Will Islamic Finance Continue to Grow Globally?

Arti Sangar is a partner in Diaz Reus' Dubai office.

by Arti Sangar

Arti Sangar is a partner at Diaz Reus’ Dubai office.

Imagine a hypothetical situation where you have recently been appointed the CFO of a multinational company and you are expected to be able to raise capital for your company. You are faced with a variety of financing options and are overwhelmed by the prospect of dealing with bankers, lenders and professional investors, however, you are open to alternative methods of financing that are more secure. Given the lack of trust in the conventional banking system in the aftermath of the global economic downturn, you have concerns about depleting your company’s assets. You have heard of “ethical” financing – also known as Islamic financing. You further research it and realize that Islamic finance’s principles of risk-sharing and cooperation are ideally suited to support your company’s business. You become optimistic about it: indeed, you become convinced that Islamic financing is an attractive option for your business. This can be a real situation rather than a hypothetical one in today’s scenario. Faced with the wreckage of the conventional banking system multinationals are now seeking a system that will protect rather than deplete their assets. This is how new opportunities for Islamic finance are being created today. At present, some 300 sharia’h compliant financial institutions have been set up across 75 countries that have attracted an estimated USD 1 trillion in assets.

Having achieved the critical volume of US$1 trillion in Islamic assets, the question reverberating across board rooms, and among users of Islamic financial services, is whether Islamic finance will continue to rise amid all the changes.  Effectiveness of the existing Shari’ah governance framework, as well as product structures commonly in use are especially under discussion.

Rise of Islamic Finance Continue

Islamic finance is one of the world’s fastest growing financial sectors and is already being marketed beyond the traditional Muslim investor community. The appeal of Islamic instruments stems from the concepts on which they are based — for example, their emphasis on ethical and environmentally sustainable investments. Specifically, the development of the industry has taken place in two key geographical areas, South East Asia and the Middle East. Within the GCC region, UAE, Qatar and Bahrain are rapidly growing in terms of the number and size of Islamic finance transactions and are particularly active in developing Shari’ah compliant product structures. Internationally, Malaysia and London, for instance, are geared up to develop as major forces in the global market.

New Challenges for Islamic Finance Industry

However robust demand for Islamic finance has led to new challenges for the industry including legal and regulatory considerations. Despite the evidence of continued growth within the Islamic finance sector, the market challenges remain very real. To begin with, there is widespread unfamiliarity with the market, coupled with little expert media coverage. More significantly, there is a huge shortage of suitable specialists working within the industry. Few individuals have the skills necessary to understand the requirements for Shari’ah compliance, the complexities of Islamic commercial law and the technical Arabic terminology, which is unique to this financial sector. Establishing Islamic financial products requires ratification from Muslim scholars at the highest level and the ultimate issue of a ‘fatwa’ to that effect. This dearth of suitably qualified people can only be redressed by increasing the awareness of the career possibilities within the industry and by the offering of globally accepted qualifications. Usually, the basic requirement to become a recognized scholar in Islamic finance is a first degree in Shari’ah law from a recognized university, which assures a basic understanding of the law. There are some individuals, however, who have no formal education in Shari’ah law, but have an informal education through close association with an existing senior scholar. There are also lawyers, accountants and economists who study Shari’ah law and can formalize their knowledge and become recognized scholars. Although there is a shortage of qualified experts in the industry, however interestingly we have not seen the lack of them slowing down the process of completing transactions.

Add to this, if Islamic finance is to compete with mainstream global finance, the industry needs to also improve transparency and foster credibility by harmonizing standards and practices, not least, the variety of Shari’ah interpretation between regions and even institutions.

Regulatory oversight needs to be sharpened as well. Currently, there is a lack of a legal and regulatory framework for dispute resolution, especially in cross-border transactions. In contracts for Islamic transactions, the enforceability of terms and conditions depends on the governing law. In the case of a dispute, it is unlikely that a court located in a commonwealth country will determine a verdict based on Shari’ah law. To mitigate this risk, contracts have to be written carefully to minimize potential disputes.

Another challenge is the lack of a tax framework for Islamic products leading to uncertain tax outcomes and sometimes even double taxation, as well as the prohibition of certain Islamic products. A number of countries including Australia and United Kingdom are considering revisions to their tax, legal, and regulatory frameworks to attract Islamic finance.

Lastly, Islamic finance also presents an unusual problem because there is neither any specific legislation regulating it, nor is there sufficient relevant case law to address these issues. Shari’ah law is not a codified body of law, but rather a set of practices based on interpretations. Furthermore, Islamic finance in some countries and their various business models have not yet been tested in a severe economic or market downturn.


Going back to the hypothetical situation discussed in the opening paragraph, if you are the CFO of your company, it will not be easy for you to make a decision whether to opt for Islamic financing over conventional ones given the challenges faced by the industry. Therefore, sound advice will play a crucial role before you make any decision. Nonetheless, as the global economic recovery takes hold, we expect to see a resurgence of economic activity in the traditional markets for Islamic finance, such as Malaysia and the Gulf states. We are also excited by the near-term potential we see in fast-growing nations with large Muslim populations, such as Indonesia, India and Bangladesh, and looking further ahead we are very encouraged by the positive signals coming from policymakers in United Kingdom, Australia and China.


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