Islamic Banking Final
Transcript of Islamic Banking Final
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Islamic Banking
IN PARTIAL FULFILMENT OF THE REQUIREMENTS FOR
MASTER OF FINANCIAL MANAGEMENT
2013-14
ROLL NO. 110
JAMNALAL BAJAJ INSTITUTE OF MANAGEMENT STUDIES, MUMBAI
UNIVERSITY OF MUMBAI
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Acknowledgement
I would like to thank Mr ________________ the of Dubai Islamic bank who helped me
in understanding the dynamics of Islamic Banking, the interviewees who shared their
valuable inputs on Islamic Banking, my husband who encouraged me to keep up the
interest & clear focus, my friends for sharing the meaningful debates on the topic, my
guide for helping me in streamlining the project work and last but not the least my
Institute for giving me this wonderful opportunity to work on such an interesting topic.
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Contents
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Executive Summary
For the last couple of years the growth of Islamic banking has outstripped the growth of
normal banking. Currently there are 300 Islamic banks throughout the world holding
assets over $270 billion. The Middle East, the South East Asia and South Asia are the
main emerging hubs of Islamic banking and finance.
This project outlines the functioning of Islamic banks globally and in developing
countries, reasons why Islamic banking should be started in India, working of some of
the Islamic financial organizations in India, what are the changes in regulation that are
required and obstacles of Islamic banking in India.
Finally conclusion has been provided whether Islamic banking is worthwhile to be
persuaded in India or not.
The project also includes opinions and interviews of Islamic Scholars providing their
views on Islamic banking in India and how will it affect the country as a whole.
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Chapter 1
Introduction to Islamic banking
The term Islamic banking is striking and at the same time misleading. Often it is
misunderstood as a bank catering to the needs of Muslim society. In reality, Islamic
banking is for all irrespective of any religion, caste or creed. It is based on Islamic law
(Shariah) andfollows the Shariah, called fiqh muamalat(Islamic rules on transactions).
Islamic banking, enlightened with the guidance of Islamic Sharia principles, is an
alternative financial system that neither gives nor takes interest (riba), thereby having a
fair system of social justice and equality, while fulfilling the financial needs of people and
maintaining high standards of ethics and transparency.
Islamic banking has emerged as a banking system in which millions around the
world, irrespective of religious beliefs, are putting their faith in. Rather than opting for
interest as a way of generating wealth, Islamic banking is unique way that helps
individuals as well as businesses build tangible and appreciating assets for themselves.
This not only leads to prosperity but also encourages the spirit of entrepreneurship
amongst its customers.
Islamic banks are based on the concept of profit and loss sharing with the
customers by way of various Sharia-compliant financing and investment tools. Islamic
banks provide an opportunity to the individuals and the businesses to build various
assets which contribute to the development of the economy. Apart from this, the Islamic
banks encourage the investment process through adopting innovative Sharia structures
in all spheres of the economy, except in a few activities which are considered unethical
such as gambling, alcohol and lottery.Due to their very nature of complying with the
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Sharia principles, the Islamic banks are forbidden from indulging in any such practice,
which may prove harmful to a customer.
Islamic banking is also the first where a customer, whether individual or
corporate, isn't just a customer, but is a partner with the bank or owner of goods or
assets. This means they share the risks, as well as the profits of such a partnership or
ownership. And this unique arrangement is done in accordance with the laws of Sharia,
which ensures complete transparency at all times.
Islamic banking therefore offers a portfolio of innovative, Sharia-compliant
financial models that formalize this unique arrangement between customers and the
bank. These are Murabaha, Musharaka, Mudaraba, Istisna, Salam and Ijara, to
name a few.
Another unique aspect of Islamic banking is the special status it accords to
female customers. It was the first banking system to provide women with separate and
specialized banking facilities for them to conduct their financial transactions in utmost
privacy and comfort.
And last but not least, Islamic banking is perhaps the only financial system to
forbid the use of its finances or services for misleading, dishonorable, immoral and other
purposes that would be harmful to society.
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Evolution of Islamic Banking
The term Islamic banking became common in the 1960's, but the mechanisms and
concepts of the system were implied and used since the birth of Islam. Charging interest
on loans was not common back then.
The first time interest bearing loans were widely used in the Muslim world, especially in
the Middle East, during the Ottoman Empire's rule in the 15th century. Mehmet Ebusuud
Efendi, the senior Islamic cleric of the Ottoman Empire, issued a fatwa (ruling) allowing
the charging of interest and considering it halal (permissible) as long as it was below
10%. Even though it was clear in The Holy Quran that interest was strictly prohibited,
almost no one could challenge the senior Islamic clerics ruling because challenging him
would mean challenging the Ottoman Empire's rule. Bankers back then were mostly
Jews and Christians; many of them were Greeks and Armenians
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After the Ottoman Empire's decline in the 1920's following World War I, the Middle East
was divided by the major colonial powers. The British and the French had an agreement
to split up the countries in the Middle East among themselves, while Italy took some
parts of North Africa. The development of a modern banking system in Islamic countries
occurred when their colonizers needed banks to fund different activities including
agriculture, manufacturing and mining. After getting their independence following World
War II, many Islamic countries nationalized their banks and established development
banks to help governments fund the public sector and expand different industries. Back
then, banks in Muslim countries were not addressing the need of devout Muslim
customers, who held on to their money and avoided putting it in banks because of their
interest-based system, which contradicts with their religious beliefs and principles. This
led to the under banking of a big and important segment of the population whose
savings were not used efficiently. This mismatch between the banks' operations and the
devout Muslims' concerns lead some shariah scholars and bankers to work together
and try to establish a new banking system which was more efficient. A system that can
take advantage of devout Muslims' savings by pumping their money into the
banking sector, while at the same time not jeopardizing their religious beliefs.
That led to the establishment of the first Islamic bank in 1963; The Mit Ghamr
Local Savings Bank in Egypt. The bank couldn't survive and had to close its doors 2
years later for different reasons including the lack of resources and support, but has
paved the way for modern Islamic banking. Mit Ghamr Bank helped set general
guidelines and came up with new terminologies that helped future Islamic banks and
gave them the hope that Islamic banking can be competitive and profitable.
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Since then, Islamic banking assets with commercial banks globally grew to $1.3 trillion
in 2011, suggesting an average annual growth of 19% over past four years (2011:
24%). The top four markets account for 84% of industry assets. The Islamic banking
growth story continues to be positive, growing 50% faster than the overall banking
sector. Islamic banking assets are forecast to grow beyond the milestone of $2 trillion
by 2014.
Islamic banks continue to grapple with multiple challenges relating to sub-scale
operation, asset quality, and negative operating income from core activities and a weak
risk culture.
Islamic banking the scenario worldwide
Islamic finance has grown at a pace of 15 to 20 percent annually for the last five years
and banking has been an important part in that. There are approximately 300 Islamic
banks throughout the world with an estimated asset of $270 billion. According to
experts, in the face of Globalisation, Islamic banks rank among top three in their
markets. The largest markets for Islamic finance are Saudi Arabia, USA, Turkey this is
considering Muslim population and per capita income. The fastest growing markets are
Bahrain, Malaysia, and Indonesia. The potential for growth of Islamic finance is
tremendous with estimates suggesting that within eight to ten years, half of saving of
worlds 1.5 billion Muslims will be in Islamic banks. This means $905 billion assets in
Middle East alone. When considered Muslims living outside Middle East, like in India,
Indonesia, the assets base can grow significantly. International banks like HSBC, BNP
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Paribas have branches in Arab region. Many other institutions are doing the same but
have separate Islamic branches.
The Middle East and Asia are two main markets where Islamic banks have flourished.
Bahrain, Kuwait, Qatar, Saudi Arabia and the United Arab Emirates are active players in
the Middle East. Egypt, Lebanon, Oman and the Syrian Arab Republic are catching up.
In Asia, Malaysia has a fully developed Islamic financial system (consisting of banking,
Takaful, or insurance, capital market and money market components). Other developing
players include Brunei Darussalam, Indonesia, Pakistan, the Philippines and Thailand.
The growth in these markets is fuelled in part by natural demand from the Muslim
population within those countries. As awareness increases and Islamic banks extend
their service, even non-Muslim customers have opted for Islamic banking facilities. This
is normal in Malaysia, for example, where sometimes half of an Islamic banks customer
base is non-Muslim. In the West, banks are also competing for a piece of the lucrative
Islamic banking business pie.
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Shariah-compliant Islamic models
Wadiah (Safekeeping)
Wadiah means custody or safekeeping. In a Wadiah arrangement, you will deposit cash
or other assets in a bank for safekeeping. The bank guarantees the safety of the items
kept by it.
How does it work?
1. You place money in a bank and the bank guarantees to return the money to you.
2. You are allowed to withdraw the money anytime.
3. Bank may charge you a fee for looking after your money and may pay hibah (gift)
to you if it deems fit.
4. This concept is normally used in deposit-taking activities, custodial services and
safe deposit boxes
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Mudharabah (Profit sharing)
Mudharabah is a profit sharing arrangement between two parties, that is, an investor
and the entrepreneur. The investor will supply the entrepreneur with funds for his
business venture and gets a return on the funds he puts into the business based on a
profit sharing ratio that has been agreed earlier. The principle of Mudharabah can be
applied to Islamic banking operations in 2 ways: between a bank (as the entrepreneur)
and the capital provider, and between a bank (as capital provider) and the entrepreneur.
Losses suffered shall be borne by the capital
provider.
How it works?
1. You supply funds to the bank after
agreeing on the terms of the Mudharabah
arrangement.
2. Bank invests funds in assets or in
projects.
3. Business may make profit or incur loss.
4. Profit is shared between you and your
bank based on a pre agreed ratio.
5. Any loss will be borne by you. This will
reduce the value of the assets/ investments
and hence, the amount of funds you have
supplied to the bank.
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Bai Bithaman Ajil BBA (Deferred payment sale)
This refers to the sale of goods where the buyer pays the seller after the sale together
with an agreed profit margin, either in one lump sum or by installment.
1. You pick an asset you would like to buy.
2. You then ask the bank for BBA and promise to buy the asset from the bank
through a resale at a mark-up price.
3. Bank buys the asset from the owner on cash basis.
4. Ownership of the goods passes to the bank.
5. Bank sells the goods, passes ownership to you at the mark-up price.
6. You pay the bank the mark-up price in installments over a period of time.
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Ijarah Thumma Bai(Hire purchase)
Ijarah Thumma Baiis normally used in financing consumer goods especially motor
vehicles. There are two separate contracts involved: Ijarah contract (leasing/renting)
and Baicontract (purchase). The contracts are made one after the other as shown in
the diagram
1. You pick a car you would like to have.
2. You ask the bank forIjarah of the car, pay the deposit for the car and promise to
lease the car from the bank after the bank has bought the car.
3. Bank pays the seller for the car.
4. Seller passes ownership of the car to the bank.
5. Bank leases the car to you.
6. You pay Ijarah rentals over a period.
7. At end of the leasing period, the bank sells the car to you at the agreed sale
price.
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Murabahah(Cost plus)
As in BBA, a Murabahah transaction involves the sale of goods at a price which
includes a profit margin agreed by both parties. However, in Murabahah, the seller must
let the buyer know the actual cost for the asset and the profit margin at the time of the
sale agreement.
Musyarakah(Joint venture)
In the context of business and trade, Musyarakah refers to a partnership or a joint
business venture to make profit. Profits made will be shared by the partners based on
an agreed ratio which may not be in the same proportion as the amount of investment
made by the partners. However, losses incurred will be shared based on the ratio of
funds invested by each partner.
Wakalah(Agency)
This is a contract whereby a person (principal) asks another party to act on his behalf
(as his agent) for a specific task. The person who takes on the task is an agent who will
be paid a fee for his services.
Example
A customer asks a bank to pay someone under certain terms. The bank is therefore the
agent for carrying out the financial transaction and the bank will be paid a fee for its
services.
Qard(Interest-free loan)
Under this arrangement, a loan is given for a fixed period on a goodwill basis and the
borrower is only required to repay the amount borrowed. However, the borrower may, if
he so wishes, pay an extra amount (without promising it) as a way to thank the lender.
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Example
A lender (bank) who lends Rs 5,000 to a borrower on Qardwill expect the borrower
(customer) to return exactly Rs 5,000 at a later date.
Hibah(Gift)
This refers to a payment made willingly in return for a benefit received.
Example
In savings operated underWadiah (safe banks will normally pay theirWadiah
depositors hibah although the accountholders only intend to put theirsavings in the
banks for safekeeping.
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Banking Scenario in India
Banks in India are categorized into scheduled and non schedule banks. Scheduled
banks consist of commercial and co-operative banks. India has 87 scheduled
commercial banks with deposits worth Rs.71.6 trillion (US$ 1.21 trillion) as on 31 May,
2013. Of this, 26 are public sector banks, which control over 70% of Indias banking
sector, 20 are private banks and 41 are foreign banks.
There are 67,000 branches of scheduled banks spread across India. During the first
stage of financial reforms, the country witnessed massive growth in the banking sector.
As far as the present scenario is concerned the public sector banks which are the
foundation of the banking system, account for more than 78% of the total banking
assets. These banks face problems such as Non Performing Assets (NPAs), huge
manpower and lack of technology.
On the other hand, private sector banks are the leaders in Internet banking, phone
banking, mobile banking and ATMs. Foreign banks are successful in India and are likely
to grow in the future. The foreign banks have a total market capitalization of Rs.9.35
trillion (US$ 158.16 billion) as per the recent statistics.
The share of New Private Sector Banks, Old Private Sector Banks, Foreign Banks, and
Regional Rural Banks in aggregate deposits was 13.6%, 4.8%, 4.3% and 2.9%
respectively.
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Reasons for having Islamic banking in India
Islamic Banking for Inclusive Growth: The structural changes in India during post
independence are no parameter for equitable growth. Islamic banking can give inclusive
growth along with control over inflation. It is well known that the SCBs extend debt
finance.
The interest component ipso facto becomes part of GDP. Interest rate sensitivity to
inflation is well known. However, equity finance if extended with far lower costs of credit
has potential to restrict inflation and there is enough evidence from West Asia in this
regards.
Then the distribution of dividend among equity holders helps in equitable distribution. In
the agricultural sector, due to small loans, it has the capability of growth of
infrastructure. Also Islamic banking can lend to small loans to unorganised sector due to
its non-insistence on collateral as a precondition for lending even small sums of money.
This would help to improve condition of states of desperate labour capital ratio like U.P.
and Bihar.
Islamic Banking and Financial Inclusion of Muslims: Muslims are the most
disadvantaged community in financial sector according to Sachar Committee. Due to
interest based deposit and credit from commercial banks, 80% of Muslims are
financially excluded. The worker participation of Muslims in financial sector is also less;
Muslims have just 0.78% and 2.2% employment with RBI and SCBs. Similarly in other
financial institutions like SIDBI, NABARD Muslims presence is negligible. Hard to
believe but true, that even Institutions like National Minority Development and Finance
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Corporation (NMDFC) have no Muslim managers. According to RBIs report, Muslims
loose around Rs. 63700 crores annually because they have a credit deposit ratio of
47% against national average of 74%. With 31% Muslims living under poverty line and
40% Muslim workers as own account workers, this big deficit can be covered by Islamic
banking. It will not only please 150 million Muslims living in India, the second largest
community of India, it will give advantage to attract trillions of Arab petro dollars.
Corporate Sector and Islamic banking: The total investment in infrastructure in 2006-
07 has been 5% of GDP, and it needs to be 9% by 2011-12. The total investment
amounts to Rs 20,56,150crores for the 11th five year plan of which Rs. 1436,559 crores
is supposed to be met from Public Investment while Rs. 6,19,591 from private
investments. Islamic banking through equity financing can help to reduce the burden of
keeping current account and fiscal account deficit under control.
Islamic banking to counter terrorism: With greater inclusion of Muslim youths in
financial sector, they can contribute in a better way. One of the main reasons of
terrorism is poverty and Islamic banking can alleviate the condition. Also stringent
norms of Islamic banking can help in stopping money laundering.
Islamic banking and entrepreneurship: In his book Entrepreneurship and Indian
Muslims, Dr. M. Akbar indicates the results of a study he conducted: most surprising
was the positive association between the degree of religious observance and level of
entrepreneurship.
Higher orders of entrepreneurs displayed higher degree of religious observance, as they
wanted to establish in their society that they were not only better entrepreneurs but
were better Muslims as well. This positive correlation between entrepreneurship and
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religiosity reflects well in Islamic banking among poor Muslims. It means the more the
religious one person is the more likely that he will use the service of Shariah complaint
banks.
Investment framework favourable in India: Indias legal framework, which is the best
in the region which protects foreign investors. Also India has abundant managerial and
technical skill which will bring in more Arab money. Also the economies of other
neighbouring Islamic countries like Pakistan and Indonesia have limited opportunities
for the huge Arab money.
Islamic banking and bankruptcy:As Islamic banking adheres to strict credit rating by
disallowing indebted people to take on more debt, and as they go for equity financing,
they screen the project more strictly, thus reducing the chances of bankruptcy. The
credit rating under Islamic Finance has nothing to do with up and rise in asset values,
instead it depends on actual business, thus also increasing entrepreneurial skills. Thus
there is no fear of subprime mortgage under Islamic banking principles. Also due to right
of ownership, in case of bankruptcy, the banks have higher chance of recovery.
Islamic Banking and Microfinance
Under normal banking system, there must be trust between borrower and lender so that
a transaction takes place. There are two components for that trust: first the applicants
reputation as a person of honour and second the availability of collateral in case of
default. But the poor people dont have any of the two for which they dont have access
to credit market, except the loans from greedy moneylenders. With passage of time, the
orientation of Islamic banking has shifted somewhat towards profit maximisation where
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banks vie for countless billions of Arab petrodollars. But on a whole Islamic banking is
not only refraining from charging interest. Its aim to contribute positively towards the
fulfilment of the socioeconomic objectives of Islamic society inscribed in Maqasid al
Shariah.
What some Indian Muslim Funds in North India are doing
Since 1960s, there have been efforts in India to run interest-free credit societies for the
welfare of Muslims. In 1961, at Deoband, Jamiet-e-Ulema-e-Hind established the
Muslim Fund Deoband, which inspired many similar funds to set up. Currently there are
more than 100 Muslim funds in the country and many of them are member of the
Federation of Interest Free Organization (FIFO). These funds are registered as
Charitable Trusts. These funds provide financial assistance to needy people, both
Muslims and non-Muslims on the basis of strong collateral in the form of ornaments. In
the last 4 decades, their balance sheet have increased but they have not succeeded in
following the Islamic norms as far as their lending and borrowing is concerned as their
bulk earning consists of bank interest. The running of these funds is ambiguous, both in
context of the Shariah and also in adopting the rules prescribed by Government. The
fund managers are not much aware of the recent developments in the Islamic finance.
These funds accepts collateral in the form of ornaments which they keep in their own
lockers, thus the problem of safety is there. They have to devise way of recovering their
costs apart from the fixed earning from bank. They have successfully inculcated the
savings behaviour among low income Muslims by introducing daily collection system.
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Stock Market and Islamic Banking
The Indian stock markets could see huge inflows through Shariah-compliant funds as
Islamic investors are lured by the countrys rising economy. These will also auger the
need of Islamic banking system so that these funds can operate smoothly.
The number of Shariah-compliant stocks in India is much higher than that of all Muslim
countries put together, thus providing an immense scope for parking money, according
to experts.
For instance, 61 per cent if the listed companies in India are Shariah-compliant, against
57 per cent in Malaysia, 51 per cent in Pakistan and a mere 6 per cent in Bahrain. In
terms of the number of stocks, 283 of Bombay Stock Exchanges BSE-500 constituents,
214 BSE small caps, 39 NSE-50 (Nifty) and 23 Sensex stocks are Shariah-compliant.
There would be 8-10 funds in the Indian markets in 2-3 years and these would attract at
least Rs 3,000 crores from domestic sources alone, he added.
The German-based Baader Service Bank is coming in with a corpus amount of 30
million Euros for its First India Islamic Fund in Germany. The fund is awaiting FII
status from the Reserve Bank of India. The Shariah stocks would encompass sectors
such as telecom, IT/ITES, automobile, FMCG and real estate.
Taurus Parsoli Ethical Fund the maiden Islamic fund in India -- The Fund, as the offer
document states, is a five-year closed ended fund, which is not listed on the exchange.
Mumbai S&P CNX Shariah on February 20th 2008 announced the launch of S&P CNX
500 Shariah and S&P CNX Nifty Shariah in a move to capture the movement of Shariah
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compliant stocks in the Indian stock market for Islamic investors. The S&P CNX 500
Shariah comprises 263 companies while the S&P CNX Nifty Shariah comprises 40
firms.
Indian banking laws and Islamic banking
Indian Banks are regulated by the Indian Banking Regulation Act (1949), The Reserve
Bank of India Act (1935), The Negotiable Instruments Act and the Cooperative Societies
Act (1866). Some of the obstacles of Islamic banking regarding regulations are:
a) Section 21 of the Banking Regulation Act requires payment of interest which is
against Shariah.
b) Section 5 & 6 of Banking Regulation Act disallows banks to enter into any profit
sharing and partnership contract the very basis of Islamic banking.
c) Section 9 of the Banking Regulation Act prohibits banks to own any sort of
immovable property apart from private use this is against Ijarah (for home finance).
Thus to allow Islamic banking considerable amount of changes on law have to be made.
One way is to keep the current legislation applicable for existing banks and amend
specific legislations applicable for interest free banks. A new regulatory body will
oversee them and help them make and enforce accounting and auditing standards. One
specific change to be made includes the requirement that NBFCs would have to invest
at least 15% of their total investment in interest based Government securities. An easy
alternative is to allow them invest in equity of public listed companies. Another change
required is the heavy taxation of return on equity investment as opposed to interest
income.
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Other hindrances in the way of Islamic banking
Standards non-uniformity: The interpretation of Shariah differs between regions and
even between institutions. This gives rise to unequal products. Also regulatory oversight
needs to be developed further.
Manpower shortage in Islamic Banking: With Islamic banking at its nascent stage,
there is acute shortage of trained Islamic bankers as well as scholars. Recently three
institutes offering Islamic finance and management has been set up in Kerala,
Hyderabad and Bhubaneswar, offering postgraduate diploma in Islamic banking and
finance. Also Aligarh Muslim University is planning to open such a course.
Need of more products: The industry needs to work on innovation. Due to many rules,
the instruments tend to become more complex and there are many instruments like
corporate treasury is missing
Islamic banking system for developing nations like India
Sources of fund: Islamic banking over the years has identified two kinds of accounts:
Demand deposit or transaction accounts which doesnt pay any interest and may even
charge interest. Although it is illegal under Islamic law to pay interest, one can be
compensated for maintaining purchasing power. This can be paid monthly or quarterly
based on wholesale or consumer price index. The other type is investment account
(Modarabeh) where the bank provides equity capital to companies. The account holders
become indirect shareholders with no guarantee on the value of their account. This set
of accounts resembles mutual fund. Also it helps generate huge amount of information
generation of credit history. The transaction account will have the most senior claim
against the bank.
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Investment of funds: Mainly in equity contracts. Debt can be given only when the bank
has great deal of confidence in the project or management or the liquidation value of the
collateral. By this way the banks will not strictly focus on equity participation; it will offer
conventional deposit accounts which has safety and return; this will help in money
generation and satisfy the transaction need of economy.
Future Outlook
The country where the Muslim population is more than Pakistan, after 60 years of
Independence should think about reform in banking sector to introduce Islamic banking.
Raghuram Rajan Committee on Financial Sector Next Generation Reforms made a
reference to this aspect. There has never been any public committee analyzing the
effects of Islamic banking in India. This can be attributed to the fact that Muslims in India
have never demanded Islamic banking in a prominent manner. And we never delivered
it to them for which Muslims in India have only 9% of total bank accounts although they
make up 12% of the population. Islamic banking can boost Indian economy by boosting
real sector economy rather than only financial sector. There are many advantages of
Islamic banking but the main reason is that the Muslims are so poor today that we truly
owe it not only to our forefathers and our current generation to make things better, we
also owe it to future generations of Indians. There are certain costs in implementing
Islamic banking, but the expected value of such a reform is quite high. Many new
Shariah compliant financial instruments are being developed throughout the world from
which Indian regulators can learn and inculcate. India should take help to make
regulatory framework from foreign banks which have operations in Islamic banking
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environment. Taking all these points into consideration, India should open up for Islamic
banking so that Indian Muslims are benefitted and huge amount of FDI from Muslims
worldwide comes in the country.
Steps taken by Indian Government
xperts argue that Islamic banking will mobilise enormous capital held by devout Muslims
who sparingly participate in the conventional market. TheRaghuram Rajan
Committeeon Financial Sector Reform (2008) also considered interest-free banking,
and by 2013, theglobal marketfor sharia-compliant assets has risen to $1.6 trillion.
Specifically for India, this means institutional money from the Middle East and
Southeast Asia, as well as private wealth held by Indian Muslims in and out of the
country. Given the number of Indian expatriates in these regions, Islamic banking holds
an enticing opportunity for fuller market capitalisation. Sharia-compliant schemes have
already shown promise in India - Tata Core Sector Equity Fund, launched in 1996, was
tailored to assuage Muslim inhibitions on riba. Furthermore, it would be an added bonus
if Islamic banking reduces dead-end investments in gold and jewellry.
The Reserve Bank of India has recently as given a nod to the Kerela Government to
start the first Islamic Banking operations in the country he he Kerala government has
got a go-ahead from the to launch a financial institution following the principles of
Islamic finance.
Cheraman Financial Services Limited (CFSL) will be floated by Kerala State Industrial
Development Corporation to function as a non-banking finance company (NBFC). A
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formal announcement on CFSL, the latest incarnation of Al Baraka Financial Services,
was made on Saturday.
Industries minister PK Kunhalikutty andCFSLchairman P Mohamad Ali told reporters
here that the firm would function as a non-banking finance company with an authorised
capital of Rs 1,000 crore.
This is xpected t benefit the 177 million muslims in India , the largest Muslim minority
poplation in the world.
LEGAL CHALLENGE
Last year, the RBI directed Kochi-based Alternative Investments and Credits Ltd (AICL)
to stop its non-interest NBFC business almost a decade after the firm was launched.
This prompted an ongoing legal challenge by AICL.
"The grant of an NBFC licence should have an impact on the AICL proceedings and
there are good chances that the matter may get settled soon," said Suprio Bose,
Mumbai-based lawyer at Juris Corp, a law firm which previously represented AICL.
"The event reflects a significant and welcome change in RBI's attitude towards sharia-
based NBFCs and sets a precedent for others to follow suit."
However, many analysts think that unless and until full-fledged Islamic banks are
permitted in India, an Islamic finance sector will find it hard to develop.
http://timesofindia.indiatimes.com/topic/CFSLhttp://timesofindia.indiatimes.com/topic/CFSLhttp://timesofindia.indiatimes.com/topic/CFSLhttp://timesofindia.indiatimes.com/topic/CFSL -
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"I don't think there is going to be a rush for NBFC applications. RBI's attitude towards
the sharia-compliance concept is yet to be tested," said Shariq Nisar, director of
research and operations at Mumbai-based Taqwaa Advisory and Shariah Investment
Solutions.
Running a sharia-compliant financial institution under Indian regulations is still difficult
and other firms are likely to stay on the sidelines pending the success of existing
schemes before deciding to join in, he added.
Islamic equity and venture capital products have attracted little demand in India and
NBFCs could face the same fate, said Nisar. "NBFC business overall has been
declining over the years."
The RBI issued guidelines for NBFCs in June, cracking down on debt issuance by an
industry that relies heavily on capital markets to fund its business but has faced less
regulatory oversight than banks.
According to central bank data, credit extended to NBFCs increased by 1.9 percent
from a year earlier in June, compared with an increase of 43.9 percent in June last year.
There are over 12,000 registered NBFCs in India.
A handful of politicians have been lobbying for years to start Islamic banking in India,
but they have met strong opposition from bureaucrats in the finance ministry and
banking circles. Some politicians, especially from the main opposition Bharatiya Janata
Party, say they fear Islamic banking could be used by militants and might strengthen the
hold of clergy over India's Muslim community.
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DEVELOPMENT OF ISLAMIC BANKING IN INDIA
3.1 HISTORICAL DEVELOPMENTS
The work on Islamic finance in India has started in the beginning of the 20th century.
According to Shariq Nisar, it can be classified as literary and practical. The literature
available was primarily in Urdu, the rest being either in English or in Arabic. The first
book published in English on the Islamic finance was Islam and theTheory of Interestin
1946 written by Professor Anwar Iqbal Qureshi of Usmania University Hyderabad. On
the practical side,Anjuman Mowudul Ikhwan a welfare association, established in 1890
by a famous alim of Hyderabad. This was later managed by his son Syed Mohammad
Badshah Husaini. The society collected donations and skins of sacrificed animals from
the public and provided interest free loans to weaker section (Nisar, 2002). In north
India, the Muslim Fund Tanda Bavli, Rampur was established in 1941. Unfortunately,
the fund was closed due to partition of India. After about fifteen years since partition, the
Muslim Fund Deoband (MFD) was established in the year 1961, and is still operating.
Muslim Fund Najibabad (MFN) was established on the model of MFD in 1971. In 1990,
MFN floated a subsidiary, Al-Najib Milli Mutual Benefits Ltd. (Bagsiraj, 2002a). In
western India, the Patni Co-operative Credit Society, Surat (Gujarat) was established in
1938 and is still in operation to provide interest free loans to its members without any
collateral security or service charges. This region showed great efforts to establish a co-
operative credit society. The result of the efforts was recognized in the form of
establishment of the Modern Education Social and Cultural Organization (MESCO) by a
few college students of Bombay (now Mumbai) in the year 1968. MESCO led to the
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establishment of Baitun-Nasr Urban co-operative credit society (BUN), commenced
functioning in the year 1973.
Restriction on the operation of the society beyond the geographical boundary of
Bombay and certain other restrictions leads to the formation of Barkat Investment Group
(BIG) in the year 1983 (Nisar, 2002). BIG and Tata Mutual Fund came together in 1996
to launch a mutual fund scheme especially designed for Muslims in view of their
inhibitions about interest, though it has never being regarded as Shariah compliant fund
as no Shariah advisor involved for screening of the fund. The scheme named Tata Core
Sector Equity Fund. But, the fund name was changed four times due to various reasons
in past and presently known as Tata Ethical Fund (Adajania, 2011).
3.2 RECENT DEVELOPMENTS
Over the last decade, a number of significant changes have occurred in the Indian
banking sector with a view to raise the efficiency and productivity of banks as a whole.
3.2.1 ANAND SINHA COMMITTEE
With an objective to reach the banking system to more people in India, Reserve Bank of
India (RBI) had constituted a committee in June 2005 to examine financial instruments
used in Islamic banking headed by Mr. Anand Sinha, deputy director of RBI. Two
observations were made by the committee:
1. Appropriate modification should be made in banking regulation act 1949 along
with separate rules and regulations.
2. Taxation proposition have to be examined. But, the idea of Islamic banking was
rejected by RBI saying that it is not feasible for Indian banks to undertake Islamic
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banking or to allow theirbranches to carry out Islamic banking operations abroad
without amendments in current related banking and other laws.
3.2.2 RAGHURAM RAJAN COMMITTEE
In 2008, the Planning Commission of India appointed a committee, headed by
International Monetary Fund (IMF) former chief economist, Raghuram Rajan, to
recommend various ways to take the countrys financial sector reforms forward.
Raghuram Rajan committee has made two major recommendations. These
recommendations have given a boost to the demand of Islamic banking in India.
1. Committee recommended that measures should be taken to permit the delivery
of interest free finance on a larger scale, through the banking system and this is
in accordance with the objectives of inclusion and growth through innovation. The
committee affirms that interest free banking is currently provided in a limited
manner through Non Banking Financial Companies (NBFC) and cooperatives.
2. The committee believed that it would be possible only through appropriate
measures to create a framework for such products without any adverse systemic
risk impact.
3.2.3 PARLIAMENTARY COMMITTEE
Apart from the two important committees, there was another important development
which has provided strength to the demand of Islamic banking and finance in India. It
was revealed from the report of the Parliamentary committee set up by Prime Minister,
headed by Mr.Rahman Khan, Ex-deputy chairman Rajya Sabha has recommended to
create a Hajj pilgrimage fund based on Shariah principles. Lack of Shariah compliant
investment opportunities in India has discouraged Muslims to invest, not only through
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banks but also through stock market. The Securities and Exchange Board of India
(SEBI) has given approval forIndias first official Shariah compliant mutual fund scheme
Taurus ethical fund in 2009. The Taurus Mutual Funds and Parsoli corp. had applied
the funds offerdocument in October 2007, initially SEBI had some reservations on the
fund, as it targeted a particular community (Islamic Finance News, 2009).
3.2.4 KERALA GOVERNMENT INITIATIVE
In 2010, Kerala State Industrial Development Corporation (KSIDC), a wholly owned
Kerala state government company, got into an agreement with Al Barakah group to offer
Shariah compliant finance to the Muslim community. In the proposed Islamic financial
institution, KSIDC holds 11% stake. However, The government order was challenged by
Janata Party leader Subramanian Swamy in the Kerala High Court arguing that
association of government agencies in setting up Islamic investment company goes
against secular principles preserved in Indian constitution and was stayed on grounds of
violation of Article 14, 25, and 27. In February 2011, Kerala High court has dismissed
the petition filed by Subramanian Swamy and maintained setting up of an Islamic
investment company.
3.2.5 PRESENT SCENARIO
In June 2012, Chairman of national commission for minorities has proposed to Ministry
of Finance (MoF) to take a fresh account of the matter after RBI has again rejected the
possibility of Islamic banking in India. Consequently, MoF has asked the RBI to examine
the possibility of Islamic banking model a part of Indian banking system. In October
2012, RBI governor confirmed their discussion with MoF on amendments in existing
laws to accommodate Islamic banking in India (Unnikrishnan, 2012). This positive move
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of RBI certainly paves a path and gives an insight of the future of Islamic banking in
India.
India has strong ability to emerge as a potential market for Islamic banking, provided
there is supportive political environment and increased awareness among people in
India as a whole. Presently, there is no Islamic bank in India except few Shariah
compliant funds and several other Islamic financial institutions and credit cooperative
societies. India is in prime need of an Islamic bank because as per Sachar committee
report, about 80% Indian Muslims are financially excluded due to interest based deposit
and credit from conventional banks. In addition to that, RBI reports that Muslims have a
Credit Deposit Ratio (CDR) of 47% against the national average of 74% (Majumdar,
2008). It is to note that CDR is a monetary tool which maximizes the credit flow and
ensures better deployment of credit. As per the RBI, if the CDR is low, the weaker
sections will be the most affected along with other borrowers. Hence, the lesser credit
flow from banks to Muslims would widen the gap between the weaker sections and
economically sound sections.
4. PROSPECTS AND BENEFITS OF ISLAMIC BANKING IN INDIA
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The prospects of Islamic banking in India are bright; with reference to demographic
structures and the benefit of Islamic banking in itself.
4.1 DEMOGRAPHIC ADVANTAGE
India is at an advantage due to its Muslim population. Islamic banking has been
augmented in Asia-Pacific region, now account for 60% of the global Islamic banking
market. Despite its rise in the rest of the region, the adaptation in India of the same has
been low. It is very surprising mainly because according to Pew Research Center, India
is the 3rd largest Muslim populated country after Indonesia and Pakistan, having
approximately 177 million Muslims, which is 14.6% of total Indian population (Grim and
Karim, 2011). According to India census 2001, Muslim population enumerates at over
138 million.
In terms of the state wise distribution, the majority of the Muslims in India are based
mainly in four states Uttar Pradesh, Bihar, West Bengal and Maharashtra with at least
10 million Muslims each. Uttar Pradesh has the largest Muslim population in India with
around 30 million Indian Muslims living, as shown by the census 2001. The other states
with a considerable Muslim population are Kerala, Andhra Pradesh, Assam, Jammu and
Kashmir and Karnataka with a population of between 5 to 10 million Muslims each.
Rajasthan, Gujarat, Madhya Pradesh, Jharkhand and Tamil Nadu have Muslim
population of between 3 to 5 million each. Delhi, Haryana and Uttaranchal have 1 to 2
million each.
TABLE 1: NUMBER OF DISTRICTS BY MUSLIM POPULATION SIZE AND
CONCENTRATION, CENSUS 2001
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Percentage of Muslims in the total populationof the district
Number ofdistricts
75 or more 9
50 or more but less than 75 1125 or more but less than 50 38
10 or more but less than 25 1821 or more but less than 10 276Less than 1 77Total 593
A report on social, economic and educational status of the Muslim community of India
(Sachar, 2006).
According to district wise distribution, Committee reports that out of 593 districts in
India, 20 have Muslim majority. Nine have over 75% Muslim population; these include
Lakshadweep and eight districts in Jammu and Kashmir as shown in table 1. The other
11 districts have between 50 to 75% Muslim population. These are extended in
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following states: 6 districts of Assam, 2 districts of Jammu and Kashmir, as well as 1
district each for West Bengal, Bihar and Kerala. Nearly 18 Million people lived in these
districts, making about 13% of Indias Muslim population as shown in table 1 (Sachar,
2006).
A further 38 districts have a noteworthy Muslim population of between 25 to 50%. These
are scattered in a number of states as follows. Uttar Pradesh 12 districts, West Bengal 5
districts, Kerala 5 districts, Assam 4 districts, Bihar 3 districts, Jharkhand 2 districts,
Delhi 2 districts and 1 district each in Andhra Pradesh, Haryana, Jammu and Kashmir,
Uttaranchal and Pondicherry. These districts accounts for around 30 Million people,
about 22% of the Muslim population.182 districts have a significant Muslim population
between 10 to 25%. These districts accounted for nearly 47% of the Muslim population,
around 65 Million people. In about 276 districts Muslim population is between 1 to 10%
of the population. For the remaining 77 districts Muslim population is between 0 to 1%
and these 353 districts have nearly 25 Million people, about 18% of Indias Muslim
population. The demand for Islamic banking by Muslims in India is supported by a
survey conducted by Bagsiraj (2002) which revealed that 80% urban Muslims in India
are all set to deposit or invest on Profit Loss Sharing (PLS) basis and 67% urban
Muslims are willing to borrow from Islamic financial institutions.
4.2 SIGNIFICANT FLOW OF FUNDS
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The absence of Islamic banking is an obstacle to the flow of substantial funds into the
market. According to Shariq Nisar, Director, TASIS, there is approximately INR 50
billion unclaimed interest in Kerala state alone. People generally choose to invest their
money in gold or jewellery, which is regarded as worst kind of investment. There are at
least 300 Islamic societies which accept deposits and lend money, but can t make a
business of it because of the Shariah prohibition of interest. And these Islamic societies
cannot convert themselves into bank because the regulation restricts interest free
banking. Some of these societies have collected more than INR 2 billion in interest-free
deposits, but they do not have any opportunity to invest the fund (Sampath, 2008).
4.3 EVADING PETRO-DOLLAR LOSS
Islamic banking is expected to benefit Indian government through diplomatic rewards in
financial dealings with Muslim dominated nations. Particularly, trillion dollars finance
from Gulf Cooperation Council (GCC) countries can be attracted. The GCC countries
interest in venture capitalism and real estate financing can help in infrastructure
development in India. In 11th five year plan the expected total investment in
infrastructure is to be INR 2,056,150 crores (1 crore = 10 million). Out of which INR
1,436,559 crores are expected to be met from public investment and Rs.619,591 crores
from private investments (Planning Commission of India, 2008). Due to absence of
Islamic banking, India is losing millions of petro-dollars which are now moving to
countries like UK, China, Singapore, Malaysia and Japan.
4.4 LARGE NUMBER OF SHARIAH COMPLIANT COMPANIES
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According to Ashraf Mohamedy, MD, Idafa investments, there are almost 80% of the
Indian companies are Shariah compliant to the extent their business in India is concern.
In the year 2009, SEBI has given licenses for Shariah compliant portfolio products. In
2011, National Stock Exchange (NSE) with Ratings Intelligence Partners (a
London/Kuwait-based global Islamic consulting company) has launched NSE Shariah
Index S&P CNX 500 Shariah. Whereas, in the same year Bombay Stock Exchange
(BSE) with Taqwaa Advisory and Shariah Investment Solutions (TASIS) has launched a
Shariah Index known as BSE TASIS Shariah 50. According to Shariq Nisar, the Director
of TASIS, BSE has the highest number of Shariah compliant companies across the
globe.
4.5 PROJECT FINANCING FOR ECONOMIC GROWTH
The financing in Islamic banking concerns more with the viability of projects instead of
credit worthiness of borrowers. In other words, Islamic banking is financing projects
which link to the economic growth. According to Siddiqi and Khan (2003) interest based
loans give advantage to credit-worthy individuals and do not necessarily finance
profitable projects. Conventional banking system priorities credit worthiness of the client
rather than expected profitability of the project. At times promising projects might fail to
receive finance if it comes from one who does not have a guarantee to support the
project. The emphasis on equity and profit sharing which is the key aspect to determine
whether a project is worth financing is a valuable asset of implementing the Islamic
banking in India.
Furthermore, the inadequate capital investment in unorganized sector can receive a
boost through equity finance promoted by Islamic banking. This sector normally lacks
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collateral, hence are not eligible for debt financing. Islamic banking can overcome this
situation and thus can lead to the next revolution in agriculture and unorganized sector.
4.6 SAFEGUARD AGAINST ECONOMIC DECLINE
As per the global downturn scenario, Islamic banks are a solution to the economic
decline. One of the important factor which leads to international financial crisis are
innovative financial products, transactions and short selling. Islamic banks are shielded
from interest based transactions because Shariah prohibits interest as well as short
selling.
4.7 INCOME DISPARITY REDUCTION
According to United Nations Development Programme (UNDP) human development
report, India needs to draw attention towards increasing income disparity as they
reported it to be 36.8, quite close to worlds average and with a rising trend (UNDP,
2011). This wide income disparity in its severe ravenous from has leato widen the divide
in society. Muslims who follow Shariah do not avail credits and remain isolated. Hence,
Islamic banking would assist in the upliftment and the disparity reduction.
4.8 INCREASED PARTICIPATION IN STOCK MARKET
It is expected that the introduction of Islamic banking and development of Islamic funds
would lead to addition of new stock trading accounts, thereby giving a rise in the stock
market. In line with Dow Jones' Islamic index, similar Indian Islamic indexes like BSE
TASIS Shariah 50 and S&P CNX 500 Shariah will attract funds from Muslims wishing
for Shariah compliant investments.
4.9 ISLAMIC WINDOW FOR BUSINESS DIVERSITY
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A growing number of commercial banks around the globe are considering the prospects
of offering Islamic financial products. Banks are not only planning to offer services to a
growing Muslim population, but also motivated to tap the growing global investors
attracted to Shariah-compliant products. Considering the idea, Indian banks may want
to explore the potential of this market, and hence may be interested in launching a pilot
project.
There have been arguments that banking based on religion has limitations to spread in
a secular country like India; which is not true. Britain, with less than 2 million Muslims
population, already has 6 Islamic banks, of which 3 were set up in 2008. According to
Ali Ravalia, associate, UK Financial Services Authority, people have started to realize
that Islamic banks are not a threat but an opportunity for economic growth. In addition to
the large and available Muslim population, Islamic banking is currently beginning to
catch the attention of non-Muslim customers, who are interested in alternative way of
banking. Indeed, a growing number of non-Muslims are turning towards Islamic
banking; as customers are frightened by chaos in the western banking system.
Secondly, this sector is considered safer and well connected to the real economy.
According to Fiorina (2008) Islamic banking will be benefited from the new customers
interest and grow even more quickly than it recently did. In addition, corporate giants
like Tesco (UK) and Toyota (Japan) have used Islamic financial instruments to fulfill
capital requirements (DiVanna and Sreih, 2009). This proves that not only individuals,
but also corporate giants have showed confidence in Shariah compliant financial
instruments
5. CHALLENGES OF ISLAMIC BANKING IN INDIA
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Despite the prospects and benefits of Islamic banking in India, various challenges and
obstacles for introducing Islamic banking prevails. India is a secular country and its
banking system is fully based on conventional banking. India has 88 scheduled
commercial banks (SCBs), 26 are nationalize banks (Government of India holding a
stake), 21 are private banks and remaining 41 are foreign banks. These SCBs have a
combined network of over 69,160 branches and 60,153 ATMs.
Although, several institutions are operating on the Shariah principles but they are
treated as NBFCs which functions like a bank. However, NBFC does not accept
demand deposits and cannot issue cheques.
Following are the major challenges to be faced by Islamic bank in India.
5.1 ADVERSE REGULATORY FRAMEWORK
One of the major challenges is the regulatory framework governing banks in India. The
lack in accounting, auditing, and credit analysis standards for Islamic banks exist until
now. Significant amendments in regulations are to be done, such as stamp duty,
banking regulations act, corporate and other tax regulations to evolve a different system
of regulation and control. None of these laws provide a room for the possibility of an
Islamic banking system in India. Countries such as France, Germany, Switzerland,
Singapore, Japan, Malaysia and the UK have adopted Islamic banking and amended
the regulatory framework to be favourable to Islamic banking. The Indian government
can choose and apply any model which is reasonable to the Indian scenario.
The RBI appointed Anand Sinha committee to elucidate if Islamic banking can be
introduced in India. The committee evaluated options and concluded that Islamic
banking cannot be offered by Indian banks as well as the overseas branches of local
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banks under the present legal framework. Except for a basic current account, almost no
other banking product in India can be modified to meet the Islamic banking requirement.
Few Indian b anking laws extracted from Indian banking regulat ion act 1949 are
the barr iers in th e ways to Is lamic banking are l is ted as below:
1. Al Wadiah (for saving bank account): Section 21 requires payment of interest on
such deposit.
2. Mudarabah (for term deposit or investment): Section 21 disallows such products
where the bank can invest the money in equity funds.
3. Mudarabah and Musharakah (for project finance and SME credit): Sections 5 and
6 indicate the forms of business a banking company can undertake, and does not
allow any kind of profit-sharing and partnership contract.
4. Ijarah (for leasing): As against Islamic banking where the banks owns the asset
and hold the title, Section 9 prevents the bank from any sort of immovable
property other than private use.
5. Istisna (for home finance): Besides the usual curbs on acquiring immovable
property, offering Islamic banking products may not be bankable due to stamp
duty, central sales tax and state tax laws that will apply depending on the nature
of the transfer.
5.2 INTERPRETATIONS OF SHARIAH PRINCIPLES
The second major challenge in introducing Islamic banking in India involved the varying
interpretations of Shariah principles across regions, countries and even within the same
country. Shariah council, an independent bank appointed panel of scholars determines
the Islamic practice and its interpretation. Therefore, based on the interpretation of what
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is considered Islamic in Bahrain may not be accepted in India. This absence of uniform
standards might affect the banks ability to duplicate and apply Islamic banks and
products across geographies and its expansion to other states.
5.3 INVESTORS ASSURANCE
The third challenge is captivating investors assurance. The conventional banks have
the facility of deposit insurance and credit guarantee which develops sense of security
and confidence among investors. The investors may demand for the same from Islamic
banks.
5.4 LOW LITERACY RATE
The fourth challenge in introducing Islamic banking can be examined from demographic
characteristics of Muslims in India. One of it involved the education status of the
Muslims in India. For instance, census 2001 shows that the literacy rate among Muslims
is 59.1% which is below the national average i.e. 65.1%. It has also been observed 26%
of those aged 17 years and above has completed high school but again this percentage
below national average accounted 17% of Muslims. While 7% of those aged 20 years
and above are graduates, this percentage is less than 4% amongst Muslims. Illiteracy
prevails among Indian Muslims which is the major cause of ignorance towards religious
regulations and aspects.
5.5 NON-AVAILABILITY OF BANKING FACILITIES
In addition to low literacy rate, the Sachar committee report shows that the access of
bank credit to Muslims is low and inadequate (Sachar, 2006). The average size of credit
is also meagre and low compared with other Socio-Religious Categories (SRCs) both in
Public Sector Banks and Private Sector Banks. The situation is same with respect to
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finance from specialized institutions such as Small Industries Development Bank of
India (SIDBI) and National Bank for Agriculture and Rural Development (NABARD). The
data from census 2001 reveals that the percentage of households availing banking
facilities is much lower in villages where the share of Muslim population is high. One of
the reasons for such an outcome could be non-availability of banking facilities in these
villages. The report concluded that the financial exclusion of Muslims has far reaching
implications for their socio-economic and educational upliftment. It was suggested that
to empower Muslims economically, it is necessary to support self-employed persons as
it is the main source of income to Muslims. This can be done through ensuring flows of
credits to the Muslims in India. The committee observes that some banks use the
practice of identifying negative geographical zones on the basis of certain criteria
where bank credit and other facilities are not easily provided. Such practice is referred
to as red lining in the United States. It is possible that in some of these areas the share
of Muslim population is high and yet the community is not able to benefit fully from the
banking facilities.
6. SUGGESTION
Indian government should allow conventional banks to open an Islamic banking window
for early development of Islamic banking system. Islamic window is a facility within a
conventional bank through which customers can make use of Shariah compliant
products (Kamaruddin et al., 2008). The concept of Islamic banking window has been
successful in Malaysia, Pakistan and Hong Kong. Currently, India has strong setup with
88 SCB and these banks have a joint network of over 69,160 branches. According to
Khan and Ahmad (2003) to function in globalised economy, banks have to meet
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international standards. Islamic banks have to learn a lot from conventional banks,
especially on their managerial skills, financing tools and transparency standards. The
conventional banks will not only provide infrastructure to Islamic banking window but will
also provide the initial experience needed to establish the same. Considering large
network of conventional banks in India, India is suggested to start Islamic banking by
opening Islamic window to reach the prospective customers.
Opening an Islamic window will require the bank to establish the suitable measures to
avoid the mixing of Islamic and conventional funds. Once a conventional bank has run
an Islamic window and gathered a substantial clientele base for its Shariah compliant
products, it may choose to launch a full-fledged Islamic bank.
Indian government may consider Malaysian Islamic window as a role model. The first
Malaysian Islamic bank was Bank Islam Malaysia Berhad established in 1983 did not
get anticipated success. Therefore, in 1993 the government allowed conventional banks
to offer Islamic banking services through Islamic window assuming it will be more
effective and efficient in increasing the number of Islamic financial institutions and
lowering cost within short span. The effectiveness of Islamic window is proven as it has
leaded to an improved performance and enhanced efficiency of banking industry
(Mokhtar et al., 2006).
In addition to that, for the growth of the Islamic banking in India, proper amendments in
the different acts and regulations should be made to accommodate Islamic banking.
This is to ensure that Islamic window division can work according to Shariah principles
within the existing setup. So that, funds at the disposal of such mixed banks cannot be
pulled from Shariah prohibited earnings.
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7. CONCLUSION
India has a huge market potential for Islamic banking. The growth of Islamic banking in
Southeast Asian countries like Malaysia and Singapore shows it as a viable option for
India. The entry of Islamic banks is positive in terms of growth, product innovations and
financial inclusion and may encourage the adoption of best practices among the present
banks as:
1. Islamic banking can help in eradicating poverty by lowering down the economic
disparities as there is no interest obligation on the part of the unfortunate
borrowers.
2. It can induce the habit of savings among people and create the financial insertion
required in India. Islamic banking draws finances from both Muslims and non-
Muslims alike.
3. Islamic banks offer financial instruments that are not only profitable but also
reasonable and are ethically fair.
4. Islamic banks would give advantage to entrepreneurs who have profitable
proposals but lack collateral.
For these, Indian government should look for the opportunities and take a stand in
introducing Islamic banking. However, there are challenges to be faced to introduce
Islamic banking in India:
1. The Indian banking regulation acts are desired to be duly modified to launch
Islamic banking in India.
2. New standard accounting practice has to be developed.
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3. Lack of experts in the field of Islamic finance, differences in interpretation and
compliance with Shariah makes the situation more challenging.
4. The main challenge is a favourable political environment, presently which goes
against growth of Islamic Banking in India.
In conclusion, the initiatives in establishing Islamic banking in a secular nation of India
may face various political, legal and societal constraints. However, the support of the
government in implementing Islamic banking would bring various benefits to India.
Research Methodology.
due to its economic growth and Muslim population. However, until now, Takafulhas not
been introduced yet. This research makes an initiative to explore on the potential of
Takafulmarket in India. This study follows the SWOT analysis approach to find out the
viability of takaful in India. Since the research is an exploratory study, the primary data
such as the questionnaire and interviews are used. The purpose of distributing
questionnaire is to examine the perception Muslims and Non-Muslims towards
awareness, acceptability, prospects and challenges ofTakafulin India. In addition,
Shariah advisors, consultants and insurance operators contacted in order to know the
strengths, weaknesses, opportunities and threats that might be faced ifTakafulis
introduced in India. Secondary data includes various articles, books, journals that will
contribute in drafting out a comprehensive picture about the possibilities, challenges
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and prospects of Takaful in India. Quota sampling method is adopted and Sekaran and
Bougie (2010) recommends this sampling method for the exploratory research.
Descriptive statistics is adopted.
Profile of the respondents
Table 1
Parameters Muslims % Non Muslims % Overall %
Gender 66 66% 70 70% 136 68%
Male 38 58% 45 64% 83 61%
Female 28 43% 25 36% 53 39%
Respondents Age Muslims % Non Muslims % Overall %
20 - 30 12 18% 15 21% 27 20%
31 - 40 16 24% 20 29% 36 26%
41 - 50 20 30% 24 34% 44 32%
51- 60 8 12% 9 13% 17 13%
60 & above 10 15% 2 3% 12 9%
Occupation Muslims % Non Muslims % Overall %
Self Employed 30 45% 25 36% 55 40%
Government sector employees 12 18% 15 21% 27 20%
Private sector employees 13 20% 20 29% 33 24%
Others 11 17% 10 14% 21 15%
Personal Income Muslims % Non Muslim % Overall %
10,000-20,000 5 8% 6 9% 11 8%
21,000-30,000 8 12% 10 14% 18 13%
31,000-40,000 7 11% 10 14% 17 13%
41,000-50,000 10 15% 15 21% 25 18%
51,000 & above 30 45% 25 36% 55 40%
No Income 6 9% 4 6% 10 7%
Table 2
Table 1.2
MuslimsNonMuslims Overal
Retired 5 6 11
Housewife 4 2 6
Student 2 2 4Governmentemployees 12 15 27
Private employees 13 20 33
Religion Population %
Hindus 35 26%
Muslims 66 49%
Christian 20 15%
Others 15 11%
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Mumbai was selected as the area of study. 200 questionnaires were distributed toMuslims and Non-Muslims population equally via email or hard copy. Out of 100questionnaires distributed to Muslims, 66 people responded the questionnaire andhence, the respond rate for the Muslims was 66%. In the case of non-Muslims, out of100 questionnaires, 70 responded and thus, the respond rate from non-Muslims was
70%. Therefore, overall respond rate was 68%.When the gender of the respondents is examined; most of the respondents are malesince 60.4% belong to the male. It might be due to the fact that targeted group isworking people and according to the Indian culture, majority of the working people aremale. The age range of the majority of respondents is between 31 to 50 years and69.3% of the respondentsbelong to it. When the education background of the respondent is examined, most ofthem are master degreeholders, followed by degree, diploma, non- degree and Ph.D. holders (refer to Table 1).In the case of religion, highest percentage of the respondents is Muslims (65.1%) andsecond highest respondent
group were Hindus (25.5%). The employment status showed that 36.6% were ingovernment section, 34.5% in private section, 20.4% were self-employed, 5.1% wereretirees and 3.3% were student. As most of therespondents are employed, income for the majority is between Rs.10, 001 and Rs.
40,000.
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Questions Yes/No Muslims %Non
Muslims% Overall %
1. Have you heardabout Islamic banking?
Yes 66 100% 48 69% 114 84
No 0 0 22 31% 22 16
Q2. Are you aware that
conventional bankingproducts are notShariah compliance?
Yes 66 100% 48 69% 114 84
No 0 0 22 31% 22 16
Q3. Are you aware thatIslamic banking is notonly for Muslims butalso for non -Muslims?
Yes 43 65% 17 24% 60 44
No 23 35% 53 76% 76 56
Q4. Do you know aboutthe Shariah principlesoffered in Islamicbanking products?
Yes 38 58% 27 39% 65 48
No 28 42% 43 61% 71 52
Q5. Do you thinkIslamic banking shouldbe introduced in India?
Yes 66 100% 38 54% 104 76
No 0 0% 32 46% 32 24
Q6. Do you thinkIslamic Banking willaffect the countrypositively or negatively?
Yes 50 76% 35 50% 85 63
No 16 24% 35 50% 51 38
Q7 If introduced inIndia, will you avail theservices offered byIslamic Banks?
Yes 66 100% 28 40% 94 69
No 0 0% 42 60% 42 31
Q8. Will it give rise toany kind of politicalissues or minority
issues in the country?
Yes 16 24% 28 40% 44 32
No 50 76% 42 60% 92 68
Q9.Do you invest/saveor deposit your moneyin conventional banks?
Yes 15 23% 70 100% 85 63
No 51 77% 0 0% 51 38
Q10 Are you aware thatBanking laws do notcomply with the IslamicBanking rules laid downby Islam?
Yes 56 85% 62 89% 118 87
No 10 15% 8 11% 18 13
Q11. Name any onesuch issue that will beeradicated through the
introduction of IslamicBanking?
Riots &terrorism
attractMuslim
investments
moreoptions forgetting
loans
job creationpooling of foreign funds from Gcountries into the country
Q12. Name any onesuch issue that willcreate problemsthrough the introduction
createreligiousbarriers
canbecome apoliticalissue
amendmentof bankinglaws
may giverise toterroristfunding
cannot guarantee authenticity the products and services offeby Islamic banks