhabi Commercial Bank Abu Dhabi Islamic BankDubai Islamic Bank Emirates Bank Int'l PJSC HSBC Bk Middle E. Ltd (UAE Br) MashreqBank psc National Bank of Abu Dhabi National Bank of Dubai PJSC National Bank of Ras-Al-Khaimah Union National Bank PJSC

For more information please contact Mardig Haladjian at 357.25.586.586 or mardig.haladjian@moodys.com or visit www.moodys.com.

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Islamic finance

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Fuelled by the oil price boom, demand for Islamic financial services has rocketed in

the West, Gulf Co-operation Council (GCC) countries, and South-East Asia – particularly in countries where the Muslim population is high. Governments and banks are all eager to get a share of the global demand. As one international banker says, “everyone wants a piece of the market.”

Strategies for tapping this well of funds vary and the range of interests trying to influence the Islamic financial industry’s future is surprisingly wide. Thus the British Treasury has been evolving an Islamic policy. According to Economic Secretary to the Treasury, Ed Balls, the UK Government is taking proactive steps to encourage local growth of the Islamic finance industry.

Islam is the second largest faith in Britain, which, for financiers, represents a large potential market. Since 2002, the Government has been shaping the tax and regulatory framework to cope with Islamic home finance, retail banking, and commercial finance. In 2003, the double stamp duty land tax charge on murabaha (purchase and resale) and ijara (lease)-based mortgages was removed, resulting in the growth of the Islamic mortgage market to over £0.5 billion, an increase of almost 50% in the last year.

Testimony to the success of the UK in achieving its goal to be “the financial partner of choice for Muslim countries,” Balls cites

Dubai Ports (DP) as an example. In 2005, the largest sukuk at the time – a US$3.5 billion convertible issue by DP World –was written out of London using Barclays Capital to help provide expertise.

Staying faithfulIslamic financial institutions operating out of the UK range from retail and investment banks, to building societies offering sharia compliant retail products, and consultancy firms offering sharia advice.

The Islamic Bank of Britain (IBB), licensed in 2004 and listed on London’s Alternative Investment Market (AIM), is the UK’s first sharia compliant retail bank.

IBB offers a home finance scheme supplied by alburaq - the division of London-based Arab Banking Corporation International that supplies Islamic home finance in the UK. Alburaq also supplies Lloyds TSB. IBB Finance Director Ashraf Piranie says: “Getting a foot on the property ladder has been a real struggle for many people, but for the Muslim community the problem has been compounded by the lack of sharia compliant mortgage products available. In the past, many had to resort to either compromising their faith or attempting to raise funds to buy outright.” He adds that IBB’s products now “give British Muslims a real choice in line with their religious principles.”

European Islamic Investment Bank (EIIB), licensed in the UK since 2006 and

The centre of attractionA wide range of financial institutions now undertake Islamic transactions, from niche operators in Arab countries to blue chip banks in the City of London, writes Nadine Marroushi

4

listed on London’s AIM, offers investment products. For 2007, EIIB’s ambition is to add hedge funds and private equity asset classes to its range of products. The bank is off to a good start with Sheikh Nizam Yaquby on its team of sharia advisors. Yaquby leads the pack of innovative players in Islamic finance, and is widely consulted by banks, especially when researching new products. He is on the panel that approved USA-based Shariah Capital’s hedge fund.

With the success of its operations in the UK, EIIB is planning to open a representative office in Bahrain, and will work with Bahrain Islamic Bank to develop investment products for the Gulf. EIIB says the Asian market is also a future target.

The bank’s latest product is an Islamic money market instrument known as wakala, which Managing Director John Weguelin says “allows a much more efficient recycling of short-term liquidity in the Islamic banking system.” Wakala is an Islamic financial contract whereby an investor places cash with a bank, which then uses it to buy qualifying financial assets. In return, the investor gets a commission, and a share of the profits generated by the funds.

In December 2006, EIIB launched a sharia compliant real estate fund, which will purchase commercial real estate assets in UK and European cities. The closed-end fund has a target size of between €200-500 million, and may consider listing on the London Stock Exchange.

Other UK-based Islamic finance institutions include Ansar Finance in Manchester, which provides loans and investment products, and Yasaar, a London and Dubai-based consultancy firm.

Ed Balls: The UK Government is taking proactive steps to encourage local growth of the Islamic finance industry.

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The Islamic Bank of Britain (IBB), was licensed in 2004 and is listed on London’s Alternative Investment Market (AIM).

The centre of attraction

WiA Delegate Publication 23

Moving forward Niche players have emerged in the GCC to benefit from all aspects of the oil price boom, including the construction boom which followed, and the demand for financing using sharia compliant products.

One such player is Gulf Finance House-owned Khaleeji Commercial Bank. Established in 2004, the bank is geared to providing Islamic financing opportunities for big players, such as property developers, landowners, and property investors in the Middle East. Included in the bank’s financing portfolio are the Bahrain Financial Harbour and Jordan-based Royal Metropolis project.

Spurred on by the current interest in Islamic finance, some banks in the GCC have opted to fully convert themselves to sharia compliant institutions, and are expanding their representative offices at home and abroad to meet demand.

In Saudi Arabia, all banks now provide only Islamic products. The largest privately owned Islamic bank in the world, Al-Rajhi, based in Saudi Arabia has over 400 branches, and plans to open a further 160 across the kingdom within the next 18 months.

UAE-based National Bank of Sharjah established itself in 2002 as Sharjah Islamic Bank. Middle East Bank followed, by becoming Emirates Islamic Bank, while on 4 February 2007 Dubai Bank announced its new identity as Dubai Islamic Bank. Mohamed Abdullah, SIB Chief Executive, says the Sharjah bank plans to open more branches at home and abroad in 2007.

Meeting demandsWith the wealth of funds from offering Islamic products, international and western banks are opening Islamic windows. USA-based University Islamic Financial Corporation is the Islamic banking division of Michigan-based University Bank, where sharia compliant mortgages have been offered since 2003. UBS also offers sharia compliant products, and has had a representative office in Dubai International Finance Centre since 2006.

HSBC’s Islamic banking division, Amanah, began operations in 1998. Citigroup set up an Islamic window, Citi Islamic Investment bank (CIIB), in Bahrain in 1996.

New markets emerge In their mission to reach a global audience, Islamic banks are expanding their services abroad: Africa and South-East Asia are popular choices.

A consortium of Gulf investors have announced plans to establish an Islamic bank, called Gulf Africa Bank, in Kenya in 2007. Major shareholders include Bank Muscat International, Dubai Government investment agency Istithmar, and International Finance Corporation (IFC).

Around 26% of Kenya’s population is Muslim and there is a shortage in supply of Islamic banks and products. Investors are eager to bridge this gap.

Malaysia is South-East Asia’s hotspot for investment since the country boasts the most advanced legal framework for Islamic finance in the world. The largest investment is expected to be by Kuwait Finance House (KFH), in competition with Al-Rajhi to be the world’s largest Islamic lender. KFH is leading a consortium that is hoping to acquire a 32% stake in Malaysia’s fourth-largest – but heavily indebted – bank, RHB Capital, by buying Utama Banking Group’s stake in its parent Rashid Hussain Bhd. If the deal goes through, the KFH consortium plans to invest more than US$3.43 billion in RHB.

Al-Rajhi announced plans in early February 2007 to increase its 12 branches in Malaysia to 50 by 2010.

Qatar International Islamic Bank (QIIB) is seeking to expand its global network by opening branches in Indonesia, Singapore, and Brunei. The bank already owns 70% of Kuala-Lumpur-based Asia Finance Bank.

Indonesia is another attractive site for Gulf Islamic banking since around 85% of the population is Muslim. Some of the banks that have been announced to make acquisitions in Indonesia include QIIB, the Albaraka group, and Bahrain-based Al-Salam Bank.

The world’s 1.2 billion Muslim community is beginning to see the provision of a wide range of sharia compliant financial services, the lack of which in the past had meant that many had been unable to participate in the financial world, unless they were prepared to accept economic penalties. g

An EIIB €200-500 million sharia compliant real estate fund may consider a listing on the London Stock Exchange.

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ةيمالسالافراصملاةناصحىــلا،طــفـنـلاراــعـسايــفلــئاــهـلاعاــفـترالاىدادــقـليــفةــيـمالــسالاةــيـلاــمـلاتاــمدــخـلـلبــلـطـلادــيازــتلودو»يــجـيـلـخـلانواــعـتـلاســلـجـم«لودوبرــغـلا

تاذلودــلايــفاــصوــصـخ...ةــيـساقرــشبوــنـج.نيملسملاددعيفةعفترمةبسننآلامـتـيفـيـكراـبـتـعالانـيـعـبذـخأـت،ةـيـصاـخـلاهذـهيــف،ةــيـمالــسالاتالــماــعـمـلانــمةــلـسـلـسيــلوــتفراــصـموأ،ةرــيـغـصةــصـصـخـتـمةــيـبرــعفراــصـمىـلـع،ندـنـليـففراـصـمـلايـحيـفلـمـعـتىرـبـك.ءاوسدح

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Sharia committees are, arguably, the most important part of an Islamic institution

since none can operate without one. They ensure adherence to sharia law, while offering suggestions on how to make financial products sharia compatible.

The committee consists of a group of scholars who are well versed in sharia law. Traditionally, scholars have been seen as gatekeepers, people to whom bankers turn for permission and, in some cases, they sit on the boards of central banks. Today, however, more innovative scholars are keen to promote themselves as facilitators; people who come up with researched solutions.

As the renowned Malaysian scholar, Dr Mohammed Daud Bakar, says: “When bankers come across a challenge, they should discuss it with scholars, and let them come up with the solution.”

Regional differencesThe operations of a sharia committee differ according to its regional base. Deputy Dean of Islamic Revealed Knowledge at the International Islamic University of Malaysia, Dr Mohammed Akram Laldin, explains: “In Malaysia and Pakistan, the Central Bank’s sharia committee plays a significant role in the committee of an Islamic bank – when appointing members to their sharia committee, and when launching a product, Islamic banks must have central bank approval. Elsewhere, this is not the case.” This is not surprising since Malaysia has one of the most advanced, and established, legal structures for Islamic finance in the world.

In Saudi Arabia, HSBC’s local SABB operation approves their products with an independent sharia advisory committee. In some countries, consultancy firms with sharia committees are used. Dubai-based Yasaar is one example of this. With its own committee of sharia scholars – Daud Bakar is one – Yasaar acts as an outsourcing agency, which banks can consult for sharia advice on all matters, including the sharia compliance of financial transactions and product development.

Other regional differences concern the position of scholars within sharia committees.

In 2005, Malaysia issued a law saying that a scholar may only sit on one sharia committee at a time. Daud Bakar, for example, acts as Chairman of Malaysia’s central bank, Bank Negara, and so is not permitted to sit on any other committee. However, he is allowed to work independently with as many companies as his schedule will permit. Bakar is also President of Kuala Lumpur-based Amanie Business Solutions, providing advice on Islamic finance.

The Malaysian law was passed in response to a shortage of scholars circulating among the committees of Islamic finance institutions, an obstacle still facing the industry. Prior to issuing the law, the situation was such that the same names of scholars were cropping up on many different committees. Certain scholars’ reputations were in the ascendant, and banks knew that in order for their product to gain international credibility, they needed one of those scholars on their committee.

Giving moral authorityBanks are scouting for suitably qualified scholars to sit on sharia committees, as more of them enter the Islamic financial services industry, writes Nadine Marroushi

In Malaysia, enacting the law curbed the problem, but in other regions this remains a controversial topic. Scholars in the Gulf can sit on as many committees as they like, and the prevailing attitude is that passing the Malaysian law has been counter-productive. Some argue that it will not generate a broader pool of thinking, but only restrict scholars in their freedom to work.

Sheikh Nizam Yaquby is a prime example of how scholars operate in the Gulf. Working as an independent consultant from his base in Bahrain, he sits on the committees of a number of banking giants, including Citi Islamic Investment Bank, HSBC Amanah, Islamic Bank of Britan, European Islamic Investment Bank, Arab Islamic Bank, ABC International Bank, Lloyds TSB, BNP Paribas, Standard Chartered and more. He is one of the most widely consulted scholars, and highly reputed for product innovation. Although outside observers may wonder whether a conflict of interest would be an issue within the industry, this appears to be the least of bankers’ concerns, since one of the main skills of a scholar is integrity and confidentiality, something that isn’t questioned.

Setting standards Differences in the operations of sharia committees are looked upon hesitantly by some in the industry, particularly the differences in standards. A Partner in law firm Trowers & Hamlins, Sarah Gooden says: “The differences in approach and interpretation of sharia law – a lack of harmonisation – are a serious concern for

Malaysia has one of the most advanced, and established, legal structures for Islamic finance in the world.

The problem is not that there are not enough scholars with knowledge of Islamic law, but that they lack the additional experience of working in banks and using financial instruments.

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Giving moral authority

WiA Delegate Publication 25

the industry. With the need for innovation potential, differences could be strength, but the weakness occurs when established products have differences; and this reduces industry credibility.”

Yet many remain confused about who is responsible for enforcing standards. Even though many scholars are members of standards-setting bodies, their main purpose, argue scholars, is not to set standards.

Sheikh Yaquby says: “Sharia scholars are not empowered to enforce standardisation - that is a job for the regulators of each country. Scholars can only make recommendations.” He adds: “Banks shouldn’t lose sight of the need to consult an external supervisory board.”

Sheikh Nizam says a scholar’s main role is to apply knowledge of Islamic law to product development. State Bank of Pakistan’s sharia committee member Dr Muhammad Imran Usmani explains the method in which scholars do so. He says: “Because not every transaction is mentioned in Islamic law, sharia committees depend on the collective thinking of scholars.” Yasaar sharia committee member, Sheikh Esam Ishaq, agrees: “Because the Prophet only mentioned transactions not allowed, scholars adopt the opinion of the majority.”

Scholars wantedAccording to the Islamic Finance Information Service, there are around 170 scholars worldwide. The problem is not that there are not enough scholars with knowledge of Islamic law, but that they lack the additional experience of working in banks and using financial instruments.

Sheikh Nizam cites the following reasons for the shortage: “Difficulty in keeping pace with the tremendous growth of the industry; demanding requirements for a scholar to be trained in the traditional sharia background and have knowledge of civil law, banking and modern languages; and sharia schools not meeting the demand for specialist scholars.”

A PhD in Islamic law is usually the minimum requirement for a scholar, but this is not official, and that is part of the problem. Bahrain’s standards-setting body, the Accounting and Auditing Organisation of Islamic Financial Institutions (AAOIFI), has issued a written set of principles; however, it remains vague.

A traditional way of taking Islamic studies is also expected to involve attending sharia study circles in mosques while learning under the guidance of established scholars.

Yaquby adds that academic institutions need to catch up with the requirements of modern day scholars. “In the past, scholars were specialised in one field of law, such as inheritance law,” says Yaquby. “Universities need to realise the importance of this, and create divisions for specialisation.”

Because the Prophet only mentioned transactions which are haram (not allowed), scholars adopt the opinion of the majority.

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ةيمالسالاةعيرشلاناجليـفاـمـهـماءزـجةـيـمالـسالاةـعـيرـشـلاناـجـللـكـشـتيأـبماـيـقـلانـكـمـيالثـيـح،ةـيـمالـساةـسـسؤـميأ.اهتروشمواهتبقارمنودنمةيلمع

ةــــعـيرــــشـلاماــــكـحاىــــلـعنــــيـبردــــتـمبــــلـطنارـيوـطـتومـعدـلكـلذو،دـيازـتىـلاتاـب،ةـيـمالـسالا.ىتشملاعلاءاحنايفةيمالسالاةيلاملاتامدخلا

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Since sukuks were launched in 2000, sovereign and corporate certificates in

excess of US$47 billion have been issued, and sukuk issuance is expected to surpass the US$150 billion mark by 2010.

A sukuk is a financial certificate that is considered to be an Islamic equivalent of a bond, since fixed income and interest-bearing bonds are not permissible in Islamic finance. Sukuks are securities that comply with sharia law and its investment principles, which prohibits the charging or paying of interest.

All sukuk returns and cashflows must be linked to assets purchased or those generated from an asset once it has been created, rather than to income earned from interest. For borrowers to raise compliant financing, they will need to use the assets in some way. Equity financing, for instance, is sharia compliant and conforms to the risk and return precepts of Islam.

Popular releaseThe popularity of sukuks has been one of the most significant success stories in the Islamic finance sector. In February 2007, the Central Bank of Bahrain (CBB) revealed that the eighteenth monthly issue of the short-term Islamic leasing certificates, sukuk al-Ijara, had been 460% times oversubscribed.

Subscriptions worth 23 million Bahraini dinar (BD) were received for the BD5 million issue, which carries a maturity of 182 days. The expected return on the issue, which began on 22 February and matures on 23 August, is 5.25%.

This particular issue was unusual as the bulk of sukuks have been corporate issues. One of the latest is the much-trumpeted issue for Abu Dhabi Aldar Properties. It announced the final terms of its proposed US$2.53 billion exchangeable trust certificates, or sukuk al-Mudarabah, in February. The profit rate used to calculate the periodic distribution amount will be 5.767%, which was equivalent to a margin of 0.65% above the five-year US dollar mid-swap rate at the time of pricing.

Ready for growthWith demand outstripping supply – one by-product is an absence of a secondary market caused in part by sukuk holders’ unwillingness to sell such a relatively rare asset – the industry is now faced with several challenges to lay firm foundations for a market that looks set to expand rapidly.

One recent partnership intent on doing that is the Bahrain-based International Islamic Financial Market (IIFM) and the London-based International Capital Market Association (ICMA). They signed a memorandum of understanding (MoU) in January to establish a joint working group that aims to develop standardised contracts and language, standardised practices for secondary market transactions and in trading sukuks and other Islamic financial instruments.

“As in the early days of the international debt market in Europe, the Eurobond market, there is now an immediate need

Sukuks leading the waySukuks have become desirable and are a remarkable success story yet, as Mark Ford reports, they remain relatively scarce

4

for the formal establishment of best market practice in issuance, trading and regulation of sukuks, to enable the market to develop further,” says Executive President of ICMA, René Karsenti.

The ICMA has, since the inception of the international capital market in Europe, provided and enforced the self-regulatory framework of rules for best practice in all areas, which Karsenti claims has been a key factor in the market’s growth.

Facing up to challengesThe US$150 billion figure is the “critical mass we should reach to make a secondary market,” says CEO of IIFM, Ijlal Ahmed Alvi, who points out that there are other important issues to be addressed.

“Sukuk pricing is also critical for the secondary market,” says Alvi, who says that it can currently take two to three days to establish a price. “At the moment, we’re going through a market innovation phase,” he says, and suggests that other areas where development is needed include sukuk structure and benchmarking, the publication of executed trades and short-term sukuks.

“There hasn’t been much sovereign issue yet,” says Managing Director of Dawnay, Day Global Investment Limited, Stella Cox, who points out that the market has so far been mainly limited to corporate issues. “We need market dealers, brokers and interdealers. Information flows are needed for ratings, prices, and benchmarks. Education is needed too,” she adds.

Liquid options Sukuks are seen as a solution to a lack of liquidity management tools in Islamic finance. “The key issue in my experience is short-term liquidity management in Islamic

The Central Bank of Bahrain (CBB) revealed that the eighteenth monthly issue of the short-term Islamic leasing certificates, sukuk al-Ijara, had been 460% times oversubscribed.Photo ©Art Directors

Ronald Barrott, CEO of Aldar Properties, announced the final terms of proposed US$2.53 billion exchangeable trust certificates, or sukuk al-Mudarabah, in February 2007.

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banks,” says Kilian Balz, a Partner in a Frankfurt-based law firm, but “sukuks are not the only solution,” he argues.

“What we need to target is something that’s liquid and complies with the sharia spirit,” Balz says. He also argues that Islamic financiers need to lose their conventional bias and come up with original ideas and structures, rather than merely creating Islamic versions of conventional products. “Innovation does not mean repackaging,” he says, and suggests that the industry “needs to have sharia scholars involved at an early stage for innovative products.”

Different structuresSukuk products on the market may be structured in different ways. It may be ijara (sale and lease-back), musharaka/mudarabah (partnership and profit-sharing) or murabaha (sale and buy-back).

The first Saudi sukuk, launched 4 July 2006, for Saudi Basic Industries Corporation (SABIC) is considered a template for future issuances, according to HSBC Saudi Arabia, which SABIC appointed as sole lead manager and book runner for the issue.

The sukuk is based on an investment in a “right”, underlying an existing SABIC business activity; in this instance, marketing agreements. The pricing is three months SIBOR plus 40 basis points and investors are entitled to quarterly profits. The instrument is tradable during its 20-year life. Investors have a non-compulsory put option to sell the sukuk to SABIC at the end of every five years on a reducing price scale.

The sukuk is considered sharia compliant because its assets are a real operating business. SABIC has marketing agreements with subsidiary companies. The net income from these agreements is paid quarterly to sukuk-holders.

René Karsenti: There is now an immediate need for the formal establishment of best market practice in issuance, trading and regulation of sukuks.

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These amounts are derived solely from income generated under specified agreements. Investors assume part SABIC corporate risk and part performance risk, thus the risk remains that investors will not receive 100% of their principal investment nor the coupon payments.

The strength of this sukuk and others to come ensures that the benchmark for this Islamic financial certificate will continue to rise for the foreseeable future. g

ةيفرصملاكوكصلاةـــنـسيـــفكوـــكـصـلاماـــظـنـبلـــمـعـلاأدـــبناذـــنـم

ىرـــخاوةـــكرـــتـشـمتاداـــهـشرادـــصامـــت،٢٠٠٠نـمو،نوـيـلـم٤٧ىــلـعتدازةــقـلـطـمةداــيـستاذىـلالـصـتـلكوـكـصـلاتارادـصادادزـتناعـقوـتـمـلا

مـغرـلاىـلـعو.٢٠١٠ةـنـسلـبـقرالودنوـيـلـم١٥٠حاـجـنروـحـملـكـشـتةـيـفرـصـمـلاكوـكـصـلانانـمةدودـحـملزـتاـمـلاـهـناـفةـيـمالـسالاةـيـلاـمـلادراوـمـلا.راشتنالا

70409 Mag.ai 27/3/07 10:26:11 PM

70409 Mag.ai 27/3/07 10:26:11 PM

Islamic finance

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One of the fundamental principles of Islamic finance is that you can charge

for the use of something physical, such as property, but cannot charge for the use of money, because this is usury – a prohibited practice in Islam. Banks have sought to recreate conventional products such as mortgages, saving accounts and personal finance to make them sharia compliant.

Instead of lending the client money for their needs and earning interest, Islamic banks earn profit by charging rent on the asset leased. This changes the relationship between the bank and client: the customer becomes the bank’s tenant.

This innovation in product development has led to numerous Islamic financial instruments launched on the market to meet the day-to-day needs of Muslims.

Home financeThe differences between products in Islamic financial instruments are often subtle. Specifically, with products geared towards home ownership, the differences lie in how the title of property ownership is transferred between bank and client, if it is transferred at all.

Ijara (leasing) involves the bank buying and then leasing to the customer for a specified rental over a fixed period. The terms of the contract, such as duration of the lease, are agreed between the bank and

customer in advance. Ijara is based on the principle that the bank holds ownership during the lease and after its end.

Head of International Wealth Manage-ment at Dubai Islamic Bank (DIB), Saadat Muzaffar, says: “The condition of an ijara contract is the transfer of a valuable usufruct, while ownership remains with the lessor with all liabilities involved. It works like an operating lease. During the period of lease, under the contract payment of rent can be negotiated freely.” He adds: “It is used in DIB for services including property rent, medical treatment, education, training, and travel. The bank will acquire the services from the seller for onward sale to the customer.”

Ijara-muntahia-bittamleek (lease to own) is similar to ijara, except that included in the contract is a promise from the customer to buy the item at the end of the lease period, at a pre-agreed price.

Rentals paid during the period of the lease constitute part of the purchase price.

Saadat says: “It is a promise by the lessor to sell the asset to the client at a certain

The search for alternativesDemand is growing for istisna’a, ijara, and other instruments, writes Nadine Marroushi

4

price in the future, or to structure a gift at the end of the period, so that ownership is transferred without payment.”

HSBC Amanah offers an ijara-muntahia-bittamleek product which, they say, works like a floating rate mortgage, where the bank will lease the property to the customer in return for monthly rental payments. Once the lease period is completed, HSBC will transfer the title of the property to the customer.

Ijara with diminishing musharaka (partnership) is used for home buying services.

In this contract the bank and customer will own a share of the property and the customer will buy the bank’s shares through installed payments: rent.

The bank’s shares diminish, as the client’s shares increase, with the aim of transferring all shares to the client at the end of the term agreed in the contract.

The property may be sold to the customer on demand through a one-off payment or by instalments. Saadat explains that rent “consists of multiple contracts, and binding promises. The rent will need to be adjusted after each acquisition of shares.”

UK-based Alburaq – suppliers of Islamic home finance to Islamic Bank of Britain (IBB) and Lloyds TSB – offer a home finance product based on the principles of ijara with diminishing musharaka. Alburaq says: “Put simply, both the client and the bank contribute towards the purchase of the home. For example, the bank may contribute 90%, and the client 10% of the purchase price over a period of up to 25 years. The client will make monthly purchase instalments through which the bank will sell its share of the home to the client.”

While the purchase instalments are being made, the bank will charge the client rent for the use of its share of the property, the rent calculated according to the respective shares owned.

So, unlike a conventional mortgage, where money is lent to help with the purchase of a property, the bank makes its profit through the property’s physical use via occupation as a tenant. Alburaq explains that this also changes the relationship between the client and the bank. The bank says: “The first difference is that as owner of the property the bank faces risks associated with property ownership. This is a situation that does not exist under an interest mortgage, where the bank never actually owns the property. The second difference is that in a conventional mortgage, the customer is the borrower. However, in an ijara-musharaka structure, the customer is the bank’s tenant.”

Personal financeIstisna’a is a forward sale and is used to finance the construction of real estate, and for manufacturing aircrafts, ships, and equipment.

Using real estate as an example, if a client owns a plot of land and seeks financing for

Islamic law does not permit selling what you do not own

Instead of lending the client money for their needs and earning interest, Islamic banks earn profit by charging rent on the asset leased.

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WiA Delegate Publication 31

the construction of a house, by signing an istisna’a agreement the bank will construct the house according to client specifications. The customer can then pay the bank back the cost of the house in lump sum at the time of signing the contract or in stages as the construction proceeds.

Customers who do not own land can also sign istisna’a agreements and the bank will buy the land and construct the home according to the specifications.

UAE-based Tamweel use istisna’a mortgages to finance the construction of buildings. Tamweel calls their istisna’a mortgages “forward ijara”. It says: “This product is specially designed for customers who have selected property that is still under construction. We undertake the payment schedule during the construction period and the client may start repayments only when you get possession of your property.”

Murabaha is a contract for purchase and resale that allows a customer to make purchases without having to take out a loan and pay interest. The goods are purchased, and resold to the customer on a deferred payment basis, adding an agreed profit margin.

Saadat says: “Murabaha is used for financing goods, including furniture, electronics, yachts, computers, building materials, machinery, and automobiles.”

HSBC Amanah uses the murabaha structure to replace an interest-based mortgage with a trade-based solution by buying the customer’s house from the mortgage provider, and reselling it to the customer over a period of fixed instalments.

Islamic law does not permit selling what you do not own. However, one exception is a salam contract, which allows the sale of a well specified commodity by quantity and quality at a given future date against full payment upfront. This type of contract is not widely used, according to Saadat who

says the banking industry is struggling to make it sharia compliant. In the past, the salam contract was used to finance farmers.

Mudarabah refers to an investment made by a skilled person on behalf of the customer. It takes the form of a contract between two parties – one who provides the funds (Rabb ul Mal), and the other who provides the expertise (Mudarib) – who agree to the division of any profits made in advance.

If no profit is made, the loss is borne by the customer, and the bank takes no fee.

Saadat says: “The bank usually invests in equity – the deposits of the bank are managed in a mudarabah pool from where profits are distributed.” IBB operates its savings accounts using mudarabah principles.

Saadat Muzaffar: The bank will acquire the services from the seller for onward sale to the customer.

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32

Programme of events for The Annual Meetings of the Islamic Development Bank Group

SATURDAY, 9 JUMAD AWWAL 1428H (26 MAY 2007)

09:00-22:00 hrs Registration of delegates, King Fahd Complex, Meridien President Hotel Lobby, Level (0)

SUNDAY, 10 JUMAD AWWAL 1428H (27 MAY 2007)

09:00-22:00 hrs Registration of delegates, King Fahd Complex, Meridien President Hotel Lobby, Level (0)

MONDAY, 11 JUMAD AWWAL 1428H (28 MAY 2007)

09:00-22:00 hrs Registration of delegates, King Fahd Complex, Meridien President Hotel Lobby, Level (0) Meeting of the Procedures Committee, King Fahd Complex, Conference Center, Hall BC12, Level (0)

18:00 hrs Special meeting of the IDB Governors’ Group to guide on the implementation of the Ouagadougou Declaration, King Fahd Complex, Conference Center, Hall C01, Level (0)

21:00 hrs Gala Dinner to be hosted by the BOG Chairman at Club Mediterranée Les Almadies

TUESDAY, 12 JUMAD AWWAL 1428H (29 MAY 2007)

09:30 hrs Governors, Invitees and Guests take their seats in the Amphitheatre, King Fahd Complex, Conference Center

10:00-11:15 hrs Opening Ceremony of the Annual Meeting of the IDB Group under the patronage of H.E. the President of the Republic of Senegal at the Amphitheatre, King Fahd Complex, Conference Center

11:15-11:45 hrs Presentation of Governors, Executive Directors and IDB Group Management Members to H.E. the President of the Republic of Senegal, King Fahd Complex, Conference Center, at the Lobby, Level (-1) Tea Break, King Fahd Complex, Conference Center, at the Lobby of Level (-1)

Tea Break for other Participants, King Fahd Complex, Conference Center, Hall A01, Level (0)

12:00-13:00 hrs Working Session of the IDB Board of Governors, King Fahd Complex, the Meridien President Hotel at the Flamboyant Hall, Level (0)

13:30 hrs Luncheon to be hosted by H.E the Chairman of the Board of Governors (BOG) for Governors, Alternate Governors, Executive Directors, Heads of International and Regional Institutions and the IDB Group Management Members, King Fahd Complex, Conference Center, “Salon Vert” Level (-1) and for other delegates, at “Salon Brun” in the same level.

14:00 hrs Dhuhr prayer.

15:00-17:00 hrs IDB 18th Annual Symposium (Ministerial Session) titled “Capacity Building for Promoting Trade and Investment in Africa”, King Fahd Complex, Meridien President Hotel, the Flamboyant Hall-Level (0)

17:00 hrs Asr prayer.

17:15-20:00 hrs Working Session of the IDB Board of Governors, King Fahd Complex, Meridien President Hotel at the Flamboyant Hall, Level (0)

20:00 hrs Maghreb prayer.

21:00 hrs Dinner banquet to be hosted by the Guest of Honor at Club Mediterranée Les Almadies

The Islamic Development Bank (IDB) has played a key role in this respect. In the 32 years since the bank became operational, it has carried out pioneering work in not only extending finance where it is most needed, but in also acting as an important source of research and guidance in the practical development of Islamic finance.

As Islamic finance continues to gather pace in the global arena, the IDB also has a singularly important role to play in achieving greater cross border convergence on sharia issues and we look forward to the bank’s guidance in this regard.

Finally, let me finish by commending the many experts who have contributed their insights and experiences in the articles contained in the Delegate Publication, which will act as an important resource for everyone interested in Islamic finance.

Programme of events for The Annual Meetings of the Islamic Development Bank Group

WEDNESDAY, 13 JUMAD AWWAL 1428H (30 MAY 2007)

09:00-10:00 hrs WorkingSessionoftheIDBBoardofGovernors,KingFahdComplex,MeridienPresidentHotelattheFlamboyantHall,Level(0)

10:00-10:30 hrs 14thAnnualMeetingoftheBoardofGovernorsoftheIslamicCorporationfortheInsuranceofInvestmentandExportCredit(ICIEC),KingFahdComplex,MeridienPresidentHotelattheFlamboyantHall,Level(0)

10:30-11:00 hrs 7thGeneralAssemblyoftheIslamicCorporationfortheDevelopmentofthePrivateSector(ICD),KingFahdComplex,MeridienPresidentHotelattheFlamboyantHall,Level(0)

11:00-11:30 hrs 2ndGeneralAssemblyoftheInternationalIslamicTradeFinanceCorporation(ITFC),KingFahdComplex,MeridienPresidentHotelattheFlamboyantHall,Level(0)

11:30-11:45 hrs TeaBreak,KingFahdComplex,attheLobby,MeridienPresidentHotel,Level(0)

11:45-13:00 hrs ClosingsessionoftheAnnualMeetingoftheIDBGroupandpresentationoftheIDBAwardsin“IslamicEconomics”,“ScienceandTechnology”and“ContributionofWomenintheDevelopment”,KingFahdComplex,MeridienPresidentHotelattheFlamboyantHall,Level(0)

JointPressConferenceofH.E.theChairmanoftheB.O.G.andH.E.thePresident,IDBGroup,KingFahdComplex,MeridienPresidentHotel,theFlamboyantHall,Level(0)

This Words into Action publication is a timely addition to the growing literature

on Islamic finance and should help promote a better understanding of this burgeoning industry. The book provides a valuable survey of some of the key institutions involved in the industry, and of the array of Islamic financial structures and products either currently available or under development. All this is supplemented by helpful summaries of various industry sectors, and by regional profiles.

Bahrain is proud to have played a leading role throughout the development of modern Islamic finance. The stage for the sukuk explosion, for example, was in no small measure set in Bahrain, when it became the first sovereign state to issue sukuk in 2001.

Similarly, in the area of takaful and retakaful, the recent entry into this sector of g

a number of major international insurance players, most of whom have chosen to locate these operations in Bahrain, is bound to accelerate the growth of the Islamic insurance industry in the coming years. Looking ahead, we will be seeing further developments in terms of sharia compliant hedge funds, as well as in capital and money market instruments.

As the industry enters its next phase of development, however, there is also a need for Islamic financial institutions to better serve the communities in which they operate. Micro finance, agricultural finance and other modes of finance directed towards poverty alleviation, social development and capacity building need to be taken more seriously by institutions operating under the Islamic banner.

RasheedAlMaraj,Governor,CentralBankofBahrain

“Astheindustryentersitsnextphaseofdevelopment,however,thereisalsoaneedforIslamicfinancialinstitutionstobetterservethe

communitiesinwhichtheyoperate”

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FEW modern day projects will have as much impact on the Islamic world as the

Knowledge Economic City being built on the outskirts of the Holy City of Al-Madinah.

The 25 billion Saudi Riyal (about USD7 billion) smart city is being built in the heart of Islam – the place where the Holy Quran was compiled and the home of the Prophet (Peace Be Upon Him).

Once completed it will have created 20,000 jobs and attracted researchers, developers, scholars and entrepreneurs from around the world, while providing knowledge and mentoring for young Muslims from many different cultures. The Holy City will get new medical, ICT and business facilities and the project will provide a massive boost to the local economy, both while it is being built and once it is established. Young people will be encouraged to develop their talent, skills and ideas and commercialise them, creating new knowledge industries that can employ and train more young people.

“Madinah is the source and foundation of Islamic learning so there is nowhere more appropriate for a new high tech city based around knowledge industries to be built,” said KEC Marketing Director, Mohammed Khoja.

“The modern Al-Madinah is already home to some of the Kingdom of Saudi Arabia’s leading educational institutions; has a growing ICT industry and piloted the country’s new e-Government program. So the positioning of the Knowledge Economic City on the outskirts of Madinah, just 7 kilometres from the airport, fits well with existing industry.

“KEC is designed as a project that will position Saudi Arabia and young Muslim entrepreneurs as internationally respected leaders in knowledge based industries and aims to attract and develop Islamic talent from around the world. It will provide them with opportunities on a global scale while supplying investors and entrepreneurs with

infrastructure, opportunity, a unique pool of talent and the potential for a healthy return on investment,” said Mohammed.

When completed, KEC will cover 4.8 million square metres of land which has been provided by the King Abdullah Foundation. It will have a total build area of 9 million square metres and include 30,000 residences and accommodation for thousands of visitors. There will be research and development facilities, educational institutions, incubators and established industry.

KEC Chairman, Sheikh Ibrahim Al Eissa describes Knowledge Economic City as ‘an ambitious, challenging, creative, exciting and essential project that reaches out to people of all cultures and backgrounds around the world’. “It will act as a cultural landmark serving residents and visitors to Al-Madinah and become a national icon for knowledge-based industrial development,” he said.

One of six economic cities announced by the Custodian of the Two Holy Mosques King Abdullah bin Abdul Aziz in June last year, none is considered more important to the Islamic world than KEC. The hi-tech project is expected to generate SR 10 billion a year for the Al Madinah region once it is complete.

Apart from attracting the best Muslim Information Communications Technology talent from around the world to the second most holy city of Islam, its unique theme park is expected to become a haven for tourists of all cultures who will be able to experience the journeys and stories of the prophets through state-of-the-art interactive multimedia technology.

But KEC will not just be for young people, said Sheikh Ibrahim. The project will include a centre for medical sciences and bio-technology where researchers will seek cures and treatments for a wide range of problems that afflict older people. It also

Al-Madinah’s Knowledge Economic City – A project to develop Muslim talent

will provide world class medical services for the people of Al-Madinah and the millions of pilgrims who pass through each year.

Leading Islamic scholars from around the world will be brought to the new centre for Islamic civilisation studies and research; a multi-modal transport centre will link Al-Madinah with Mekkah and other major centres throughout KSA; a new, world-class business district will be created for Al-Madinah and a major retail hub themed after the old souks of Al-Madinah will become a tourist attraction in its own right, he said.

KEC has embarked on an ambitious campaign to attract partners, investors and talent from around the world and it is showing early signs of success.

Malaysia is one of the first countries to show keen interest in KEC and a delegation led by Malaysian Deputy Prime Minister His Excellency Najeeb Tun Razaq visited Al Madinah at the end February to sign the first of several MoU’s.

In recent weeks KEC has signed memoranda with Multimedia Development Corporation (MDeC), the company behind the development and implementation of Malaysia’s world famous Multimedia Super Corridor; Malaysia’s leading private healthcare provider, KPJ Healthcare, which will work with KEC to provide state-of-the-art medical services and training; and Multimedia University; which is to help establish education services at Al Madinah.

A contract also has been signed with Malaysian-based MSC Technology Centre to provide advisory services in strategic and implementation planning for the development of the project.

These latest deals come on top of major memoranda of understanding with Siraj Capital Ltd, PMDC, Savola Group Co and Malaz Group and two key consultancy contracts with HOK Canada and IBI Group of Toronto that were signed during Dubai’s Cityscape late last year.

KEC Managing Director Dr Sami Baroum said Knowledge Economic City was attracting some of the world’s leading experts in smart cities in knowledge based industry. “They not only recognise the value of the project in terms of education, training and the development of ICT skills and industries, but understand the significance of Al Madinah as a heartland of Islam. To be able to work so close to the home of the Prophet (Peace Be Upon Him) is a blessing,” he said.

KEC has attracted a consortium of some of KSA’s leading companies including the Savola Group, Taiba Investments and Real Estate Company, Project Management Development Company (PMDC) and Quad Intl’ Real Estate Development Co. The King Abdullah Foundation is the major partner in the project and owns the land where it is to be developed.

“There is a lot of interest in this project both in KSA and abroad. We have credible and well established local companies participating as well as leading international experts willing and eager to get involved.

“We have made a good start and we still have a long way to go, but our location at Al Madinah is a blessing that I am confident will assure us of success,” says Dr Sami.

www.madinahkec.com

Knowledge Economic City Advertorial feature

Islamic finance

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One of the most significant trends within the Islamic financial service industry is its

embrace of the world’s thriving trade volumes, which have grown by an average 8% annually over the past decade. “In more than 75 markets around the world, supporting transactions and projects using Islamic financial instruments is a business reality,” says Eric Siegel, President and Chief Operating Officer at Export Development Canada (EDC), the Canadian export finance institution, which signed an agreement in November 2006 to build links with Islamic banks.

“Trading has always been an important part of Islamic communities and is one of the first products that was introduced by Islamic banks to satisfy the financing requirements of their clients,” explains Deputy Chairman and Chief Executive of HSBC Bank Malaysia, Zarir J Cama.

As Asia’s largest Islamic banking hub, Malaysia has hosted a growing use of sharia compliant trade financing products. Bank Negara Malaysia opened the way in January 2006 for 16 Malaysian banks to offer smaller companies two new trade finance products, known as multi-currency trade finance, and an indirect exporter financing scheme.

Crossing bordersSimilar activity is occurring globally, as Islamic banks gain footholds in new markets. Over 6,000 miles away from Malaysia, Bosnia Bank International (BBI) is carving a niche in Bosnia and Herzegovina as the only bank to offer companies trade finance facilities under an Islamic banking

framework. To deliver a more sophisticated and varied trade service, BBI began using Misys Equation Islamic and Misys Trade Innovation software in May 2006. “We have worked with the team at BBI to recommend a plan that will enable the bank to handle rapid growth,” said Roy Froud, General Manager, Middle East and Africa, Misys Banking Solutions.

To date, Islamic trade finance has found its widest expression through the structure known as murabaha, or cost plus predetermined profit, which is designed to fit transactions between sellers and buyers of physical goods. In September 2006, a US$20 million murabaha facility was extended to a Russian bank for the first time, when CCH Europe’s German branch arranged and issued a debut murabaha facility for Globexbank in Moscow. Guaranteed by Globexbank, the facility is being used to supply and sell goods at an agreed price, plus a profit mark-up, to a client of the bank.

“Given the size of the Russian market and its need for liquidity, we are confident of arranging further shariah-compliant transactions for Russian institutions in the future,” emphasised CCH International Managing Director Eren Nil.

CCH has also been active in Turkey, where it arranged new borrowing facilities worth up to US$50 million for GISAD Dis Ticaret and two of its subsidiaries in June 2006. The financing facilities comprise a US$10 million, three-year sharia compliant trade finance facility – provided by an Islamic Bank located in the Gulf – for GISAD to fund its VAT receivables

Fast forward The growth of Islamic trade and project financing facilities shows no sign of slowing, writes Kevin Godier

due from the Turkish Government. CCH also provided a US$20 million financing facility for GISAD Faktoring AS, and arranged a US$20 million sharia compliant financing facility for GISAD Arac Kiralama AS, to cover the purchase of cars for onward leasing to GISAD member companies.

IDB activitiesAn especially focused approach to Islamic finance has been shown by the Islamic Development Bank (IDB), which has catalysed trade in less commercially viable markets within its 55 member countries spanning from west Africa to east Asia. In February 2007, the IDB established a dedicated arm – known as the International Islamic Trade Finance Corporation (ITFC) – to operate its trade finance activities.

To be headquartered in Jeddah, with an initial capital of US$3 billion, the ITFC will complement the IDB’s operations by aiming to increase the modest intra-trade volume among member countries of the Organization of Islamic Conference from the current 14% to 20%.

Whereas commercial banks are willing and able to provide trade finance covering transactions to and from Europe and the Gulf states, the IDB has a critical remit in facilitating trade “between countries like Bangladesh, Syria and Mauritania,” says Diana Smallridge, President of International Financial Consulting, which prepared a feasibility study in 2004, examining the options open to the IDB. “They will have an important role as a leader in bringing new banks into intra-regional trade,” she adds.

As Islamic trade finance activity evolves, there will almost certainly be a place for Sharia compliant trade finance funds. A pioneer here has been the Tricon Forfaiting Fund – now advised by Standard Bank – which has branched out into the Islamic investment markets by bringing in Class C Shares and Class D Shares for Islamic trade and commodity finance. Tricon has

Eric Siegel: In more than 75 markets around the world, supporting transactions and projects using Islamic financial instruments is a business reality.

The IDB has a critical remit in facilitating trade between countries like Bangladesh, Syria and Mauritania.

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Fast forward

WiA Delegate Publication 37

investments. Another US$1 billion Islamic project loan, a three-year ijarah leasing facility, was arranged in 2006 by Dubai Islamic Bank to partially fund the development and expansion of Dubai International Airport. More significantly perhaps, the first transaction project financed completely on an Islamic basis, a US$631 million facility for the Al Waha dehydrogenation project in Jubail, was concluded in November 2006, advised by HSBC Amanah.

“Many Islamic structures are now cutting-edge,” says Kamal. One development that he points to is the evolution of sharia compliant financing tranches, backstopped by export credit agencies (ECAs). HSBC arranged “a couple of ECA deals that were structured to be shariah-compliant and both involved the German ECA Hermes”, he observes.

Sukuks are expected to be another key to project finance development. “A sukuk is ideal for refinancing a completed project, or for financing asset-intensive projects,” Kamal asserts.

SABIC’s strategy to tap differing markets for the US$20 billion or so it requires by 2008 for expansion projects saw it issue a debut sukuk worth SR3 billion (US$800 million) in July 2006. Lead-managed by HSBC Saudi Arabia, this marked the first public sukuk launched in Saudi Arabia under the new Capital Market Law.

Islamic finance fits exceptionally well in the Gulf region, where “it strikes all the right chords”, contends Kamal. “The use of sharia compliant structures shows that a project is aligning with local values, and there is a deepening rationale in the market where investors are more and more interested in companies which conduct their activities, including finance, on a sharia compliant finance basis,” he notes.

structured the fund to mirror the income streams from maturing trade finance assets with Islamic-compliant metal trades. Investors earn a trading profit, which is allowed, through metals purchases, and the transactions are overseen by Islamic scholars to ensure they remain true to Islamic tenets.

Project finance Islamic financing instruments are also being increasingly deployed in project finance, where huge capacity is required to fund a vast range of projects. The process of bringing Islamic financing structures into project finance deals began in 2001, according to Darren Davis, HSBC Bank’s Head of Project Finance, Middle East and North Africa. “There was a liquidity problem in the Middle East project finance market, immediately post-September 11, which saw the regional market gravitate towards Islamic banks. Initially there were some complex inter-creditor issues, but conventional banks are becoming comfortable with the structures, and are recognising that the risk profiles are not that different to that of a conventional debt structure,” Davis explains.

The year 2006 saw “a series of ground-breaking Islamic financings in the Gulf region, with a particular focus on the Saudi Arabian market”, says Hissam Kamal, a Director in HSBC Amanah’s Riyadh office. “Most of the Islamic structures attracted liquidity from banks that are not exclusively Islamic,” he adds.

In the first half of 2006, Saudi Aramco’s US$9.9 billion Rabigh project and US$5 billion SABIC-sponsored YANSAB project both included significant Islamic tranches, worth US$600 million and US$847 million respectively.

In May 2006, SABIC raised a US$1 billion murabaha facility on the Islamic markets to part-finance its expansion projects and future

Trading has always been an important part of Islamic communities and is one of the first products that was introduced by Islamic banks to satisfy the financing requirements of their clients.

Roy Froud: We have worked with the team at BBI to recommend a plan that will enable the bank to handle rapid growth.

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يلاملاعورشملاوةيمالسالاةراجتلاةـــيـلاـــمـلاتاـــمدـــخـلازـــيـمـتيـــتـلاتاـــهاـــجـتالاناةراـجـتـلالـمـشـتاـهـنوـكيـه،اـهرـيـغنـعةـيـمالـسالالدـعـمـباـعاـفـتراتـفرـعيـتـلا،ةرـهدزـمـلاةـيـمـلاـعـلا.يضاملادقعلالالخايونس٪٨درـطـضـمعاـفـترايـفةـيـلاـمـلاتالـيـهـسـتـلاصرـفنابــلـطيــفةــلـئاــهـلاةداــيزــلاعــمظوــحـلـمفدارــتـبو.ليومتلاوةراجتلا

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Islamic finance has developed in two main directions, namely Islamic banking and

Islamic insurance services – the latter known as takaful. While information about Islamic banking is being increasingly disseminated, many of the features, models, and structures of takaful are far less well known. Yet the takaful business has proved its viability over nearly three decades by providing products to meet the needs of all sectors of the economy, at both the individual and corporate levels, catering for the short and long-term financial requirements of various social groups.

In line with other types of Islamic finance products, the Islamic insurance market has experienced significant growth since the establishment of the first takaful operator in 1979. Research from Moody’s Investor Services, the rating agency, has indicated that there are currently over 250 takaful companies in existence globally and projections show that total takaful premiums are likely to reach over US$7 billion by 2015. Examples of takaful operators include Syarikat Takaful in Malaysia, Keppel Insurance in Singapore, and Qatar Islamic Insurance Company and Bank Aljazira in the Middle East.

The largest Islamic insurance operator in the world, the UAE-based SALAMA Islamic Arab Insurance Company (IAIC), achieved a 65% increase in profits in 2006, and includes six takaful companies that provide their services in 70 countries under its umbrella. IAIC’s geographical presence has recently expanded into Algeria, Egypt, Tunisia, Senegal and Saudi Arabia.

According to Dr Saleh Malaikah, the company’s Vice-Chairman and Chief Executive Officer, “we have already started family (life) and health takaful operations, not only in the UAE but also in Algeria through the Algerian SALAMA subsidiary”. Health takaful has been added to its activities in Saudi Arabia and “a subsidiary has been set up in Senegal to offer family takaful,” Dr Malaikah said on 1 February 2007, as the 2006 results were announced.

Takaful defined Takaful is a pact among a group of people who agree to jointly indemnify the loss or damage that may be inflicted upon any of them, with the overall objective of eliminating the element of uncertainty. “It is broadly similar to conventional mutual insurance as it involves a number of participants sharing risk on a co-operative basis,” according to law firm Norton Rose, which has an Islamic practice group consisting of more than 20 partners and associates spread across its international network of offices.

Most Islamic scholars agree that takaful is fully consistent with sharia law, due to its core concept of social solidarity, co-operation and mutual assistance, or ta’awun. These themes are mirrored in the existence of takaful co-operative schemes, such as the Agricultural Mutual Fund of Lebanon, established in 1997 to provide health insurance coverage for costs not covered by the government social security fund.

The most significant difference between takaful and conventional insurance is that

Finding the wayIslamic insurance services are gradually developing into major growth markets, writes Kevin Godier

4

a takaful operator (which is effectively the insurer) is prohibited under sharia law from making certain investments which are haram (that is, forbidden).

There are two main takaful models, and a number of variants on these models. Firstly, there is the wakala model, where the operator is the agent of the participants, and is entitled to a fee which is deducted from the contributions made by the participants into a general takaful fund, or from the investment profits derived from investing the general takaful fund, and which may be performance-related. Any underwriting surplus or profits are then distributed exclusively to the participants.

Mudarabah is the other model, in which the operator is entitled to a fixed percentage of any investment profits or any surplus which will be paid into a shareholders’ fund. In each case, the takaful operator will underwrite the risks being insured against, and will determine how much risk it is prepared to accept and how much risk it will seek to lay off through retakaful (equivalent to reinsurance), which is based on the same principles as takaful.

Malaysia hubMalaysia has the highest penetration of takaful compared to conventional insurance of any country, while Iran and Saudi Arabia also account for a substantial part of worldwide takaful premiums. Some 30 Malaysian financial institutions are licensed to undertake Islamic banking activities. In 2005, the country’s takaful industry posted growth of 18.8% for combined contribution income, the highest in three years, according to the 2005 Takaful Annual Report released by Bank Negara on April 19.

HSBC Bank Malaysia has estimated that some 30% of its one million plus customers have at least one insurance product, and is targeting a doubling of its insurance penetration rate within its customer base during the next two years. Its takaful arm, HSBC Amanah Takaful (Malaysia) Sdn Bhd, has estimated that the market in Malaysia offers immense potential given the 26.7 million population’s average age of 24.5. “The challenge is to educate the population on insurance,” said HSBC Amanah’s Chief Executive Officer, Keith Driver, at a 12 February media briefing on the Malaysian insurance industry.

Recruitment of able staff is an increasing priority at HSBC Amanah Takaful, according to Driver. He says the bank is developing a number of “very specific programmes” to capture the right skill base as it heads

The Islamic insurance market has experienced

significant growth since the establishment of the first takaful operator in 1979

As one of the world’s Islamic finance hubs, Bahrain has also developed a significant takaful industry, comprising around a dozen companies.

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along a road map to make Malaysia the centre for the group’s global takaful business. Driver said in February 2007 that HSBC Amanah Takaful has 66 staff, but the number is expected to grow in tandem with the company’s business growth – and that HSBC is committed to make Malaysia the centre of excellence for insurance and takaful operations.

Bahrain marketAs one of the world’s Islamic finance hubs, Bahrain has also developed a significant takaful industry, comprising around a dozen companies. One of the latest to emerge is Aman Bahrain Insurance Company, which was formed in February 2007 with US$20 million in capital from Dubai Islamic Insurance & Reinsurance, Al Salam Bank Bahrain and other investors. Sultan Saeed Al Mansoori, Chairman of Dubai Islamic Insurance & Reinsurance, said in a statement that the new insurer’s formation was prompted by feasibility studies that “showed a high demand for Islamic takaful insurance” in Bahrain.

Premium income in the Bahraini market certainly has room to develop. At the Manama-based Arab Insurance Group, for example, the takaful subsidiary posted a gross premium written of US$15 million in 2006.

The market in Bahrain is at a stage where educating potential market entrants is now a significant activity, as evidenced by a seminar held recently at the Central Bank of Bahrain

Takaful co-operative schemes, such as the Agricultural Mutual Fund of Lebanon provide health insurance cover for costs not met by the government social security fund.

(CBB) for leading executives of Allianz, the world’s second largest insurance firm.

Retakaful growthThe development of the retakaful industry is key to the growth of the direct takaful market. The first retakaful company was established in 1985, since when there has been a steady growth in the number of retakaful operators, as the number of direct providers has surged.

Tunisia-based BEST Re is the largest retakaful company in the Islamic world, and a number of well known international reinsurers have begun to obtain licences to establish Islamic compliant reinsurance operations around the globe. This was demonstrated by the licence granted by the CBB in September 2006 to Hannover Re to establish an Islamic reinsurance company in Bahrain.

The new firm, Hannover Re Takaful, will be the principal underwriter of Hannover Re’s worldwide retakaful business, predominantly focusing on general and life classes. “The establishment of Hannover Re Takaful will be a significant development for the global takaful and retakaful services industry,” said Ahmed Abdul Aziz Al Bassam, the CBB’s Director, Licensing & Policy.

The takaful and retakaful industries will continue this impressive development in Islamic insurance services. Together, they will continue to support the needs of a wide range of business sectors across the Muslim world. g

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ىرخالاتامدخلاونيمأـتلاوـحـننـيـمأـتـلالاـجـميـفةـيـمالـسالاتاـمدـخـلاهـجـتـتيـفاـمـعدىـقـلـتو،قاـطـنـلااذـهيـفدـئاـسـلاهاـجـتالاىـلـعقـيـبـطـتـلـلاـهـتـيـلـباـقتـتـبـثادـقو.قاوـسالارـبـكادـــيوزـــتـبكـــلذو،اـــبـيرـــقـتةـــثالـــثـلادوـــقـعـلاىدـــمتاــعاــطـقلــكتاــبـلـطـتـميــضرــتيــتـلاتاــجـتـنـمـلا؛يــعاــمـجـلاويدرــفـلانــيـيوــتـسـمـلاىــلـعداــصـتـقالافـلـتـخـمـلةـيـلاـمـلاتاـبـلـطـتـمـلـلةـباـجـتـسالاكـلذـكوىدــمـلاىــلـعءاوــس،ةــيـعاــمـتـجالاتاــعوــمـجـمـلا.ليوطلاواريصقلا

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Dubai’s Ports, Customs and Free Zone Corporation’s (DPCFZC) January 2006

US$3.5 billion sukuk launched Islamic finance into the world of mergers and acquisitions by helping the Dubai based global ports operator acquire Britain’s P&O. It also features structural innovations such as the option for investors to swap their holdings for shares if the business goes for an initial public offering within three years of the sukuk issuance.

Khazanah Nasional (KN), a Malaysian Government investment arm, can claim its September 2006 US$750 million sukuk to be the first ever Islamic exchangeable paper based on the notion of owning the underlying shares. It also features options to convert sukuk investments into shares, in this instance of KN-controlled Telekom Malay.

The real dealReal estate investment trusts (REITs) have arrived, providing the Al-Aqar KPJ REIT the opportunity for Malaysia to be the cradle of the world’s first listed Islamic REIT. The REIT enables KPJ Healthcare to finance six properties, while investors will receive up to 99% of the income over a four year period.

Refined ideasThe Petro-Rabigh integrated refining and petrochemical project in Saudi Arabia became the largest long-term Islamic project

financing in the region when it was launched in March 2006. With participants in the Islamic portion including new players such as Saudi Arabia’s Bank Al Bilad (established in November 2004) and the Jeddah-based Islamic Development Bank (IDB), alongside old hands such as Bahrain-based Gulf International Bank (GIB).

Petro-Rabigh also revealed a deepening pool of Islamic financiers. With project capital of US$9.8 billion split equally between Saudi Aramco and Japan’s Sumitomo Chemical, the Petro-Rabigh complex will be one of the largest of its kind in the region.

Finding a waySeveral Islamic financiers are making headway in the quest to find sharia compliant hedge funds. In February 2006, the Jersey Financial Services Commission approved Jersey based Volaw’s Algo Al-Qayyim Fund Limited, which claims to be a sharia compliant hedge fund. Kuwait Finance House (KFH) meanwhile says it has developed a sharia compliant scheme for investors to hedge foreign exchange exposure.

Several more funds mirroring a conventional hedge profile are expected to appear later in 2007 from the likes of Old Mutual Asset Management, North of South Capital and Stark Investments of Wisconsin.

Detailed work has gone into creating hedge fund alternatives that must, for

Welcome to the newNew sharia compliant financial products are rapidly entering the market and innovation is their hallmark, writes Mark Ford

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example, “support the real economy of the bank, not go to the market for gain,” says Chief Executive Officer of Amanie Business Solutions, and one of Malaysia’s leading sharia scholars, Dr Mohamed Daud Bakar. Essential features of hedge funds – such as taking undue risks on the market or selling something you do not own – are forbidden under sharia law, but mitigating risk is not.

The arrival of new sharia compliant products often appears piecemeal; developers generally keep their cards close to their chests. “We can’t share detail, it’s the intellectual property rights of the fund managers,” Bakar says about a fund he is developing with others.

Deutsche Bank, in contrast, has a different agenda. It has presented a paper outlining concepts and structures that the bank wants others to copy. In what could transpire to be a landmark piece of work, the paper entitled Pioneering Innovative Sharia Compliant Solutions claims to have overcome a raft of obstacles that have previously appeared to be insurmountable in the pursuit of new sharia compliant products.

The paper proposes that investors can find sharia compliance through access to several new asset classes, including commodities, fixed income or hedge funds. The paper also claims to provide frameworks for different pay-offs, such as capital guarantees and range accruals, as well as ways to transfer liquidity at market value.

The bank says it wants to share its structures with others because it will help the nascent Islamic finance industry overcome major barriers to growth, specifically its current lack of supply side capacity to meet the burgeoning demand for sharia compliant products.

More work requiredDespite the plethora of new sharia compliant products, more needs to be done, according to Khalid Yousaf, Managing Director of Islamic Finance at IHG Securities.

“We are looking at different ways of raising capital for Islamic financing,” he says, and stresses the primacy of structuring an Islamic product to clients’ requirements. “We don’t issue sukuks or other products, but we do help investors understand Islamic finance,” explains Yousaf. IHG will contribute to the Islamic finance sector, not only through its arranging and advisory services, but also through the research and development of Islamic finance products, he says.

Yousaf also points to the need for an accessible pool of data. “IHG Securities will maintain a dynamic information

The Islamic finance sector will continue to face

challenges as it seeks to develop new products for

defined needs

Dubai Creek and Grand Mosque.

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centre for all global data related to Islamic Finance serving corporations, government institutions, banks and financial services companies,” he says.

IHG Securities brought Dubai-based Tejoori Limited to London’s Alternative Investment Market (AIM). Tejoori claims to be the first truly independent, international sharia compliant investment firm to be admitted to AIM.

“We’re a company with a conscience,” says Managing Director of Tejoori, Steffan Schubert, who asserts that the company will focus on ethical investments to attract investors “no longer willing to hold their noses for a good return.”

Put to good useInnovations in the use of Islamic finance for social and economic development are also beginning to emerge. In Saudi Arabia, the International Finance Corporation (IFC) is supporting an innovative housing finance

scheme pioneered by Kingdom Instalment Company (KIC). It aims to create the conditions for a sharia compliant secondary mortgage market, which is seen as key to unlocking the vast potential for a vibrant housing finance market in the kingdom.

The IFC is providing credit enhancement of the mezzanine tranche of KIC-issued mortgage-backed securities. Elsewhere in the Gulf, Bahrain is looking to use sharia compliant structures in its ambitious social housing scheme.

While the Islamic finance sector will continue to face challenges as it seeks to develop new products for defined needs, industry professionals remain confident of the sector’s potential to develop new products.

“This is just the beginning. There will be new products on interest rate swaps and short sales,” says IHG’s Yousaf. “It’s not impossible to develop any product but we have to push the envelope,” adds Amanie’s Bakar. g

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The Petro-Rabigh integrated refining and petrochemical project in Saudi Arabia was the largest long-term Islamic project financing in the region when it was launched.

ىرخاةيلامتاوداورئاسخلاعنمقودنصنـميـناـعـي،يـمالـسالايـلاـمـلاعاـطـقـلانانـيـحيـفرــيوــطـتنــعثــحـبـيلزــياــمـلهــناــف،تاــيدــحـت.ةـنـيـعـمتاـجاـيـتـحاعـممءالـتـتةدـيدـجتاـجـتـنـمةــقـثىــلـعاوــلازاــمنــيـفرــتـحـمـلانــيـيـعاــنـصـلانااذــهززــعـتةدــيدــجتاــجـتـنـمرــيوــطـتةــيـناــكـماــب.عاطقلاةـيـمالـسالاةـعـيرـشـلـلةـقـباـطـمـلاةـيـلاـمـلاتاـجـتـنـمـلاناةـعـساوةـلـسـلـسـلةاـضرـمةدـيدـجتاراـكـتـبادـهـشـت.ةيراجتلاتابلطلانم

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Ijlal Alvi: The Islamic finance market has gone through dynamic growth, but to maintain growth it is important to adopt best practice.

One of the key organisations for international standards in Islamic

banking is the Islamic Financial Services Board (IFSB). It was set up in response to the growing significance of the Islamic financial services industry and has a remit to promote, disseminate, and harmonise best practices in the regulation and supervision of the industry. The IFSB emerged from discussions between a group of governors and senior officials of central banks, the Islamic Development Bank (IDB), the Accounting and Auditing Organisation for Islamic Financial Institutions (AAOIFI) and the International Monetary Fund.

Much of the IFSB’s work involves referring to Basel II requirements for banks’ capital adequacy, which do not fit the needs of the Islamic finance industry.

Nevertheless, the two standards adopted in December 2005 by the Kuala Lumpur-based IFSB satisfy the twin imperatives of the Islamic finance industry and Basel II. The standards are the Guiding Principles of Risk Management and Capital Adequacy Standard for Institutions (other than Insurance Institutions) offering only Islamic Financial Services.

“IFSB’s capital adequacy standards are primarily based on the BCBS documents with the necessary modifications and adaptations,” says Deputy Secretary-General of the Basel Committee on Banking Supervision (BCBS), Karl Cordewener.

For its part, the IFSB is not trying to reinvent the wheel. The IFSB says it aims to serve the Islamic financial services industry by introducing new, or adapting existing, international standards consistent with sharia principles.

“To this end, the work of the IFSB complements that of the BCBS, the International Organisation of Securities Commissions and the International Association of Insurance Supervisors,” according to an IFSB statement.

Standardisation calls“The Islamic finance market has gone through dynamic growth, but to maintain growth it is important to adopt best practice,” says Ijlal Alvi, Chief Executive Officer of Bahrain based International Islamic Financial Market (IIFM). IIFM is tasked with developing the global primary Islamic capital and short-term financial market and, subsequently, creating a secondary market for Islamic financial instruments.

Standardisation is IIFM’s goal and was a driving factor behind its recent memorandum of understanding (MoU) with the London based International Capital Market Association (ICMA). The MoU, signed on 30 January 2007, sets a framework for the two organisations to collaborate to develop standardised contracts and documentation, as well as market practices for sukuks.

Keeping standards highRegulating the Islamic finance industry means that national governments and international institutions must find ways of working together, write Mark Ford and Nadine Marroushi

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The MoU falls in line with IIFM’s principal objectives to establish, promote and develop market uniformity initiatives, such as issuance and trading guidelines, best practices, standardisation of financial contracts, and infrastructure development. These objectives chime with regulators across the globe.

“Central Bank of Bahrain is working with Islamic financial institutions to develop standard products,” says its Governor, Rasheed Mohammed Al Maraj. “Standard market practices are needed. Some diversity is necessary and welcome, but standardisation is required,” he says. “This would also alleviate pressure on Islamic scholars, where the demand for experts in both sharia and finance is fast outstripping supply. Greater standardisation in core products would allow sharia boards to focus on new or non-standard products and transactions,” he told a London conference in January 2007.

Other central bankers share Al Maraj’s sentiments. “We need to standardise and harmonise risk management and controls,” says Dr Shamsad Akhtar, Governor of State Bank of Pakistan. “At present, sharia compliance standards vary across jurisdictions since, in absence of a well conceptualised framework, countries evolved their own framework by drawing from their own needs and experiences,” she says.

The SBP Governor perceives a need for more work in this area. “To facilitate the growth of Islamic banking across borders, I would like to emphasise the need for increasing international co-operation between supervisors in different areas. We need more dialogue between supervisors across regions for mutual learning with the evolution of international best practices,” she says.

Nout Wellink, Chairman of Basel Committee of Banking Supervision: IFSB’s capital adequacy standards are largely based on the Basel guidelines.

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The results of Britain’s proactive approach are tangible. Islamic Bank of Britain, authorised in 2004, became the first sharia compliant independent bank in the West. Ainley says it took careful preparation by the regulator and the bank to hone the business plan. Negotiations focused specifically on the bank’s capital, ownership, systems and controls.

“There were three or four issues we had to look at,” says Ainley, recalls that the definition of deposit was the most difficult concept they grappled with. “Under British law, every depositor has legal rights… but these do not work with a profit-risk arrangement, therefore we took a pragmatic approach – keep British law but, if you wish, the depositor can choose to settle on a profit-risk share basis.”

While governments and regulators continue to introduce legislation and frameworks for Islamic banking, differences in interpretations of sharia will be slowly eroded, leading to a unified global approach to the sector.

Legislating for Islamic financeNational governments and their regulators are legislating and devising frameworks to facilitate the growth of Islamic banking on a country by country basis. “We are relaxing some of the regulatory standards to encourage growth,” says Akhtar. The SBP has exempted Islamic commercial banks, for example, from the moratorium on the establishment of new banks.

Regulators outside majority Muslim populated countries are moving at different speeds to develop Islamic financial provision. In France, which has a population of around 10 million Muslims, the provision of sharia compliant finance is currently not a consideration, according to a French civil servant at a recent London conference on Islamic finance.

In contrast, the UK’s Financial Services Authority (FSA) has adopted an active regulatory approach for two reasons. “We want to develop Islamic banking for consumers. It’s about inclusion,” says Head of Wholesale Banks Department at the FSA, Michael Ainley, who says it behoves the regulator to ensure that the country’s two million Muslims are provided for. The other main reason for the FSA’s active approach, according to Ainley, is to ensure London holds a major position in the global Islamic finance sector, just as it does in conventional financial services.

The British Government is making legislative changes to accommodate and stimulate growth in Islamic finance, including in its 2006 budget, for example, two clauses to provide a legal and tax framework to accommodate the sharia compliant finance arrangements of wakala and diminishing musharaka. More can be expected. “We will set out in the budget what a tax for a sukuk will look like… to enable a domestic sukuk,” Economic Secretary to the Treasury, Ed Balls, said in January 2007, in anticipation of Britain’s March budget.

Shamsad Akhtar: We are relaxing some of the regulatory standards to encourage growth.

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Rasheed Mohammed Al Maraj, Governor of the Central Bank of Bahrain, seen here presenting The WIBC Leadership Award: The Central Bank of Bahrain is working with Islamic financial institutions to develop standard products.

ةباقرلاتحتتاهاجتاةــــيـنـطوــــلاتاــــموــــكـحـلاىــــلـعبــــجـيفــــيـكراــكـتـبالاــيوــسلــمـعـتناةــيـلودــلاتاــسـسؤــمـلاورــبـعةــيـمالــسالاةــيـلاــمـلادراوــمـلـلةــماــعدــعاوــقمــتيذــلا،ةــيـمالــسالاةــيـلاــمـلاتاــمدــخـلاســلـجـمةــيـلاــمـلاتاــمدــخـلادــيازــتةــيـمـهألةــيـبـلـتهؤاــشـنانـيـبقـيـفوـتـلاورـشـنـلاوزـيزـعـتـلافدـهـبو،ةـيـمالـسالاهذــهـلهــيـجوــتـلاومــيـظـنـتـلايــفتارــبـخـلالــضـفا.ةعانصلا

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Conglomerates from around the world are choosing sharia compliant instruments

to finance multi-million dollar projects – testimony to the increasing desire for, and profitability of, Islamic financial services in global growth industries such as tourism and real estate.

In the Gulf and Malaysia, where the Muslim population is high, developers are working on mixed use projects aimed at attracting foreign direct investment (FDI) and tourism. The tourism industry in these areas is inextricably linked with real estate, where projects combine residential and commercial space with leisure and relaxation facilities.

The most common instrument used is the sukuk. By raising sukuks, developers use the money to invest in projects and share the profits with investors.

Taking the tourNiche players are proving that Islamic financial instruments can work for their project financing. Dubai based Emirates Airlines led the way for other aviation firms in 2005 by issuing its debut sukuk worth US$550 million. The seven year facility was opened to Gulf Co-operation Council (GCC) countries and international investors, and is listed on the Luxembourg Stock Exchange.

Bahrain based Khaleeji Commercial Bank – owned by Islamic investment house Gulf Finance House – launched a five year sukuk in 2005 worth US$134 million, called Al-Marfa’a Al-Mali, to construct the first phase of Bahrain Financial Harbour (BFH).

The US$1.4 billion scheme’s first phase, which is still under construction, includes reclaiming over 186,000 square metres of land from the sea, topping out the Dual Towers – office and commercial space for financial companies - and starting civils and other work.

Once completed, BFH will include a number of tourist and FDI attractions, including seafront walkways, shopping boulevards, a marina, water taxis, coffee shops, dining facilities, and residential units.

Ventures abroadKhaleeji Commercial Bank offers a number of sharia compliant investment products aside from the sukuk. These include the murabaha (purchase and resale) investment account; Al-Hareth French property fund, investing in commercial and industrial real estate in France; Amlak Al-Bahrain, investing in Bahrain’s real estate market; and Eqarat Al-Khaleej, a GCC property private equity investment company.

Abu Dhabi based Aldar Properties recently launched a US$1.3 billion sukuk due to mature in 2011. Aldar is currently developing a number of real estate and tourist projects, including Yas Island in Abu Dhabi - soon to be home to the emirate’s first Formula 1 Grand Prix.

Aldar unveiled its biggest project to date in December 2006. The US$40 billion Yas Island development will be built on a natural island to feature a Ferrari theme park, a motorsports race track, three golf courses and more. Phase one is due to be complete in 2008, and phase two in 2014.

Working togetherAsian and Gulf institutions are developing innovative ways of using sharia compliant products to develop tourism and real estate projects, writes Nadine Marroushi

4

Kuwait based Al-Ahlia Investment Company – through its subsidiary Al-Ahlia Real Estate Gate Company – launched a sukuk worth US$200 million recently to fund the Lagoon city portion of the Al-Khiran Pearl City development. The development will include residential apartments, a shopping centre, and beach club. The apartments will be made available for sale on a freehold basis, and the shopping centre and recreation facilities will be leased to tenants and operators.

Leading the wayKuwait Finance House (KFH) began operations in Malaysia in August 2006, once it was awarded a licence by the central bank, Bank Negara. One of KFH’s biggest coups, just a few months after the bank was established, was the launch of Asia’s largest Islamic real estate fund, a joint venture with Singapore based Pacific Star Group. The US$600 million fund’s first investments were in the Pavillion – a mixed use development comprising a shopping mall and apartment blocks in the capital city Kuala Lumpur.

Evidence of the welcome co-operation between the two countries, Malaysia – long known to have the most established legal structure for Islamic finance in the world – and Bahrain – traditionally known to be the financial centre of the Gulf – are linking up for one of Malaysia’s most exciting projects, the Seri Tanjung Pinang development on Penang Island.

Bahrain based Al-Salam bank, established at the beginning of last year, signed a partnership agreement in September 2006 with Malaysia’s leading property developer, E&O Property Development, and CMREF 1, a private real estate fund sponsored by Malaysian and Singapore financial institutions.

The project, which has a total value of about US$60 million covers a 240 acre reclamation site and will include residential, commercial and marina developments. The bank will participate with E&O and CMREF 1 in developing the seafront bungalow component.

Real estate boomsIn 2006, the first Islamic plantation real estate investment trust (REIT) – the Al-Hadharah Boustead REIT – was launched in Malaysia,

The Wave tourism complex, Oman is the newest and most important ‘integrated tourism complex’ in the Gulf.

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Al-Hareth French property fund is investing in commercial and industrial real estate in France, such as these new seaside apartments in Wimereux.

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Working together

WiA Delegate Publication 45

The IFC, Dar Al-Arkan and KIC are to team up again with Arab National Bank to launch a US$500 million housing finance company.

Dar Al-Arkan is also taking on a sharia compliant credit facility of up to US$1.5 billion to fund the construction of real estate projects in Saudi’s holy cities Mecca and Medina. The company has also announced an extension to its US$425 million sukuk, issued at the beginning of 2007, to US$750 million after the initial issue was oversubscribed. An application has been made to list the sukuk on the Dubai International Financial Exchange (DIFX).

Bahrain based Islamic bank Al-Salam Bank recently announced plans to establish a real estate company to promote property development projects in Bahrain.

Al-Salam Bank’s Deputy Chairman and Managing Director, Hussain Al-Meeza, said the bank aims to provide services that will improve individual living standards. “This is part of our mission as an Islamic bank,” he said.

The Qatar Real Estate Investment Company (QREIC) issued a sukuk worth US$270 million in 2006 to fund housing projects for Qatar Petroleum in the oil field of Dukhan, and the industrial city of Mesaieed. The sukuk has a tenor of 10 years.

UAE Government owned real estate giant Nakheel listed the largest sukuk ever worth US$3.5 million on the DIFX in December 2006. Nakheel is behind vast real estate developments, including Dubai based projects the Palm and the World.

As liquidity from sharia compliant investment opportunities continues to remain high in the Gulf, opportunities for investments in the key sectors of tourism and real estate will maintain their attractiveness to investors.

and listed on the local stock market, Bursa Malaysia. The REIT was set up by the Boustead Group - comprising more than 80 subsidiary and associate companies with interests in plantation, property, finance and investment, trading, manufacturing and services.

Malaysia’s REIT market is said to be in its infancy, and still considered a niche sector. There are now eight REITs listed on Bursa Malaysia, but only two are Islamic - although indicators show this may not be for long.

In August 2006, KFH announced that it was in talks with Government linked real estate and plantation companies, advising them to unlock their assets into sharia compliant REITs. KFH Managing Director Salman Younis has said: “The bigger the size of the REIT, the higher the chances to attract Middle East investors that traditionally invest in Australian and Singapore properties.” Qatar’s Asian Finance Bank has also expressed interest in government linked REITs.

Cutting deals… Malaysian property developer Glomac Bhd was involved in one of the largest foreign property deals made by Gulf companies in Malaysia in 2006. Glomac sold 13 condominiums from its Suria Stonor development en bloc to a private investment group from Dubai for around US$6.5 million.

To meet the development costs of Suria Stonor, Glomac Bhd signed agreements for a murabaha underwritten notes issuance facility, and murabaha medium term notes issuance facility of up to US$50 million between Glomac Regal Sdn Bhd (GRSB) – its wholly owned subsidiary – and Alliance Investment Bank, the principal adviser, and lead arranger for the transaction. The development contains a total of 138 units, and about 80% have been sold.

The Qatar Real Estate Investment Company (QREIC) issued a sukuk worth US$270 million in 2006 to fund housing projects for Qatar Petroleum in the oil field of Dukhan.

In London, Bishopsgate Tower – planned to be the tallest building in the city at 288 metres – is being built by a sharia compliant offshore fund run by London based Arab Investments Limited. Germany’s second largest property fund manager, Union Investment Real Estate, said on 28 February 20007 that it had sold the project to Arab Investments. The building is to be renamed The Pinnacle, and was sold for just under US$392 million. The project is said to require an additional investment of around US$2 billion to bring it to completion in 2009-10.

…using Islamic finance Saudi Arabia is offering a wealth of sharia compliant real estate investments, amid escalating demand for housing from Saudi Arabia’s soon to be first home buyers, and the much anticipated mortgage law. Around 60% of the kingdom’s 23 million population is under the age of 24, creating enormous demand for housing.

According to the International Finance Corporation (IFC), the mortgage market has the potential to grow by US$13 billion a year for the next ten years. The new mortgage law is expected at the end of the year to set the legal framework for the registration of mortgages, and regulate the housing finance sector.

Prince Alwaleed Bin Talal’s Kingdom Instalment Company (KIC) – the largest private housing finance company in Saudi Arabia – issued, in mid 2006, an US$18 million sukuk backed by sharia compliant housing finance contracts.

The IFC, and Saudi Arabia’s private property developer and investment company, Dar Al-Arkan Real Estate Development Company have backed this innovative scheme by providing credit enhancement facilities. The IFC’s facility takes the form of a standby murabaha. The sukuk matures in 2020.

By raising sukuks, developers use the money to invest in projects and share the

profits with investors

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تاراقعلاوةحايسلانـميراـقـعـلاويـحاـيـسـلاعاـطـقـلانـملـكدـيـفـتـسـياــهدــمـتـعـتيــتـلا،ةدــيدــجـلاتاراــكـتـبالاتاــجوــم.ةيجيلخلاوةيويسآلاتاسسؤملا

مـلاـعـلاءاـجرأيـف،تاـكرـشـلاتاـيرـبـكراـيـتـخاناةـمزـتـلـم،تارالودـلانـيـيالـمـبةـيـلاـمتادـنـس،ىـتـش،اـهـعـيراـشـملـيوـمـتـل،ةـيـمالـسالاةـعـيرـشـلاماـكـحأـبةـــحـبرـــمـلاوةدـــيازـــتـمـلاةـــبـغرـــلاىـــلـعلـــيـلدوـــهةـيـمـلاـعتاـعاـنـصيـفةـيـمالـسالاةـيـلاـمـلاتاـمدـخـلـل.ةيمان

Investment opportunities

46

The agricultural sector is still a significant part of the economy in several of the

countries where Islamic banking has the most potential to grow. In 2005, it comprised 21.6% of the Pakistani economy and more than 8% of the Malaysian economy, which is the world’s leading exporter of palm oil as well as a major producer of timber, rubber, and pepper.

Islamic banks in both these countries are planning on securing significant market shares in the near future. According to a report by Dr Ahmed Kaleem, Associate Professor of Business Administration at the Lahore School of Economics (LSE), Islamic banks are planning to capture 10% of the total financial market in Pakistan within the next three years. “The target may not be met without agriculture financing,” he says.

Dr Kaleem believes there is “great scope for Islamic financing of agriculture,” as the sector is still the backbone of the economy. At the same time, there is a huge unmet need for competitive financing in the sector. A survey by the LSE found that at present in Pakistan more than two thirds of loans to farmers are made through informal lenders at high interest rates. 61.5% of farmers admitted they “sometimes”, and 29.4% said they “always” faced financial problems during the cultivation of crops.

Delivering valueThe sharia compliant alternative for financing the production of agricultural commodities is the bai salam contract, under which the seller is paid an advance price for his crop and is required to deliver it at a date set after the harvest.

As well as being potentially beneficial for farmers, the Islamic financing of agriculture may well appeal to Muslim investors eager to invest in traditional business and commodities which are easily demonstrable as conforming to sharia.

While Islamic finance is slowly developing the possibilities at the commercial end of the sector, it has taken a leading role in supporting experimental agricultural techniques, which promise to change the lives of the rural poor in many of the most disadvantaged areas of the world.

Salt of the earthThe International Centre for Biosaline Agriculture (ICBA), which is the only research institute that focuses exclusively on the question of overcoming the problems of salinity in water and soil for agriculture, has been addressing the globe’s growing problems of water scarcity, land degradation and desertification for over ten years. It was originally established by the IDB, which still provides 80% of its funding. The ICBA is developing projects across the IDB’s member countries from Pakistan in the east to Tunisia in the west.

ICBA’s research has shown that by using more efficient irrigation methods, farmers can increase the size of their irrigated lands by a third while using only about 12% more water. In Bangladesh, the centre is working to demonstrate sustainable land and water use together with the Bangladesh Agricultural Research Institute. Almost all Bangladesh’s large rainfall occurs during the monsoon season. During the dry season, low lying coastal lands are damaged by seawater intrusion.

Digging deepThe agricultural and agri-business sector is likely to experience growth as Islamic banking becomes part of the everyday banking environment, write Youcef El Djezairi and Jack Hamilton

A biosaline agriculture project is now aiming to bring salt-affected land back into production to meet the food demands of the 140 million and growing population. The project has shown that careful management of soil and water using drip irrigation systems can allow the cultivation of economic cash crops such as tomato and chilli in areas which have up until now lain fallow because of salinity problems. During 2006, the ICBA initiated an experiment to test the cultivation of watermelon and cucumber.

At the grassrootsThe largest and most ambitious of the ICBA’s projects is tackling the seemingly impossible task of developing grasses and animal feeds that can be irrigated with salt water.

The goal of the Forage project is to improve livelihoods and increase incomes for resource-poor rural men and women in degraded and marginal lands in the West Asia and North Africa regions. Farmers in seven countries have for the past two years been cultivating salt-tolerant forage crops, which are mostly fed to sheep and goats and also to camels.

This initiative is designed not only to bring land back into cultivation but to save freshwater resources. “The success of the project will be a great encouragement for other countries and donor agencies to use the saline water in an integrated way, for the livelihood of poor farmers in the arid and semi-arid region,” predicted ICBA Field and Forage Crops Scientist, Dr Abdullah Dakheel, at the project’s annual meeting in Amman this March. Jordan was an appropriate location for the meeting, as it suffers extreme problems of water shortage; 40% of the country’s agricultural land has been degraded by salinity and other stresses. g

Malaysia is the world’s leading exporter of palm oil with huge plantations and processing plants.

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to the FWU-Group

We wish to thank all our bank distribution and Takafulproduct partners for this important achievement andsuccess.

FWU-Group is a leader in international Bancatakaful,Shari’ah compliant investments and web based point of saleand administration systems. FWU-Group is also an ObserverMember of the Islamic Financial Services Board (IFSB).

FWU-Group’s main competitive advantages in supplyingtailor made “white label” Family Takaful Savings, Education& Retirement plans include:

Please contact:

Dr. Manfred J. DirrheimerChairman of the Board of FWU-Group� +49.89.74 85 88-0m.dirrheimer@fwugroup.com

Sohail JafferFWU-Group Partner� +352.26 197-701f +352.26 197-801s.jaffer@fwugroup.com

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agem

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sWelcome

� Regular and lump sum contributions

� Open investment architecture embedding active risk-control anddynamic fund allocation

� Sophisticated web based application handling and policy administrationsystem

� Structured Re-Takaful solution with a major global reinsurance company

Bank distribution partners already exist in the Middle East and the Emergingmarkets.

In the Middle East region, the FWU-Group offers local support through itsregional office in Dubai.

Winner of the Euromoney Islamic Finance Awardfor Best Takaful Provider

Anzeige 213x276mm.qxd 28.03.2007 14:10 Uhr Seite 1

ةعارزلاقـنورىـلارـقـتـفـييـعارزـلاعاـطـقـلانانـممـغرـلاىـلـعلزــياــمـلهــناالا،ىرــخالاتاــعاــطـقـلاتاــحاــجـنوتالـماـعـمـلاةـعـيـبـطلـضـفـباـسوـمـلـماروـطـتدـهـشـيعاـــطـقـلااذـــهو.ةـــيـموـــيـلاةـــيـمالـــسالاةـــيـفرـــصـمـلايــــفاــــمـهـماءزــــجلــــكـشـيلازــــياــــميوــــيـحـلانـــكـمـيثـــيـحلودـــلانـــمرـــيـثـكـلاتاـــيداـــصـتـقا.رهدزتوومنتناةيمالسالافراصملل

to the FWU-Group

We wish to thank all our bank distribution and Takafulproduct partners for this important achievement andsuccess.

FWU-Group is a leader in international Bancatakaful,Shari’ah compliant investments and web based point of saleand administration systems. FWU-Group is also an ObserverMember of the Islamic Financial Services Board (IFSB).

FWU-Group’s main competitive advantages in supplyingtailor made “white label” Family Takaful Savings, Education& Retirement plans include:

Please contact:

Dr. Manfred J. DirrheimerChairman of the Board of FWU-Group� +49.89.74 85 88-0m.dirrheimer@fwugroup.com

Sohail JafferFWU-Group Partner� +352.26 197-701f +352.26 197-801s.jaffer@fwugroup.com

Ass

ura

nce

- A

sset

Man

agem

ent

- P

ensi

on

sWelcome

� Regular and lump sum contributions

� Open investment architecture embedding active risk-control anddynamic fund allocation

� Sophisticated web based application handling and policy administrationsystem

� Structured Re-Takaful solution with a major global reinsurance company

Bank distribution partners already exist in the Middle East and the Emergingmarkets.

In the Middle East region, the FWU-Group offers local support through itsregional office in Dubai.

Winner of the Euromoney Islamic Finance Awardfor Best Takaful Provider

Anzeige 213x276mm.qxd 28.03.2007 14:10 Uhr Seite 1

Investment opportunities

48

The pressing needs faced by all countries in basic services such as water, electricity,

telecommunications, petrochemicals and energy have triggered growing infusions of private capital from Islamic and other sources over the past decade. In the Middle East, for example, the opportunities for private participation in infrastructure development can be gauged by estimates from Sheikh Mohammed bin Ahmed bin Jassim Al Thani, Qatar’s Minister of Economy and Commerce, that at least US$1 trillion worth of projects are the region’s project pipeline.

Asia’s demands are even greater, according to the Asian Development Bank (ADB), which joined the Islamic Financial Services Board as an Observer Member in 2003. “It is perhaps not an understatement that Asia will need some US$3 trillion over the next ten years to keep up with the growing demand for infrastructure. However, at current rates of investments, less than half of such demands will be met,” contended Haruhiko Kuroda, the ADB’s President, at the September 2006 Emerging Market Forum in Jakarta.

Equity funding Private equity funds have offered one way forward, the pioneer being the Islamic Development Bank (IDB), which in 2002 set up the first private investment vehicle to focus on infrastructure development in the Islamic world, the US$1.5 billion IDB Infrastructure Fund.

Even larger is a US$2 billion Islamic private equity fund established in July 2006 for investment in infrastructure in the Middle East and South Asia. Co-sponsored by

Deutsche Bank and Ithmaar Bank, the ten year Infrastructure and Growth Capital Fund (IGCF) has a target internal rate of return of 15% annually – and will invest in green field projects across the region, focusing on oil and gas, petrochemicals, telecoms, power, water, roads, healthcare and education. It will also provide capital to turn around underperforming companies and play a role in privatisations.

“Sharia compliant finance is the fastest growing area of the global financial industry, and private equity the fastest growing asset class in the Middle East,” says Arif M. Naqvi, Chief Executive and Executive Vice-Chairman of the fund’s manager, Abraaj Capital. He adds: “Bridging the two together creates an enormous opportunity for investors to participate in the regional success.”

Property, telecommunications, and airports Islamic commercial financing is also providing key underpinning for infrastructure development. As a result of a US$1 billion three year ijarah leasing facility lead arranged by Dubai Islamic Bank in June 2006, the Government of Dubai drew down fresh funds to continue the expansion of Dubai International Airport – a vital project given the growth in overseas visitors.

According to Sheikh Ahmed Bin Saaed Al Maktoum, the Department of Civil Aviation (DCA) Chairman, the funding boosted confidence at the DCA that it would complete the second phase of the project as planned. “Dubai is set to become one of the major commercial and leisure hubs, not just in the region, but in the world, with the airport upgraded to handle 70 million passengers per annum,” he said.

Building for the futureIslamic finance is assuming a major role in a variety of global infrastructure, utilities and petrochemicals sectors, writes Kevin Godier

4

Eight other banks participated in the facility as lead arrangers: Standard Chartered, ABN Amro, Deutsche Bank, WestLB, Development Bank of Singapore, Société Générale, Depfa Bank, and DZ Bank.

In Kuwait, the Mobile Telecommunication Company (MTC) raised a US$750 million syndicated murabaha financing facility in October 2006, supporting its acquisition of mobile telecoms infrastructure in the Middle East and Africa region over the past three years. The deal was fully underwritten by the lead arranging banks, comprising ABC Islamic Bank, Arab Bank, Calyon Corporate and Investment Bank, Gulf International Bank, Kuwait Finance House and National Bank of Abu Dhabi.

Another ground-breaking deal occurred in February 2007, when an international banking group closed a US$600 million sukuk on behalf of Dar Al Arkan Real Estate Development Company (DAAR), a leading residential real estate developer in Saudi Arabia. The three year transaction marked the first sukuk issued by a Saudi corporate in the international capital market, and was launched in the market by ABC Islamic Bank, Arab National Bank, Standard Bank, Unicorn Investment Bank and WestLB.

According to Abdullatif Al-Shalash, a member of the DAAR board, “DAAR is committed to playing a leading role in providing affordable housing solutions that meet international standards to middle income families across the Kingdom of Saudi Arabia.”

Islamic finance has also been deployed for property refinancing deals, as when Lloyds TSB provided a £100 million refinancing deal in February 2007 for Park Lane Properties, a company co-owned by Kuwait based ADEEM Investment Company and Investment Dar. The deal, in which Park Lane Properties purchased Grosvenor House Apartments in London, was structured as a purchase of commodities, to avoid the payment of any interest. “Through a series of murabaha trades of certain commodities, an effective structure can be created which provides the bank with the return it requires and the transaction remains sharia compliant,” said Rodney Dukes, Head of Finance and Projects at Taylor Wessing, which advised Lloyds TSB.

Rodney Dukes: Through a series of murabaha trades of certain commodities, an effective structure can be created.

The telecommunications market is growing at an unprecedented rate across the Islamic world.

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Building for the future

WiA Delegate Publication 49

Water financingWater projects, like other types of infrastructure schemes, require three types of funding if they are to begin life on a secure financial footing. The first is equity, which represents the first line of defence for lenders against loss in the event of a business entity’s bankruptcy. Another requirement is short-term debt for working capital needs, but the bulk of any water utility financing should consist of long-term, fixed cost debt, tailored to the long payback periods involved in water projects.

In practice, Islamic finance can meet all three of these requirements more than adequately. Equity participation in projects is a key ethos of sharia compliant finance, while the trading profit and rent concepts that are inherent in Islamic finance are effectively equivalent to lending at fixed rates, over tenors that can range between short and long-term.

By far the largest application of Islamic finance to date has been seen in the series of independent water and power projects (IWPPs) that have sprung up across the Gulf region. These projects have emerged as GCC governments have used the fruits of their oil exports to secure drinking water for populations that are showing an average compound annual growth rate (CAGR) of approximately 2.4%, more than double the global average. This, in turn, has generated a projected CAGR of 4-5% in water consumption within the region over the next two decades, requiring the additional supply of an extra 5 million cubic metres of water a day.

Saudi focus Needs are undoubtedly the greatest in Saudi Arabia, where water projects have previously been funded through Government budgetary allocations, but now require large external funding. Within a newly liberalised utilities environment, the kingdom has planned a slew of massive desalination projects – usually as part of a combined IWPP – which will require many billions of dollars in long-term finance.

The role for Islamic finance in these deals is likely to be significant, bankers predict. “An educated guess is that Islamic money might comprise anywhere between 10-15% of the total financing package for these major projects,” says Hissam Kamal, a Director in HSBC Amanah’s Riyadh office.

One good example, the $2.5 billion Shuaibah-3 power generation and seawater desalination plant on the kingdom’s west coast, achieved financial closure in January 2006. Here, an Islamic financing tranche of $210 million was used within an overall $2 billion debt package that will be used to build one of the largest greenfield IWPPs in the world, with a capacity of 880,000 cubic metres of water a day, and 900MW of power.

One of the next IWPPs predicted to use Islamic finance will be the Marafiq project, the first and second phases of which will add 800,000 cubic metres a day and 100,000 cubic metres a day of water, helping the kingdom service the growing needs of both the expanded Jubail Industrial City and the

Eastern Province. Similarly, the Shuqaiq-2 and Shuqaiq-3 schemes are expected to look to the Islamic markets to part fund their 212,000 and 100,000 cubic metres a day water production components.

UAE template Saudi Arabia appears to be structuring both its IWPP planning – and the accompanying financing – by replicating many of the features of Abu Dhabi’s existing IWPP programme. Having begun this eight years ago, the emirate is a relatively mature and sophisticated market, as illustrated by one of Abu Dhabi’s most recent deals: a US$538 million refinancing, put in place in 2004 to cover CMS Energy’s original lending deal in 1999 for the Al-Taweelah A2 IWPP.

The refinancing marked the first time that a sukuk was deployed alongside other debt components in an IWPP financing. The sukuk was underwritten by Abu Dhabi Islamic Bank, Dubai Islamic Bank and Kuwait Finance House, and was secured against the project assets.

Other significant portions of Islamic finance laid down for UAE-based IWPPs include a US$250 million Islamic ijara tranche mobilised for the Shuweihat IWPP in 2001, where the money was secured against the asset of the project turbines. In 2003, a US$1.77 billion non-recourse loan for the Umm al-Nar IWPP financing included a US$250 million Islamic tranche, arranged by Abu Dhabi Islamic Bank. 4

With all these precedents in place, banking appetite for IWPP projects in other GCC countries is likely to be strong. Several are now at various stages of development in Oman, Qatar and Bahrain, with the latter market already having drawn in a US$55 million Islamic financing tranche in 2002, when istisna’a and ijira financing was linked and inserted into the funding of the Al Hidd power and water plant in Bahrain.

New initiatives On a smaller scale, recent initiatives to have channelled Islamic finance into the water sector include the Waqf Fund Initiative for Water, which was introduced in December 2006 by the World Conservation Union’s West Central Asia & North Africa Regional Office to finance water conservation activities. The new initiative is seen as a more flexible and innovative financing mechanism that will complement existing conventional regional development funds. Waqf is an inalienable religious endowment in Islam by which an asset is used for Muslim religious or charitable purposes. It is conceptually similar to the common law trust.

Power to the peopleWhen Dolphin Energy announced in December 2005 that it had sealed a US$1 billion Islamic financing for its gas pipeline project linking Qatar to the UAE, Dolphin’s Chief Executive Ahmed Ali Al Sayegh was emphatic that the transaction marked “the largest ever Islamically structured oil and gas financing”.

The four-year facility was led by five banks – ABN Amro, BNP Paribas, Citigroup, Dubai Islamic Bank and Gulf International Bank – and was structured as an istisna’a and ijara transaction that will be remembered as a benchmark for hydrocarbons related project finance for years to come.

With global demand for oil and gas supply still rising steadily, it is hardly any

The bulk of any water utility financing should consist of long-term, fixed cost

debt, tailored to the long payback periods involved

in water projects

The Government of Dubai drew down fresh funds to continue the expansion of Dubai International Airport.

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infrastructure, often through the use of project finance structures to fund private investments that run into many billions of dollars, Islamic financing structures have become an increasingly important component of the funding packages.

Some bankers would nominate 2001 – when, as cited previously, the Shuweihat IWPP in Abu Dhabi tapped a then huge US$1.6 billion financing package – as a watershed year. With bank liquidity thin on the ground, the deal was saved, arguably, by the inclusion of a US$250 million Islamic ijara tranche, arranged by Abu Dhabi Islamic Bank.

Hard on Shuweihat’s heels in 2001, a US$55 million Islamic element was incorporated into the funding of the Hidd power and water plant in Bahrain. The Islamic component was arranged by HSBC Amanah, the IDB and Kuwait Finance House, and again comprised the combination of istisna’a and ijara financing believed by bankers to be best suited to project finance.

The success of these deals made the use of a similarly structured facility fairly inevitable when the Umm al-Nar IWPP financing was being arranged two years later. The latter comprised a US$1.77 billion non-recourse loan covering the acquisition and expansion of the Umm al-Nar power and water desalination plant in Abu Dhabi, and again included a US$250 million Islamic tranche, arranged by Abu Dhabi Islamic Bank.

surprise that sponsors in the Middle East have tapped several significant Islamic financing packages to help bring their hydrocarbons reserves out of the ground.

Prior to the Dolphin deal, the record for the biggest ever Islamic project financing was held by the giant Qatargas II liquefied natural gas (LNG) scheme, which drew some US$530 million in 15 year Islamic lending as part of a giant US$4 billion plus financing. The Islamic tranche was a first for both of the sponsors, Qatar Petroleum and ExxonMobil, and involved a sale and leaseback structure which was lead arranged by seven banks: Kuwait Finance House, Dubai Islamic Bank, Qatar National Bank, BNP Paribas, Gulf International Bank, HSBC and Qatar Islamic Bank

Oil financeIn early 2005, more Islamic money was raised, this time in the form of a US$330 million ijara facility as part of a larger US$1.2 billion debt financing tapped for an upgrade to Bahrain’s sole oil refinery, the Bahrain Petroleum Company facility at Sitra.

As the upside of the oil price cycle has helped oil and gas producers in recent years, so it has hit governments in poorer, oil importing countries. Islamic finance has provided some much needed respite for those finding themselves out of pocket.

In late 2004, for example, the Islamic financing market helped push through new finance flows into Indonesia, which had been suffering from the steady rise in oil prices since the turn of the twenty first century. A US$292 million Islamic trade finance facility was mobilised for Indonesia’s state owned oil company, PT Pertamina, to fund the purchase of Middle East crude oil by a group of banks that had no previous track record with Indonesian borrowers. These were led by HSBC Amanah, and also involved significant Islamic lenders such as Kuwait Finance House, Dubai Islamic Bank, Egypt’s Faisal Islamic Bank, and Germany’s DEPFA Investment Bank.

The IDB has also been active in financing oil importing Islamic nations. In March 2006, the IDB approved a US$200 million international trade financing facility for Pakistan, to import crude oil and refined petroleum products. The IDB also provided Bangladesh with a raft of oil import finance in 2006, including two facilities worth a total of US$175 million that were approved in April, at the 237th session of the bank’s governing board. It has also extended over US$1.3 billion to date to support Morocco’s Samir refinery.

Power sector financingAnother Moroccan energy sector to have received significant IDB support has been its power sector. Among the facilities approved by the IDB in 2006 were a series of rural electrification loans, as well as a US$24.2 million istisna’a facility for an upgrade project at the Mohammedia thermal power plant.

With virtually every Gulf economy investing in upgrading its power 4

Abu Dhabi was also the host country for a new power project financing paradigm in July 2004, when a US$150 million sukuk was deployed alongside other debt components in the US$538 million refinancing of CMS Energy’s original deal in 1999 for the Al-Taweelah A2 IWPP. The sukuk was underwritten by Abu Dhabi Islamic Bank, Dubai Islamic Bank and Kuwait Finance House, and was secured against the project assets.

Petrochemicals financeA cursory glance at the wealth of countries in the Middle East and North Africa, particularly the GCC, would lead any observer to expect the financing of petrochemicals projects to be a hive of activity for Islamic financing houses. Indeed, of the seven founding countries of the IDB, only two (Turkey and Egypt) are not major exporters of crude oil and/or natural gas.

Given the ambitions many OPEC member states have of developing downstream sectors of petroleum, and the huge mineral wealth in member countries of the Organisation of the Islamic Conference (OIC), coupled with a growing awareness of the investments to be attracted by Islamic finance, some might be surprised that the market has not already been saturated with institutions offering sharia compliant financing for petrochemicals.

Perhaps the most significant lack of a clear role for the private sector is in the oil industries in Middle Eastern countries, but this is being remedied. Kuwait is a prime example of a country which completed full nationalisation of its oil industry in the 1970s, then towards the end of the 1990s it discovered that some accommodation with both the private sector and foreign direct investment would be necessary.

The state-owned Kuwait National Petroleum Corporation (KNPC), with

The pressing needs faced by all countries is in basic services such as electricity.

Islamic finance is a growing market with an overall global size of nearly

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responsibility for all refining activities in the country, was only recently made acutely aware of some of the shortfalls of total reliance on the state’s coffers. The KNPC’s plans for a New Refinery Project, intended to build one of the world’s largest grassroots facilities for the production of for-export petroleum products (615,000 barrels/day crude feed rate) have stalled because the construction bids were three times greater than the amount the KNPC had originally budgeted for the project (circa US$5 billion).

Equate: a story of success The Equate Project, a joint venture between the Kuwait owned Petrochemical Industries Company (PIC) and Union Carbide, was financially closed in 1996, making it a pioneer in Islamic finance for large scale projects.

The Equate Project’s original budget stood at US$2 billion; largely due to financial prudence, both PIC and Union Carbide used debt products to finance their shares of equity, which amounted to 90% divided equally between the two, with the remaining 10% owned by a publicly listed Kuwaiti corporation. PIC, partially out of a desire to maintain a visibly Kuwaiti character for projects in its vital petroleum sector, sought to use structured debts from the KFH, one of the earliest Islamic banks in the private sector.

The terms arranged by KFH were strong commercially and were more responsive to its needs: US$200 million of the budget was supported by Islamic financing, chiefly in the forms of ijara, which allowed the investors - in this case, mainly KFH - to hold investments which bore a relation to tangible assets, and to profits based on a set schedule of payments, before the final assets were handed over to the commissioning company (in this case, PIC and Union Carbide) at the maturation of the ijara agreement.

The agreement used for the Equate Project also suggested that the lenders were taking a considerable risk, and could have been legally responsible, a significant issue for any investor, especially given the safety considerations of large petrochemical facilities and the rapid fluctuations in market prices for crude oil and refined products.

The long-term risks incurred by lending through the ijara system is not always the safest opportunity for an investor. Nonetheless, the eagerness of Kuwaitis to invest in their country’s petrochemicals industry overrode any inhibitions and allowed the project to take off. KFH is now firmly established as a merited bank in its own right, with profits for FY 2006 reaching US$1.19 billion, with a return on equity of 27.6% for the same year, a competitive figure when compared to other Kuwait based banks.

The future in petrochemicalsLess than ten years after the financial closure of the Equate Project, Saudi Arabia announced the construction of a much larger petrochemicals plant, producing over 2 million tones per year of ethylene and propylene at Raghib; the construction for the project should be completed by 2008. The budget for this project is likely to rise to roughly US$10 billion, setting a record for the size of any Islamic financing deal (indeed this project alone represents about 3% of the Islamic financing market as a whole). The willingness of the project’s creditors -- Bank al Bilad and the IDB itself -- to show long-term trust in petrochemicals will increase the visibility of the Islamic finance sector significantly and could lead to greater use of Islamic finance products by borrowers. It also represents a milestone in the repatriation of Saudi capital, through an Islamic investment vehicle, into the kingdom’s private sector.

The ten year Infrastructure and Growth Capital Fund (IGCF) will invest in green field projects across the region, focusing on oil, gas, petrochemicals, and a number of other essentials.

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This is not to underestimate the importance of the intermediate achievements between the completion of Equate and the beginning of work at Raghib, but it does reflect the stunning growth of the field in a comparatively short timeframe: from the troubled beginnings of a US$2 billion petrochemicals project in Kuwait, to a US$9.9 billion ethylene and propylene factory in Saudi Arabia within just a decade. In this sense, Islamic finance has shown the way forward not only to change the financial services market, but to change the structure of participation in Middle Eastern economies.

An untapped marketTakaful has an estimated worldwide market size of between US$200 billion and US$500 billion, but is oddly absent from ventures providing insurance cover to petroleum companies. In the case of the Raghib factory, the consortium of owners, while using an Islamic tranche to build the facility, relied on the Japanese Nippon Export and Credit Bank for insurance coverage of the deal. Takaful transactions could provide for the reclamation of a part of the premium by the policy holder, and the system also lends itself to mutual insurance agreements between multiple parties insuring a set of fairly uniform ventures, perfect for the number of state owned petroleum operators in the Gulf. It remains to be seen whether they will be incorporated into the mix for future financings for petroleum related ventures.

Strength in depthIslamic finance is a growing market with an overall global size of nearly US$300 billion and continues to grow at 15% per annum. Its major role in infrastructure, utilities and petrochemicals will inevitably continue into future decades.

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داوــمـلاو؛ةــقاــطـلاو؛ءاــمـلاو؛ةــيـتـحـتـلاةــيـنـبـلاةيواميكورتبلاقــفارــمـلاو؛ةــيـتـحـتـلاىــنـبـلاعاــطـقنــملــكرــمـتـسـيبذــجيــف...تاــيواــمـيـكورــتـبـلاعاــطـقو؛ةــماــعـلاارـظـن،يـمالـسالالـيوـمـتـلانـمةـمـخـضتاـيوـتـسـملودــلانــمدــيدــعـلايــفةــحاــحـلـمـلاةــجاــحـلاىــلاتـثدـحايـتـلا،ةـيـلوالاتاـمدـخـلاهذـهـلةـيـمالـسالافرــطنــمءاوــسةــصاــخـلالاوــمالاسوؤريــفاوــمـندــقـعـلالالــخةــيـمالــسارــيـغواةــيـمالــسارداــصـم.يضاملا

،٥٤ةـــحـفـصـلاىـــلـعهـــقـفارـــياـــمولاـــقـمـلااذـــه.ةعساولاقاوسالاهذهنعةلماشةرظننامدقي

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When Dolphin Energy announced in December 2005 that it had sealed a

US$1 billion Islamic financing for its gas pipeline project linking Qatar to the UAE, Dolphin’s Chief Executive Ahmed Ali Al Sayegh was emphatic that the transaction marked “the largest ever Islamically structured oil and gas financing”.

The four year facility was led by five banks – ABN Amro, BNP Paribas, Citigroup, Dubai Islamic Bank and Gulf International Bank – and was structured as an istisna’a (construction) and ijara (sale and leaseback of operational assets) transaction that will be remembered as a benchmark for hydrocarbons related project finance for years to come.

With global demand for oil and gas supply still rising steadily, it is hardly any surprise that sponsors in the Middle East have tapped several significant Islamic financing packages to help bring their hydrocarbons reserves out of the ground.

Prior to the Dolphin deal, the record for the biggest ever Islamic project financing was held by the giant Qatargas II liquefied natural gas (LNG) scheme, which drew some US$530 million in 15 year Islamic lending as part of a giant US$4 billion plus financing. The Islamic tranche was a first for both of the sponsors, Qatar Petroleum and ExxonMobil, and involved a sale and leaseback structure which was lead arranged by seven banks: Kuwait Finance

House, Dubai Islamic Bank, Qatar National Bank, BNP Paribas, Gulf International Bank, HSBC and Qatar Islamic Bank.

Oil financeIn early 2005, more Islamic money was raised, this time in the form of a US$330 million ijara facility as part of a larger US$1.2 billion debt financing tapped for an upgrade to Bahrain’s sole oil refinery, the Bahrain Petroleum Company facility at Sitra.

As the upside of the oil price cycle has helped oil and gas producers in recent years, so it has hit governments in poorer, oil importing countries. Islamic finance has provided some much needed respite for those finding themselves out of pocket.

In late 2004, for example, the Islamic financing market helped push through new finance flows into Indonesia, a sufferer from the steady rise in oil prices since the turn of the twenty first century. A US$292 million Islamic trade finance facility was mobilised for Indonesia’s state owned oil company, PT Pertamina, to fund the purchase of Middle East crude oil by a group of banks that had no previous track record with Indonesian borrowers. These were led by HSBC Amanah, and also involved significant Islamic lenders such as Kuwait Finance House, Dubai Islamic Bank, Egypt’s Faisal Islamic Bank, and Germany’s DEPFA Investment Bank.

The Islamic Development Bank (IDB) has also been active in financing oil importing

Power to the peopleIslamic finance is playing a leading role in oil, gas, and power production, writes Kevin Godier

Islamic nations. In March 2006, the IDB approved a US$200 million international trade financing facility for Pakistan, to import crude oil and refined petroleum products. The IDB also provided Bangladesh with a raft of oil import finance in 2006, including two facilities worth a total US$175 million that were approved in April, at the 237th session of the bank’s governing board. It has also extended over US$1.3 billion to date to support Morocco’s Samir refinery.

Power sector financingAnother Moroccan energy sector to have received significant IDB support has been its power sector. Among the facilities approved by the IDB in 2006 were a series of rural electrification loans, as well as a US$24.2 million istisna’a facility for an upgrade project at the Mohammedia thermal power plant.

With virtually every Gulf economy investing in upgrading its power infrastructure, often through the use of project finance structures to fund private investments that run into many billions of dollars, Islamic financing structures have become an increasingly important component of the funding packages.

Some bankers cite 2001 – when the huge Shuweihat independent water and power project (IWPP) in Abu Dhabi tapped a then huge US$1.6 billion financing package – as a watershed year. With bank liquidity thin on the ground, the deal was arguably saved by the inclusion of a US$250 million Islamic ijara tranche, arranged by Abu Dhabi Islamic Bank. The Islamic lenders secured their money against the asset of the project turbines, taking their repayments from the lease on them.

Hard on Shuweihat’s heels in 2001, a US$55 million Islamic element was incorporated into the funding of the Hidd power and water plant in Bahrain. The Islamic component was arranged by HSBC Amanah, the IDB and Kuwait Finance House, and again comprised the combination of istisna and ijira financing believed by bankers to be best suited to project finance.

The success of these deals made the use of a similarly structured facility fairly inevitable when the Umm al-Nar IWPP financing was being arranged two years later. The latter comprised a US$1.77 billion non-recourse loan covering the acquisition and expansion of the Umm Al Nar power and water desalination plant in Abu Dhabi, and again included a US$250 million Islamic tranche, arranged by Abu Dhabi Islamic Bank.

Abu Dhabi was also the host country for a new power project financing paradigm in July 2004, when a US$150 million sukuk was deployed alongside other debt components in the US$538 million refinancing of CMS Energy’s original deal in 1999 for the Al-Taweelah A2 IWPP. The sukuk was underwritten by Abu Dhabi Islamic Bank, Dubai Islamic Bank and Kuwait Finance House, and was secured against the project assets.g

A US$330 million ijara facility was raised as part of a larger US$1.2 billion debt financing for an upgrade to Bahrain’s sole oil refinery, the Bahrain Petroleum Company facility at Sitra.

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W e b s i t e : w w w . p a t h - s o l u t i o n s . c o mE m a i l : i n f o @ p a t h - s o l u t i o n s . c o m

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Islamic financiers looking to develop manufacturing industries in their home

countries face a double challenge. While some of the stumbling blocks facing the growth of Islamic finance are being steadily overcome, the problems of creating a manufacturing base for the economies of Islamic countries seem not to have changed over the past 100 years; and this is particularly true in the Muslim heartland in the Middle East and North Africa.

Muslims today comprise 16-20% of the world’s population, but it is estimated that majority-Muslim countries contribute only about 10% to the world’s global GNP. In the case, for example, of Saudi Arabia which, among Muslim countries has by far the largest GDP per capita at purchasing power parity, industries including mining and petroleum production account for 67% of GDP but provide employment for only 25% of the workforce.

Non-labour-intensive activities, such as the production of fossil fuels and petrochemicals, are an outcome of the over dependence on the export of natural resources; this might reflect specialisation in areas where Saudi Arabia enjoys a huge competitive advantage, but does not bode well for social development of the kingdom or for strategic strength.

Of all the Muslim countries, no two make up a pair of major trading partners. This is one of the reasons for the comparatively slow rate of industrialisation in the Muslim world, as the status quo will not create a

natural demand base for manufactured goods without a serious realignment of trading policies designed to foster inter-Muslim economic exchange.

Manufacturing issuesIn the past few years, the economic boom of the Gulf States has been driven largely through real estate speculation, an activity which has attracted a lot of interest from managers of Islamic funds for its clear cut simplicity and sharia compliance. There are good reasons for this: one of the main requirements of specifically Islamic financing solutions is the desire that debt is linked directly to assets of value which are used purposefully by the borrower.

While real estate speculation is a relatively new phenomenon in many of these states, many Islamic real estate funds cut their teeth with investments in the West, particularly in the UK. Now that the growth in the real estate markets of many Arab countries is decelerating, and with the mature state of the real estate market in Europe, money managers will begin looking for other places to invest their funds in a sharia compliant way, and manufacturing is an increasingly attractive option.

HSBC Amanah, the Islamic financing arm of the global bank HSBC, has been involved in nearly US$ 2 billion sukuk issuances in Pakistan, Malaysia and Brunei, but despite the parent company being widely represented in industrial projects worldwide, little mention of manufacturing industries in the Islamic world is made in their literature.

Built to lastManufacturing is a sector that needs greater support in Islamic economies, writes Abdulhadi Ayyad

4

This situation prevails despite the existence of the ijara and istisna’a structures (the name is derived from the Arabic word for manufacturing), both of which can easily lend themselves to industrial production. This has also captured the attention of the Saudi Arabian Basic Industries Company (SABIC), which oversaw one of the largest issuances of non-equity Islamic financial products in Saudi Arabia. It recently stated that it would be seeking a greater portion of its financing through Islamic finance products.

The role of the public sector is crucial, as the economies of most Islamic countries would face fierce competition from others with immense competitive advantages in manufacturing; on the other hand, the Malaysia branch of Kuwait Finance House (KFH) recently announced a plan to issue US$ 250 million of sukuks, paving the way for investors in Islamic financial products to enter the manufacturing industry.

Where now?The KFH deal is a good example of a pioneering use of Islamic finance for manufacturing projects in Malaysia, where a vibrant manufacturing base, producing everything from plastic bags to consumer electronics, is combined with a well established, visible and important Islamic financial services industry.

RHB Islamic Bank (also known as the Rashid Hussein Bank) announced in late 2006 that it would be promoting Islamic financial products aimed specifically at manufacturing in Malaysia’s “Southern Corridor”, which starts at Kuala Lumpur. Relatively speaking, Malaysia is a power house for industrial production among Islamic countries, with industrial output growing at a rate of 7% last year (with a base of more than US$ 25 billion), from a position where Malaysia is already credited with being one of the reasons behind the Asian ‘economic miracle’ of the 1980s and 1990s.

Nor was 2006 an aberrant year for Malaysia’s industrial growth; between 1980 and 2006, the contribution of manufacturing - in this case, not including mining, quarrying and oil production - to GDP rose from 17.2% to 31.2%, reflecting the firm convictions of policy makers in that country to promote exports throughout the globe.

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There are plans for the production of Renault cars in Iran.

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In the wider Middle East, the expansion and diversification of petrochemical production is growing, such as the refining activity being planned in Kuwait and at the Raghib facility in Saudi Arabia. Perhaps appropriately, these projects - and the need for their financing - were announced just before the Iranian Industrial Development and Renovation Organisation had finalised plans for the production of Renault cars within the Islamic republic. While Iran has not announced any intentions to seek foreign financing of the deal, it is worth noting that this new venture, which seeks to build 300,000 cars a year in the Middle East, is being carried out in a country where the largest domestic commercial banks operate in accordance with Islamic finance. The Renault deal is remarkable as it allowed the participation of a (foreign) private sector with a (partially) state owned conglomerate to produce value added products for export to emerging economies.

Given a steadily blooming Islamic finance market, with the populations of Muslim societies increasingly eager to participate in wealth creation, the cause of Islamic finance to promote industrial production of goods for trade between one Muslim country and another is one which underlines the spirit of market growth. It remains to be seen whether capital supported as it is by the governments of the IDB member countries will find Islamic markets for Islamic goods.

The expansion and diversification of petrochemical production is growing.

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ةعانصلا

نوـمزـتـعـينـيذـلا،نوـيـمالـسالانوـيـلاـمـسأرـلاهـجاوـيتاـيدـحـت،مـهـنادـلـبيـفةـسـبـلألاتاـعاـنـصرـيوـطـت.ةريبك

داــجـياءالؤــههــجاوــتيــتـلالــكاــشـمـلاناودــبـيوهذـهو،ةـيـمالـسالالودـلاداـصـتـقالةـيـعاـنـصةدـعاـقةــنـسةــئاــمذــنـملازــتاــميــهـف،ةــنـمزــملــكاــشـمـلاقــبـطـنـيو.اــهـلالــحدــجـتالومــكارــتـتومــقاــفـتـتقرـشـلاو؛ةـيـمالـسالادالـبـلاىـلـع،صـخاعوـنـب،اذـه.ةيلامشلاايقيرفاو؛طسوالا

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Three sectors outside the finance and insurance markets that have grown

considerably in recent years are those of telecoms, IT and outsourcing. Huge investment, and relatively educated and cheap workforces have been crucial to rapid growth in many Muslim countries.

Telecoms: making the runningSome of the telecoms companies with the biggest global reach are based in the Arab region. The likes of Kuwait’s Mobile Telecommunications Company (MTC) and Wataniya Telecom, UAE-based Emirates Telecommunications Corporation (Etisalat), Egypt’s Orascom and Qatar Telecom are among the firms that have led this new wave of expanding international operators in recent years.

Those making the biggest splash have tended to do so through a mix of acquiring existing players in national and regional markets – which they have then been able to beef up with their access to international capital markets and technology – and purchasing new licences as they become available.

MTC is a case in point, gaining a high profile presence across the emerging markets of Africa with its purchase of an 85% stake in Celtel International in 2005 for US$3.4 billion. From being a Middle East-focused mobile telephony operator, MTC was instantly converted into a much bigger player, for whom two thirds of its 27 million subscriber base is now located in Africa.

Timing is everythingWhile the move into Africa might have been seen as a gamble, the sharp rise in MTC’s African subscriber base, which more than doubled between 2005 and 2006, suggests the company’s move has been well timed. While some of this growth has been organic, MTC has also continued to expand through acquisition, with Celtel buying a controlling 65% stake in Nigeria’s V-mobile for US$1.01 billion in 2006, making Nigeria MTC’s biggest country market with over 6 million subscribers. It also bought Sudan’s Mobitel to give it a strong position in that market. This period of activity has resulted in a doubling of MTC’s revenues in 2006 to US$4.17 billion.

A similar picture of expansion, albeit on a somewhat smaller scale, is also evident at Wataniya, which now has operations in Kuwait, Iraq, Tunisia, the Maldives, Saudi Arabia and Algeria, with plans to expand further in North Africa and Asia.

But, while the attractions of global expan-sion for these companies and their regional rivals are obvious, there are still opportunities to be exploited nearer to home, especially in the most populous Middle Eastern markets. For example, MTC, like Wataniya, has positioned itself for a potentially lucrative Iraqi market, when that country is able to begin its post-war rehabilitation.

Saudi liberalisationHowever, some of the biggest Middle Eastern opportunities of the moment lie in the increasingly liberalised Saudi Arabian

Cornering the marketOperators in telecoms, IT and outsourcing from the Islamic world are enjoying good times, writes Ian Lewis

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market, which offers the potential to provide both fixed and mobile services to a population of 27 million people. Although the Saudi Government had been regarded by some as a laggard in opening up the telecoms sector to private investment, the kingdom is now making up for lost time. Saudi Telecom’s monopoly on mobile services was broken in 2004, with the award of a second licence to a consortium led by Etisalat, which operates services under the Mobily brand name, and has already taken a market share of almost 30%.

In early 2007, bidding got under way to add a third mobile licence in this increasingly competitive environment. Abdulaziz al-Tamami, Mobily’s Chief Operating Officer, has said there is room for a third operator in a market which he believes is far from saturated, given that mobile penetration rates are still well below those elsewhere in the region. The winning bid is expected to match or surpass the US$3.2 million paid for Mobily, with strong interest likely to come from MTC, Egyptian, and Saudi companies.

The Saudi fixed line sector is also starting to offer investment opportunities which, given Mobily’s benign experience in the kingdom, are likely to be eagerly sought. Indeed, Mobily is a strong contender to take the second fixed line licence, expected to be put out to tender by the end of 2007. The company has already embarked on a programme to invest in fibre optic cabling to provide broadband across the country, a move that may stand it in good stead when the licence is awarded.

Capital markets boostAn indirect benefit of this activity in the regional telecoms sector has been the massive boost it has given to the development of local capital markets. While growth prospects are good, the infrastructure does not come cheap and needs to be funded by extensive borrowing. Some of the biggest deals in the Middle East and North Africa region at present focus on telecoms companies, with several of these having a strong Islamic finance component.

Wataniya signed a US$1 billion syndicated credit facility with a group of European, Asian, Middle Eastern and Kuwaiti banks in a deal lead arranged by BNP Paribas in February 2007. Meanwhile, Mobily is

The Saudi fixed line sector is also starting to offer investment opportunities.

Telecoms, IT and outsourcing have grown considerably in recent years.

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Broad benefitsThe liberalisation of the telecoms industry in developing countries has also benefited the IT sector, as private companies invest in nationwide fibre-optic cabling and other technology capable of providing not only improved telephony services, but also high speed internet access, which they can offer as part of their consumer packages.

This is an aspect of the industry currently offering some of the brightest investment opportunities, especially where governments have invited firms to take a stake in a national telecoms company. In Tunisia, for example, the need to bring in sufficient investment to upgrade the fixed line telephone network and internet services, using ADSL and satellite connections, prompted the government to sell 35% of state-owned provider TT to UAE-based consortium Tecom-DIG for US$2.25 billion in 2006.

Hi-tech hubsAnother approach, developed in tandem with such measures for the general population, is the hub concept, where hi-tech facilities are built from scratch in industrial parks with a view to attracting firms needing – or producing – cutting-edge technology. The hope is that the expertise fostered in these pools of excellence will then ripple out into the wider business community.

Egypt provides a leading example of this idea, with its “smart” facilities programme, which aims to create a series of IT hubs, the first of which is the 450-acre “smart village” on the outskirts of Cairo, the first phase of which opened in 2003. This aims to provide a secure, globally connected, hi-tech setting of state of the art buildings and amenities for world IT leaders, such as Microsoft, Alcatel and Vodafone, and the new wave of Egyptian companies in the sector, which can develop facilities there on a ‘build-own-operate’ basis.

Closer workingBringing local and international IT firms into close proximity has benefits in terms of technology transfer, cross fertilisation of ideas, and the generation of business opportunities. But the Egyptian Government has considerably greater ambitions for the smart village project than just providing a well specified industrial park. They want to use it as the impetus for the development of a whole new business district, while ensuring that relevant government departments – notably those related to the communications and IT industries – take offices in the surrounding area in a bid to add further momentum.

Key among these departments is the Ministry of Communication and Information Technology, whose creation in 1999 gave a massive boost to the spread of IT in Egypt. The ministry launched the concept of so-called IT “clubs” – now totalling around 1,000 – which operate as networking and training organisations to improve IT skills, as well as introducing some free internet services in 2002 and facilitating the purchase of computers, amongst other initiatives.

All this has had its effect, with the number of internet users in Egypt approaching 6 million by end-2006, according to government data – a figure that is expected, by some forecasters, to double by end-2008.

Projects with such high up front costs are beyond the reach of many less well-endowed countries – Cairo’s smart village is likely to cost around US$350 million to establish – but this does not preclude carefully targeted spending on IT in sectors that are likely to maximise economic gains.

In this way Mauritania, one of the world’s poorest countries, has won plaudits for its efforts to ensure that tourists – who provide a major source of foreign exchange for the

believed to be looking for US$3 billion on international markets, and Saudi Telecom – seeking new opportunities as it faces competition at home –is said to be in talks to borrow more then US$1.5 billion of Islamic finance to fund its first acquisitions. Qatar Telecom and Bahrain Telecommunications Company (Batelco) were also actively seeking funding from the capital markets.

IT: new imperativesThe challenges of promoting the digitally driven knowledge economy are as varied among the Islamic Development Bank’s (IDB) member countries, as anywhere else in the world.

Asian countries such as Malaysia and Gulf states like the United Arab Emirates (UAE) were relatively early adopters of information technology, while member states in sub-Saharan Africa are now playing catch-up from a very low base.

Nor is the picture as simple as comparing one country with another. Within developing nations the omnipresent urban-rural/rich-poor divide also tends to separate those with access to computers, the internet and the requisite training from those who do not. So while it is relatively cheap and easy to provide IT facilities for the densely packed urban populations of Lagos, Jakarta or Cairo, wiring up remote rural areas is a complex – and often expensive – business, which may not pay immediate dividends. Demand for services and the ability to use or pay for them in rural areas is likely to be low, at least initially.

Despite the expense, many IDB member states do not regard the development of a national IT infrastructure as optional, recognising that this is an era in which e-commerce is increasingly important, in which the internet provides a platform for education and training in all spheres of activity, and where the software industry can be as lucrative as any industrial sector. Increasingly, countries that have access to sufficient financial and human resources are ploughing money into developing IT infrastructure in the hope that fast internet connections and cheap computers will energise both rural and urban economies.

The Algerian Government, for example, has created a programme known as “Ousratic”, aimed at providing cheap computers for all households in the country, sourced mostly from privately run plants within Algeria that assemble imported parts. In Malaysia, the private sector is also playing a role in promoting computer usage, supplying basic equipment at prices more affordable to the poorer parts of the population.

The number of internet users in Egypt was approaching 6 million by the end of 2006, according to government data.

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Huge investment, and relatively educated and

cheap workforces have been crucial to rapid growth in many Muslim countries.

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state – find the sort of internet facilities they would expect to find at home. IDB staff at a recent World Bank-run training course in Jeddah, Saudi Arabia on the knowledge economy approach and its relevance to IDB member countries, were told that even in the Mauritanian desert, tourists had access to cyberspace, as hotels were equipped with first rate internet services and hardware, due to what is described by the World Bank as an “exemplary” telecoms policy.

Outsourcing: a success story There have been several success stories in the outsourcing sector in recent years, as Middle Eastern and African countries have taken advantage of their close ties with Europe to develop call centres and back office complexes.

Malaysia has capitalised on its position in the Asian heartland of outsourcing, and now rivals India in what it can offer, earning a ranking of third most desirable outsourcing location – after India and China – in a survey published in 2006 by consulting group AT Kearney. While Malaysia may struggle to gather the critical mass that the outsourcing industry has achieved in its two main rivals, analysts say strong government support and continued investment in world class infrastructure, along with efforts to expand the labour pool and improve English language skills make it, at the least, an attractive second location for companies seeking to minimise offshore risk.

Nowhere is Malaysia’s success better demonstrated than by the recent decision of Indian information technology (IT) outsourcing giant Satyam to build its second facility in Malaysia, citing lower labour costs than India and good IT infrastructure as the main motivating factors. This will be a 2,000 seat centre in Cyberjaya, close to Kuala Lumpur, which will cater to clients in Asia, the Middle East, and the US and be Satyam’s largest centre outside India.

Such moves are expected to propel information systems outsourcing to become the

country’s largest IT sector in 2007, generating revenues of almost US$250 million, with major new business seen in the telecommunications and banking sectors, according to US based market research company IDC.

Africa risingIn the Middle East, the United Arab Emirates, Saudi Arabia and Kuwait are among the countries aspiring to win outsourcing business from European, North American and Asian companies. Meanwhile, in Africa, Morocco, Tunisia and Senegal have taken advantage of their close relationships with France – and their use of the French language – to try and replicate what India has done for English speaking developed countries. The results are smaller in scale, but still impressive, given the financial and technological hurdles to be overcome.

Senegal’s outsourcing sector has benefited not only from the country’s position in Francophone west Africa, but also by its close ties with France in the telecoms sector, which have resulted in the development of what is generally considered to be one of the region’s best communications infrastructures. The country privatised Sonatel, its fixed line provider, back in 1997, garnering injections of cash and expertise from current owner France Telecom long before most of its regional rivals moved to improve their networks.

Besides its own state of the art infrastructure, the country can also call on fast and efficient international communications links – notably the SAT3 undersea fibre optic cable project, which was launched in Senegal in 2002 and effectively links a large swathe of Africa with Europe and Asia via a 26,000km network. Without the low-cost, high capacity bandwidth such links produce, the economics of long distance outsourcing would be prohibitive.

But Senegal’s success compared to its regional rivals is also attributable to a number of other factors. Political stability has been key to attracting investment, as has a proactive stance from the government, which has provided tax breaks and other financial incentives to

Malaysia has capitalised on its position in the Asian heartland of outsourcing, and now rivals India in what it can offer.

encourage overseas companies to set up outsourced operations there. The country’s pool of educated, cheap labour has also been used effectively to promote the call centre industry, aided by the relatively unaccented nature of the French spoken there, which means it is easily understandable and familiar to callers in France and French speaking Canada.

“This industry creates a lot of jobs, and it’s an area where we can compete thanks to low labour costs,” says Senegal’s Communications Minister Joseph Ndong.

For example, PCCI, one of the biggest call centre operators in the capital Dakar, launched its business by charging up to 40% less than its French counterparts, taking advantage of the allure of the sector to unemployed, educated locals, who – as in India – see it as a well paid (in domestic terms) stepping stone to greater things, rather than as a relatively lowly profession, as would be the case in western Europe.

The outcome of Senegal’s efforts has been notable, in the context of West Africa. By end-2005, Senegal had created 3,000 positions for people working in call centres. By end-2008, that figure is predicted to rise to more than 5,000, according to research firm Datamonitor.

Ambitious EgyptCloser to Europe, Egypt is trying to build on its push to become an IT hub by developing its outsourcing sector. While still nascent, the sector can call on a large pool of low paid or unemployed people and is expected to increase sharply.

Demand for Egyptian outsourced offshore call centres is expected to grow by 50% over the next three years, according to a further analysis from Datamonitor. The same report also says jobs in the call centre industry could rise to 7,000 by 2010 from 1,500 in 2005, if the financial incentives for European and North American firms to use Egyptian operations continue, the flow of graduate workers is maintained, and the country markets its potential well in what is becoming a highly competitive sector.g

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Key themes in business development

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The relationship between corruption and competitiveness is well enough

researched to deserve a section of its own on the World Bank’s web-site. Several documents show that corruption is one of the main constraints for enhanced economic performance.

The World Bank points to several sources that demonstrate that corruption decreases the competitive advantage of countries, regions, industries, and firms.

“We found that governance and corruption issues constitute key constraints to investment and business and are particularly significant in assessing a country’s overall competitiveness,” argues Director of Global Governance at the World Bank Institute, Daniel Kaufmann. Apposite action programmes make a difference and an “improvement in corruption control can produce a very large jump in the competitiveness of a country,” he says.

In this millennium several conventions and initiatives have emerged to address corruption. The 2003 United Nations Convention against Corruption (UNCAC) focuses on the role of the state, saying it should “take the necessary steps to establish appropriate systems of procurement, based on transparency, competition, and objective criteria in decision making.”

The convention lays down a comprehensive and far reaching framework for the criminalisation of corruption and requires countries without relevant legislation to criminalise a wide range of corrupt acts

and transactions. The convention also breaks new ground for an international counter-corruption instrument by addressing not only bribery, but also trading in influence and the concealment and laundering of the proceeds of corruption. In addition, it seeks to address activities such as money laundering, which facilitate corrupt acts.

Guiding strategiesThe World Economic Forum Partnering Against Corruption Initiative, launched in 2004, involves senior executives from the engineering, construction, energy, metals and mining industries in a business driven international initiative that aims to combat global corruption. This initiative claims to be in a unique position to guide governments’ and international organisations’ strategies and policies on anti-corruption. Britain’s Extractive Industries Transparency Initiative (EITI) was launched in 2002. It aims to make payments by companies to governments and to government-linked entities transparent, and to improve transparency in revenues of host country governments.

The negative impacts of corruption are legion, and the knock-on effects deleterious. “Rent seeking” government officials – who demand bribes or commissions for providing or denying services such as licences or permits – bar from the market companies unwilling or unable to pay bribes. Rent seeking sometimes leads to trade protectionism and often to poor product quality, which in turn lowers effectiveness,

Getting it rightCorruption is holding back developing countries in the Islamic world, writes Mark Ford

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productivity, and competitiveness. Lack of competition hurts consumers, who may be deprived of state of the art goods and often have to accept lower quality products at higher prices than consumers in less corrupt markets.

Progress madeNigeria developed an unenviable reputation for corruption, but some significant progress has been made over recent years under Nigeria’s reformist President Olusegun Obasanjo.

The Economic and Financial Crimes Commission (EFCC) has helped better regulate the financial sector and has had some success in dealing with advanced fee fraud, commonly known as “419s”. It has also challenged senior office holders, hitherto regarded as untouchable, including a police chief, senate president, state governors, and government ministers. Led by high profile Chairman, Mallam Nuhu Ribado, the EFCC has also successfully targeted several senior bank executives.

Established in 2003 when another young organisation, the Financial Action Task Force (FATF) had Nigeria on its blacklist of 23 countries that are not co-operative in the international community’s efforts to fight money laundering, the EFCC still has its work cut out removing corruption from several sectors. In sport, the Nigeria Football League is looking into commissions paid to marketing agents and lawyers while the chairman of the National Drugs Law Enforcement Agency (NDLEA), Alhaji Ahmadu Giade, said recently that the agency dismissed 66 staff members in a bid to stamp out corruption.

Recent reforms seem to be working. Nigeria is now the largest market for the International Finance Corporation (IFC) and its activities in the country have been growing sharply for several years, while the Government has implemented key reforms to tackle corruption and improve governance, foster private sector growth, and improve social service delivery. “If the business environment continues to improve, activities could increase even further in coming years as IFC seeks to enter new sectors, including agribusiness,

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Lack of competition hurts consumers, who often have to accept lower quality products at higher prices than consumers in less corrupt markets.

Nigeria’s reformist President Olusegun Obasanjo.

Getting it right

WiA Delegate Publication 63

infrastructure, and manufacturing,” a recent IFC report said.

Not everybody is convinced. During the run up to Nigeria’s April 2007 elections, a Human Rights Watch report entitled A Human Rights Agenda for Nigeria’s General Elections and Beyond said that despite Obasanjo’s much vaunted war on corruption, the problem still remained unsolved.

According to a report prepared for JP Morgan, however, Nigeria’s new President “will benefit from inheriting some major advances made by the outgoing President Olusegun Obasanjo; notably in tackling corruption, overcoming endemic debt problems and liberalising the economy.” While his presidency certainly came under fire from some quarters, “Obasanjo leaves the Nigerian economy much more fit for investment than seemed probable when he was first elected,” the report concludes.

High supportStamping out corruption requires top level support, but even with this it is not an easy task. President Susilo Bambang Yudhoyono won Indonesia’s first direct presidential election on an anti-corruption ticket in October 2004, just under a year after the establishment of Komisi Pemberantasan Korupsi (KPK, the Corruption Eradication Commission). It has the power to make arrests, take over investigations from the police and fast-track sensitive cases. It started to have an impact soon after

Hundreds of protesters marched in Harare, Zimbabwe, in October, 2003, in observance of World Anti-Corruption Day.

Yudhoyono’s election but draft legislation circulating parliament in 2007 calls for the abolition of the recently established court, which after 32 cases had indicted all the suspects that had appeared before it. Critics of the court say its judges lack legal expertise.

Some of the countries with the worst reputations for corruption are not, in fact, necessarily the most corrupt. When Transparency International asked respondents in its Global Corruption Monitor whether in the past 12 months they or anyone living in their household paid a bribe in any form, Morocco and Cameroon appeared more corrupt in this respect than Nigeria. In Morocco 60% and in Cameroon 57% but in Nigeria only 38% of respondents said they or household members had paid a bribe. Asian countries appeared less susceptible to this type of corruption, with 18%, 16%, and 15% of respondents from Indonesia, the Philippines, and Pakistan respectively saying they or someone in the household had paid a bribe.

That corruption is endemic in many countries is widely recognised. That it has a negative impact, often on those members of societies who are most vulnerable, is equally widely accepted and the need to take effective long term measures to eradicate it is the subject of much discussion. However, the solutions are as complex and, it seems, as difficult to get to grips with as the problem itself.

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اـقـئاـعلـكـشـت،داـسـفـلاتاـجردـلةـيـلاـعـلاةـبـسـنـلانإ.ةيمانةيمالسالوديفومنلانودنملوحيناــــف،»يــــلودــــلاكــــنـبـلا«ةــــسـسؤــــمبــــسـحوراـمـثـتـسالـلناـقـئاـعنالـكـشـيداـسـفـلاوتاـموـكـحـلا«مـيوـقـتيـف،ةـصاـخ،اـهـتـيـمـهانـمـكـتو،لاـمـعالـلو.»ةيسفانتلادلبلاتاردق

Key themes in business development

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Islamic banks pride themselves on responsible lending and investing.

Growing global interest in sustainable development and concern over the environmental impact of some forms of economic development are therefore likely to become increasingly important over the next few years. Efforts to tackle global warming will influence the decision making of financial institutions around the world, but achieving sustainable long-term growth, while avoiding the patterns of boom and bust of the past, are also likely to be high on the list of concerns.

China has consistently achieved economic growth of about 9% over the past 20 years. Beijing’s approach has created millions of new jobs and turned China into one of the world’s most important trading partners but there has been a price to pay in terms of social upheaval and environmental degradation. Yet when Premier Wen Jiabao opened the annual session of China’s parliament in March 2007, he called for more sustainable economic growth, signalling a landmark change in approach.

China failed in 2006 to meet environmental emissions and energy efficiency targets that it had set under its 11th national five year plan, but Wen says he is determined the country will meet its medium term targets for 2010.

He is clearly unhappy about the massive social and environmental costs incurred by China’s stellar growth path. “The pattern of economic growth is inefficient,” Wen said, and tempered China’s growth forecast for 2007 to around 8%.

The Chinese premier said inefficiencies are clearly manifest in the country’s excessive energy consumption and serious environmental pollution. “We must attach greater importance to saving energy and resources, protecting the environment and using land intensively,” he said, and acknowledged that people bore the brunt of China’s soaring economic growth. “We must put people first, promote faster progress in social programmes, work energetically to... safeguard social fairness and justice, and ensure that all of the people share in the fruits of reform and development,” he told delegates.

Little impactSuch a dramatic sea change has not yet emerged in the US. It famously rejected the Kyoto protocol and questioned the need to introduce mandatory targets on fighting global warming. According to some critics, it also blocked meaningful action in a blueprint to help developing nations that emerged out of the 2002 Johannesburg

Edging towards a new paradigmThe pursuit of economic growth has been paramount for many years. But the environmental and social costs of an economy that grows too quickly may outweigh the benefits, write Mark Ford and Andrew Maiden

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Earth Summit. But early in 2007, Capitol Hill witnessed a flurry of legislative activity on environmental bills, although it remains to be seen how much impact the eventual legislation will have.

Concern over the relationship between growth and the environment in the US has been inspired by several factors, some less likely than others. One is a double Oscar-winning documentary called “An Inconvenient Truth.” Another catalyst is a study released in February 2007 by the United Nations-sponsored Intergovernmental Panel on Climate Change, which concluded that global temperatures are rising, almost certainly as a result of human activity.

What are the definitions?China and the US may be edging towards policies embracing sustainable development, but there is no consensus on exactly what this concept means. The UK Government’s principles of sustainable development include “living within environmental limits” but also include “ensuring a strong, healthy and just society, achieving a sustainable economy, using sound science responsibly [and] promoting good governance.” Elsewhere, the UN’s Division for Sustainable Developments lists more than three dozen aspects of sustainable development – from climate change, desertification and drought to finance, international law and poverty.

Aspects of sustainable development are being challenged by academics such as the Professor of Environmental Economics at Arizona State University, Charles Perrings, and Universidad del Pais Vasco lecturer, Dr Alberto Ansuategi. In the Journal of Economic Studies they challenge the view that the environmental sustainability of development is threatened by the poverty driven depletion of environmental resources in the developing world, and consumption driven pollution of the biosphere by the developed world. They point out, for example, that some indicators of local air and water quality first deteriorate and then improve as per capita incomes rise.

Aspects of sustainable development are being challenged by academics such as the Professor of Environmental Economics at Arizona State University, Charles Perrings.

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China failed to meet environmental emissions and energy efficiency targets that it had set under its 11th national five year plan.

Edging towards a new paradigm

WiA Delegate Publication 65

In his book Beyond Growth, Herman Daly points out that there are fundamentally different visions of the concept that divide economists and policy makers: “Unless one has the pre-analytic vision of the economy as subsystem, the whole idea of sustainable development - of a subsystem being sustained by a larger system whose limits and capacities it must respect - makes no sense whatsoever. On the other hand, a pre-analytic vision of the economy as a box floating in infinite space allows people to speak of “sustainable growth” - a clear oxymoron to those who see the economy as a subsystem. The difference between these two visions could not be more fundamental, more elementary, or more irreconcilable.”

Daly, a former senior World Bank economist, calls for a radical prescription that challenges the premise that economic growth is necessarily good. “If you’ve eaten poison, you must get rid of the substances that are making you ill. Let us then, apply the stomach pump to the doctrines of economic growth that we have been force fed for decades,” he argues. In what he describes as “a catechism of growth fallacies”, he questions whether growth should be pursued with such vigour, particularly in economies where sufficient growth has already happened. In his view, “growth in GNP should cease when decreasing marginal benefits become equal to increasing marginal costs.” Daly’s arguments appear radical, but they appeared to gain some support from Wen, when he apparently criticised the growth at all costs policy pursued by China over more than 20 years.

The value of informationThe economic and environmental policies of both China and established industrial nations, such as the US, will undoubtedly be crucial in tackling global warming. They will

also help to determine global approaches to sustainable development, yet the economic policies of other developing countries are perhaps just as important. Most Islamic Development Bank (IDB) member states rely on the export of raw materials and hope to strengthen their economies through industrial growth in the same way as the countries of North America and Europe developed during the first industrial revolution.

Yet there is also some evidence to indicate that not all countries need to pass through the same stages of development. Economic growth has been very closely tied to access to energy resources such as oil, gas and coal for the past 250 years, but the growing importance of the information and communications technology (ICT) sector indicates that vast energy resources and heavy industry capacity are no longer prerequisites for the emergence of a modern economy. Information based businesses do

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The growing importance of the information and communications technology sector indicates that vast energy resources and heavy industry capacity are no longer prerequisites for the emergence of a modern economy.

Al Gore and Davis Guggenheim won oscars for ‘An Inconvenient Truth’ based on concern over the relationship between growth and the environment.

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not require the centralisation of resources or population in the same way as heavy industry and so the environmental and social costs of ICT driven growth may be much more limited.

More prosperous IDB member states have already made some progress in this direction. The Government of the United Arab Emirates, for example, is investing heavily in financial services, while some effort is also being put into developing the country’s renewable energy resources. Limited progress has been made in the less prosperous IDB states of West Africa. Yet while traditional routes to development seem to have failed in much of sub-Saharan Africa, the prospect of leapfrogging industrialisation in favour of ICT based growth could not only promote a sustainable path to growth but could be the only real option for sustained economic growth in developing nations. g

ةيمنتلااياضقمــهـسـتاــهـنالاــهـسـفـنـبةــيـمالــسالافراــصـمـلازــتـعـت.ةلوؤسملاضورقلامدقتورامثتسالايف

نا،ةـــيـتآلاةـــلـيـلـقـلاتاوـــنـسـلايـــفحـــجرـــمـلانـــمةـــيـمـنـتـلالاـــجـميـــفيـــمـلاـــعـلاماـــمـتـهالالـــكـشـيةـيـمـها،يـئـيـبـلارـيـثأـتـلانـمقـلـقـلاكـلذـكو؛ادـيازـت.ةيداصتقالاةيمنتلالاكشاضعبىلع

لـمـتـحـمـلانـم؛يداـصـتـقالاوـمـنـلاةـلـصاوـمبـبـسـبوةــــيـئـيـبـلاوةــــيـعاــــمـتـجالافــــيـلاــــكـتـلادادزــــتنا.عفانملاقوفتةلئاهةعرسبومنتيتلا،داصتقالل

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Poor transport deprives people of social mobility and opportunities to travel for

business or gainful employment. Very limited access to communications systems also constitutes just as significant a disadvantage to people in developing countries, barring them from the educational, commercial and social opportunities that now add so much value to people’s lives in more developed countries.

The issues of poor transport and communications infrastructures are particularly noticeable in Africa, which inherited a very unevenly distributed infrastructure from its colonial past. Nowhere are the negative impacts of inadequate transport and communications felt more than in sub-Saharan Africa’s poor rural areas in landlocked countries, a point made by the team behind the now disbanded Millennium Project, commissioned by the UN Secretary-General in 2002 to come up with a plan to reverse the grinding poverty, hunger, and disease affecting billions of people.

According to a statement issued by the Millennium Project “ Many countries require a big push in public investments to overcome the region’s high transport costs, generally small markets...” A team led by Harvard economics guru Jeffrey Sachs submitted a final report in 2005, Investing in Development: A Practical Plan

to Achieve the Millennium Development Goals (MDGs), setting out the goals and targets for a 2015 deadline. The MDGs were endorsed by 189 countries at the September 2000 UN Millennium General Assembly in New York.

Halfway towards the date when the MDGs should be reached, there appears to be little good news to report. “Progress towards the MDGs is too slow in many parts of the world,” says MDG Support, established in 2006 as the successor of Sachs’s Millennium Project, adding that the crisis is most serious in sub-Saharan Africa. “Small-island developing states and landlocked developing countries face severe challenges, while high rates of inequality in many middle income countries mean that entire regions or social groups will be left behind,” says MDG Support.

Despite the apparent lack of progress, there are signs of new efforts and there are optimists, including International Monetary Fund (IMF) Managing Director Rodrigo de Rato. He remains hopeful that the MDGs will be hit. Soaring global demand for Africa’s commodities, more foreign assistance and debt relief as well as better macro-economic management by governments will help Africa attain its MDGs, according to de Rato.

Lines of communicationInadequate transport and communication infrastructures remains a huge barrier to growth across large parts of the developing Muslim world, writes Mark Ford

4

On trackEfforts to unlock Africa’s interior by establishing transport infrastructure are in evidence. The Transgabonais railway, described as one of the world’s costliest railways, is to receive a massive US$95 billion investment over five years. Originally laid in 1973, its 650-kilometre of track links the eastern mining city of Franceville with the seaport at Owendo near Libreville. After years of state mismanagement, a 30-year operating licence was awarded in 2005 to SETRAG of France. Investments will be made in the modernisation of track and rolling stock while a 237-kilometre extension to Booué will connect the Chinese-operated Belinga mines to the railway.

The railway rehabilitation aims to secure market access for Gabon’s manganese, which is mined from the isolated hinterland and needs to be transported to coastal export terminals. The railway also brings food to isolated rural communities in Gabon’s central and eastern provinces. While it remains unclear whether the recently privatised railway will be able to deliver affordable fares, Gabon’s only railway has the potential to expand and offer access to its seaports to businesses in timber producing areas of the country’s neighbours.

Central attractionCentral Asia could also benefit from improvements to its transport infrastructure. Unlike Africa, the region had roads and railways in reasonable condition up until the break-up of the former Soviet Union in 1991. Since then, the transport infrastructure has deteriorated and become outmoded, but according to the Asian Development Bank (ADB), a major problem is creaky and over-bureaucratic transport management systems.

Tajikistan and Uzbekistan form part of the historical land bridge between China and Europe, as well as South Asia and the Russian Federation. Railways, roads, civil aviation and Caspian sea waterways could all be improved, says the ADB, by addressing issues such as the region’s inefficient cross border transit arrangements for people and goods, poorly equipped border posts, and a lack of unified transport regulations. The

Railways are a priority for improvement in many areas.

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Logistics City (DLC) to commence operations as the world’s largest freighter airport and cargo hub,” says Chairman of Dubai Aviation Corporation, Dubai World Central, Sheikh Ahmed bin Saeed Al Maktoum.

It is clear that ongoing investments in aviation infrastructure have benefited Dubai’s economy. Dubai’s hotels saw their revenue increase by 22.8% in 2006, compared with the previous year, according to figures released by the Dubai Department of Tourism and Commerce Marketing. Import, export and re-export business is soaring too, supported by investments in ports and associated facilities as well as the aviation sector. Dubai imported goods worth US$60 billion in 2006 during which it exported US$5 billion and re-exported US$21 billion of goods.

Not to be left out, ongoing expansion of Sharjah airport is trying to keep pace with the emirate’s fast growing and already profitable budget airline, Air Arabia, which in 2006 reported soaring profits, up 82% on the previous year.

Crossing the digital divideA decade after the term “digital divide” was coined to describe the difference between those with and those without electronic access to the rest of the world, initiatives to wire people and enterprises in developing countries with the rest of the world are still under development.

There are signs of progress on the Eastern Africa Submarine Cable System (EASSy), an initiative to lay a 100,000 kilometre optical cable network. The submarine network, due to be completed by the end of 2008 by Alcatel-Lucent, is intended to deliver regional capacity of 320 gigabytes per second. The network was planned to link Sudan, Djibouti, Somalia, Tanzania, Madagascar, Mozambique, South Africa and, at one stage, Kenya. This is seen as a landmark project for the countries participating, since

absence of competition on the railways due to the monolithic and monopolistic nature of the organisations is another impediment the ADB wants to address.

Working togetherTransport co-operation among Central Asia Regional Economic Co-operation (CAREC) countries is needed and the ADB’s Regional Transport Sector Road Map (2005-2010) sets six strategic priorities for developing an integrated and efficient regional transport system across CAREC countries.

Priorities include the harmonisation of cross border transport procedures and regulations, the development and improvement of regional and international transport corridors to link centres of production with markets, railway restructuring and modernisation, and a stepped approach to liberalisation of civil aviation. Improvement of sector funding and management to ensure that the regional transport network is developed, operated, and maintained properly is also a priority.

The sky’s the limitMassive spending on aviation infrastructure in the UAE demonstrates how economic growth needs to be supported by solid transportation sector investments. The US$6.8 billion expansion of Abu Dhabi International Airport will allow passenger traffic to grow from the current seven million to more than 40 million per year. Cargo capacity will grow from just 150,000 tonnes to two million tonnes per year. A second runway, two new terminals, hi-tech air traffic control facilities and expanded cargo facilities will support the airport’s burgeoning throughput of passengers and goods.

Dubai International Airport (DIA) is currently undergoing a $2.5 billion expansion. In 2006, it handled 28.8 million passengers, four million more than it did in 2005, via some 113 scheduled airlines operating out of the airport to 194 destinations. Meanwhile Dubai’s government owned airline, Emirates, has leapfrogged established carriers to the extent that it became powerful enough to underwrite the launch of the Airbus A380 super jumbo with 42 orders. Twenty years ago, Emirates operated old transport planes and most international travellers landed in neighbouring Sharjah. The expanded DIA will more than double its capacity to cater for over 70 million passengers and 3.5 million tonnes of cargo per year.

But plans to boost capacity pale into insignificance compared with plans to develop a new airport down the road at the Jebel Ali free trade zone. Here, Dubai is to spend an estimated $8.1 billion building Dubai World Central International Airport (JXB), a six runway airport for 120 million passengers a year. By the end of 2007, Dubai expects to open JXB’s first 4.5 km CAT III runway, which will be capable of handling the new generation Airbus A380 aircraft. “This first runway... will enable JXB and Dubai

The US$6.8 billion expansion of Abu Dhabi International Airport will allow passenger traffic to grow from the current seven million to more than 40 million per year.

people and enterprise should benefit from lower cost, reliable systems rather than the expensive satellite systems they currently use to carry voice and data services. But it has not been without its problems. Kenya became frustrated with, and then pulled out of, the EASSy project in 2006. It will now build a fibre optic cable link from Mombasa to Fujairah in the UAE, called the East African Marine System, which will probably be launched in parallel with the US$200 million EASSy project.

While these projects will make a difference to one corner of Africa, Uganda’s Minister of Information and Communication Technology, Dr Ham Mulira pointed out to a recent meeting with seven other ministers responsible for ICT that the task of closing the digital divide across the world is far from complete. “It is sad to note that one third of the world’s population have not realised the benefits of using ICT as a tool for development,” he says. g

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تالصاوملاولقنلاعاطقلةيتحتلاةينبلاساـنـلادرـجـيتالـصاوـمـلاولـقـنـلاعاـطـقفـعـضنانـمدـحـيو،ةـيـعاـمـتـجاةـطـشـناـبماـيـقـلاولـقـنـتـلانـملاــــمـعالاواةراــــجـتـلالــــجانــــمرــــفـسـلاصرــــفىـلادودـحـمـلالوـصوـلالـكـشـينـيـحيـف.ةـحـبرـمـلاىـلاةـبـسـنـلاـباـظوـحـلـماـقـئاـعتالـصاوـمـلالـئاـسومرـحـيكـلذـبو.يـمالـسالامـلاـعـلايـفءازـجالاضـعـبتاــطاــشـنـلانــمو،مــيـلـعـتـلاصرــفنــمنــطاوــمـلا.ةيراجتلاوةيعامتجالا

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Developing nations across the world have historically focused on selling

raw materials to the industrialised countries of North America, western Europe and East Asia. In return, they have imported most of their processed and manufactured goods from these same business partners, while trading remarkably little with their immediate neighbours. Yet as the European Union (EU) and North American economies have demonstrated, broad-based economies are nearly always driven by regional trade.

The current patterns of global trade were largely determined during the colonial period. The European great powers set up colonies in Africa and Asia to provide raw materials for the metropolitan markets and to absorb exports produced by the colonial powers themselves. Trade between neighbouring African or Asian colonies was often actively discouraged. During the period of intense decolonisation between 1947 and 1963, it was hoped that the international political economy constructed during the colonial years would be drastically altered, yet most Asian and African states have maintained the same trading patterns as before. Any particular African state may now export its agricultural and mineral commodities to a range of markets in the industrialised world, but trade with the rest of Africa is generally minuscule.

The Islamic Development Bank (IDB) counts both poor and wealthy countries among its member states, from the developing nations of sub-Saharan Africa to the booming emirates of the Middle East, but few have broad based economies. Most economies continue to be constructed upon the export of commodities, such as cotton from Mali and Burkina Faso, gold from Ghana and Tanzania, and oil and gas from the Gulf states. A combination of large hydrocarbon reserves and relatively small populations may have made the Gulf Co-operation Council (GCC) states wealthy, but their economies have failed to break out of this pattern.

Governments in both rich and poor IDB member states regularly draw up plans for economic diversification. Although these have largely failed in the past, there are now some signs of change, in the Middle East at least. Qatar has built upon its oil wealth by developing an important liquefied natural gas (LNG) sector and Saudi Arabia is a petrochemical producer of global importance. These industries do enable host states to retain more of the benefits of processing within their own borders and also encourage an element of industrialisation, but they still rely on hydrocarbon feedstock.

Facing the worldMany IDB economies rely heavily on trade with the industrialised world. Could encouraging greater trade help to broaden their economic bases? Andrew Maiden reports

4

New visionsIt is in the United Arab Emirates (UAE) that the first real signs of a break with commodity dependency are being seen. By breaking into what has hitherto been an inclusive international club of major financial centres, Dubai International Financial Centre (DIFC) and its associated stock exchange are perhaps the most ambitious examples of this effort. Yet a range of research centres, property developments and infrastructural projects could turn the UAE into a major centre for international tourism, plus retail and scientific activity. Dubai and its neighbours may not yet be ready to give up their oil but there are at least signs that hydrocarbons will not dominate the UAE economy in a decade’s time, in the same way as it does today.

Even with the vast financial and natural resources of the Gulf, buoyed by a period of sustained high oil prices, the strategies employed by Qatar and Dubai have taken international expertise and domestic determination to put into practice. While the Middle Eastern oil powers can use surplus oil revenues to finance the ambitions of their state-owned companies, a similar option is not open to most of the poorer countries of Africa and Asia. Their best hope of more rapid economic growth and more widely based development seems to lie in market driven alternatives.

The governments of IDB member states have employed a variety of strategies in their efforts to boost trade with North America, the EU and East Asia. State owned Saudi Aramco is constructing new refineries to ensure that it exports more refined petroleum products, rather than just crude oil. Qatar is developing its LNG sector with the same end in mind, while Dubai’s financial ambitions should ensure that capital is more easily able to flow between the industrialised world and the Gulf.

However, some IDB states are also seeking to break out of their traditional economic patterns by encouraging south-south trade with other developing countries. For example, since the break-up of the Soviet Union, the five Central Asian states have remained heavily reliant on trade with

Dubai’s financial ambitions should ensure that capital is more easily able to flow.

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Most IDB member states’ economies continue to be constructed upon the export of commodities, such as cotton from Mali and Burkina Faso...

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Russia to generate most of their export earnings. Indeed, Kazakhstan, Turkmenistan and Uzbekistan have been forced to rely on Soviet era gas transmission infrastructure, which left Russian gas giant Gazprom in charge of their gas exports.

Pipe linesIn order to diversify their choice of export markets, all three now plan to construct gas export pipelines to China, while Turkmenistan also plans another pipeline through Afghanistan to Pakistan and on to India. While diversification of exports would be beneficial in the long-term, at least the three countries can diversify their sources of revenue. The Kazakh oil export pipeline to the Chinese province of Xinjiang is already up and running, so with plenty of gas reserves in the region, there is no reason why China should not become a major trading partner for Central Asia.

Tajikistan does not have the hydrocarbon resources of its neighbours, but it does possess vast hydroelectric resources. Construction work on several major hydro schemes was suspended when the Soviet Union broke up and has not been resumed because of the limited domestic market. The largest is the 3,600MW Rogun scheme, which is 90% completed but all planned plants on the Vakhsh River alone would provide more than 9,000MW. The World Bank highlighted the potential of both Tajikistan and Kyrgyzstan to become important electricity suppliers to South Asia at the second Regional Economic Co-operation Conference on Afghanistan, which was held in Delhi in November 2006.

Indeed, cross border gas pipelines and electricity interconnectors are driving regional economic integration across the world. Trade between India and Pakistan is limited as a result of historical disputes and conflict over the sovereignty of Kashmir, yet co-operation over the Tajik-Afghan-Pakistani-Indian (TAPI) pipeline and a similar pipeline from Iran seems to have encouraged dialogue between the two sides. It is also hoped that this could kick start the South Asian Association for Regional Co-operation (Saarc) plan for a South Asian power pool.

Nigeria may be increasing its gas exports to the rest of the world in the form of LNG but it will also soon export gas to other IDB member states in West Africa. The West African Gas Pipeline (WAGP) is approaching completion and the first deliveries are expected by June this year. Benin, Togo and Ghana will all benefit from natural gas that will primarily be used in power generation but could also be used by a variety of industrial consumers. Surplus electricity from gas fired power plants in Aboadze and Tema in Ghana could be exported to other IDB states in West Africa, such as Mali and Burkina Faso, as greater trade in gas encourages the further development of the West African Power Pool (WAPP). There are many routes to economic development, but greater south-south co-operation certainly seems to be a sensible option.

...and oil & gas from the Gulf States.

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...gold from Ghana and Tanzania...

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ةيملاعلاةراجتلاليكشتةداعااــهـنـمةــيـنـغـلا،تاــسـسؤــمـلاوتاــموــكـحـلالــمـعـتيــــمالــــسالاكــــنـبـلا«يــــفءاــــضـعالا،ةرــــيـقـفـلاوعوـنـتـلـلةـمـظـتـنـمةـفـصـبةـطـخعـضوىـلـع،»ةـيـمـنـتـلـلمـــهـطـطـخىـــلـعظاـــفـحـلالـــجانـــميداـــصـتـقالا.ومنلارارمتسالدمالاةليوطلاالا،يـضاـمـلايـفطـطـخـلاهذـهلـشـفنـممـغرـلاىـلـعىـلـع،رـيـيـغـتـلاىـلالـيـمـتتارـشؤـمنآلادـجوـتهـنا.طسوالاقرشلايفلقالا

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The requirement to manage risk is growing in importance due to the peculiarities

of the financial intermediation process that sharia principles involve. For example, Islamic banks tend to have long-term assets, which include mortgages and other financial instruments. These are funded by short-term deposits, which have precipitated a maturity mismatch between assets and liabilities.

As the regulatory framework for Islamic banking is fleshed out, more emphasis is going into operational risk management than in conventional banking. With the Basel II process now impacting on large swathes of the Islamic financial world, sharia compliant institutions are having to fine-tune their risk management techniques. There is still a steep learning curve ahead, but techniques for risk management that are intrinsically sharia based are slowly starting to emerge.

As Central Bank of Bahrain (CBB, formerly the Bahrain Monetary Agency) Governor Rasheed Mohammed Al-Maraj told an Islamic finance summit in London in late 2006, implementing Basel II is taxing even the most advanced and well-resourced regulators. For smaller countries, implementation will prove even more challenging.

Basel influencesThe Basel Committee, the progenitors of the new regime that is designed to boost the global banking system’s solvency, has proposed that banks in the developed countries adopt the accord during 2007 and 2008.

Basel II uses a three-pillar concept – Pillar 1 deals with minimum capital requirements for banks, Pillar 2 deals with banking supervision, while Pillar 3 aims to improve market discipline by requiring greater disclosure of banks’ financial status and their internal risk management procedures.

CBB – regarded as one of the main innovators in Islamic finance regulation – is now embarking on detailed implementation work for Basel II, to apply Pillars 2 and 3 (the supervisory and disclosure requirements) in 2007, and Pillar 1 in 2008 or 2009.

Although Islamic products are not explicitly mentioned in Basel II, given the critical importance of Islamic banking in Bahrain, the CBB has adopted a comprehensive framework, which includes the guidelines of the Islamic Financial Services Board (IFSB) for the capital treatment of products such as Murabaha among others.

The balance of riskRisk management represents one of the biggest regulatory issues facing IDB member economies. Andrew Maiden reports on how the Islamic finance sector is orchestrating greater diversification of risks to protect its future health

4

A key highlight of the CBB’s proposals includes a new risk-focused approach to credit risk. The central bank wants to review the current industry-wide 12% minimum capital adequacy requirements and to set individual minimum trigger and target capital ratios for each bank, based on supervisory reviews of all locally incorporated banks, which will take place in 2007.

Board movesThe IFSB – an international standard-setting body for regulatory and supervisory agencies – is another key agency that has pushed strongly on risk mitigation in the IDB member economies. To the board has fallen the task of formulating a framework that addresses the peculiar risks associated with Islamic banking.

The IFSB has finalised standards on capital adequacy and risk management. It has issued two prudential standards for institutions offering Islamic financial services, which are recommended for implementation in 2007.

While Basel II doesn’t address key issues on Islamic finance, this leaves room for the IFSB to fill the regulatory gap. For example, one particular issue that arises in the assessment of risks associated with Islamic banks is over the capital charge on investment accounts. Basel II does not address this feature. Also, if Islamic institutions become more engaged in the profit-sharing arrangement in its balance sheet, it will need to adopt a more rigorous risk management assessment and monitoring mechanism. This is an area that is being addressed by the board in the drafting of the standard on the overall risk management framework for the Islamic financial community.

Basel II initiatives on the identification of credit, market, and operational risks can be assimilated into Islamic banking. But, argues Bank Negara Malaysia (BNM, the central bank) Governor Dr Zeti Akhtar Aziz, in 2006: “The initiatives have to be

Rasheed Mohammed Al-Maraj: Implementing Basel II is taxing even the most advanced and well-resourced regulators.

The balance of risk

WiA Delegate Publication 71

complemented with consideration of the other dimensions of risks that are inherent in Islamic financial transactions”.

Technology moves centre stageNew technology is a central part of the armoury of risk mitigation techniques. Well developed IT systems are necessary to enable Islamic banking institutions to make projections on future returns to reduce the degree of uncertainty in the returns paid to the depositors.

With the introduction of new products and more complex financial transactions enabled by technological innovations, risks can be disaggregated and rebundled in new ways. Similarly, advances in financial engineering and improved expertise have paved the way for the introduction of new hedging instruments to facilitate risk management. For example, sukuk paper has the advantage of competitive pricing as a risk mitigation structure. In the insurance sector, strengthening retakaful capabilities would subsequently reduce dependency on conventional reinsurance as a risk mitigation tool.

But another looming instrument of risk mitigation would be for the Islamic finance industry to develop a derivatives market, which would provide a more effective slate of products. Another necessity is to develop deeper and more efficient capital markets. BNM is at the forefront of innovation, and is to issue sukuk al-Ijarah, to meet the requirements of participants in the Islamic money market.

The Islamic banking system still has to address a number of risk issues as it maintains its rampant growth rate. Ensuring adequate state of the art risk management techniques are available to Islamic financial institutions is now a top priority for the regulatory bodies across the IDB zone.

Malaysia adapts to Basel II

The country’s central bank - Bank Negara Malaysia (BNM) - is moving towards Basel II implementation, but maintaining a cautious pace. It is adopting a two phase approach. The first phase will begin in January 2008 when all banks will adopt the standardised approach for credit risks and basic indicator approach for operational risks. Banking institutions would be required to submit to BNM parallel calculation of capital adequacy on a monthly basis for one year prior to the implementation of the standardised approach.

In Phase I, BNM may also allow banking institutions to remain on the current accord if they intend to adopt the Foundation Internal Rating Based (FIRB) approach, instead of the standardised approach. However, the central bank would require a submission of business case justification as well as a blueprint for implementation that has been approved by the Board of Directors of the banking institutions concerned. These banking institutions would be expected to have undertaken a comprehensive gap and business impact studies to justify their rollout plans.

Getting on trackBanking institutions intending to adopt the FIRB approach are expected to do so by January 2010, when the second phase of implementation will commence. These institutions will be required to submit to BNM a parallel calculation of capital adequacy on a monthly basis for one year prior to implementation. However, during the second phase, banks on the standardised approach will not be mandated to migrate to the FIRB approach.

By choosing 2010 as the date when banks may start adopting an advanced credit risk measurement option under the new accord, the Kuala Lumpur regulators have given themselves sufficient time to prepare.

Under the BNM’s plans, three or four of the country’s biggest banks are likely to seek permission to adopt the intermediate FIRB credit risk option. If these banks’ capital models are approved, they can move straight to the FIRB approach in 2010. No Malaysian banks will adopt the most advanced internal ratings bases system for a number of years.

Risk management is generally rising up the agenda in Malaysia, though internal risk rating models are still rudimentary. The BNM now runs a credit bureau, which allows banks to undertake credit checks on both large and small companies, and individuals. This should enable banks to better price their loans according to the creditworthiness of borrowers.

As the state owns around one-third of bank assets, the BNM exerts a strong influence on the banking sector – and is likely to ensure that all the country’s institutions will adopt cutting edge risk mitigation systems.

Zeti Akhtar Aziz: Initiatives have to be complemented with consideration of the other dimensions of risks.

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رطاخملاةرادالوحتاهاجتاتالـــــكـشـمـلادـــــحالـــــكـشـي،ةرادالارـــــطـخناكــنـبـلا«ءاــضـعاهــجاوــتيــتـلا،ىرــبـكـلاةــيـمـيـظـنـتـلا.»ةيداصتقالاةيمنتلليمالسالاىــلاارــظـنرــطـخـلاةراداتاــبـلـطـتـمةــيـمـهادادزــتوةـعـيرـشـلاءىداـبـمـبةـطـيـحـمـلاةـطاـسوـلاةـيـلـمـعةـبارـغةـيـفـيـكيـفرـظـنـلادـيـعـتةـيـصاـخـلاهذـه.ةـيـمالـسالانـيـبقـيـسـنـتـلاىـلـعيـمالـسالايـلاـمـلاعاـطـقـلالـمـعىــلـعظاــفـحـلالــجانــمرــطاــخـمـلـلرــيـبـكـلاعوــنـتـلا

.البقتسمهتحص

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Arab stock markets are slowly recovering from the crash that hit Gulf Co-

operation Council (GCC) countries in early 2006, although the Cairo & Alexandria Stock Exchange (CASE) is showing more resilience than its counterparts, with acquisitions and initial public offerings (IPO) helping to restore investor confidence.

In October, state owned Telecom Egypt increased its 44.6% stake in UK-based Vodafone Group’s Vodafone Egypt by an additional 23.5%, while Italian banking group Sanpaolo IMI won the bid for an 80% stake in Bank of Alexandria (BoA). IPOs of shares in Emaar Misr, state owned Misr Aluminium, EgyptAir, and BoA are also expected for 2007. The CASE index has been steadily rising, and ended 2006 up 5%.

Analysts say the performance of CASE during the GCC crisis has shown its independence from Gulf bourses, and highlighted that it has a much wider western, rather than Gulf, institutional base.

Slow recoveryWhile Saudi Arabia and the UAE were the worst hit by the crash, regional players including Kuwait and Qatar are still vulnerable. Bahrain is quietly recording the best results.

In the first two weeks of the year, Saudi Arabia’s Tadawul stock prices were down almost 10%. Prince Alwaleed Bin Talal Bin Abdel-Aziz’s intentions to restore balance in the bourse by announcing plans to invest

US$2.6 billion in the Tadawul All Share Index (TASI) through the Kingdom Holding Company had little effect on the market. TASI rose less than 1% on the day of the announcement, before continuing to slide.

The Capital Market Authority has been taking steps to avoid a possible collapse of TASI’s US$266.7 billion capital market. It suspended trading in Bishah Agriculture Development Company in January 2007 after it reported losses of US$6 million.

Trading hours were also reduced towards the end of the year, and when Emaar Economic City listed in October 2006 a special afternoon slot was set aside for trading. Investors are now more interested in IPOs and are shying away from the secondary market. Bankers say the market needs more institutional investment.

After TASI, the second heavyweight that investors are monitoring is the Dubai Financial Market (DFM). DFM ended 2006 having lost 60% of its market value and market observers say it will take another year for the bourse to flourish again.

Too many have vested interests in Dubai to see the market continue to fall, so institutional investors are flocking in to maintain high market turnover, which in January 2007 was US$45 million. Shares scheduled to list, including those of DFM, are expected to attract investors.

DFM announced plans late last year to list 20% of its shares. The market has a capitalisation of US$1 billion.

Stock markets work at their own paceArab, Asian, and other stock markets are working hard to inject a new lease of life into their bourses through ongoing economic reforms, writes Nadine Marroushi

4

Emirates Securities & Commodities Authority (ESCA) is in the process of investigating a number of companies for non-compliance with settlement regulations, and has so far banned Al-Safwa Islamic Financial Services and Golden Gate Securities.

By end-2006, Abu Dhabi’s Securities Market (ADSM) had dropped by a third of its value. Yet, it is taking active steps to encourage investment. In December 2006, ADSM signed a cross-listings agreement with Muscat Securities Market and, alongside its Kuwaiti counterpart, is allowing global custodian accounts to list.

Bahrain Stock Exchange (BSE) has been confidently getting on with business, determined not slip into the crises of its neighbours and the bourse’s profits doubled at the end of 2006. According to BSE, its market turnover was US$1.4 billion in 2006, up from US$711 million in 2005, and it registered an average daily turnover of US$5.6 million, up from US$2.8 million. Market capitalisation grew to US$21 billion from US$17 billion. The investment sector ranked first in terms of market turnover, and commercial banks second. Bahrain-based sharia compliant investment banks Al-Salam Bank, and Ithmaar Bank were among the most regularly traded.

Getting noticedPakistan’s largest bourse, the Karachi Stock Exchange (KSE), is attracting renewed foreign interest in the country. The market value of the KSE 100 index has surged ten times to around US$50 billion, from US$5 billion in 2001. According to the State Bank of Pakistan (SBP), an inflow of around US$215 million was brought into the stock market from foreign investment between July and October 2006.

In February this year, the USA’s third largest bank, JP Morgan, became the only foreign company to trade shares on the KSE. The bank has had a presence in Pakistan since 1996, and has been instrumental in assisting the Government’s privatisation plans. These plans continue with global depositary receipts, based on shares owned by the Government in the privatised United

Saudi Arabia’s Prince Alwaleed Bin Talal Bin Abdel-Aziz made attempts to restore balance to the Tadawul.

Bahrain Stock Exchange (BSE) has been confidently getting on with business, determined not slip into the crises of its neighbours.

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Bank, state owned National Bank of Punjab, Kot Addu power company, Pakistan State Oil company and more, due to list on the London Stock Exchange (LSE).

Late last year, Pakistan had its first listing on the LSE with privately owned MCB Bank, followed by Oil and Gas Development Company. Pakistan’s reforms have been noted by the international community and, according to the International Monetary Fund: “If Pakistan keeps economic reforms going, and controls the current account deficit, this is going to be a booming economy.”

Pakistan’s economy is expected to grow by around 7% this year, a rise from 6.6% in 2005-06, according to Government reports. The target is growth of 8% annually for the next five years.

The KSE has been taking steps to address problems, such as variable transmission and the exchange is taking advice from its New York counterpart on how to manage frequent and abrupt fluctuations. A process of demutualisation is also under way.

Serious about businessMalaysia’s stock market, Bursa Malaysia, is taking its reform process seriously, as outlined in the Ninth Malaysia Plan – a set of targets to improve the economy by 2010. The proposed tie up between Bursa Malaysia and the Singapore Exchange is still going ahead, although later than planned. It will take place next year, since Bursa Malaysia says it is still in the process of installing a new electronics system to allow bond trading.

Bursa Chief Executive Officer Yusli Mohammed Yusoff says more than half of Bursa Malaysia’s revenue in 2006 was derived from equity market trading fees, and that the average trading volume in the first two months of this year has exceeded all expectations. “We didn’t factor it into our budget for 2007, so it looks encouraging at this stage,” says Yusoff.

The Bursa is looking to expand its product base from ringgit-denominated products to other currency products, such as crude palm oil. Bursa Malaysia has also expressed its interest in becoming Asia’s leading Islamic capital market, since 80% of stocks listed on the exchange are sharia compliant.

Yusoff says the Bursa is working on a product called Urbun, a sharia compliant product that allows investors to buy shares in bulk, scheduled for launch in 2008. The Bursa also intends to provide the platform for when central bank, Bank Negara, uses murabaha for its banking products, with crude palm oil as the underlying transaction tool. The product is also expected to come on board in 2008.

Slowly but surely, stock markets in Muslim countries are rebuilding investor confidence through various reforms. Over time, it is likely that they will find levels of stability that will herald the return of investors from around the globe.

Bursa Malaysia is looking to expand its product base from ringgit-denominated products to other currency products, such as crude palm oil, but needs to monitor its environmental impact closely.

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ةرهاظلاوةيمانلاةيداصتقالاقاوسالاةــــيوــــيـسآلاوةــــيـبرــــعـلامــــهـسالاقاوــــسالــــمـعـتشـيـعـلـلةدـيدـجةـصرـفلاـخدالةـيدـجـب...اـهرـيـغوةـيداـصـتـقاتاـحالـصالالـخنـم،اـهـتاـصروـبىـلـعاـهـتـيـفاـعدـيـعـتـسـتتـلازاـماـهـنانـيـحيـف.ةرـمـتـسـمنواــعـتـلاســلـجـملودباــصايذــلاراــيـهـنالادــعـبةـيـصاـخـلاهذـهنا.٢٠٠٦ةـنـسلـئاوايـفيـجـيـلـخـلايـفةـيداـصـتـقالاتاـحالـصالاراـبـتـعالانـيـعـبذـخأـتةدـــعاـــسـمىـــلـعلـــمـعـتيـــتـلاةـــيـمالـــسالالودـــلا.ةيلاملااهقاوسا

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From being a niche investment vehicle, private equity is moving into the

mainstream as low investment returns from Gulf stock markets have pushed big investors to look for other options, with private equity bridging the gap.

Chief Executive Officer of Zawya’s online private equity monitor, Ihsan Jawad, says: “The size of private equity funds under management is doubling every year… we expect the funds managed by regional companies to exceed US$25 billion by end of 2007.”

According to Bahrain based Gulf Venture Capital Association (GVCA), in 2004 only US$2 billion dollars were managed by regional private equity firms, compared to US$18 billion this year. In 2005, US$2.1 billion were invested by regional funds, and in 2007 the amount is expected to exceed US$4 billion.

GVCA says that real estate was the most attractive investment made by private equity firms in 2006, followed by transportation, and financial services. Large, sharia compliant funds are being created by Gulf and western institutions to invest in opportunities in the Middle East, North Africa, and the South Asia region, which analysts say is seen as an attractive emerging market, full of investment potential.

The recent sale of London’s Madame Tussauds for a profit of US$385.5 million - an investment that only had a two year life - by Dubai Sheikh Mohammed Bin Rashid’s private equity company Dubai International Capital (DIC) is an example of the high investment returns being offered by the private equity asset class. This is a

particularly attractive option in the Gulf where most stock markets have been slow to recover from last year’s crash.

New optionsUAE based private equity company Abraaj Capital is raising a US$2 billion sharia compliant Infrastructure and Growth Capital Fund (IGCF), claimed to be the biggest infrastructure fund the region has seen so far. Commitments of US$500 million had been made by December 2006.

Executive Director of Abraaj, Tom Speechley says: “Sharia compliant finance is the fastest growing area in the global financial industry, and private equity the fastest growing asset class in the Middle East. This fund has bridged the two together, and combined them with the vast opportunities in regional infrastructure development.”

The ten-year fund will be used to target US$630 billion in regional infrastructure and investment opportunities. These include acquiring stakes in greenfield projects, privatisations, and making growth capital investments. Areas of investment will include transportation, power and utilities, education, healthcare and petrochemicals. Speechley says that the fund intends to remain broad in scope to command a high investment return. It will target an internal rate of return of 20% per annum. The aim is to make investments over a five year period, and make profits in the following five years, according to Abraaj. The fund is being managed by Abraaj Capital and is co-sponsored by Deutsche Bank and Bahrain based private equity company Ithmaar Bank.

Private mattersPrivate equity funds are booming as large investors look towards alternative investment opportunities, writes Nadine Marroushi

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Abraaj has also set up a US$300 million fund for opportunities in India, called Sabre Abraaj, and a fund for opportunities in Pakistan.

In November 2006, Dubai Islamic Bank and Dubai World’s (DW) joint venture private equity company, Millennium, launched two sector-specific funds: the Global Energy fund, and the Media fund.

Millennium says the Energy fund has been set up to invest in opportunities from demand created by China and India; while the Media fund will invest in opportunities in the Middle East, Africa and Asia. Chairman of DW, Sultan Ahmed Bin Sulayem, says: “This US$5 billion family of private equity funds will be leveraged to complete transactions in excess of US$10 billion. These funds will offer institutions and high net worth individuals the rare opportunity to acquire stakes in private companies that operate in some of the most strategic industry sectors globally and will provide a viable alternative to stock market investments.”

Sector specific funds due to come on board from Millennium in 2007 include infrastructure, financial institutions, industrial, real estate, health and education. Millennium private equity aims to raise US$5 billion worth of funds.

In May last year, the Saudi Government, via its investment vehicle Saudi Arabian General Investment Authority (SAGIA), teamed up with Swiss based private equity company Swicorp to form Swicorp Joussour: a company that will invest in the kingdom’s energy related projects. The aim for Swicorp Joussour is a total funding of US$5 billion structured into debt and equity; US$500 million has already been committed. Donors include the Savola Group, Al-Baraka Holding Group, Asseer Company, Abu Dhabi Holding, Saudi Bin Laden Group, Gulf Power Company and Swicorp Capital. Joussour will invest in the kingdom’s midstream and downstream sectors, including petrochemicals.

Bahrain has also been quick to take action, amid the demand for alternative investment vehicles. Investcorp, usually providing a conduit for Gulf investors into the private equity markets of the West, is now due to launch a fund focused on opportunities in

Dubai’s Sheikh Mohammed Bin Rashid’s private equity company Dubai International Capital (DIC) is an example of the high investment returns being offered by the private equity asset class.

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the Gulf, called Investcrop Gulf Opportunity Fund I. The fund will focus on oil services, downstream hydrocarbons industries, education, healthcare, tourism and logistics.

Investcrop’s rivals in the region, Arcapita and Gulf Finance House, are also innovative players in the Gulf’s private equity scene.

Riding the waveThe Carlyle Group announced in November 2006, that it has set up a team to make private equity investments in the Middle East and North Africa. Carlyle’s offices will be in Cairo, Dubai and Istanbul, with a focus on energy, financial services, healthcare, industry, infrastructure, technology and transportation. There are claims that Carlyle is raising an investment fund for the Middle East team, but the size has yet to be determined.

Breaking the ice Libya is also attracting a number of private equity funds, since sanctions have been lifted, with western institutions flocking in to ride the wave of investment opportunities.

Government backed Libu Capital aims to raise US$300 million by the first half of 2008 by targeting investment from foreign capital. The fund has so far raised US$95 million from Phoenicia Group, which committed US$20 million to the fund, the Libyan Arab African Investment Group and a European investment bank. Chief Executive Ryad Sunusi says the new fund will invest heavily in oil services, construction, new cement factories, telecoms, property, education and private health clinics.

Libu Capital was set up in January as the private equity arm of Phoenicia Group Libya. Phoenicia and Libyan Arab African Investment Group are said to have links with the family of Libyan President Muammar Qadhafi. Operating since 1999, Phoenicia offers risk, commercial and legal advice, and government relations services to potential investors in Libya.

Bahrain based Tuareg Capital is raising a US$100 million sharia compliant fund called the Libya Fund, to profit from investment opportunities in Libya and commitments of US$30 million have so far been acquired.

According to Tuareg, the fund will invest in early stage businesses, growth capital, consolidation opportunities, privatisation, and real estate developments. To enable growth, no more than 20% of the fund’s total capital will be invested in a single project, and no more than 30% will be invested in a particular industry.

In February 2007, Tuareg signed a partnership with the Bahrain based sharia compliant investment bank, Capital Management House (CMH), to work on Islamic debt financing and other structured financing in North Africa. CMH is also an investor in the fund.

As private equity continues to move into the mainstream, Gulf investors will monitor the opportunities and take advantage of the huge returns on offer.

London’s Madame Tussauds was sold for a profit of US$385.5 million by Dubai International Capital.

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ةصاخلاةيلاملاتادنسلاوـــحـن،نآلا،ةـــصاـــخـلاةـــيـلاـــمـلاتادـــنـسـلاهـــجـتـتةـيـمالـسالاةـيـلاـمـلارـئاودـلالـخاددـئاـسـلاهاـجـتالانــعثــحـبـلايــفنــيرــمـثـتـسـمـلاراــبـكأدــبنأذــنـمتادـــئاـــعجـــئاـــتـناودـــبـكـتاـــمدـــعـبىرـــخاصرـــفتالـماـعـتنـعةـمـجاـنـلا،مـهـتاراـمـثـتـسالةـضـفـخـنـمنوـــكـتكـــلذـــبو.جـــيـلـخـلايـــفمـــهـسالاقاوـــسا.غارفلادسلىلضفلاةليسولاةصاخلاتادنسلا

Regional & Country profiles

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With a population of around 140 million, half of whom are Muslim, demand

for Islamic finance is high, say bankers in Nigeria. Yet this is a field that is only just starting to emerge, as the country begins to benefit from higher levels of economic growth, and the non-oil economy begins to take off. According to an extensive report by JP Morgan, economic growth has averaged 6.4% a year over the last five years, a vast improvement on the much lower levels of GDP growth that were achieved in the 1980s and 1990s.

Much of this turnaround has resulted from higher oil output and much higher global oil prices, but a raft of reforms introduced during President Olusegun Obasanjo’s two terms of office seem to be paying dividends in the rest of the economy. Private sector companies have been awarded concessions to manage key ports, a world class liquefied natural gas (LNG) sector is emerging and a string of new gas fired power plants are under construction. Perhaps most importantly, the Central Bank of Nigeria (CBN) has overseen the deep seated overhaul of the banking sector.

Notable economic indicators include the country’s current account surplus, which stood at an estimated US$14.4 billion in 2006, up from US$11.9 billion in 2005. In addition, GDP per capita has risen sharply from US$415 in 2003 to US$777 in 2006. Another major achievement has been the settlement of Nigeria’s US$30 billion debt to the Paris Club, making it the first African country to do so.

Facing the futureThere are still a number of challenges and the reforms are nowhere near finished. Inflation is high, at about 10%, while the process of rehabilitating the country’s crumbling infrastructure has only just begun. Moreover, corruption levels appear to be declining, but remain something of a deterrent to investment by both domestic and foreign companies. Finally, although Nigeria is more politically stable than it has been for many years, tensions continue to fluctuate and it is still possible that the military could intervene in politics.

Nevertheless, the economic improvement has greatly improved the opportunities for the country’s financial institutions, and particularly for the emerging Islamic banking sector. Perhaps surprisingly, financial services are the economy’s second most important sector after oil, and the banking industry has grown by an average of 33% a year since 1998.

The CBN has been particularly proactive in recent years and its policy of forced consolidation has helped the financial services sector to grow. In July 2004, CBN Governor Charles Soludo announced a new minimum capital base of N25 billion (US$188 million) for universal banks, a policy which sparked off an intense period of mergers and acquisitions, reducing the number of Nigerian banks from 89 to a more manageable 25. More recently, the CBN has enforced a new minimum capital requirement for life insurers of N2 billion, up from just N150m. Non-life

Nigeria tries something newAs the government presses ahead with economic reforms and the country benefits from the reformed banking sector, Nigeria makes room for its first Islamic bank, write Youcef El Djezairi and Nadine Marroushi

insurers now need to raise N3 billion, up from N200 million.

The more secure banking environment and higher rates of economic growth has greatly improved confidence in the Nigerian banking sector. This has allowed the remaining banks to focus on providing a wider range of financial products, including Islamic financial instruments. Nigeria’s main takaful provider, African Alliance Insurance is merging with Fire Equity, General Insurance, and African Alliance Realty, which should provide a much more substantial provider.

Nigeria’s infant Islamic finance industry is faced with many of the same problems faced by its counterparts in the Gulf and south-east Asia. Companies and banks have difficulties securing sufficiently trained staff, as few people have the required knowledge of Islamic finance, making in-house training a prerequisite. Despite the efforts of the official supervisory bodies, the CBN and the Securities Exchange efforts, regulation of the sector has also been criticised by some.

A new dawnAfrican Alliance Insurance first raised interest in Islamic banking in Nigeria in 2003 when it offered family and life takaful. Following the product launch, the National Insurance Commission was flooded with applications from Nigerian insurers to underwrite takaful insurance. Just four years on, it now appears that the Islamic finance sector is ready to take off in the west African state.

Nigeria based holding company Jaiz International is working closely with the Islamic Development Bank (IDB) to set up Nigeria’s first Islamic bank, which will be called Jaiz Bank International. A spokesperson for Jaiz said that the company has witnessed growing demand from local investors to place their finances outside the conventional banking system. In addition, Islamic financial institutions could attract some of the N450 billion, which is held in Nigeria outside the formal banking sector for a variety of reasons. The new company is currently acquiring sufficient funds to meet CBN’s minimum capital requirement 4

President Olusegun Obasanjo’s two terms of office seem to be paying dividends in the rest of the economy.

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The Central Bank of Nigeria under the governorship of Professor Charles Soludo (seen here presenting the new Naira notes to President Olusegun Obasanjo) has overseen a deep seated overhaul of the banking sector.

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but Jaiz management hope that they will soon be given a licence to operate.

The spokesperson added: “This demonstrates the willingness of CBN to accommodate promising alternatives to conventional banking as well as their abiding belief in the viability of a non-interest bank, and its ability to deepen the financial services industry.” Jaiz has drawn up a three stage strategy to ensure that it acquires sufficient funds. Phase one involved raising N2.5 billion through an IPO in 2003. The second phase involves raising N10.5 billion via a private placement to a select group of individual and institutional investors, and phase three involves a subscription offer to raise the final N13 billion.

Close liaisonsAs a result of its alliance with Jaiz, the IDB has requested support from its other member states to help the Nigerian Islamic banking sector during its early years of development. Islami Bank of Bangladesh has agreed to send five of its senior management team to Jaiz to help with its launch. It is expected that one of the five will become the new bank’s first Chief Executive. In addition, the IDB itself is actively working with the Nigerian team to make sure a secure and comprehensive regulatory framework is put in place.

The bank’s proposed products include istisna’a, musharaka, mudarabah, ijara, murabaha, micro-credit finance, specified and joint investment accounts, savings deposit accounts and current accounts. Jaiz has also gained support from Islamic financial institutions in non-IDB countries. It is training many of its staff using the website of the Institute of Islamic Banking and Insurance, which is based in the UK.

Another major force in the Nigerian Islamic banking sector is expected to be created as a result of the creation of Platinum Habib Bank (PHB), following a merger between Platinum Bank of the US and Habib Bank of Pakistan. PHB plans to launch Islamic financial instruments in Nigeria to complement its existing portfolio of conventional banking products. Islamic savings accounts were expected to be up and running by the end of April. Product Manager Philips Olujobi says: “Getting people to save money in Nigeria is very difficult, and so we’re trying to launch sharia compliant products which will encourage them to do so through various benefits.” He adds: “We’re also introducing risk based assets in the middle of the year, which include loans. And quite soon launch a large scale marketing campaign.”

Perhaps surprisingly, financial services are the economy’s second most important sector after oil

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Senegal looks to infrastructure

Following the re-election of President Abdoulaye Wade in February, the Government of Senegal is planning to improve the country’s transport and power sector infrastructure. In common with most neighbouring states, the economy is heavily reliant on agricultural exports and Dakar hopes that improved infrastructure will both help to widen the domestic economy and encourage greater trade with other west African countries. The substantial tourist sector would also benefit from improved rail and road links, plus more reliable power supplies. Electricity rationing has become more common in recent years and Wade has promised to address the problem during his second term of office.

The Governments of Senegal and Mali have held talks with the World Bank in an effort to gain more investment for the Transrail line that runs from Bamako to Dakar. Improved rail capacity and reliability would boost trade between the two states and also speed up Malian exports, most of which are transported to overseas markets via the railway. The privatisation of Transrail has been discussed, but it is unlikely that foreign investors will become involved unless there is large scale donor support.Solid supportThe IDB has already revealed that it is prepared to lend its support. The bank is to fund the overhaul and expansion of the Kounoune I power plant, which currently has generating capacity of 60MW. The state owned power company Senelec has been awarded a €21 million loan to finance the work, which will be carried out by Finnish firm Wartsila. The IDB has already provided funding of US$48 million in support of another project by the Finnish company in Senegal. The money covered 80% of the cost of constructing the 66MW Bel Air C6 power plant, which came onstream in February. Wartsila has regularly benefited from IDB support for its work in sub-Saharan Africa. The bank provided €22.9 million to help fund the company’s construction of the Farcha power plant in Chad, which was completed in 2005.

As a result of IDB support, Senelec should certainly be able to improve the reliability of power supplies in the parts of Senegal that are attached to its transmission network. However, the long-term fate of the company remains in some doubt. The construction of the Kounoune I plant remained uncertain for a long time because some potential financial supporters had insisted on the privatisation of Senelec, a policy which Dakar opposed for several years. Now, however, the 67.5MW power plant is finally being developed by Matelec of Lebanon and Japanese firm Mitsubishi with World Bank support.

The Governments of Senegal and Mali have held talks with the World Bank in an effort to gain more investment for the Transrail line that runs from Bamako to Dakar.

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ايقيرفابرغعــمةازاوــمـبلــمـعـلااــيـقـيرــفابرــغلودلــصاوــتاـيرـيـجـيـنتـسـساثـيـح،ةـيداـصـتـقالاتاـحالـصالانوـــعـلامـــيدـــقـتلـــجانـــم»يـــمالـــساكـــنـب«لوانوــيـلـم١٤٠مـهدادـعـتغـلاـبـلااـهـناـكـسـلمـعدـلاودادـعـتفـصـننـيـمـلـسـمـلاةـبـسـنلـكـشـتو.ةـمـسـنطــطـخعــضوــبلاــغـنـسـلاموــقـتاــهرودــبو.ناــكـسـلا.ةـقاـطـلاولـقـنـلايـعاـطـقـلةـيـتـحـتـلاىـنـبـلانـيـسـحـتـلزـــيزـــعـتنـــيدـــلـبـلاالـــكيـــفنوـــلوؤـــسـمـلالـــمأـــيو.امهلةرواجملالودلاعمةيراجتلاامهتاقالع

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With a glut of conventional banks opening in the Gulf Co-operation

Council (GCC) states, and huge regional wealth driving interest in sharia compliant products, the region’s banks are keen to get a share of the mushrooming Islamic finance market, while the true heavyweights look outside the region.

There have been whispers of overcrowding in the conventional GCC banking market – the last week of February 2007 saw National Bank of Kuwait given a licence to operate and Doha Bank start operations in the UAE, and Kuwait Project Company announced plans for a US$1 billion investment bank – so it is no surprise that GCC banks are adapting to respond to demand, opening Islamic windows and converting to fully sharia compliant Islamic institutions.

A Standard & Poor’s report published in October 2006 said that this radical move is “the strategy of choice for smaller entities that have found themselves with their backs against the wall, and faced with the alternatives of merge, specialise or disappear.” These banks are promoting themselves to the region’s increasingly affluent retail customers who are sensitive to religion and want sharia compliant products. Some 20% of the GCC population is estimated to be signing up to Islamic products and the market is far from saturated.

Leading the wayNational Bank of Sharjah paved the way when it was reborn as Sharjah Islamic Bank (SIB) in 2002; Middle East Bank followed, becoming Emirates Islamic Bank, while most recently Dubai Bank started operations as a sharia compliant bank on 1 January 2007.

Its conversion took six months, far short of the original eighteen month estimate. Dubai Bank’s Chief Executive Officer, Ahmed El-Shall, said that conversion is expensive, requiring a full restructuring of its retail activities to capture a larger marketshare, but is “an investment in the future.”

Next is Kuwait Real Estate Bank (KREB) which has received permission to convert to a commercial bank and sharia compliant institution. KREB won one of the three Islamic banking licences offered in 2003 by Central Bank of Kuwait, and with Kuwait’s Islamic banking sector growing faster than its conventional one, it seized the opportunity to build a more diversified operation.

The well established Islamic banks are also adapting in other ways, reflecting how Islamic finance is seen as more lucrative than its conventional equivalent. Dubai Islamic Bank will soon launch what it says is the world’s first sharia legal and financial consultancy firm, providing a “one stop shop” for the financial structuring, legal documentation and product development needs of the Islamic finance industry.

Into Asia and beyondFlush with liquidity, Gulf banks are looking to play an active role in developing the global market, rather than adopting the passive posture that marked so many of these conservative institutions in the past. The GCC’s vast Islamic banks – DIB, Kuwait Finance House (KFH) and Saudi Arabia’s Al-Rajhi – may see their future outside the region. A KFH led consortium is buying a stake in Malaysia’s Rashid Hussein Berhad bank, after Utama Banking Group agreed to sell its 33% stake for US$617 million. KFH beat off competition from the Hong Kong

Fighting fitGCC banks are enjoying a boom in business levels, writes Eleanor Gillespie

based Primus Pacific Partners Ltd which included the Qatar Investment Authority.

GCC banks are also looking west and are behind Syria’s first Islamic bank, Al Cham. In late February 2007, a consortium that includes the Dubai government owned Istithmar, Bank Muscat International and International Finance Corporation, announced they will open an Islamic bank, Gulf African Bank, in Kenya later this year. Bank Muscat Chairman Abdul Malik Al-Khalili says that 26% of Kenya’s population is Muslim but there is a dearth of banking services that comply with sharia.

Conformity?One of the main themes at a January 2007 conference on Islamic banking held in London was the need for standardisation. Bankers argued that more consistent regulation is needed to ensure product quality, and industry credibility. Bankers lamented that the current regulatory treatment varies enormously, while one senior Gulf banker noted that a number of challenges – including regulatory standards – need to be addressed if the market’s potential is to be realised. Analysts say obstacles include governance and conduct of business, standard market practices and sharia convergence.

Critics complain that regulation in the GCC is disparate – Central Bank of Oman (CBO) head Hamood Al-Zadjali recently said that CBO reiterates its rejection of sharia compliant banking in the sultanate. “We believe that banks should be universal. We won’t allow specific banks,” he said.

While there are some principles in sharia to which scholars have no doubt – such as the ban on interest and investment in gambling – some analysts say there are differences in the way sharia scholars interpret the law, which is restraining industry growth. Others disagree. One prominent scholar, Sheikh Nizam Yaquby, argues that there is no rush for standardisation and standards will develop gradually, pointing to the conventional banking system, which evolved over hundreds of years and still doesn’t have unified practices everywhere. g

Dubai is no stranger to setting records - tallest tower, biggest mall, first underwater hotel - and ambitions to be the world’s number one Islamic financial centre.

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Fighting fit

WiA Delegate Publication 79

Saudi Arabia – driving demand for Islamic finance

While Dubai may grab the headlines for its innovative moves and record breaking initiatives, observers say that Saudi Arabia, with the largest Muslim population and economy in the GCC, will drive the demand for Islamic finance in the long-term.

As in the other Gulf states, the trend for sharia compliant products and services is partially driven by the sheer level of financial liquidity and appetite for investment in the kingdom. Analysts note that consumers are switching from conventional, western banking: Moody’s Investors Service said in January that almost all retail banking in Saudi Arabia is practised according to Islamic principles, as local banks, including the giant National Commercial Bank, convert their business to Islamic operations.

Reports say that half of Saudi deposits are now sharia compliant. Moody’s notes that Saudi Arabia is on the cusp of a major expansion in Islamic banking, with pronounced investor and client preference for sharia compliant banking products and services across the asset and liability divide, especially in retail and consumer banking.

Saudi Arabia has huge project financing requirements and this year there is an estimated US$26 billion of financing going to market. With borrowers looking to diversify away from simple commercial funding to meet their needs, the kingdom broke ground with its Al Waha polypropylene and propane dehydrogenation project. In 2006, this was the first greenfield project to be financed on an exclusively Islamic basis without any commercial bank debt. This followed the successful financing for the kingdom’s US$9.8 billion Rabigh and US$5 billion Yansab projects; each included US$500 million Islamic tranches alongside conventional financing. Riyad Bank and Standard Chartered Bank are the joint financial advisors for a US$4 billion project sponsored by Saudi Arabian Mining Company; again, the financing will have conventional and Islamic components, as will the forthcoming financing for the Saudi Kayan Petrochemical Company’s complex at Jubail, due to go to market later this year.

Last year, Saudi Arabia’s Capital Markets Authority approved the first sukuk under its new rules – a US$800 million fully tradable sukuk for SABIC – and appetite for Islamic bonds is ever increasing. Late January 2007 saw the Saudi real estate developer, Riyadh-based Dar Al-Arkan Real Estate Development Company (DAAR) launch a roadshow in London for the debut of its three year US$425 million Sukuk al-Ijara, marking the first international sukuk for a Saudi corporate. The sukuk was oversubscribed and raised close to US$700 million, with DAAR opting to increase the issue size to US$600 million. Such high demand is forecast to continue with analysts noting that the US$26 billion King Abdullah Economic City is expected to be the catalyst for a lot of sukuks.

Bahrain – Islamic hub

Traditionally the home of Islamic finance, Bahrain continues to carve out a niche role for itself by setting up Manama-based specialist institutions such as the Accounting and Auditing Organisation for Islamic Financial Institutions (AAOIFI), Islamic International Rating Agency (IIRA), and International Islamic Financial Market (IIFM).

Long known for having one of the best regulatory environments in the Middle East, Bahrain currently hosts the largest concentration of Islamic banks and financial institutions, and recently announced that 34 out of the world’s 78 Islamic investment funds are based in the kingdom. Manama continues to attract new Islamic banks such as the European Islamic Investment Bank. At a January 2007 conference on Islamic finance, Central Bank of Bahrain (CBB) Governor Rashid Al-Maraj said, “we have developed a liberal, open system to work with the industry.” Manama is now keen to see bigger Islamic institutions dominate the market. One senior CBB official said last year that smaller banks should merge to form a single institution, “if Islamic banking is to grow successfully, we do not need more small Islamic banks.”

Bahrain is also attracting companies that focus on Islamic insurance. In March 2006, CBB gave a licence to Germany’s Allianz Group to set up a global hub – Allianz Takaful for Islamic insurance products in Bahrain. This follows the creation of Aman Bahrain Insurance Company by new Manama based Islamic bank Al Salam. In September 2006, global insurance giant Hannover Re was given a licence to establish a retakaful company in Bahrain: Hannover Re Takaful will be the principal underwriter of Hannover Re’s worldwide retakaful business.

In January 2007, Bahrain announced that it is set to host the Islamic Financial Mediator Council (IFMC), an arbitration centre to offer legal expertise in the case of disputes between two parties. Bahrain’s IIFM recently signed a memorandum of understanding (MoU) with the London’s International Capital Market Association to work on developing Islamic financial markets. They will focus on the sukuk market to develop standardised contracts, documentation and market practices for sukuks. Bahrain will also soon be home to the planned Sukuk Exchange Centre (Tadawul) which is backed by various regional financial heavyweights, including the Islamic Development Bank. AAOIFI remains active, recently issuing eight new accounting, governance and sharia standards to add to the existing 56. With developments like these, Bahrain clearly hopes to retain its position as the GCC’s Islamic banking hub.

Dubai – a global financial centre emerges

This fast paced emirate is no stranger to setting records– tallest tower, biggest mall, first underwater hotel – and with ambitions to be the world’s number one Islamic financial centre, it has turned to its burgeoning Islamic finance sector. Dubai’s banks are increasingly setting up Islamic windows, converting to sharia compliant institutions, as Dubai Bank did in January, and buying up Islamic banks outside the federation.

The Dubai International Financial Exchange (DIFX) recently became the global leader in sukuks by listed value when it launched Kuwait’s The Investment Dar Company’s US$150 million Sukuk. In October 2006, the value of sukuks on DIFX totalled US$4.11 billion – higher than any other exchange. Late last year, the giant Dubai Islamic Bank (DIB) – which expects to manage US$8 billion in Islamic bond sales this year, almost half the world’s total – broke a sukuk world record by raising US$3.52 billion for the Dubai Government-owned property developer, Nakheel, also bringing the total Sukuk raised by DIB to US$9 billion in the UAE. Setting another record, DIB says the sukuk adopted a structure never before used in conventional or Islamic banking history.

In September 2006, Dubai said it was developing a system of market makers to encourage trading in Islamic bonds, an illiquid niche market forecast to be worth US$100 billion in five years. Secondary market trading has traditionally been thin, with investors tending to buy and hold. Dubai International Financial Centre (DIFC) officials say this will change with increasing interest in the sukuk market, and that the centre is bringing together investment banks to act as market makers for the DIFX-listed sukuk. With London recently creating the world’s first secondary market for Sukuk trading, Dubai is aware of the competition.

The sheer level of current GCC liquidity is also driving Dubai institutions to become sharia compliant. Dubai Holding, owned by Dubai ruler Sheikh Mohammed Bin Rashid Al-Maktoum, is behind the new Al Noor Islamic Bank with capital of US$1 billion and its backers say it will be the world’s largest bank. Specialist firms such as Dubai’s Amlak Finance have also applied for full Islamic banking licences.

Companies with niche Islamic finance skills are springing up in the DIFC. Last year, its Islamic Finance Director, Khalid Yousaf, said it was looking to licence 25 Islamic banks, asset and fund managers and takaful companies in 2006, with 70 licensed by 2008. Attracting sharia compliant companies is a key strategy for DIFC and it also aims to bring 50% of sukuks to list on DIFX. Specialist firms include Injazat Capital, a sharia compliant private equity investment company, which relocated to DIFC in November 2006, and was the first to offer an Islamic venture capital fund worldwide.

Inside the IDB

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The Muslim umma (community) encom-passes some of the world’s wealthiest

regions, typified by the Gulf states, which are not only themselves developing at breakneck speed, but whose huge liquidity is stimulating an unprecedented investment boom in other parts of the Islamic world. The umma also includes many millions of Muslims who number among the world’s poorest populations; for many of these impoverished communities, essential improvements in their standards of living, overall economic situation, and outlook for a better life for their families depends on the sustainable support of external agencies, including multilateral development banks (MDBs) such as the Islamic Development Bank (IDB).

In this world in flux, according to IDB President Dr Ahmed Mohamed Ali, rapid and phenomenal changes to the global economy have created a special challenge for the IDB and its member states. Its mission now is “to promote comprehensive human development, with a focus on the priority areas of alleviating poverty, improving health, promoting education, improving governance and prospering the people. This is a cause like no other [and the] IDB is privileged to be entrusted with the responsibility.”

In between some of the world’s richest and poorest populations, millions of other Muslims are confronted by the challenge

so familiar to many emerging markets, which are experiencing the transition from predominantly agrarian into industrialised (and post-industrial) consumer societies, peopled increasingly by ageing urban populations whose material preoccupations are very different to those of their parents.

While the rise of Islamic radicalism has preoccupied so much of the global media, the central reality for a majority of the global Muslim population is meeting the challenge of adapting to economic and social transition enacted at a speed unprecedented in history. Across the umma, this more affluent, urbanised population is looking to formulae that will speed this adaptation while not losing track of their social and moral compass. This trend helps to explain why the emergence of Islamic financing products has held such resonance for so many investors, savers, and consumers: the boom in Islamic financial services – which has made it one of the fastest-growing, most important asset classes in global banking and finance – is the product of a time of unprecedented upheaval for many societies.

To make sure that the boom does not end, existing institutions are having to expand to help structure and regulate the market; new institutions – from regulators across the Organisation of the Islamic Conference (OIC) countries to investment funds – are required to absorb demand; a wide range of players, from sharia (Islamic law) scholars

Community of interests buoys up Islamic financial marketsAmid ever more testing challenges in a fast-moving financial arena, the IDB can be a catalyst for change in the burgeoning Islamic economy, writes Youcef El Djezairi and Jack Hamilton

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to quantitative strategists at bulge bracket banks, are entering the industry.

The IDB has, since its foundation in 1975, been an important institution in the Islamic economy, working especially closely to help alleviate pressures on OIC governments. As it develops new financial products, the Jeddah-based bank is well placed to act as a catalyst for positive change, in such critical sectors as infrastructure development and stimulating trade between countries that have long depended on their links with the traditional industrialised powers, while largely ignoring the potentials for working more closely with their neighbours.

The bank’s extensive trade promotion between its 56 member countries, and its long-established trade finance operations are thus focused on promoting the objective of economic emancipation. “Member countries have no alternative to closing ranks and forming a single bloc to meet the challenges and inevitable consequences of globalisation, relying on their strong links, their economic integration, and their huge human and material resources,” says Dr Ali. In this core business, the IDB can truly play the role of catalyst.

Big resources, huge challengeThe IDB has set itself a daunting task by making the defeat of poverty in member countries its top priority, since these economies include some of the world’s poorest countries: in 2002, just under 400 million of the 1 billion people estimated to be in absolute poverty lived in 31 of the 56 IDB member countries.

But against this challenge, the bank is able to deploy major resources. The great strength which it hopes to use to improve the lot of its most deprived citizens is that, as well as having some of the least developed countries of the world among its 56 members, it also has a handful of the wealthiest. These wealthy members, including Saudi Arabia and other Gulf states, already contribute the lion’s share of the IDB’s equity capital and have already extended significant help to the wider global community.

“The relatively richer developing member countries are assisting and supporting the lesser endowed members to make the IDB the living embodiment of the real South-South co-operation with AAA rating from Standard & Poor’s,” says Dr Ali.

Vision for the futureThe IDB is committed to creating the sort of sustainable development that can help close the wealth gap, and the pre-eminent platform on which the bank has chosen to further these goals is the IDB Vision 1440H – a strategy aimed at meeting a series of goals for the benefit of the whole Muslim world by 2020.

The IDB describes Vision 1440H as a “unique approach”, which has made “human dignity the cornerstone of the bank’s development agenda”. Its main strategic objectives are to reduce poverty and empower ordinary

Islamic Development Bank headquarters, Jeddah, Saudi Arabia.

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The Islamic financial markets

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people. Vision 1440H was launched at the bank’s May 2006 31st Annual Meeting, held in Kuwait. Since then, its leaders – notably former Malaysian Prime Minister Dr Mahathir Mohamed and former Indonesian President Professor Bacharuddin Jusuf Habibie – have worked to harness resources from across the Muslim world in the cause of development.

Their findings are expected to inform and act as a further springboard for action at the IDB’s 32nd Annual Meeting, to be held in Dakar, Senegal.

At a meeting of the IDB board in January 2007, President Dr Ali said the bank would rally international financiers to join it in establishing regional funds to support infrastructure projects in member countries. Advances have already been made. In October 2006, IDB became a strategic partner of the Government of Indonesia, to support a new Islamic Infrastructure Fund for the country.

Banking on change Another of the strategic objectives being advanced by Vision 1440H is the development of the Islamic banking industry. The IDB is working with many other Islamic and non-Islamic multilateral finance institutions; some projects are well advanced.

Two years ago, it joined with the Kuala Lumpur-based Islamic Financial Services Board, which serves as an international body for setting standards in the Islamic financial services industry, to develop a ten year plan. This included a strategic vision to develop Islamic financial intermediation at national and international levels. In late 2006, the IDB’s Waqf Fund allocated US$600,000 to a Co-operation Programme with the IMF to promote Islamic banking and finance.

The IDB has also capitalised Islamic banks around the world. It was finalising

a stake in Tayssir Bank, which will be the first Islamic bank established in France, as this report went to press. In January 2007, it approved a US$15 million global line of finance to three banks in Uzbekistan. In the previous year, it extended capital to four Islamic banks throughout the umma, and to one takaful company.

It is also doing its bit to create the necessary financial products. The IDB worked with the Bahrain-based Liquidity Management Centre, which facilitates the investment of Islamic banks’ surplus funds into quality short- and medium-term financial instruments, to identify a negotiable short-term liquidity instrument, called “the short-term sukuk programme”. This involved the bank intervening in the market to solve the chronic problem of liquidity management in Islamic financial institutions.

In 2006, the IDB approved a 500 million Islamic dinar limit under the “reverse murabaha” instrument, which it developed to mobilise short-term resources from the market. This new scheme has attracted significant interest from financial institutions and central banks in member countries. In May 2006, the bank also adopted revised guidelines for syndicated and two-step murabaha financing. The ceiling for approved amounts was raised, together with that of the components of the currency basket. Additionally, it is now possible to use those resources to finance imports from diverse sources of supply.

It is via such schemes that the bank mobilises market resources to support its development and trade finance operations. Meanwhile, it has significantly increased its own capacity to support deals and initiatives, doubling its capital to US$40 billion in 2006, to strengthen its lending capabilities. The subscribed capital was increased by US$9.2 billion to approximately US$20 billion.

Social supportThis financial business is rooted in the realisation of an Islamic vision of development, which is seen as the optimum means of bringing social progress to member countries, as well as Muslim communities elsewhere, in accordance with the principles of sharia.

Development finance is focused on development assistance in the form of project financing, trade financing, technical assistance and grants.

During its first three decades – the period 1975-2005 – the IDB Group (excluding its ICIEC affiliate) financed nearly 5,000 projects totalling US$41.4 billion. Trade finance accounted for 59.5% of the total and project financing 38.5%, with the remainder going in technical assistance and special assistance. The largest sectors in which the bank invests are public utilities, the social sector, and transport and communication. Smaller but also significant sectors include industry and mining, agriculture and financial services. 4

Nearly one-third of project financing is carried out through leasing and just under one-quarter through loans, with istisna’a and instalment sales at just under one-sixth each.

The bank also operates a series of specialist funds, such as the Infrastructure Fund, a private investment vehicle focusing on infrastructure development in member countries; the autonomously managed Unit Investment Fund, which assists the IDB in sourcing additional funds through the securitisation of its lease and instalment sale assets, in accordance with the Islamic concept of mudarabah; and the close-ended Awqaf Properties Investment Fund, which develops and invests in socially, economically and financially viable awqaf real estate properties.

The bank’s programmes reach around the world: projects approved at the March 2007 board meeting show a typical cross section of assistance, including loans from US$10 million to US$130 million to finance road building in Kyrgyzstan and Morocco, the expansion of Iran’s Khozestan steel plant, the development of vocational colleges in Uzbekistan, a power transmission project in Tajikistan, the construction and equipping of health facilities in Togo and mines in Mauritania. Nearly US$300 million in import trade financing was approved for operations

Ali: This is a cause like no other and the IDB is privileged to be entrusted with the responsibility.

The relatively richer developing member

countries are assisting and supporting the lesser

endowed members

Global leadership from Asia

The IDB Vision 1440H strategy is being led by two of the most influential politicians to emerge from the Asian region in recent decades. Former Prime Minister of Malaysia Dr Mahathir Mohamed is guiding the programme. He has co-opted more than 220 intellectuals and experts to contribute ideas to lay out a series of significant challenges, both for the IDB itself and for Islamic finance in general.

Alongside him stands Professor Bacharuddin Jusuf Habibie, former President of Indonesia, who issued a challenge calling on the IDB to “re-examine its role and reinvent itself to tackle the vastly different challenges within the Muslim community and outside it.” Habibie told the September 2006 International Monetary Fund/World Bank Annual Meetings in Singapore that radical developments worldwide meant change was inevitable. “In many Muslim countries, especially the least developed member countries of the IDB, the progress towards achieving their Millennium Development Goals is far behind the minimum performance benchmarks, especially as a result of heavy indebtedness, food insecurity, high unemployment rates, and low human development.” In this context, the bank’s vision, which started as a dream of 1.3 billion people, had been “transformed into an implementation programme for 6 billion people without exception.”

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Humanitarian supportThe IDB has already supported the foundation or improvement of 4,566 primary schools, 576 secondary schools, 59 colleges and universities and 204 vocational training centres.

In health, it has financed projects at 2,683 primary healthcare units, 97 district and regional hospitals, and 23 specialist and referral hospitals.

It has paid for 29,700 boreholes and supported the installation of 15,800 water points for agricultural use, at least 300,000 hectares of irrigation as well as 7,000km of rural and feeder roads, 4,934km of trunk roads, 14,000MW of power supply and 11,312km of transmission lines.

The bank has a long record of providing funds for humanitarian causes, relieving the suffering of ordinary people caught up in some of the world’s most intense geopolitical conflicts as well as the most devastating of natural disasters.

The IDB has allocated US$250 million to a joint programme to finance the rehabilitation of facilities and projects destroyed during the Israeli bombardment and invasion of Lebanon in 2006. The programme, which is also supported by the Islamic Chamber of Commerce and Industry and the General Council for Islamic Banks and Islamic Institutions, aims to raise US$1 billion capital. In addition to US$215 million of “ordinary” finance, including istisna’a, ijara and instalment sale projects, the programme has advanced US$30 million in the form of Qard Hassan, and a US$5 million emergency grant for medicines and other essential emergency materials. The IDB’s contribution has been specifically geared towards construction and rehabilitation of destroyed infrastructure facilities, including schools, hospitals, power networks and

involving corporations from all around the Muslim world.

At the other end of the spectrum, the Waqf Fund provides grants and special assistance for just a few hundred thousand dollars to build schools, colleges and health centres in Bosnia and Herzegovina, Ethiopia, Malawi, Somalia, the Philippines, India and even in Canada and the United Kingdom. The bank has also provided technical assistance for social and infrastructure projects.

Through its programmes of concessional financing, which are aimed at some of the poorest member countries, the IDB has already financed US$4.2 billion worth of projects, half of which were for pro-poor activities. It has financed projects to increase employment opportunities, to provide market outlets for the rural poor, to improve basic rural and pre-urban infrastructure such as the supply of drinking water and electric power, and to expand education and health facilities. In addition, it has implemented training programmes aimed at women to help them to participate more in the economies of their countries.

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roads, in addition to new public sector projects in co-ordination with the Lebanese Government.

In terms of geopolitical assistance, the bank has also provided long-term help to mitigate the suffering of the Palestinian people. Since 2000, the IDB has operated two funds, the Al-Aqsa and Al-Quds funds, which sponsor projects in the Palestinian Territories. The two funds have disbursed a total of US$686 million, helping to build tens of thousands of houses, roads, schools, water and electric lines and to provide health and education services to those most affected by the Israeli occupation, invasions and arrests.

The most important recent project of natural disaster relief in recent years has been the US$500 million assistance package for tsunami victims in Indonesia, Maldives, Somalia, Thailand, India and Sri Lanka. Help was focused on relief operations and the reconstruction of infrastructure, especially in the key areas of education, health, energy and transportation. US$300 million worth of projects have already been implemented. One recent project to be approved was a US$32.15 million istisna’a and grant finance for the development of Belawan and Sibolga Fishing Ports in Indonesia. The emergency assistance programme also provided US$35.5 million istisna’a and instalment finance for the reconstruction of IAIN Ar-Rniry University in Aceh.

The IDB has also provided US$103 million Emergency Assistance for Combating Bird Flu in a number of member countries.

The IDB’s programmes reach around the world. Pictured here, health education in Togo.

The IDB has already financed US$4.2 billion

worth of projects

Creating the Poverty Alleviation Fund

In February 2007, IDB President Dr Ahmed Mohamed Ali and Board of Governors Chairman Abdoulaye Diop, who is also the special envoy of the President of Senegal, led a high-level IDB delegation on a tour of heads of state, including Iran, Algeria and Libya. This was intended to mobilise resources for the creation of a Poverty Alleviation Fund (PAF), which was expected to be launched at the bank’s annual meeting in May 2007.

The PAF will be a waqf fund backed by capital of US$10 billion. Its inspiration arose from the Extraordinary Summit of the Organisation of the Islamic Conference held in Mecca in December 2005, which issued an appeal for member countries to provide the capital for a special fund to tackle unemployment and create new opportunities. By February 2007, the fund had already received contributions from 21 member countries. King Abdullah Bin Abdul Aziz of Saudi Arabia promised US$1 billion in starting capital. Kuwait pledged US$300 million.

The PAF is “urgently looking for ways to increase the limited resources dedicated to health, education, infrastructure projects, small and medium establishments in order to combat poverty in the least developed among the member countries,” said Dr Ali. It was “the best example of solidarity among the member countries of IDB towards fighting poverty in which each member country participates, not as a donor or receiver, but according to its financial ability and the will to help others.”

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that commercial hub. Dr Taha sees Dubai as an ideal location for expansion, as an increasing number of Middle East banks are based there, and demand for export credit is most strong. He saw the UAE, which attracted more than US$12 billion foreign direct investment in 2005, as a model.

The 13-year old corporation provides sharia compliant insurance and reinsurance for commercial and non-commercial risks. It also provides investment insurance and reinsurance against country risk, emanating from foreign exchange transfer restrictions, expropriation, war and civil disturbance and breach of contract by the host government.

ICIEC has become closely involved in facilitating investment, managing the IDB Group’s technical assistance programme on investment promotion and launching technical assistance programmes in a number of countries. Dr Taha observes that ICIEC’s involvement in investment schemes can further reduce political risk, given that its parent, the IDB, includes the target countries among its shareholders. Indeed, in 2006 ICIEC had no claims arising from its regional coverage.

Impressive growth Another IDB affiliate, the Islamic Corporation for the Development of the Private Sector (ICD), recorded its best results in its seven-year existence during 2006. Preliminary financial figures show a 124% increase in lines of finance – a programme introduced just three years ago. Investments in partner companies increased by 40% and medium-term financing rose by 24%. In total, overall investment operations increased by 37% from about $166.4 million in 2005 to almost $227.9 million a year later.

This massive expansion in business has created a surge in overall revenues, which grew by 55% to US$24.7 million. Meanwhile, costs were kept under tight control, growing by only 5.9%. The result was an 87.5% leap in gross profits to approximately US$18 million.

Chief Executive Officer and General Manager Dr Ali Soliman explains that ICD’s success comes from offering “a mix of financing that is tailored to meet the needs of each project. I believe that our best results have been in providing lines of financing to commercial banks and national development financing institutions, from which the capital needs of small and medium-sized enterprises are met. These lines are used quickly and meet real needs in the business community in our member countries.”

Building a community of trade and business: IDB affiliatesThe global trade finance community has been endowed with a new player, the International Islamic Trade Finance Corporation (ITFC), which held its first general assembly on 24 February 2007 at its headquarters in Jeddah. ITFC has been launched with an initial capital of US$300 million, financed via a pre-operational loan from its parent organisation, the IDB.

According to Dr Ali, the corporation should boost member countries’ economic development by enhancing regional trade: “This initiative will work to alleviate economic burdens and combating poverty in the least developed member countries. ITFC will provide more resources to the Islamic Development Bank to finance exports and investments and secure necessary guarantees that will facilitate greater trade exchange regionally.”

The level of trade between member countries of the Organisation of the Islamic Conference (OIC) is currently modest. The ITFC will develop and finance inter-regional trade, streamlining the development effect of trade financing operations and upgrading the capabilities of the member countries in the field of exports. It will also monitor market trends and will launch specialised funds.

As well as its main role of financing trade within the OIC, the ITFC is also committed to increasing the sophistication of Islamic trade finance and its global reach. It will develop a more diverse range of financial instruments and sharia compliant products for trade financing. It will also help enterprises in member countries to access the international capital markets. It

will advance these global objectives hand in hand with country specific projects. For example, the corporation plans to work with member countries to stimulate the creation of investment opportunities and to enhance their export capabilities. It will also provide technical assistance and training to local banks to improve their ability to offer professional trade finance products.

ICIEC growthThe ITFC is only the latest of the IDB’s trade-focused affiliates, following on from the Islamic Corporation for the Insurance of Investment and Export Credit (ICIEC).

One notable knock-on effect of the IDB’s highly successful trade promotion strategy has been the strong growth in demand for investment and credit insurance in the OIC countries. In February 2007, ICIEC – the IDB subsidiary that specialises in insuring country and political risk – requested an increase in capital from its shareholders to meet this demand. General Manager Abdel-Rahman Taha wants to triple ICIEC’s capitalisation to US$450 million, from US$144 million, to take place by the end of 2007.

Speaking at the Broader MENA Investment Summit held at the Dubai International Financial Centre, co-organised by ICIEC and the World Bank Group’s Multilateral Investment Guarantee Agency (MIGA), with which it works in close partnership, Dr Taha said the region’s commitment to liberalisation and economic integration had led to higher inflows of investment, which had created greater trade flows and demand for insurance.

ICIEC has also announced that it will open its first foreign representative office in Dubai. ITFC will also open an office in

Member countries have no alternative to closing ranks and forming a single bloc

to meet the challenges and inevitable consequences

of globalisation

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ICD’s core business is the direct finance of projects or companies. Its main operations are centred on the provision of equity and term financing to commercially viable enterprises that need restructuring and modernisation.

New projects approved at the end of 2006 include an instalment sale financing facility for a pharmaceutical company in Saudi Arabia, an additional global line of financing to Azeri banks for the development of SMEs, and an additional financing facility for a real estate development company in Saudi Arabia. In limited cases, ICD also finances green field projects. For example, it is currently co-financing a US$32 million bulk terminal project in Djibouti with the African Development Bank and Saudi-based MIDROC, part of the Al-Amoudi Group.

Priority projects for the ICD are those that will have a significant developmental impact on the country. It gives special attention to projects in the technology, telecommunications, power, water and sanitation, healthcare, pharmaceutical, and industrial sectors.

In order to keep a diversified portfolio and operate in a cost efficient and effective manner, ICD is developing intermediary investment vehicles, such as leasing companies and investment funds to reach the private sector,

in co-operation with both multilateral and national financial institutions.

The IDB advances professionalism for the global Islamic finance sector through the Islamic Research and Training Institute. The institute is dedicated to increasing both the supply and quality of Islamically trained and qualified experts in all financial and economic fields. It organises training, seminars and conferences in collaboration with national, regional and international institutions. It also manages a series of databases, including a register of Muslim experts and a database on trade information and promotion. One of its main achievements has been to create an information system dedicated to Islamic banking and finance.

At the same time, IRTI specialists are working with financial institutions in the sector to research the development of sharia compliant financial models, applications, and methods.

The IDB and its affiliates are playing an important role in supporting initiatives to develop social, economic and political solutions to many of the world’s poorest countries. Working together with, and in parallel to, the markets, it can make a difference, by helping to apply the Islamic world’s growing financial muscle for the betterment of all. g

The bank intends to rally international financiers to join it in establishing regional funds to support infrastructure projects in member countries.

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يــتـلاةــمـخـضـلاةــعـيرــسـلاتارــيـغـتـمـلاتدأدــحـتقــلـخىــلايــمـلاــعـلاداــصـتـقالااــهـفرــع.هتاسسؤمو»ةيمنتلليمالسالاكنبلا«ـلةـيـمـنـتـلاعـيـجـشـتوزـيزـعـتيـه،نآلاكـنـبـلاةـمـهـمناتالاــجـمـلاىــلـعزــيـكرــتـلاعــم؛ةــلـماــشـلاةــيـناــسـنالارــيوــطـت؛رــقـفـلاةدــحنــمفــيـفـخـتـلـلةــيوــلوالاتاذرودنـيـسـحـت؛مـيـلـعـتـلاوةـيـبرـتـلـلجـيورـتـلا؛ةـحـصـلايـطـعـتةزـيـمـلاهذـه.ةـيرـشـبـلاراـهدزاو؛ةـموـكـحـلاهــعورــفو»ةــيـمـنـتـلـليــمالــسالاكــنـبـلا«نــعةــحـمـلثادــحالــجانــمةــلـمـحـلانوردــصـتـيمــهراــبـتـعاــبةـــيداـــصـتـقالاةـــمـظـنالارـــبـعةـــمـخـضتارـــيـغـتـم.ةيمانلاةيمالسالا

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With the exception of Sudan, where the Government enacted an official

“Islamisation” of the banking sector in 1990, the countries of North Africa have been notably reluctant to embrace Islamic finance, in spite of their large Muslim populations.

But global enthusiasm for sharia compliant investment, bolstered by insistent local demand for interest free finance, has forced central banks and governments to relax old strictures. Banks throughout the region are lining up investments in newly developing markets, many of which are also seeing major changes to their conventional banking systems.

The country where the effects of this change will be seen earliest is Morocco. In late February 2007, Bank Al-Maghrib, the central bank, abandoned its longstanding opposition to Islamic finance and announced a licensing regime for three alternative products encompassing ijara, murabaha and musharaka.

In the past, the Moroccan authorities justified their refusal to license sharia compliant financial products or to allow Islamic banks to open branches on the grounds that they did not conform to banking legislation. A more fundamental reason was the perception that Islamic banks could be linked to Islamic political parties.

This position has been relaxed following pressure from both the country’s banks and from the broader market. Demand is expected to be strong for Islamic banking products in spite of the fact that they will be more expensive than conventional ones. Many Moroccan banks are said to be ready with their Islamic packages and are now only waiting for

the approval of the Conseil des Etablissements de Credit (the Lending Institutions Committee) before launching them.

Even after this initial break through for the sector, restrictions will remain in place. Advertising campaigns for Islamic finance products will be forbidden from containing any religious messages.

Libya aloneThese changes will leave Libya as the only country in North Africa with no Islamic banking services. This is perhaps not surprising , simply because its highly centralised banking sector is also one of the least developed in the region. In January, the Government invited expressions of interest from international and domestic investors for the first privatisation of one of the dominant state owned commercial banks.

It remains to be seen whether in Libya’s case the move towards privatisation and liberalisation will be accompanied by the growth of an Islamic sector as well. Such a pattern can be seen in Algeria, which is in the early stages of bank liberalisation. Algeria has had Islamic banking since 1991, when the Saudi-backed Banque Al Baraka d’Algérie was established. But there was little action in the sector in the ensuing years until October 2006, when the Bahraini-Emirati-Sudanese Al-Salam Bank acquired a licence to open an Islamic bank.

“The bank’s expansion into Algeria is in line with our strategic plan to tap the potential of emerging markets in the region. Algeria is pursuing a very aggressive role in modernising the economy and supports

Slow off the markOne region where Islamic finance is slow to be embraced is North Africa, writes Jack Hamilton

the initiatives of both the private sector and foreign investors,” said Hussein Mohammed Al Meeza, Deputy Head of Al Salam Bank Founder’s Committee.

Needs to moderniseEgypt, which has also been reluctant to encourage Islamic banking, has shown how restructuring and modernisation of the banking sector and the privatisation of banks leads to an increase in Islamic financial services as the sector diversifies according to the demands of the market.

The Government has promoted mergers and has sold off shares in state owned banks and has obliged all banks in the sector to comply with stringent capital adequacy requirements. The number of banks has subsequently fallen to 42 at the end of 2006 from 67 in 2004, with more mergers and closures likely this year. The other major effect has been an increase in Islamic banking. By the end of 2006, 12 conventional banks had moved into Islamic finance. For instance, Al-Watany Bank of Egypt established Islamic banking counters in all its branches.

The reforms have also strengthened the existing Islamic banks, albeit within the framework of conventional banking. In June 2006, Islamic International Bank for Investment and Development, one of the main domestic Islamic banks, which had been beset by non-performing loans and was unable to raise fresh capital, was merged with two conventional banks, United Bank of Egypt and Nile Bank, to create a new institution. The new conglomerate, United Bank, will offer both Islamic and conventional products.

This is a renaissance of Islamic banking in the country rather than its birth. Egypt’s first Islamic lender was a small town savings bank which operated unofficially from 1963. The Government formally recognised Islamic banking in the early 70s, but the sector remained small, comprising just a few institutions.

Genuine growth in the sector has only come in response to the massive global attention currently focused on interest free 4

Libya’s highly centralised banking sector is also one of the least developed in the region.

Algeria is pursuing a very aggressive role in modernising the economy and supports the initiatives of both the private sector and foreign investors.

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Tourism remains a vital earner of foreign currencies for many countries.

banking. 2006 saw the first steps towards the Islamisation of mutual funds. Faisal Islamic Bank, one of the major Islamic banks in the country, launched Egypt’s first mutual fund. In total, three sharia compliant funds were launched during 2006 and more are said to be planned this year.

Meanwhile, February 2007 saw the launch of Almak Finance, the country’s first Islamic home finance company, a subsidiary of Dubai based property and finance giant Emaar. Almak will finance mortgages for properties being constructed by Emaar in Egypt. The company entered the Egyptian market after concluding that Egypt’s mortgage legislation is compatible with sharia projects.

Almak sees huge potential in the Egyptian market. Approximately 90% of the population is Muslim. It estimates that there is a 2.5 million deficit in housing units and that there could be demand for 350,000 new units every year. It plans to offer ijara and istisna mortgages to meet this demand.

Such estimates highlight the huge potential benefits of the Egyptian personal finance and banking markets, particularly for Islamic financiers. But the country presents huge challenges for any bank, Islamic or otherwise. The vast majority of the population has no contact with any kind of banking whatsoever. According to one estimate, less than 10% of the 80 million Egyptians own a bank account.

The market is not only underdeveloped, there is also a widespread suspicion of Islamic finance, which is a long running hangover from the bankruptcy of Al-Rayyan Islamic Investments in 1987 with losses of LE1 billion. Al-Rayyan, described in a court case as a pyramid scheme, had marketed itself as an Islamic scheme. A related difficulty is that the concept of profit and loss sharing and the mutual approach to risk, which are the supporting principles of Islamic banking, are not well established in Egypt.

Another significant barrier to contemp-orary Islamic financial products is the continued echo from a dispute over what actually constitutes Islamic banking. In 2003, Grand Mufti Mohammed Sayed Tantawi of the Al-Azhar’s Islamic Research Center issued a controversial fatwa which recognised that money loses its value through inflation and that interest paid as a profit sharing tool was not the same as usury and was therefore permitted. This allowed conventional banks to claim that they operated according to Islamic principles. This ruling, however, was not accepted by the mainstream Islamic finance regulators.

Egyptian companies still find it hard to achieve the strict criteria on debt equity ratios to be properly accredited as sharia compliant. This is creating problems for the new Islamic mutual funds, which have to invest according to internationally fixed standards.

While this region takes it is time to overcome these and other obstacles to trade, North Africa remains behind others with Muslim populations.

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ايقيرفالامشةـيـلاـمـشـلااـيـقـيرـفاناـكـسةـيـبـلاـغنانـممـغرـلاىـلـعتــلـظةــقـطـنـمـلاكــلـتلودناالا،نــيـمـلـسـمـلانــمعــمو.يــمالــسالالــيوــمـتـلاةرــكـفلوــبـقـلةــعـناــمـمعـــضاـــخـلاراـــمـثـتـسالاىـــلـعلاـــبـقالاناـــفكـــلذضرـفـيذـخا،ةـيـمالـسالاةـعـيرـشـلاماـكـحاوءىداـبـمـلىـــلـعوةـــيـمـسرـــلاةـــيزـــكرـــمـلافراـــصـمـلاىـــلـعمـــظـنـلاةدـــحنـــمنـــيـلـتنا،اـــضـياتاـــموـــكـحـلافراــصـمـلاتــمدــقاثــيـح،.ةــمـيدــقـلاةــيـفرــصـمـلاتاروـطـتعـمقـفاوـتـتتاراـمـثـتـساىـلـعةـقـطـنـمـلايـفةـمـهـمتارـيـيـغـتتـظـحوـلدـقو.ةـثـيدـحـلاقاوـسالا.ةيفرصملااهتالماعتبيلاساىوتسمىلع

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The French Government was initially sceptical about Tayssir Bank, the

brainchild of Syrian-born businessman Fehmy Saddy, President of Switzerland-based FS International Partners. It feared that the bank might be a way of financing terrorist activities. But it is now fully supportive, not least because the bank could contribute to the solution of some of France’s most intractable social problems – the poverty of Muslim minorities in the banlieux.

“We will help to finance small units and apartments for low income people,” says Saddy, who describes Tayssir as “a retail bank, a mass market bank for people who will use its services. It will be a community bank, to help with credits and to benefit people.”

Although Tayssir has been granted a licence from the Bank of France, there is, strictly speaking, no legal framework for Islamic banking in the country. Instead, Saddy has had to negotiate a way through the country’s famously strict secular legislation. The bank will not define itself as Islamic, but will offer “ethical products based on sharia.” In this way, says Saddy, the bank can take advantage of legislation for crédit mutuel institutions that is hundreds of years old, or community banks which do not charge interest.

London callingGordon Brown, the UK’s Chancellor of the Exchequer and the man most likely to be the next Prime Minister of Britain, has been assiduous in courting Islamic financiers.

He has boldly stated that the Treasury’s policy is to “make Britain the global centre for Islamic finance… London can be the location of choice for emerging markets -- from India and China, to Eastern Europe, and the Middle East and Muslim countries all over the world.”

The Chancellor has legislated enthusiastically to achieve this aim. This year, the Treasury is looking to place domestic sukuks on the same footing as conventional products, by extending the principle of capital gains tax to accommodate them. Legislation for Home Reversion plans (HRs) and Home Purchase plans (HPPs), also known as Islamic mortgages, is also coming into force. In his March 2006 budget, the Chancellor issued guidance on diminishing musharaka and takaful. In 2004, his decision to remove double Stamp Duty on Islamic mortgages was described by Dr Ahmad Mohamad Ali, President of the Islamic Development Bank as “the most positive step in the field of tax neutrality for Islamic finance in the European Union”.

2004 was the same year that the UK’s Financial Services Authority approved Europe’s first fully fledged Islamic retail bank, the Islamic Bank of Britain. Most UK high street banks now have Islamic services. Both Lloyds TSB and HSBC offer Islamic current accounts, car leasing and home loans. West Bromwich Building Society, located in a part of the country with a large Muslim population, offers Islamic child trust fund savings accounts.

Solid progressWith the largest Muslim population in Europe, France is a potentially lucrative market for Islamic banking, writes Jack Hamilton

The willingness of the UK’s finance minister to directly approve sharia compliant legislation has placed the country firmly in the forefront of market development. “The initiatives taken by the UK Government could serve as the model for other countries, not only in the West but also for some OIC countries, for providing a level playing-field for Islamic finance,” says the IDB’s Dr Ali.

Building bridgesOne aim of the Government’s support for Islamic banking is to cultivate stronger trading links between the UK and the Muslim world. But the sector also presents significant opportunities for UK businesses in Europe. With approximately 12 million Muslims living principally in France and Germany, London’s Islamic financiers look towards Europe as the natural place to extend their businesses. Thanks to single market legislation, banks licensed in London can market their products throughout the European Union without applying for further permissions.

The European Islamic Investment Bank, the second fully Islamic bank to be licensed in the UK, says it is already looking for mandates for European borrowers. In January 2007, Qatar Islamic Bank announced plans to increase its exposure to European markets. It is applying for a UK licence for a joint venture named Europe Finance House. The bank, which manages real estate funds in France and Germany, will put up 51% of the capital of the US$50 million project.

Meanwhile, thanks to its size and sophistication and its already strong financial links with the Middle East, the City of London has quickly established itself as an important centre in the trade of sharia compliant funds. UK trade with Arab countries has grown 60% over the last six years. Almost by accident rather than design, the world’s first secondary market in sukuks also opened in the City of London in early 2007, following the stampede of UK based

Gordon Brown has stated that the Treasury’s policy is to “make Britain the global centre for Islamic finance”.

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The French Government is now fully supportive of Tayssir Bank, not least because the bank could alleviate the poverty of Muslim minorities in the banlieux.

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hedge funds into Dubai based property developer Nakheel Group’s US$3.5 billion issue in November of the previous year. This has given the city an edge in its competition with rival financial centre Dubai, which up until now has seen more sukuks issued than anywhere else. However, investors in Dubai have historically held onto their investments rather than traded them, and for this reason a secondary market has yet to develop there.

According to one estimate, the value of trades in London’s sukuk market rose from almost nothing in December 2006 to approximately €1.5 billion in January 2007. In terms of the size of the global market this represents a sizeable slice. The value of sukuks issued on the entire international market outside Malaysia more than doubled during 2006 to a total value of around US$35 billion.

Could be biggerBut dramatic as this growth appears, it is not close to meeting potential demand. John Sandwick, Managing Director of Encore Management, a Geneva based wealth management company and specialist in Islamic finance, puts the size of the market in perspective by sizing it up next to the market for conventional bonds. “Compare that to the $25 trillion or so issued and outstanding just in the United States,” he says. “When you’re talking about potential demand in the hundreds of billions of dollars, you’ll quickly realise just how small the total issuance of new sukuks really are, and how far traditional and Islamic banks must still go to fulfil the Islamic wealth manager’s objectives.”

Sandwick is not only concerned that the supply of good Islamic investments is still far too small compared to global demand. He also fears that Islamic finance has become an excuse for banks to make greedy returns on uncompetitive investments. “There are not a lot of good assets in the market. People are crying out for anything Islamic. But the fees are unbelievable.” He warns that “a lot of European Muslims will not use Islamic banking until it is equal with non-Islamic banking.”

He is not the only one worried about this. In January 2007, Deutsche Bank published a white paper describing a model investment structure for sukuks with the aim of alleviating supply shortages.

Europe’s first sukuk was issued by the Government of the German Lander of Saxony-Anhalt to refinance its depleted budget. Back then, one might have been forgiven for thinking it was a gimmick, with the Lander rejected a conventional bond in favour of a sukuk as a marketing plo, in the hope of attracting potential investors from the Middle East to establish their businesses in the province.

The European market for Islamic finance is still tiny, but it has come a long way in a short time and offers a good prospect of more competitive products.

The City of London has quickly established itself as an important centre in the trade of sharia compliant funds.

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طسوتملاضيبالارحبلاضوحوابوروا،ىـتـشاـبورواءاـحـنايـفنوـمـلـسـمـلاناـكـسـلاىدـبااـهـمدـقـييـتـلاتاـمدـخـلالوـح،ةـنـياـبـتـمتاـماـمـتـها.يمالسالاليومتلا

ةرــيـغـصةــيـمالــسالاةــيـلاــمـلاقوــسـلالازــتالاــمـبرتـعـطـقاـهـناالا،اـهـتالداـبـمواـهـتالـماـعـتيـفمـجـحـلااـمـك،اـيـبـسـنةرـيـصـقةـيـنـمزةدـميـفةرـيـبـكاـطاوـشاىدـمـلايـفحاـجـنـلااـهـلعـقوـتـيتاـجـتـنـمضرـعـتاـهـنا.روظنملا

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The growth of Islamic finance, however, has courted controversy, as evidenced

in India in February this year. The decision of Prime Minister Dr Manmohan Singh to establish a committee to examine the feasibility and legal aspects of establishing the country’s first Islamic bank prompted sharp reactions from parliamentary deputies.

Some members of the opposition Bharatiya Janata Party (BJP) moved quickly to state their opposition to any such proposal. One of the strongest reactions came from Mukhtar Abbas Naqvi, a senior BJP figure who said: “A bank called Islamic Bank is not going to help the Muslims. We oppose it.” However, comments from other BJP sources suggested that some opposition was focused on suggestions that the Indian state might provide government financing for such a venture. Spokesman Prakash Javadekar said that this idea was “preposterous”, although he added that the party would not object to a private venture.

For or against?The ruling Congress Party, however, has aligned itself in favour of the project, which was originally proposed by one of its deputies, Rehman Khan, Deputy Chairman of the Planning Commission in the lower house of parliament. Khan led a committee of Muslim MPs to petition PM Singh to consider the idea. “If anyone has an objection to the word Islam, remove the word. But let things move forward,” suggested Rasheed Alvi, a Congress Deputy for Andhra Pradesh.

India has a Muslim population of approximately 150 million who could benefit from an Islamic bank. Supporters of the idea say that it would be developed according to the model already successfully established by Malaysia’s Tabung Haji or Pilgrim Fund Board. This was set up to enable Muslims to save money to fund their lifetime pilgrimage to Mecca in Halal investments. The Bank of India rejected a similar proposal in 2005.

Growing fastWhile India mulls over whether to have Islamic banking at all, the sector is rapidly advancing in neighbouring countries. The whole of the South Asia region is a potentially massive market for interest free banking, even in some of its poorest areas. Islami Bank Bangladesh, founded in March 1983 as the first Islamic bank in South-East Asia, has managed to avoid many of the pitfalls of non-performing loans which have plagued the general banking sector of the country. Bangladesh has a predominantly Muslim population of 147 million. Pakistan, also predominantly Muslim, has a population of 166 million. The sector there has recently enjoyed a resurgence, following years of foot-dragging and confusion. [see sidebox]

By December 2006, four Islamic banks were operational on the Pakistani market and two more were applying for licences. Twelve conventional banks had also begun to offer Islamic products, with more coming into the market.

Taking the leadDemand for Islamic finance is growing across South Asia, both in Muslim and non-Muslim countries, writes Jack Hamilton

The State Bank of Pakistan (SBP), which is the central bank and regulator of the sector, has established a strict regulatory framework specifically for Islamic financial institutions. It has set a minimum capital requirement of US$67 million which will rise in steps to reach US$100 million in 2009. It also insists on a public offering of at least 50% of the shares of any Islamic bank within two years of its foundation.

“The SBP has adopted a system under which it has allowed three types of Islamic banks to operate. We have allowed fully fledged Islamic banks, subsidiaries of conventional banks, or stand-alone windows. We have introduced a comprehensive sharia compliance mechanism, which is flexible,” says Pervez Said, director of the SBP’s Islamic Banking Department.

However, the way that the SBP has established the Islamic banking regulations alongside those of conventional banking has raised some questions about the extent to which the sector complies strictly with sharia. “This is not Islamic banking in the real sense because the spirit of sharia is not observed. In practice, nowhere in the world is there a model Islamic banking system. If you see the international literature on Islamic banking, it has become a mockery,” says Dr Shahid Hassan Siddiqui, a Senior Economist and Chairman of the Karachi-based Research Institute of Islamic Banking and Finance.

Even so, the growing number of institutions queuing up to enter this market is a major advance for what is the biggest market in the region. The economy has grown steadily for the past three years. A report compiled by regional financial adviser Anjum Asim Shahid Rahman (AASR), an affiliate of the Grant Thornton group, estimates that the value of advances and deposits in the sector as a whole (including conventional banks) increased by 20% and 18% respectively between 2001 and 2005, while assets enjoyed compounded annual growth of 17%. The size of the mortgage and car finance markets doubled during 2006 thanks to burgeoning demand from the new urban middle class. The already diversified national housing loan portfolio will double within three years.

Pakistan became the first Muslim country to officially declare modern bank interest forbidden in accordance with the Qur’an.

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Bangladesh has a predominantly Muslim population of 147 million.

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Taking over?Although conventional banks are still the most important beneficiaries of this economic growth, the Islamic banking sector is going to take an increasingly larger share of it in future years. AASR found that, in 2005, the Islamic banking sector grew faster than the conventional sector for the first time and the company’s report said this trend would continue. “The overall potential for Islamic banking is huge in Pakistan and sharia principled banks are expected to grow at a much faster pace than conventional banks,” it concluded.

The evident prospects of the market and the potential of Islamic service providers to take a major share of its growth have prompted an influx of new capital, much of it from Gulf Co-operation Council investors who have invested in, or established, banks or subsidiaries over the past few years. These inflows have become a further driver for the continued expansion of the sector. Notable entrants to the market include Dubai Islamic Bank, Crescent Commercial Bank, partially financed by Doha Bank of Qatar and Saudi Pak Commercial Bank, a subsidiary of SaudiPak Industrial & Agriculture Investment Company (SAPICO), which is the result of a joint venture between the governments of Saudi Arabia and Pakistan. Other internationally supported institutions include Bank Al-Falah, which is supported by Abu Dhabi Group, the single largest foreign investor in Pakistan, and Faysal Bank, which is supported by the Dar Al-Maal Al-Islami Trust, an Islamic finance company with operations in Bahrain, Egypt and Pakistan.

Qatar Islamic Bank has also said that it wants to get into the country’s fast expanding Islamic banking sector, which it sees as a crucial part of its strategy to establish itself firmly in the Asian market. The bank says it plans to focus its efforts on attracting large to medium-sized enterprises

and middle class households (owning assets valued between US$5,000-12,000 per head) in the largest cities such as Karachi, Lahore and Islamabad.

The growth of the sector really began to take off in 2002, when the SBP awarded the first commercial Islamic banking licence to Al-Meezan Investment Bank, more than four years after the bank was first established. Soon after that it secured the mandate as Sharia Structuring Adviser for the Pakistani Government’s debut international sukuk, valued at US$500 million. More recently, the bank has brought takaful to the country in co-operation with the Pak-Kuwait Takaful Company. This January, the bank’s asset management subsidiary, Al-Meezan Investment Management Limited announced the public offering of Pakistan’s first Islamic Income Fund, Meezan Islamic Income Fund (MIIF). The bank says it plans to double its branch network in 2007.

With growth showing its ability to overcome occasional political differences, Islamic finance seems capable of sustaining its impressive development across numerous sectors.

New perspectives

Since 2006, the State Bank of Pakistan has been awarding licences exclusively to Islamic banks. This represents a major change of heart for the state which, for many years, paid lip service to the ideal of creating an interest free banking system, while in practice doing little to bring it about and often hindering the objective.

Pakistan has indulged in a lengthy debate about the correct way of running Islamic banks. Sharia compliant finance first became a reality in the country in 1980 when the then president, General Zia-ul-Haq, introduced legislation to support the issuance of mudarabah loans to finance corporate projects. Other Islamic financial products followed soon after.

This process of Islamification became bogged down in conflict and confusion in the early 1990s following a decision of the Federal Sharia Court (FSC) that certain key banking procedures were “un-Islamic”. The subsequent legal contest culminated in a landmark decision of the Sharia Appellate Bench of the Supreme Court of Pakistan in 1999 when it demanded that the government remove all laws involving interest and that it establish a special body to achieve complete Islamification of the financial system.

At this moment, Pakistan became the first Muslim country to officially declare modern bank interest forbidden in accordance with the Qur’an. It was a historic decision, hailed at the time by supporters of Islamic banking as “a momentous event, as big as the creation of the country itself”. However, important as it was, the major implications of the decision have until now been avoided and the decision was nullified by subsequent events.

In 2002, the Supreme Court rescinded its own decision. A year earlier, the Government had announced a policy of moving gradually towards an interest free banking system, so as not to cause disruption. This cleared the way for the State Bank to issue detailed criteria for the licensing of Islamic commercial banks in the private sector. The result of this is that conventional banking still exists, while Islamic finance has made only slow, if steady, progress towards the mainstream. At the end of December 2006, the assets of Islamic banks in Pakistan totalled approximately PKR109 billion (US$1.8 billion) which amounts to just 2.8% of total industry assets according to the SBP.

Now the Government has made the encouragement of Islamic banking and insurance one of its top priorities, and the SBP is denying licences to conventional banks in favour of Islamic ones. But although the process of establishing new Islamic banks may have speeded up considerably and many conventional banks now offer Islamic services, the day when Pakistan has an exclusively sharia based financial system is still a long way off.

“If anyone has an objection to the word Islam, remove the word. But let things move forward,” suggested Rasheed Alvi, a Congress Deputy for Andhra Pradesh.

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ايسآبونجأدـب،ةـيـمالـسالاةـيـلاـمـلاتاـمدـخـلاىـلـعبـلـطـلانإةــقـطـنـميــفةــمـلـسـمرــيـغوةــمـلـسـملوديــفدادزــيعاـفـترالايـفوـمـنـلاذـخانـيـحيـفو.اـيـسآبوـنـجلـــيوـــمـتـلاناـــف،ةـــيـساـــيـسـلاتاـــفالـــخـلاءاوـــتـحاوىـلـعةردـقـلاىـلـعهـتـهـجنـمرـيـشـيأدـبيـمالـسالارــبـعروــطـتـلـلباــجـعالــلةرــيـثـمتاــيوــتـسـمءاوــتـحا.ةقطنملايفةددعتمةيراجتتاعاطق

Regional & Country profiles

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South-East Asia has two large Muslim dominated countries, Malaysia and

Indonesia. Islamic finance development in the region is concentrated in these two, in Singapore, and, to a limited extent, in the small Borneo nation of Brunei Darussalam.

Much the most developed of these markets is Malaysia (see sidebox). Among the more sophisticated of South-East Asian financial markets – it has, for example, one of the most liquid and vibrant local currency bond markets in the region – Malaysia realised early on that Islamic finance represented an opportunity not only for the development of a domestic sector, but also for the country to position itself as an international hub. The launch of the Malaysian International Islamic Financial Centre (MIFC) in 2006, a framework that allows foreign banks, insurers and intermediaries to operate Islamic businesses out of Malaysia, has been the most recent example of that ambition. The country has also launched training institutes to help foster human capital, and has succeeded in attracting sukuk issuance not only from its domestic institutions but also from overseas institutions, most recently in Japan.

Different prioritiesIndonesia is the region’s (and the world’s) most populous Muslim nation, but development of Islamic finance in that market has been rather less cohesive, mainly because the country–

certainly at an earlier stage of development than Malaysia – has a great many other priorities than the development of a new financial sector. However, as in Pakistan, there are signs of a suitable framework being put together and there is optimism that Indonesia could become a major centre for Islamic banking in the future. The Governor of the central bank, Bank Indonesia, announced in December a programme designed at accelerating the sluggish pace of sharia development, and the country is expected to issue sukuk domestically in the course of 2007 (see sidebox).

Taking advantageSingapore has addressed Islamic finance opportunistically. The island state does have a Muslim population, and has close historical links with Malaysia, but is by majority a state of Chinese people. It is, however, highly ambitious and is attempting to cement its growing reputation as a global financial centre. Singapore’s leaders have recognised that to become such a centre, it needs to create an environment where all forms of finance can be practised easily and efficiently.

Broadly speaking, Islamic finance is regulated under the same supervisory and prudential standards as conventional banking. Within that, though, the Monetary Authority of Singapore (MAS) has made some amendments. In 2006, it announced

Room for improvementThe South-East Asia region has mixed levels of sophistication in Islamic finance, says Chris Wright

plans to allow murabaha transactions. It says it is “seeking to align the tax treatment of Islamic contracts with the treatment of similar conventional financing contracts,” which levels the playing field, but even that is less of an accommodation than in places like Malaysia, where a ten year tax exemption was introduced for Islamic banks earlier this year. The MAS also allows conventional banks to offer Islamic banking products and services through separate windows.

It says that over S$500 million of takaful funds are under management in Singapore, and about $2 billion in sharia compliant real estate funds. Singapore also launched the first sharia compliant pan-Asian equity index in February 2006, and has joined the Islamic Financial Services Board as a full member. But there has yet to be a sukuk issue launched at a national or banking level, and unlike many other centres, it does not have a sharia regulatory body.

At the centreBrunei’s leaders have increasingly been talking about their country as a centre for Islamic finance and funds management, given the state’s economic and political stability (it has great oil wealth and is not a democracy).

Brunei issued its first Islamic bond in March 2006, and has a short-term sukuk al-Ijarah programme at a Government level; in February 2007, it issued B$90 million in 91-day Islamic securities, the fifth issue under the programme. Bank Islam Brunei Darussalam has also launched corporate sukuk.

Brunei already has an International Finance Centre, established in 2000, and while Islamic finance is not the only thrust of the centre, it is part of its mandate, particularly on the funds management side. It is in Brunei’s interests to set itself up as

Singapore’s leaders have recognised that to become a global financial centre, it needs to create an environment where all forms of finance can be practised easily and efficiently.

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Indonesia is the region’s and the world’s most populous Muslim nation.

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Environmentally, the provision of utility services can be viewed in a negative

light with a focus on the damage caused by the abstraction of water and emissions produced in the making of electricity and the burning of gas. More and more the focus of the world’s environmental lobby is directed at the development of cleaner and greener methods for providing the energy and water needed by the world’s economy.

Given the ingenuity of mankind and the present focus on these issues, a solution will be developed. However, this will take time. What is needed today is the implementation of improved management control and conservation techniques to give the time necessary to develop long-term solutions to the problems that the world faces.

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The adoption of such measures can be regarded as a “win win” situation. The

The essential role of metering in managing the world’s resources

consumer using energy at off peak times means that peak loads are reduced and the new power station will not be required. This benefits the environment in a number of ways, but also means that the utility does not have to fund the construction of such a power station or water treatment plant. Some of the savings can be passed on to the consumer in reduced tariffs and more money is available for additional system improvements that further enhance the environmental impact of the initial saving.

As the world’s leading provider of utility metering, metering systems and metering data for Water, Electricity, Gas and Cooling, Actaris are uniquely placed to be able to provide the information necessary to effect such changes.

Accurate and cost effective metering information can be used:

• To identify system losses in transmission and distribution systems.

• To determine the cost effectiveness and impact of new energy and water generation and production

• To provide accurate and timely consumption information to consumers and utilities.

• To allow the implementation of more complex and adequate tariff structures aimed at shifting consumption to off peak periods, and inform consumers of better ways of consuming energy and water using pricing signals.

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Actaris Metering Systems

As well as manufacturing meters, Actaris and our partners are committed to providing a range of systems and services that ensure that the meter data is made available when and where it is needed to have the greatest effect.

From the ACE8000 Power Grid meter and systems deployed for Generation, Transmission and Distribution metering to the Cyble RF Automatic Meter Reading system for residential water and gas consumers as well as prepayment systems, Actaris have a solution that will gather the data necessary to make a positive impact upon the environment, offering savings to both utility companies and consumers along the way.

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Regional & Country profiles

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Malaysia – in the driving seat

Malaysia has by far the most sophisticated regulatory environment for Islamic finance in Asia, and probably the world. At the highest level, from the Prime Minister to the central bank Governor to the finance ministry, there is a belief that Islamic finance represents an opportunity for the country, and a lot has been done to support its development. As a stable Muslim nation with an advanced financial system, it is well placed to take advantage of growing interest in the sector.

Sharia compliant assets already account for about 13% of the total banking market, with rates of growth that have hovered around the 20% mark annually for six years. Bank Negara Malaysia, the central bank, hopes that 13% will become 20 by 2010, and it is on track to achieve this. But it’s in the capital markets that the clearest signs of success can be found. Bank Negara says that around half of all outstanding bonds are sukuk, and 75% consists of new issuance, according to Standard & Poor’s. Takaful is not so entrenched – it accounts for 6% of the market – but recent issues of new licences should push that proportion up further.

Malaysia’s desire to stabilise and supervise its emerging sector is epitomised by its measures relating to sharia scholars. The country has a national sharia board, advising both Bank Negara and the Securities Commission, as well as a requirement that each Islamic bank has its own supervisory sharia committee. Uniquely, though, Malaysia insists that no scholar can serve on more than one bank board. Some, particularly in the Middle East, consider this restrictive and a restraint of trade for the scholars themselves. But Malaysia’s perspective is that not only does it lend the sector credibility by avoiding conflicts of interest, it also helps to generate new scholars.

The issue of human capital caught Malaysia’s eye early, and it has developed institutions specifically to bring on qualified professionals. It set up the International Centre for Education in Islamic Finance (INCEIF), funded by Bank Negara, and already has 800 students enrolled; it is, says RHB Islamic Chief Executive Khalid Bhaimia, “the first time in my life I’ve seen a university come out in six months.” The Islamic Banking and Finance Institute Malaysia is another training institution, and Kuala Lumpur is home to the Islamic Financial Services Board, though that organisation is multilateral.

Having proven the possibilities of Islamic finance domestically, Malaysia has its sights set on being a global hub, and so set up the Malaysian International Islamic Finance Centre in 2006, allowing Malaysian Islamic banks and takaful houses to set up international currency business units, and offering licences to foreign institutions. Bank Negara Governor Dr Zeti Akhtar Aziz says the initiatives “will serve as a catalyst in our efforts for Malaysia to become a centre of origination, issuance and trading of Islamic capital market and treasury instruments, Islamic fund and wealth management, international currency Islamic financial services, and takaful and retakaful.”

Malaysia had already given licences to three foreign banks wanting to practise Islamic finance: Al Rajhi Bank, Kuwait Finance House, and Asian Finance Bank. At the time of writing, KFH was locked in a bidding battle for Malaysian financial group Rashid Hussain, with ambitions to turn it into a regional Islamic finance powerhouse.

an Islamic hub, since the country needs to find ways to diversify revenues away from its finite oil supplies.

It is often said that interpretations of sharia law are more liberal in South-East Asian nations than in the Middle East, and this continues to represent an obstacle to a more homogenous global approach to Islamic finance. Malaysia’s central bank, Bank Negara Malaysia, has attempted to resolve this problem by making its new MIFC secular when it comes to sharia interpretations. From a product perspective, it is a little easier to develop and market innovation in these markets than in places like Saudi Arabia, where customers take a stricter view of what constitutes sharia compliance.

Solid foundationsIslamic finance in all South-East Asian markets is underpinned by the strong economic growth the region is enjoying. Citigroup forecasts 6% GDP growth for Indonesia in 2007, 5.7% for Malaysia and 5.6% for Singapore. As the wealth of Muslims grows, demand for Islamic banking services grows with it, suggesting the extraordinary growth levels experienced by many Islamic banking markets in recent years are sustainable for a while yet.

It is in Brunei’s interests to set itself up as an Islamic hub, since the country needs to find ways to diversify revenues away from its finite oil supplies.

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Indonesia – opportunity lost

With 220 million people, 85% of them Muslims, Indonesia should be the most promising market for Islamic finance. So far, though, it has yet to grasp the opportunity provided by its national religion.

Whereas other South-East Asian nations, notably Malaysia, have put great effort into streamlining their regulatory codes to accommodate Islamic banking, Indonesia has yet to do so. Partly this is simply a question of priority: there is much to do in Indonesia’s financial sector and Islamic finance is not as vital as conventional banking sector reform, bad loan resolution and the devolution of responsibility from federal to regional governments, for example. “It’s partly a function of economic and banking system maturity,” says Adam Le Mesurier, a Regional Strategist at Goldman Sachs in Singapore. “Indonesia is by and large still a low income country, whereas Malaysia is mid-income. But I’m sure they will be looking at it.”

There are signs that Indonesia is making tentative steps towards developing Islamic finance. It was reported in January 2007 that the Government would ask the House of Representatives to remove some taxes from state backed sukuks, as part of the broader amendments to the Law on General Provisions of Tax Guidelines.

Indonesia’s finance ministry has also said it plans to launch its first sukuk at a sovereign level in the domestic market during 2008.

Most significantly, in December 2006, the Governor of Bank Indonesia (BI), Burhanuddin Abdullah, launched a programme called “Syariah Banking Development Acceleration”, arguing that “a greater role of the syariah banking in national banking is believed to contribute positively to national economic development.” Specifically, the programme seeks to do six things: strengthen institutions, help product development, promote education, improve the legal framework, develop human resources, and strengthen bank supervision. BI has published a dictionary of Islamic finance terminology to help familiarise customers with the vocabulary, and is supporting the implementation of a certification regime for sharia banking managers.

BI points to 33.8% growth in Islamic banking assets in the country in the year to October 2006, though that’s from a low base and brings the total to Rp25.06 trillion (US$2.7 billion) – less than has been raised in some individual global sukuk transactions. Sharia banking’s share of the national banking industry is 1.54%.

While the central bank’s suggestions sound promising, it is worth recalling that it has had an impressive, glossy and far reaching blueprint for Islamic banking development in circulation since September 2002, without much progress having been made yet towards its goals.

ايسآقرشبونجوــه،اــيـسآقرــشبوــنـجةــقـطـنـمزــيـمـياــممــهانا؛اـهـتـيـفرـحو؛اـهـسرـمـتو؛اـهـتـكـنـحتاـجردنـياـبـتقاوـسادوـجوعـم،يـمالـسالالـيوـمـتـلالاـجـميـف.ايسينودناو؛ايزيلاميفادجةروطتم

نـــيـتاـــهحاـــجـنيـــفرـــظـنـلادـــيـعـتةزـــيـمـلاهذـــهناكــلذــك.ةــنـمـيـهرــثـكالانــيـتـمـلـسـمـلانــيـتـلودــلاياـنورـبةـلودو؛ةروـفـغـنـسنـعةرـيـصـقةـحـمـلءاـطـعا.مالسلاراد

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11-13 Jumad Awwal 1428H28-30 May, 2007Dakar, Senegalfor the Islamic Development Bank Annual Meeting

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