islamic movements in finance banking

Islamic Financial Movements: Midwives of Political Change in the Middle East?

by

Clement M. Henry

University of Texas at Austin

Department of Government

BUR 536

Austin, TX 78712-1087

[email protected]

A paper prepared for the 2001 Annual Meetings of the American

Political Science Association, Hilton San Francisco and Towers,

August 30 to September 2, 2001.

Copyright by the American Political Science Association.

Clement M. Henry, Islamic Financial Movements, page 1

Abstract

Islamic banking has acquired a degree of acceptance, institutionalization, and small but significant shares of the commercial banking markets in a number of Muslim countries. It is allowed greater freedom than Islamist political movements in most of these countries. Relationships are complex, however, between the respective governments, Islamist oppositions, and Islamic banking establishments. This paper discusses conditions under which the Islamic financial movements might effectively mediate between governments and oppositions and thereby encourage tendencies toward more political pluralism within the incumbent regimes.

The regimes in question are all "authoritarian," with the exception of

Turkey, but they tolerate pluralism in varying degrees, depending largely on the relative strength of their respective private sectors that underpin civil society. In some of the Muslim countries the Islamic banks associated with Islamic business communities constitute significant parts of these private sectors. This paper seeks to discover the thresholds of private sector activity that may be needed under different political conditions for Islamic finance to moderate Islamist political movements and encourage greater political pluralism. Below the threshold, however, Islamic finance may still indirectly encourage political pluralism by supporting those elements of the regime that are committed to economic reform.


Like social movements, Islamic finance mobilizes resources (deposits, many of which might otherwise stay under people's mattresses) and "frames" the identities of the participants in common, specifiable, distinctive practices. It also enjoys better access in most MENA countries to government and business elites than other "Islamist" social movements. The world of Islamic finance may appear at first glance to be far removed from the rough and tumble politics of most MENA states. Its apparent marginality, however, also offers some protection. In illiberal states the financial field still enjoys a degree of autonomy that is not accorded to political parties, formal NGOs, and other bodies associated with official decision-making. Most, although not all, of the MENA states are illiberal, but they tend to be less closed financially than they are politically. Some of them tolerate Islamic banks as part of a strategy to legitimate themselves.

By "Islamist" here is meant a determination to transform the present state of the world or some aspect of it to accord more closely with the principles of Islam. Financial practices may be a very limited aspect - and rather less provocative for some Muslim and Western audiences than wearing beards or veils. Dress codes attract attention and, rightly or wrongly, may be taken to express more radical, totalistic aspirations for social change than arcane financial practices. As Vogel and Hayes observe, however, "the surge in Islamic banking and finance is part of the much larger phenomenon of Islamic reassertion" (1998: 21).

Finance, indeed, gets to the root of social and economic change by articulating relationships between states and business communities. It is often forgotten, as a recent student of Mexican banking laments, that markets and power are fungible (Auerbach p. 23). Max Weber once explained how in his native Germany at the turn of the last century banker oligopolists converted their market power into seats on boards of directors (Weber 1978: 943-944). Rockefeller's oil monopoly was another of his favorite examples, but Weber never carried the analysis further to buttress with structures and institutions his ideational arguments about the affinities of the puritan ethic for capitalist development. This paper will pursue the inquiry, since Islamic finance offers a ready-made and recent set of institutions.

As the late Ernest Gellner observed, following Max Weber, Islamism is indeed a form of puritanism. In Muslim Society (1981) and in earlier essays he argued that there were striking parallels between orthodox urban Islam and Christian puritanism. Each tradition was scripturalist, enabling any literate individual direct access to divine revelation without any intervening earthly or spiritual hierarchies. The major difference between Islam and Christianity is that Islam was born puritan whereas the Christian puritans emerged much later to attack a central church hierarchy. Puritanism is part of Islam's mainstream orthodox whereas it is a deviant protest movement outside the Christian Church. Martin Luther, John Knox et al attacked the priests, icons, and angelic intermedaries - all part of a great chain of hierarchical being adapted from Aristotle. The zealous puritans transformed the chain of being into a chain of command (Walzer 1965) and generated the first mass political parties in England and Holland in the seventeeth century.

If we follow Gellner's analogy, Islam was born reformed and has constantly re-experienced puritan uprisings to rid the cities of corruption and religious slacking off. Modern Islamism fits into this tradition of revolt against corrupt authorities, including ulama who collaborate with illegitimate rulers. In Algeria, for instance, Gellner perceived the religious reformist movement of Ben Badis to have been the driving force behind the Front


of National Liberation (FLN) that fought the French and ruled independent Algeria until recently. This sort of radical Islamism, in his view, was progressive and perfectly compatible with - indeed the principal moral force behind - Algerian industrialization. Very self-consciously in the tradition of Max Weber, Gellner viewed lslamic reformism - what we call "Islamism" today - as sharing the same affinities for capitalist development as the Protestant ethic.

To follow up on this analogy, however, we need to identify an Islamist bourgeoisie rather than just let the state do it, as Gellner seems to have expected of Algeria. Islamic finance offers the requisite marker to fill in the missing structural link in the Muslim tradition that neither Weber nor Gellner ever identified for Protestant business in the Christian tradition. While politically Islamist bourgeoisies do not necessarily work with Islamic financiers, these bankers offer a politically neutral definition of Islamism that is more likely to prosper in illiberal regimes than more overt forms of political Islamism. They carry. too. a distinct set of business practices that may resonate better than conventional finance with Muslim publics.

This paper also addresses the broader question of the conditions needed for an autonomous bourgeoisie or business community to emerge. Can it exercise influence either indirectly, reflecting structural power, or by real voice and regime change? Some business communities have occasionally exercised decisive influence. In South Africa, for instance, big business backed the referenda that abolished apartheid. In Brazil business tired of the generals pushed for the "decompresion" of the late 1970s. Ultimately the progress of Islamic finance may require further political liberalization, but to what extent, conversely, can it be a catalyst for such political change? We will see that the movement has progressed furthest in the Sudan and in relatively liberal monarchies. But it is also tolerated in military bunker states such as Algeria and, by most recent reports, Syria.

The Islamic finance movement

Islamic bankers and economists would hesitate to call themselves a social movement but they appear to share a financial world view in which riba -- interest or usury -- is abolished while the time value of money as understood in contemporary financial theory is respected. Unconvinced Muslims as well as other critical outsiders observe that Islamic banks in reality keep interest but just call it by another name, such as commissions or profits (ribha). And indeed a principal form of credit extended by an Islamic bank, the murabaha, involves a simple markup on a sales price. The bank buys you a car for $30,000 and you owe the bank $33,000 a year from now, for example. This arrangement is perfectly acceptable from the standpoint of Islamic financial theory but looks to the outsider like a simple loan at 10% interest. Repaying by 5 yearly installments of $7913.92 would be equally acceptable and also implies an interest rate of 10%. Islamic bankers use financial calculators just like other bankers to compute present and future values of investments. Financial transactions modeled on the murabaha constitute well over half of the assets of Islamic banks. Contracts engaging clients to return fixed payments to Islamic banks apparently constitute from 80 to 95 per cent of the latter's credit facilities, or "investments" (Warde 2000: 133). Since any fixed return can be understood as implied interest, there seems little to differentiate Islamic from conventional banks. Indeed, as Ibrahim Warde observes, no definition of an Islamic bank is entirely satisfactory (2000: 5). He proposes a bank to be Islamic if run by Islamic


principles and, one might add (at least in most cases), a Shari'a Board of religious supervisors to vet the bank's policies.

The movement is hardly monolithic. From its origins in the mid-1970s there were philosophic disagreements between one of its pioneers, an Egyptian, the late Dr. Ahmad al-Najjar, who sought wider financial participation among the poorer classes, and his Saudi sponsor, who was deploying substantial capital to compete with other commercial banks. Commercial forces may have eased out the idealists, but there is still indeed some questioning about the Islamic legitimacy of the murabaha, though more so by Islamic economists than by the jurists who actually make the decisions about what is legally binding. Some of the more "purist" economists argue that the distinctively Islamic financial instruments are mudaraba and musharika, both of which involve profit-sharing. Mudaraba is a contract whereby the bank provides funds to an entrepreneur in return for a share of the profits, or all of the losses, whereas musharika - participation - is more akin to equity financing. An Islamic bank can also be conceived as a mudaraba whereby the depositors invest in the bank - or entrepreneur mudarrib - that in turn funnels investments into other mudaraba or other Islamically acceptable placements. Profit-sharing with variable returns and risk-taking are the distinctive characteristics of the Islamic financier. The purists criticize existing Islamic financial institutions as deviating from an Islamic ideal of venture capitalism. They note that Islamic banks currently allocate less than 10 per cent of their credit facilities or investments to these distinctively Islamic profit-sharing instruments. Some argue that any contract offering a fixed return is just like a loan at a fixed interest rate and hence is not Islamically acceptable.

The jurists, on the other hand, tend to think less theoretically and deductively than the economists. They reason case by case, on the basis of precedents and prior rulings in their respective juridical schools. The consensus is that murabaha is just as permissible, Islamically, as mudaraba or musharika, as long the contract meets certain conditions. The killer, in the above example of a murabaha, is that the bank actually has to own the car and sell it to the client, rather than merely advancing him or her the funds to pay the car dealer. The Fiqh Academy in Jeddah went on record in 1988 against the "artificial" murabaha whereby the bank never really owns the car (Vogel and Hayes 1998: 143). Islamic banks are hence caught in a dilemma. Commercial banks in many countries, especially under those historically influenced by British or American banking practices, are supposed to restrict themselves to the financial business of taking deposits, lending them out, and trading only in financial instruments. Yet the Islamic jurists insist that they be involved in the trading of the range of goods financed by their portfolios of murabaha. Otherwise they would be engaging in the "ruse" of artificial murabaha that is now forbidden. At least one Islamic bank apparently takes these injunctions quite seriously. The Jordan Islamic Bank for Finance and Investment inaugurated a bonded warehouse in 1999, just as it was celebrating its twentieth anniversary (21st Annual Report, p14). Almost half (45.7%, p. 56) of its financing and investments then consisted of murabaha (while mudaraba and musharika came to less than 3%).

Evidently the Islamic financial movement is attempting to adapt Islamic instruments originally designed for pre-industrial trade and handicrafts to a post-industrial global economy. Commercial banking already became a specialized industry in the nineteenth century, and European banking systems penetrated the Muslim world as well. Driven by


new technology and favorable deregulation by the United States and other industrialized countries, banking and finance became ever more specialized and relatively autonomous. In the latter half of the past century the growth in international financial assets has far outstripped that of any underlying investment and trade in goods and services. In this highly specialized world of international finance, with its dizzying rates of product innovation, conventional banks could not afford to build warehouses as well, even if commercial banking legislation permitted them to. The business of modern finance and banking is sufficiently challenging in its own right, and there are few synergies with other industries that the "real" non-financial one, such as the car manufacturer-dealer, is not better positioned to benefit from. The Islamic finance movement developed under the impetus of bankers, not car dealers - though at least one of the latter engaged in a phoney sort of "Islamic" finance in Egypt in the 1980s.

The movement may be at a serious competitive disadvantage with commercial banks, then, not least because of its lack of consensus on murabaha and many other matters. Each of the 186 or so Islamic banks (as indicated by the Directory of the International Institute of Islamic Banks) has its own advisory committee of Islamic jurists, and they issue rulings that are not always mutually consistent. Conventional banks like Citibank that have opened Islamic windows also have their religious advisory committees. Standardization is a major problem. For the movement to survive in the competitive financial world of the 21st century, the banks must be able to innovate and develop new instruments for both short-term liquid placements and long-term investments. Innovators need to know what is Islamically acceptable, yet any innovation faces a wide spectrum of legal opinion. If options (a discretionary contract to buy a good at a future time and price) are Islamically acceptable, for instance, then Islamic financial engineering can mimic virtually any instrument that a conventional financial institution can devise. Highly restrictive rulings, by contrast, could conceivably outlaw virtually all of the bread and butter murabaha trade financing in which the banks presently engage and preclude any significant innovation.

This paper cannot enter into the details of what might or might not be legal to various shari'a boards. Indeed, as Warde suggests, "legalistic concerns are only aspect, and probably not the most crucial one, of the real world of Islamic finance" (Warde 2000: 11). Eventually the financiers and their religious boards will make compromises with financial markets because these banks enjoy one major underlying competitive advantage, popular demand among pious Muslims for an alternative to interest-based savings accounts. Assets under Islamic financial management, currently estimated to be in the range of $200 billion (Abdullah Kamel, Chairman, Saudi Dallah al-Baraka Group, to Al-Hayat, December 5, 1999; cf. Warde 2000: 6), continue to grow by an estimated 10 to 20 per cent, especially in the wealthy Gulf states. Whether or not they build warehouses, the Islamic banks will n doubt muddle through despite inconsistent rulings and other obstacles to financial innovation. While few of them have become big enough "not to fail," the Muslim host governments will not let them. Accounting practices vary widely but the Accounting and Auditing Organization for Islamic Financial Institutions (AAOIFI), established in Algiers in 1990 and now based in Bahrain, finally issued its first set of standards in June 1998. In addition to the Fiqh Academy in Jeddah there are various other institutions engaged in the dialogue between bankers, economists, and jurists that are articulating a broad agenda for Islamic banking and finance.


First, at the core of the movement are two transnational groups that conduct their own dialogues: the Al-Baraka Group and the group of banks affiliated to Dar al-Mal al-Islami, a holding company controlled by Prince Mohammed Al Faisal, son of the late King Faisal. The Faisal group is also heavily represented in deliberations of the International Association of Islamic Banks, founded in 1977 under the auspices of the Islamic Bank for Development owned by the member states of the Islamic Conference. Outside the umbrella organization, Al-Baraka has held annual meetings since the mid-1980s to develop common understandings of proper banking practices among its affiliates. In addition many research institutions, in Europe and the United States as well as in the Muslim world, promote an academic discourse about Islamic financial institutions. In the United States the Harvard Islamic Finance Information Program, launched in 1995, has sponsored impressive publications and developed an important database. It also convenes annual conferences that contribute to the ongoing dialogues between academics and practitioners, jurists and bankers.

The most significant guarantee of Islamic finance's future may be the large western multinationals that have opened Islamic windows for receiving deposits from their wealthy Gulf clients and for financing a variety of projects in the Muslim world. The French, led by the Banque Nationale de Paris, have lately joined the many American and British presences headed by Citibank and Kleinworth Benson. The World Bank's International Financial Corporation has encouraged cofinancing infrastructure projects with Islamic investment houses. Prominent multinationals, including oil companies, have joined in project financing in some of the GCC states with Islamic financial instruments. Islamic finance, in short, is becoming respectable in international business circles. One commentator recently went so far as to suggest that even if existing Islamic banks were to stagnate or fail, their distinctive set of financial templates would survive as a dynamic segment of global financial markets (Monzer Kahf 1999: 459). On the ground, however, these banks are gradually expanding their shares of deposits in the commercial banking sectors of many MENA countries.

The growth of Islamic market segments

The Islamic banking movement includes both publicly and privately owned commercial banks. The Islamic Development Bank, founded in 1973 and owned by a consortium that by 1998 included 52 Muslim states, eventually assimilated some of the novel Islamic financial practices devised by the private sector. The first modern privately owned Islamic bank opened in Dubai in 1975. The Dubai Islamic Bank practiced interest-free banking although it did not establish a religious supervisory council until 1998, when a manager embezzled funds and the bank needed a government rescue package. After 1979 Iran, Pakistan, and Sudan all "Islamized" their banking systems from above, but these bureaucratically induced changes are less interesting than the evolution of privately owned banks, including those in the Sudan that were "Islamic" before the official Islamization of the 1980s. In MENA countries where privately owned Islamic commercial banks compete with conventional public and privately owned ones, it is possible to compare their respective financial performances. Their respective shares of commercial bank deposits can be compared across countries, and in some countries their returns on capital and total assets can be readily compared to those of their conventional competitors. Jordan and Turkey are especially convenient countries to study because they publish aggregate data about the financial performance of their respective banking systems.


Table 1 pieces together the progress of these privately owned banks in the MENA region, including Turkey, with the available data. For comparative purposes Malaysia is also included because its experience is often cited as exemplary in Islamic banking circles. The country's only exclusively Islamic Bank, Bank Islam Malaysia Berhad (BIMB), has mobilized less than 2 per cent of Malaysia sight and savings account deposits (measured by lines 24 and 25 of the IMF's International Financial Statistics) in almost two decades as an officially recognized commercial bank (cf. Warde 2000: 127). At the time of its official founding BIMB already had established a Muslim clientele by collecting funds to finance the pilgrimage to Mecca. Relations between BIMB and Malaysia's Central Bank may have been more constructive over the years than the experiences of a number of Arab counterparts with their central banks, but Malaysia has not experienced the surge in Islamic banking of Sudan and the Arab Gulf states.

(Table 1 about here)

A number of observations are in order. In theory all banks in the Sudan operate according to shari'a principles, but those that were consciously self-styled Islamic banks before the system was Islamized seem to have increased their market share at the expense of the newer converts. In Saudi Arabia, the spiritual center of the Islamic world, a single Islamic bank, Al Rajhi Banking and Investment Corporation (ARABIC) has captured over 10 per cent of the market, and in some of the smaller GCC states the Islamic sector is approaching 20 per cent. The GCC seems to be the principal area of growth, possibly to be joined by Jordan, where Arab Bank has opened a new totally owned Islamic subsidiary, the Islamic International Arab Bank. Until this recent development - the bank opened for business in 1998 - the movement in Jordan appeared to have flattened out at less than 10 per cent of the market.

Egypt has apparently experienced a slight decline since Islamic banking reached its peak in 1986. Table 1 does not include the so-called Islamic fund management companies that used Islam as a marketing technique for money-changers who expanded their businesses to manage their clients' remittances. These companies were, with one or two exceptions (Sherif and possibly Saad; see Galloux 1999: 488-489), fly-by-night "investment" companies that simply funneled Egyptian workers remittances from the Gulf countries to hard currency accounts outside Egypt. They doubly harmed the officially recognized Islamic banks. They competed for deposits and slowed the growth of the official Islamic sector in the mid -1980s. Subsequently they discredited the entire idea of Islamic finance (even though they did little to practice it other than pay publicity fees to a few Islamic scholars) by going bust after 1987, when an agreement with the IMF to liberalize Egyptian foreign exchange rates destroyed their real competitive advantage. Meanwhile, however, the Egyptian government encouraged conventional banks, led by state-owned Banque Misr, to open Islamic finance windows to mobilize deposits from interest-averse Muslims. Table 1 includes only Banque Misr and possibly understates the total Islamic share of deposits by a percentage point or two. In the rest of the Arab world, however, Islamic finance remains marginal.


Islamic banks are altogether absent in Iraq, Libya, Morocco, Syria, and they eke out a very marginal presence in Algeria, Lebanon and Tunisia. Conventional or Islamic, private sector banks no longer exist in Iran, but the situation may change. Some Iranian factions favor development of the private sector, and legislation authorizing the incorporation of private sector banks was passed in the spring of 2000. The most dynamic private Islamic banks outside the Arab world are found in Turkey. Three of the five private Turkish banks are partly owned, respectively, by the Al-Baraka group, the Faisal group, and the Kuwait Finance House. In fifteen years these banks have not collectively achieved even 4 per cent of the market, but they seem established, having recently been integrated officially into Turkey's commercial banking system instead of standing apart under special legislation as finance houses. They are clearly growth oriented, as they methodically extend their branches networks into the provinces as well as in Istanbul and Ankara.

From this brief panorama it is possible to draw some conclusions. With the exception of the Sudan, Islamic banking has flourished the most in the prosperous Gulf region of the MENA. Indeed, it originated during that brief moment of apparently limitless prosperity, the 1973-74 oil boom, as an ingenious way of recycling an infinitesimal fraction of the petrodollars into pious activities. In the MENA per capita income seems a fair predictor of the penetration of these banks into commercial markets. Figure 1 graphs the Islamic shares of commercial bank deposits presented in Table 1 against per capita GDP in 1998. Sudan is an obvious outlier, whereas the richest Gulf Cooperation Council states of Kuwait and Qatar lead the rest of the pack. Excluding the GCC, however, the relationship could run the other way, with the poor of Sudan, Yemen, Egypt, and Jordan outdoing wealthier states such as Tunisia, Turkey, Libya, and Malaysia. Obviously wealth is not the only factor that may attract Islamic finance.

(Figure 1 about here)

Another factor that encourages Islamic banks, or at least does not positively discourage them, may be the relative weight of the private sector in banking. Where government banks are in control, as in Iraq, Libya and Syria, there is no room for private financial enterprise, whether Islamic or conventional. The private Islamic banks would seem to stand a better chance of developing in relatively liberal economic climates featuring strong private sectors and a plurality of competing banks across both public and private sectors.


Figure 2 graphs the Islamic shares of commercial bank deposits presented in Table 1 against government ownership of a country's commercial banking sector. Government ownership measures the percentage of tota l assets of the system controlled by banks that are at least 20 per cent government owned. It is assumed that a 20 per cent stake puts the state in full command. Thus countries like Egypt and Tunisia may practice a veneer of economic liberalism and tolerate private sectors in their banking sectors. However, their states remain in pretty full control of their respective systems, as is evidenced by the huge


proportions of total assets that their banks deploy. Figure 2 situates Bahrain, Jordan, Saudi Arabia, Kuwait, and Qatar in the potentially most fertile climate for Islamic banks, the top left quadrant of predominantly privately owned banking systems. Clustered in the bottom right are Iraq, Algeria, Libya, and Syria, whose banking systems still reflect their state planned economies, currently undergoing some adjustment but displaying very little privatization in the strategic banking sector.

Independently of per capita wealth or government ownership, Islamic banks would seem to have better opportunities to expand their shares of the market in relatively open, liberal economies than in closed ones. Since 1995 the Heritage Foundation, a rightwing American foundation, has published an Index of Economic Freedom in cooperation with the Wall Street Journal. Figure 3 presents each MENA country's average score on 9 of the 10 indicators (excluding low taxation rates that may attract foreign investment but do not necessarily indicate a liberal economic climate). The more open the economy is perceived to be, the lower its score. The average scores of Jordan, Morocco, and Oman all cluster just behind Turkey and ahead of Tunisia and Saudi Arabia. Morocco, Oman, Tunisia, and Lebanon all appear to have much less Islamic banking presence than their Index of Economic Freedom might predict. Indeed, it seems surprising, in view of Jordan's positive experience with Islamic banking, that Morocco and Oman have yet to permit Islamic banks to operate in their respective kingdoms. Their rulers (and the Saudis as well) insist on retaining an ideological monopoly on what is Islamic. It is less surprising the most closed economies of Syria, Iraq, and Libya have no Islamic banking presence, although this may be changing now in Syria.

The supreme irony is that these countries, along with Algeria, are under-banked. They display exceptionally low ratios of contract-intensive money, or the percentage of the money supply (M2) that is kept in banks rather than at home under mattresses. Figure 4 shows that little over half of Syria's money supply is kept inside the commercial banking system.


Most business transactions in Syria, for instance, are for cash, not checks much less credit cards. The banking systems of these "bunker regimes" also display exceptionally low proportions of GDP allocated as credit to the private sector (Henry and Springborg, 2001, chapter 3). Conventional banks have failed to mobilize savings in Algeria, Iraq, Sudan, Syria, and Yemen, much less lend them out to private businesses. These countries would therefore appear to be fertile territory for institutions that might appeal to pious Muslims. Except in the Sudan, however, their banking systems are dominated by concentrated, state-owned (Figure banks (Figure 2) that have discouraged privately owned Islamic banks until recently.

Some of these financially underdeveloped countries, however, have engaged in IMF structural adjustment. Coincidentally or not, those that underwent reform are the ones that also tolerate Islamic banking - Algeria, the Sudan, and Yemen. In Algeria and Yemen the Islamic market shares are small but growing. Less than 1% of Algeria's commercial banking deposits were with Al-Baraka in 1998, but new private banks, including Islamic ones, are


being formed, and Algeria's future trajectory could well surpass Turkey's, which resembled Algeria in 1986. Bahrain and Kuwait, situated in upper left of Figure 3, get the highest marks from Wall Street's Index of Economic Freedom, but Yemen, Sudan, and Algeria appear best to combine relatively open banking with relatively large proportions of their money under the mattresses. Islamic banks may therefore have the greatest potential markets in these countries. One explanation for the relative stagnation of Islamic banks in Egypt and especially Tunisia, by contrast, may be their restrictive commercial banking climates. These, at least, were the only two banking environments in the MENA that Wall Street downgraded (or possibly simply corrected) by a point since 1996 - whereas the others remained unchanged. An earlier market study suggested that Tunisia, like most other Muslim countries, had a substantial potential for Islamic banking (Barbulesco 1989: 11).

The biggest anomalies seem to be Morocco and Oman, countries that appear to be relatively well positioned for Islamic banking but that have steadfastly refused entry to such banks. Each of these banking systems is relatively oligopolistic and concentrated, but no more so than Kuwait's or Bahrain's. If Oman's system is relatively restrictive (Figure 3), Morocco's is about average. As Commander of the Faithful, however, King Hassan (1961-99) was unwilling to permit an Islamic alternative to the banks he indirectly controlled through various conglomerates. An Islamic alternative might challenge the Commander's religious authority as well as discredit his conventional financial institutions.

In reality Saudi Arabia may be an even greater anomaly despite the respectable 11.5% showing of its single Islamic bank, Al Rajhi Banking and Investment Corporation (ARABIC). Islam's two big transnationals, Al Baraka and the Faisal group, also have their main offices in Saudi Arabia and have tried for over a decade to obtain commercial banking licenses in Saudi Arabia. As in Morocco, one reason for their failure may be that monarchy, so reliant on Islam for its legitimacy, does not wish to run the risk of delegitimating itself by association with the rest of the banking system. Al Rajhi received a license only because new laws prevented money-changers from accepting deposits after one of them (headed by another member of the Rajhi family) collapsed. The big well established firm was given its license as a normal commercial bank but then claimed on its own, backed by a religious advisory board, status as an "Islamic" rather than conventional commercial bank. Its astonishing success may be the real reason why the other transnationals have not been given licenses. The conventional competitors, now including major royal investors like Prince Walid al-Talal, do not wish to see their profitable enterprises undermined. Some, like the prince's Saudi Arabian American Bank (SAMBA), have established Islamic windows to capture some the growing Islamic sector of the market. As pious, profit -seeking customers gradually shift their funds from non-interest bearing accounts to Islamic investments, conventional banks are devising new Islamic products to satisfy their depositors. By one estimate the non interest-bearing deposits are shrinking by 1 to 2 per cent annually, and the new type of banking is growing by 15%. In 1999 SAMBA was estimated to have 4% of this new market (Glossman 1999: 17-18).

Financial performances

With monotonous regularity ARABIC heads the list of GCC banks in total profits, over competitors almost twice its size, such as Saudi Arabia's (with Prince Walid and


Citibank) Saudi American Bank, and the even larger but poorly managed National Commercial Bank. In profitability, the ratio of net income to total end-of-year assets, ARABIC's 3.5% tops most of the world's commercial banks and beats everybody in the MENA except a handful of nimble investment banks - half of which are also Islamic (MEED, June 23, 2000, 40). The reason is obvious. ARABIC pays no interest on its current accounts and enjoys a loyal clientele. Unlike most Islamic banks, it pays out none of its profits at the end of the year to the depositors - or "investors" as they are called, who in other banks hold "investment deposits" or "investment savings accounts." ARABIC does carry a relatively small proportion of funds deposited by other banks on its balance sheet. Arab National Bank regularly publishes the interest rates for the Saudi interbank market, but there is no evidence on its income statement that ARABIC incurs any interest expenses. Clearly ARABIC benefits - much more than SAMBA - from the Saudi propensity for non interest-bearing accounts. Remove SAMBA's interest expenses - which amounted to over 3% of its total assets in 1998, and it would have been earning 5.4% on them compared to ARABIC's 3.7% (SAMBA 1999: 16-17). SAMBA would appear to be the more efficient money machine, but ARABIC has a far lower cost of funds. Similarly the Bank of Riyadh would have earned 4.7% rather than 1.7% on its end-of-year assets.

Arguably, however, the recent momentum in the GCC favoring Islamic banking endangers ARABIC as much as the conventional banks because depositors seem to be breaking away from their habit of parking funds in non-interest bearing accounts. Data for all of the Saudi banks are not available, but Riyadh Bank indicates in the notes to its 1999 Annual Report that about one-third of its deposits are still "non-commission sensitive." In this respect Saudi Arabia may be a backwater compared to more demanding publics that expect to earn profits - not interest, of course - from their savings. But Saudi Arabia is changing. The future of the Islamic movement may depend on its ability to compete in profits distributed to shareholders with the interest offered by conventional banks or the profits offered through their Islamic windows. In the more financially sophisticated climates of the MENA, such as Kuwait, Jordan, Egypt, and Turkey the fertile fields of non-interesting bearing deposits may be smaller than in Saudi Arabia, though they do exist. In 1998 and 1999, for instance, the Jordanian National Bank (Ahly) reported non-interest bearing accounts amounting to over 15% of its total deposits (Annual Report, 1999). But non-interest bearing accounts constituted only 0.1% of the deposits of Kuwait's leading conventional bank, the National Bank of Kuwait (http://www.nbk.com/nbktoday/data/annualrep99.pdf) and about 10% of the Commercial Bank of Kuwait's (http://www.banktijari.com/index_ht.html). Obviously more systematic data would be useful but most banks do not yet disclose such matters online or even in their written annual reports--pending stronger regulations about financial disclosure.

Kuwait

The other large established Islamic bank in the GCC in the Kuwait Finance House. Its depositors expect "profits," and indeed the KFH regularly posts the annual rate of returns on its various types of investment accounts at the end of the year. No Islamic bank can promise a specific rate of return but, like track records of mutual funds for small investors in


the United States, they try to gain reputations for profitability. Table 2 compares the interest rates offered by conventional banks for various kinds of time deposits with the information posted by the KFH in a recent annual report. The latter's categories unfortunately do not specify the required time periods and are therefore not strictly comparable, but the fact that its profit rates uniformly increased in 1997 over 1996 suggests that the KFH did not simply track the Central Bank's interest rates. These tended in most categories of KD deposits to diminish in 1997.

Despite paying customers for their deposits, KFH outperformed all the rest of Kuwait's big commercial banks in 1998 and 1999. Its return on assets reached 2.51% at the end of the century -- well above the norm of 1.53% collectively achieved by the top 65 banks in the GCC states (MEED, June 23, 2000, p. 40). KFH's consistent profitability - with steady returns above 2% in the late 1990s - suggest that Islamic banks can survive competition with conventional banks even when depositors combine piety with financial acumen. A closer examination of its balance sheet and income statement, however, indicates that KFH may have enjoyed special advantages. It is 49% owned by the government, and some ministries deposit their employees' salaries in the bank, assuring it a steady stream. It is instructive to compare its financial statements with those of the National Bank of Kuwait, the country's flagship conventional bank that in 1999 performed almost as well as KFH, with a 2.46% return on total year-end assets. Since the KFH web site is still under construction, its 1998 and 1999 statements were unavailable. Consequently Table 3 compares its ratios for 1996 and 1997 with those of 1997, 1998, and 1999 calculated from the online data provided by the National Bank of Kuwait. What the NBK and other conventional banks call "interest paid to depositors" can be translated into the KFH language of "d istribution of profits to depositors." They are the bank's cost of funds.

"Spreads" earned by conventional banks are the difference between the interest generated from loans and the cost of funds. For an Islamic bank, then, spreads are simply the difference between the revenues earned on murabaha, musharika, etc., and the cost of funds. The comparative ratio analysis in Table 3 shows that KFH (in the left hand columns) earns substantially greater spreads, measured as a percentage of total assets, than NBK. The reason for KFH's competitive advantage is its inexpensive cost of funds. Despite its publicity about the profits to depositors - cast so as to suggest the banks was keeping up with prevailing commercial interest rates - it was paying them 1.1% less, on average, than NBK. This may be Islam's competitive edge in Kuwait: pious Muslims can accept slightly less -- as long as it is not too much less. On the revenue side the KFH's gross earnings roughly equaled those of NBK, but its earnings after paying off the depositors were much greater. Turning to page 2 of Table 3, KFH's competitive advantage was reflected in the bottom line, net income as a percentage of total assets. In 1996 and 1997 KFH's bottom line was substantially greater for its size than NBK. It is interesting to see how NBK managed by 1999 to catch up with KFH. It did not cut back on its administrative expenses - these remained slightly higher than KFH's, despite the complexities in an Islamic bank of selling goods for a mark-up (murabaha) rather than simply charging interest. The bigger bank deliberately gave up market share, contracting its deposits and possibly paying less for them than market rates (although short-term interest rates on KDs also declined by about 0.5% in 1999 - see Table 2). By 1999 NBK was earning about as great a return on its assets as KFH, although its cash flow (when depreciation expenses and provisions for bad


debts are added back to net income) was not as strong. By MEED's reckoning it had become as "efficient" as KFH, converting about as high a proportion of gross earnings to the bottom line of net income. KFH still displayed a higher return on capital (NI/Cap), even after becoming more capitalized (in the sense of Cap/TA) than its competitor in 1998.

KFH had a relatively stronger base of customer deposits than NBK, which relied more heavily on the deposits of other banks for its funds. But KFH also had to work harder for its returns than NBK. A substantially greater proportion of its total assets was tied up in various forms of Islamic financing, risk assets comparable to NBK's loans and advances to customers. KFH generated about as much gross revenue as NBK, but it did so by deploying an extra quarter of its total assets in risky transactions. This difference is only partly explained by netting out a bizarre liability on KFH's balance sheet, "deferred revenue." KFH appears to have a riskier profile than NBK, yet it was also less capitalized until 1998 and is still so with respect to risky assets. That is, its capital to risky assets ratio is still much lower than NBK's. KFH also carries more provisions for losses (as a percentage of risky assets) than NBK, but capital and provisions constituted only 21% of KFH's mudaraba and leasing assets in 1996 and 1997, compared with NBK's 35% to 37% in 1998 and 1999. The Islamic bank's 49% government ownership perhaps offsets the added the risk. KFH can be relatively confident that the government would bail it out in any emergency. Indeed, in the wake of the Souk el Manakh crisis of 1982, the KFH's return on assets plummeted from over 2% to 0, and the government rescued it in 1984. Today, despite its higher return on capital, it distributes slightly smaller returns to the shareholders in the form of dividends.

Good government connections and loyal customers have enabled the KFH to compete successfully with Kuwait's flagship conventional bank. Like ARABIC in Saudi Arabia, KFH is a success story. Elsewhere in the Gulf the Islamic commercial banks have performed less brilliantly but kept their substantial market shares. The pioneer, Dubai Islamic Bank, had to be bailed out in 1999 because of an internal embezzlement scandal but had survived over two decades with returns on assets of less than 1%. In Bahrain and Qatar the financial performances were better -- usually over 1% -- but hardly earthshaking. Despite its mediocre return of 1.14% in 1999, however, the Bahrain Islamic Bank ranked fifth in MEED's efficiency index, converting 45% of its gross earnings into net income (MEED, June 23, 2000, p. 38). Like ARABIC, BIB seems to have benefited from the low cost of funds acceptable to pious depositors. Other small Islamic investment banks, however, did much better. Not only were the International Investor, First Islamic Investment Bank, and BMB Investment Bank among the top six in efficiency; they also ranked among the top five in returns on assets, earning from 4.6 up to 17.8% in 1999. There was clearly much money to be made from devising new Islamic instruments for a pious and financially sophisticated clientele disenchanted with non interest-bearing deposits in conventional banks.

The wealthy can perhaps afford to satisfy their consciences by taking more risks for slightly less returns in Islamic banks than in interest-bearing accounts. Those who are pious, in the sense of refusing interest, have no alternative except to store their funds in non interest-bearing accounts or avoid banks altogether. The affluent depositors of the GCC countries are a relatively easy target for Islamic banks. But in the rest of the MENA, with much less per capita wealth, Islamic banks enjoy less competitive advantage. There will always be a pious minority ready for an alternative to non interest-bearing accounts, but the


less wealthy and more risk-averse potential investors may prefer to keep those small savings under the mattress if they do not earn competitive market returns. The case of the Jordan Islamic Bank for Investment and Development (JIB) illustrates some of the dilemmas of Islamic finance in the less affluent countries of the MENA.

Jordan

An affiliate of the Al-Baraka group, JIB opened its first branch office in 1979 and sustained its momentum until the mid-1990s. There is clearly strong demand in Jordan for Islamic banking. JIB claimed over 600,000 depositors in 1999 - quite a substantial number for a country of only 4.6 million men, women, and children. The highly respected Arab Bank, the oldest privately owned bank based in the Arab world as well as one of its largest, opened up a new Islamic bank in 1998 to compete with JIB. It also has plans to extend to other developing Islamic finance nuclei in Egypt, Yemen, and the GCC countries, where Arab Bank owns conventional branches or affiliates. There are clearly markets to be won, but little Islamic banks that do not enjoy either strong government protection or a major ally like Arab Bank may be in trouble. JIB's financial statements reveal serious weaknesses.

In its earlier years JIB did fairly well, keeping up with and even in 1985 and 1989 surpassing the average returns on equity of businesses in the financial sector. Table 4 suggests that it may have been benefiting from tax breaks in the earlier years, but in 1989-1992 its net income before taxes clearly outperformed the average. Even in these halcyon years, however, its returns on total assets (NI/avTA) were mediocre, never even reached the 1% attained in 1982. During these years, moreover, JIB does not appear to have been as fully capitalized as the average bank. Table 4 indicates, for instance, that in 1989 the bank's share of capital, reservations, and allowances to cover investment losses (provisions for non-performing loans in other banks) was only 5.6% of the total recorded by the Central Bank of Jordan. Yet JIB held 6.4% of the total assets. It also held a full 8.3% of the total risk assets - loans and other forms of financing outstanding to private and public entities excluding the central government. Like KFH, it had to work harder for its revenues than conventional banks. Arguably, then, the bank should have been more fully capitalized than other banks to cover the additional financing risks. Islamic banks like to claim that their depositors are in fact like stockholders sharing in the bank's profits, but the depositors, like bank regulators, may see it differently.

Table 4 pieces together what happened to JIB over the years. Despite an infusion of capital in 1993, it could not sustain its ambitious efforts to mobilize ever greater shares of commercial bank deposits. It continued in the latter 1990s to add more branches but their productivity declined after 1994: each branch generated fewer deposits and revenues. JIB seems not to have enjoyed any special advantage like KFH of cheap sources of funds. Table 4 compares the rates of profits it gave its customers with the interest paid to the depositor of conventional banks. The two banks, Cairo-Amman and Ahli, were selected because of their comparable medium sizes and relatively mediocre financial performances. Cairo-Amman's return on assets never exceeded 1% in the early and middle-1990s, and Ahli did only marginally better before falling into the red in 1999 after an expensive merger with another bank. Table 4 shows that Cairo-Amman was paying its depositors even less


than JIB - possibly because of low market rates on the West Bank, where Cairo-Amman enjoyed a virtual monopoly until 1995. Ahli was paying out substantially more than JIB after 1994. In 1999 it lost part of its own capital but still paid depositors 6.6% on average - more than twice as much as JIB. Of course this "flexibility" of Islamic banks is cited as one of their strengths: in hard times they are less likely to go bankrupt. But then they are likely to lose depositors. In 1995 JIB reached its high point in deposits: its share of the market would then steadily decline, even before the Islamic International Arab Bank entered the market in 1998.

From Table 4 it seems that JIB simply could not pay depositors well enough to keep them. The number of them grew but the average size of deposits declined, suggesting that JIB's expanding branch network might be tapping into small savings that would otherwise stay under the mattress. But most of the depositors probably expected to earn at least as much as they would from a savings account at a commercial bank - 4 to 5% in the late 1990s (Central Bank of Jordan, Monthly Statistical Bulletin, Table 21, http://www.cbj.gov.jo/docs/bulletin/21.html August 28, 2000). JIB diminished its returns roughly in tune with market rates, but its savings accounts earned only 2.13% in 1999 (Annual Report 1999, p. 30) compared to the national average of 4.19%. JIB simply could not generate the revenues need to meet the going rates.

The explanation was simple: either JIB was undercharging customer for Islamic financing or growing proportions of those risky assets were not being paid off (or had perhaps been lost). Table 4 shows that JIB's returns on risky assets plunged in the late 1990s; by 1995 they were already lower than the interest rates received by the mid -sized commercial banks. Although these were second-tier banks, with relatively anemic returns on assets, they were generating substantially greater gross earnings in the mid-1990s. In its worst year, 1999, Ahly generated twice as much as JIB, and the islamic bank seemed again, as in the early 1990s, to be undercapitalized and overweighted with risk assets, though it still held more deposits for its size than most Jordanian commercial banks. Perhaps competition with the Islamic International Arab Bank would oblige JIB to contract further, write off any non-performing assets, and regain profitability. A number of other Islamic banks have faced similar problems.

For years, for instance, Faisal Islamic Bank of Egypt (FIBE) has stagnated, losing market share and generating scarcely enough revenue to pay off its depositors. In the mid-1980s it was so desperate to generate revenue that it lent hard currency to the Central Bank of Egypt for importing commodities; then, when Egypt's foreign exchange situation improved, it lent out funds to the Bank of Credit and Commerce International (BCCI), which offered it higher than market rates. The collapse of the BCCI in 1991 initially cost FIBE some 20% of its balance sheet. Most the funds were eventually recovered, and in 1999, for the first time in almost a decade, FIBE claimed a small profit (0.3% of its total assets). But meanwhile its deposits did not keep up with inflation between 1995 and 1998, and FIBE held on to barely 3% of the market (down from 9.7% in 1986, see Table 1). Like JIB, it simply could not generate enough earnings to distribute adequate "profits" to depositors, much less to shareholders of the bank.

The problem of generating revenue may be political as well as technical. It is too early to say whether the Turkey's five islamic finance houses are falling into a similar trap of insufficient earnings to finance their expanding deposit bases. Since the Turkish military


obliged Prime Minister Erbaken to resign and outlawed his (Islamist) Welfare Party the Islamic banks have continued to grow at a slightly more rapid rate than Turkey's other commercial banks. In 1999 they increased their share of deposits to 3.8% but their collective return on assets diminished from 1.5 to 0.9%. (Central Bank of the Republic of Turkey, Quarterly Bulletin, various issues). These average returns, however, although roughly comparable to those of Turkey's big public sector banks, fall far short of the private sector bank averages of 3.5 to 4.5% (Banks Association of Turkey, 2000: I-58 - adjusting from BAT's returns on average assets).

Further research might examine the locations in the provinces, such as Konya, that attract branches of the special finance houses. How do they correlate with the implantation of Islamist parties? Do the finance houses track islamist neighborhoods? How can these finance houses move from trade financing to more profitable ways of raising revenue? Might they develop profitable long-term relationships - mudaraba and musharika - with Islamically committed businesses in these regions?

Political opportunities and constraints

As Figures 2 and 3 suggested, Islamic banking tends to be better off in liberalized, less restricted commercial banking environments than in heavily state controlled ones. In fact Islamic banking requires the liberalized climate advocated by international financial institutions - the so-called Washington Consensus - more than conventional commercial banks. In order to generate better earnings, the Islamic banks need to engage in more equity-like financing that requires clear standards of accountability and transparency of the sorts advocated by the IMF and the World Bank. Since they will need to engage in more equity-like financing than conventional banks, they stand to benefit more from financial structural adjustment programs.

In some states, however, we have seen that Islamic banks carry a political handicap. Goverments that declare war against political Islamists, such as Algeria, Egypt, and Tunisia, do not have thriving Islamic financial establishments. In most MENA countries the principal opposition to the incumbent regime is Islamist - even in Saudi Arabia where the dynasty poses as a purified Islamic regime. To the extent, then, that Islamic banks are confounded with political Islamism, they will be better off in a more liberal political climate. Most Islamic financial institutions deny any political associations - just as conventional bankers also try to appear to be above any "politics." But just as state bankers in many state-owned banking systems manage patronage machines for those in power, so Islamic bankers may find it difficult to avoid political associations. In Kuwait the KFH enjoys close ties with certain government ministries and pro-Islamist deputies in parliament. In Egypt the state acts as if autonomous Islamic banks must be contained - by blocking their expansion and trying to channel their market into state-controlled banks. It is reasonable to expect that Islamic banks will be better off in the relatively more liberal political climates where regime and Islamist opposition have learned to coexist than in the MENA's more repressive settings.

By these standards the most favorable settings for Islamic banking in the Arab world are probably Bahrain, Jordan, Kuwait, Turkey, Lebanon, and Morocco. Bahrain is favored by minimal banking restrictions other than the necessary ones of an experienced regulatory authority, and it is also undergoing significant political reform. Morocco, which has no


Islamic banking, might offer the most promising field, after Jordan, for these institutions to develop. Certainly in highly illiberal climates, such as Saudi Arabia and arguably in Algeria, Egypt, and Tunisia as well, Islamic banks have to avoid any hint of association with political Islamists (unless, perhaps, with Algeria's tamed ones displayed in parliament).

Only in the politically more permissive climates might Islamic banks directly develop ties with political Islamists. Whether or not they do so is an empirical question worthy of future research in Jordan, Turkey, and possibly the Sudan (where Turabi's political Islamists coexist with the military, and Turabi himself used to be associated with the Faisal Islamic Bank of the Sudan). In theory the political movement might help monitor the uses to which Islamic finance is put and extend the ability of the banks to engage in profitable musharika and mudaraba operations. By reducing the banks' monitoring costs, they would render them more profitable. Bankers and politicians would share an interest in the success of the Islamic financial experiment, and the politicians, enjoying financial support, might strengthen business interests in the political movement and further moderate opposition to the incumbent regime. This grounds-up approach suggests a gradual increase in the power of political and business Islam, operating in a relatively stable pluralistic political environment. It assumes that political liberalization is a gradual process and that money can soften up the opposition by bringing it into the moneyed establishment. But it runs against the grain of recent political development in the MENA. In the 1990s the political trend has been one of deliberalization and reinforced authoritarianism, especially in Egypt and Tunisia. Politics remain too turbulent and frightening to business and banking interests in much of the region

The alternative for the Islamic financial movement is to work closely with governments, even when they repress political Islamists. In reality there may be few affinities between the timid Islamic business and banking interests, on the one hand, and radical Islamist opposition politicians, on the other. Political Islamists tend to be more concerned with culture than with economics, and opinion seems divided on Islamic banking. When founded in 1989, the Algerian Front Islamique du Salut (FIS) advocated market reforms in its party program -- including aligning the dinar at international market rates as the IMF was insisting at that time -- and Islamic banking. But the FIS may be an exception. Many political Islamist movements view structural adjustment to be yet another imperialist plot to pollute their countries with more western businesses and consumption patterns. They are usually ready to join in populist protests against any painful reforms. The mainstream exponents of the Islamic finance movement, on the other hand, urge structural adjustment, open and transparent markets, and accountable (though not necessarily democratic or even liberal) government.

By making alliances with economic reformers within the government - for most MENA states are divided between the globalizers and their antithesis, moralizing elements within the government that reject structural adjustment for various reasons - the Islamic banks can gradually gain market share. Protected by their governments, they can offer modest "profits" to their depositors and lure more of them away from non-interest bearing accounts in conventional banks. The financial returns of these Islamic banks can be expected to remain weak as long major structural adjustment does not occur, because they are at a structural disadvantage in generating revenues even if they can gain more deposits. But no matter: they are protected. The major competitive threat then comes from conventional banks that open Islamic windows to prevent the hemorrhaging of their non-


interest bearing deposits. But then the conventional banks, too, may acquire a greater interest in structural adjustment, market reforms, better accounting procedures and the like. Under this top-down approach the Islamic banks serve the government as a cover for further engagements with international financial institutions and the Washington Consensus. Even where, as in Algeria, their market share is miniscule, their approval can contribute to the (sorely deficient) legitimacy of a government embarked on structural reforms. However, the public sector banks of countries like Egypt and Tunisia may oppose any globalizing alliance that takes deposits away from their weak balance sheets and endangers their state patronage machines.

In the coming five years Saudi Arabia is likely to be the major battleground for Islamic finance. Substantial non-interest bearing deposits seem ready for redeployment into Islamic financial markets. Were Al-Baraka, the principal owner of JIB, to be allowed entry into the Saudi market, it would grab market share from ARABIC as well as the National Commerce Bank and SAMBA, to mention Saudi Arabia's two largest banks, both of which have set up Islamic windows. Some ulama and Islamic bankers argue that these windows cannot really work in accordance with the shariah because their funds cannot be separated from the others based on riba. In Jordan the Arab Bank was required to build up an entirely new bank for its Islamic operations. Were such a ruling to take effect in Saudi Arabia, there could be a major shake-up in the commercial banking system. An influx of Islamic banking might then tip the scales within the government for those in favor of accelerating economic reform. Paradoxically, however, the risk of rapid economic change in Saudi Arabia is that its principal beneficiaries would be members of the royal family like Prince Walid al-Talal and other less professional uncles and cousins, Saudi equivalents of the nomenklatura in single -party regimes.

The potential political fallout from Islamic banking differs widely from state to state in the MENA. The grounds-up view of synergies between political and financial Islam seems less likely today, however, in this era of deliberalization (except in the smaller GCC states), than the top-down approach. Whether further structural adjustment will lead to greater political liberalization in the long run is yet to be seen, but so far, in the MENA at least, neither process has been linear and uni-directional. Meanwhile Islamic finance, despite its small shares of the market to date, may incrementally acquire greater shares in many MENA markets. Self-consciously Islamic financiers seem bound to prosper, irrespective of the regime's treatment of political Islamists.

Conclusion

In conclusion we have identified self-consciously Islamist bourgeoisies and tried to discover the conditions under which they best thrive. Distinctive financial practices seem to be mobilizing capital that would otherwise stay hidden in mattresses in much of the MENA. We have also seen new Islamic financial ventures in the countries that have been closed in the past to most other forms of private capital, whether local or foreign. Will these very late-late comers be more susceptible to a "third" way of Islamic finance than the MENA's early adjusters? We have seen that Islamic finance is perfectly compatible with the various economic adjustment measures, notably financial reform, that international financial institutions insist upon. Indeed, the Islamic banks have more of an interest in transparency and a suitable domestic environment for lending than conventional banks. Quite possibly, then, countries like Algeria and Syria, which must undergo financial reform, may use Islamic


finance as a vehicle for legitimating these reforms. The fact that the Islamic Salvation Front (FIS) was ready tacitly to endorse Algeria's structural adjustment efforts of 1989-1991 suggests a more general strategy of reform with support from nascent Islamist bourgeoisies, with or without Islamist political parties. In Syria the Al Dallah (Baraka) group is part of a Saudi investment venture that may benefit from new legislation permitting a private banking sector. It is also possible that other regimes that currently repress their political Islamists, such as Egypt and Tunisia, will attempt to coopt their Islamist oppositions by allowing Islamic finance more space and influence, as the pressures build upon their respective governments to privatize their public sector banks.

To return to Ernest Gellner, some of his later work belied his earlier enthusiasm for puritan Islam. In his Conditions of Liberty (1992) he explicitly conludes that Islam is too ideologically monolithic, like the world of Stalinism, to support any meaningful civil society. This paper, building on Gellner's earlier work, has tried to show that Islamist puritans in bankers' suits may indeed be building civil societies in the form of Islamist businesses. Gellner's earlier essays suggesting an Islamic puritan ethic are indeed seminal for the understanding of contemporary Islam and politics, as it points to the economic foundations of Islamist civil societies. Islamic finance offers the structure for articulating the new work ethic.

References

Fuad Al-Omar and Mohammed Abdel-Haq, Islamic Banking: Theory, Practice, and Challenges, London: Zed Books, 1996.

Nancy Neiman Auerbach, States, Banks, and Markets: Mexico's Path 6to Financial Liebralizaitoni n Comparative Perspective, Boulder CO: Westview, 2001.

Luc Barbulesco, L'économie islamique dans ses rapports avec l'économie globale, D Working Paper 89-1, Les Cahiers du C.E.R.P., Département de Droit, Université de Droit d'Economie et de Gestion, Centre d'Etudes de Recherches et de Publications, Tunis, 1989.

Michel Galloux, "The State's Responses to Private Islamic Finance Experiments in Egypt," Thunderbird Review of International Business, Special Issue: Islamic Banking ed. Clement M. Henry, 41:4-5 (July-October 1999), pp. 481-500.

Ernest Gellner, Muslim Society, Cambridge University Press, 1981

_____, Conditions of Liberty : Civil Society and Its Rivals, London 1994.

Diane B., Glossman et al, "Citigroup: Saudi Arabia - A Special Case," Lehman Brothers 1999, October 7, 1999.

Clement Henry and Robert Springborg, Globalization and the politics of development in the Middle East, Cambridge University Press, 2001.

Monzer Kahf, "Islamic Banks at the Threshold of the Third Millennium," Thunderbird Review of International Business, Special Issue: Islamic Banking ed. Clement M. Henry, 41:4-5 (July-October 1999), pp. 445-460.


Saudi American Bank (SAMBA), Saudi Arabia - Investor's Guide, Meedmoney, 1999.

Frank E. Vogel and Samuel L. Hayes III, Islamic Law and Finance: Religion, risk, and return, The Hague: Kluwer Law International, 1998.

Michael Walzer, The revolution of the saints : a study in the origins of radical politics, Harvard University Press, 1965.

Ibrahim Warde, Islamic Finance in the Global Economy, Edinburgh: Edinburgh University Press, 2000.

Max Weber, Economy and Society [1922], edited by Guenther Roth and Claus Wittich, 2 volumes, University of California Press, 1978.

Figure 1 Islamic share of commercial bank deposits by per capita GDP, circa 1998

Per Capita GDP 1998

3000020000100000

Isla

mic

Ban

k D

epos

its.3

.2

.1

0.0

-.1

YEM ARE

TUR

TUNSYR

SDN

SAU

QAT

OMNMYS

LBYLBN

KWT

JOREGY

BHR

DZA

Notes: Iraq and Morocco, very slightly poorer than Syria, were omitted because they clustered beside Syria, without any Islamic banking. Algeria, Lebanon, and Tunisia also cluster together with minuscule Islamic bank market shares of deposits.

Figure 2 Islamic share of commercial bank deposits by government bank ownership

Govt Ownership (>20%)

120100806040200

Isla

mic

Ban

k D

epos

its.2

.1

0.0

-.1

ARE

TUR

TUN SYR

SAU

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OMN MAR

MYS

LBYLBN

KWT

JOR

IRQ

EGY

BHR

DZA

Note: Government Ownership is the percentage of total assets of the commercial banking system held by banks owned at least 20% by the government.

Figure 3 Islamic share of commercial bank deposits by a country's degree of economic openness

Index of Economic Freedom

5.55.04.54.03.53.02.52.01.5

Isla

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its

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.2

.1

0.0

-.1

YEMARE

TUR

TUN SYR

SDN

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QAT

OMNMARMYS

LBYLBN

KWT

JOR

IRQ

EGYBHR

DZA

Figure 4 Islamic share of commercial bank deposits by Contract-Intensive Money

Contract Intensive Money 1998

1.0.9.8.7.6.5

Isla

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.2

.1

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YEM ARE

TUR

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SDN

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OMNMARMYS

LBY LBN

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BHR

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Table 1: Evolution of Islamic banks' share of commercial bank deposits by country, 1980-1998

Year 1980 1986 1989 1995 1996 1997 1998 first established

Algeria 1991 0.4% 0.5% 0.8% Bahrain 1979 1.0% 6.7% 7.7% 9.8% Egypt 1977 2.4% 9.7% 7.3% 5.1% including Banque Misr's Islamic branches' deposits 8.1% Iran 100.0% 100.0% 100.0% 100.0% 100.0% Iraq no Islamic banks Jordan (JIB) 1978 1.6% 7.4% 7.9% 9.7% 9.4% 9.2% including Islamic International Arab Bank 10.2% Kuwait 1977 5.7% 18.0% 19.0% 16.2% 16.3% Lebanon 1991 0.1% 0.0% 0.1% Libya no Islamic banks Morocco no Islamic banks Qatar 1982 10.4% (missing) 17.8% 18.1% Saudi Arabia

1988 11.3% 11.1% 11.5%

Sudan 7.0% 17.0% 19.4% 27.9% Syria no Islamic banks Tunisia 1983 0.2% 0.4% 0.6% Turkey 1985 0.8% 1.8% 3.6% 3.6% UAE 1975 1.3% 3.2% 3.8% 7.9% Yemen 1996 4%

Malaysia 1983 1.6% 1.6% including Islamic windows of conventional banks (rough estimate) 2% 2%

Sources, IMF International Financial Statistics, Harvard Islamic Finance Information Program, various annual reports of banks, author's data set.

Table 2: Interest rates in Kuwait and Returns on Islamic Investment Accounts, 1996-1997 Central Bank of Kuwait, Quarterly Statistical Bulletin - http://www.cbk.gov.kw/publc.htm

Average Interest Rates on Customer Time Deposits with local Banks (1)

in both KD & US Dollar

Percent Per Annum)

1-Week 1-Month 3-Month 6-Month 12-Month Period KD US $ KD US $ KD US $ KD US $ KD US $

1996 4.8 5.15 6.34 5.17 6.49 5.24 6.6 5.31 6.67 5.49 1997 4.39 4.9 5.72 5.18 5.96 5.26 6.12 5.35 6.22 5.55

1998 4.45 4.79 5.64 5.05 5.87 5.08 6.12 5.07 6.24 5.1 1999 4.07 4.35 5 4.73 5.27 4.86 5.53 4.96 5.66 5.1

Kuwait Finance House, Annual Report of 1997 Investment savings accounts Investment deposit accounts for limited period Investment deposit accounts -unlimited

1996 4.667 6.22 7.00 1997 4.75 6.33 7.125

Table 3: The Financial Performances of the KFH and the NBK 1996 1997 1998 1999 1996 1997 1998 1999

Kuwait Finance House National Bank of Kuwait

Total Assets (KD mm) 1425 1581 1634 1748 3918 4118 3835 3797

capital 110.3 128.4 165.6 189.8 352 368.6 381.3 397

Customer deposits 1130 1185 1235 1318 2240 2434 2360 2287

Due to banks 1154 1137.3 919 931

Provisions for risky assets 82.59 94.03 90.9 87.3

Cash in banks 97.9 93.2 520 503 648 557

Receivables (murabaha) 880.4 952.2 1529 1609.4 1344.5 1292

Leased assets 22.8 85.4 Treasury bonds 497 577 487.3 809

Govt debt bonds 224.6 176.4 442 376.6 355.3 310

Investments 150.3 221.1 240 302.1 236.1 378

Earnings 108.7 122.2 Earnings before interest expense 329.9 313.25 298.4

from murabaha, leasing 76.94 90.445 294.7 282.9 257

gov bonds subvention 14.8 10.54

investment income 9.03 15.03

Deferred revenue 120.2 139.4

Net income 34.36 36.54 41 43.8 68 73.47 80 93

Cost of Funds 47.1 52.2 196.9 181.7 149.8

Depreciation 3.61 3.86 3.713 4.053 4.295

Provisions expense 7.55 13.72 12.95 0.513 2.174

Administrative expenses 16.075 15.506 42.587 46.391 44.256

Dividends: cash 11.9 16.18 62 55 66 76

bonus shares 2.86 3.03 7

Spreads 61.6 70 97.75 101.1 107.2

Kuwait Finance House

1996 1997 1998 1999 National Bank of Kuwait

1996 1997 1998 1999

Spreads/TA 4.3% 4.4% 2.4% 2.6% 2.8%

COF/Deposits 4.2% 4.4% 5.5% 5.5% 4.7%

NI/TA 2.4% 2.3% 2.5% 2.5% 1.7% 1.8% 2.1% 2.45%

NI/cap 31.2% 28.5% 24.8% 23.1% 19.3% 19.9% 21.0% 23.4%

Cap/TA 7.7% 8.1% 10.1% 10.9% 9.0% 9.0% 9.9% 10.5%

Cash Flow/TA 3.2% 3.4% 2.2% 2.2% 2.6%

Gross Earnings/TA 7.6% 7.7% 8.0% 8.2% 7.9%

NI/Earnings 31.6% 29.9% 32.8% 22.3% 25.5% 31.2%

Customer Deps/TA 79.3% 75.0% 75.6% 75.4% 59.1% 61.5% 60.2%

Risk assets/TA 63.4% 65.6% 39.1% 35.1% 34.0%

net of deferred revenue 54.9% 56.8%

Cap/Risk assets 12.2% 12.4% 23.0% 22.9% 28.4% 30.7%

Provisions/Risk assets 9.1% 9.1% 6.8% 6.8%

Profit rates of 8.5% 8.5% 9.6% 10.0% 8.7%

murabaha and leasing 8.5% 8.7%

investments 6.0% 6.8%

govt bonds 6.6% 6.0%

Shareholders return 13.4% 15.0% 17.6% 16.8% 17.3% 19.1%

Cash dividends/Equity 10.8% 12.6% 17.6% 14.9% 17.3% 19.1%

Bonus shares/Equity 2.6% 2.4% 0.0% 1.9% 0.0% 0.0%

Administrative expenses/TA 1.1% 1.0% 1.0% 1.2% 1.2%

Table 4: Jordan Islamic Bank for Finance and Investment (1980-1999) 1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991

JIB NIBT/Capital 13.6% 7.9% 8.3% 13.0% 27.6% 25.7% 23.4%

average NIBT/Capital (financial sector) 19.9% 20.0% 17.5%

JIB NI/Capital 13.6% 7.9% 7.1% 11.7% 18.7% 15.4% 12.9%

average NI/Capital (financial sector) 13.3% 11.9% 10.4% 13.5% 14.3% 15.6% 13.4%

NI/avTA 0.9% 1.2% 0.8% 0.9% 0.6% 0.5% 0.4% 0.6% 0.9% 0.8% 0.5%

JIB share of deposits 1.6% 3.0% 3.4% 4.7% 5.7% 6.6% 7.4% 8.1% 8.2% 7.9% 8.1% 8.0%

JIB share of total assets 1.4% 2.4% 2.9% 3.8% 4.8% 5.3% 6.1% 6.8% 6.8% 6.4% 6.0% 6.4%

JIB share of capital, reserves and allowances 5.7% 5.6% 5.8% 5.8%

JIB share of risk assets 1.2% 2.0% 3.0% 3.6% 5.3% 5.6% 6.8% 7.2% 7.6% 8.3% 8.0% 9.8%

Cost of funds/deposits

JIB 2.2% 2.1% 3.5% 2.8% 3.3% 3.6% 3.5% 3.3% 3.9% 5.3% 6.2% 4.7%

Cairo-Amman Bank

Ahly Bank

Earnings on Financing

JIB 4.4% 3.9% 5.1% 8.2% 7.4% 7.6% 6.8% 7.1% 7.8% 9.5% 10.9% 10.0%

Cairo-Amman Bank

Ahly Bank

Gross earnings/TA

JIB 1.9% 1.8% 3.0% 4.3% 4.6% 4.3% 4.0% 3.9% 4.3% 5.7% 6.6% 5.4%

Sources: Al-Omar and Abdel-Haq 1996, Annual Reports of banks.

1992 1993 1994 1995 1996 1997 1998 1999

22.4% 11.0% 14.4% 13.8% 12.8% 6.9% 8.7% 5.0% JIB NIBT/Capital

18.7% 18.1% 18.9% 16.2% 21.3% 15.2% average NIBT/Capital (financial sector)

14.0% 6.0% 7.9% 7.5% 8.8% 4.8% 6.1% 3.5% JIB NI/Capital

14.1% 13.2% 13.5% 11.1% 15.1% 11.0% average NI/Capital (financial sector)

0.5% 0.5% 0.6% 0.5% 0.6% 0.3% 0.5% 0.2% NI/avTA

8.6% 9.6% 9.7% 10.0% 9.7% 9.4% 9.2% 8.9% JIB share of deposits

6.9% 7.8% 7.6% 7.4% 7.0% 6.7% 6.8% 6.6% JIB share of total assets

6.6% 10.1% 8.9% 8.2% 7.8% 6.2% 6.1% 5.7% JIB share of capital, reserves and allowances

11.0% 11.9% 11.5% 11.8% 11.7% 11.5% 11.2% 11.1% JIB share of risk assets

Cost of funds/deposits

4.4% 4.2% 4.8% 4.0% 3.9% 3.7% 3.7% 3.1% JIB

3.6% 2.0% 2.6% 3.5% 4.1% Cairo-Amman Bank

4.6% 4.9% 6.5% 6.5% 6.8% 6.6% Ahly Bank

Earnings on Financing

9.3% 9.1% 9.5% 8.0% 7.7% 6.7% 7.1% 6.0% JIB

8.9% 9.5% 9.2% 10.4% 11.8% Cairo-Amman Bank

9.1% 10.3% 11.1% 10.5% 10.4% 10.6% Ahly Bank

Gross earnings/TA

5.2% 5.3% 5.9% 5.4% 5.5% 4.7% 4.9% 3.9% JIB

5.0% 4.8% 5.2% 5.9% 7.1% Cairo-Amman Bank

6.6% 6.4% 7.8% 7.2% 8.3% 7.7% Ahly Bank

Sources: Al-Omar and Abdel-Haq 1996, Annual Reports of banks.

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