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July 25, 2011

Islamic Banking: After Sharia what's the worst that can happen?

The Central Bank Governor Sanusi is a Muslim. What are the real motives behind the implementation of Islamic Banking in Nigeria? The Governor has tried to defend it by saying that the plan for the Islamic Banking system was put in place by his immediate predecessor Mr. Soludo. Kingsley Moghalu is not a Muslim and as a deputy (having been there before Sanusi, a respected international administrator) he says Islamic banking is not about religion but about finance. Another Lagos lawyer Femi Agunbiade told Associated Press recently that “Islamic banking does not preclude a Christian from benefiting from its non-interest products” So What is Islamic banking? Who should use it? How is the users qualified? How does it relate to sharia legal code? What is the worst that can happen with Nigeria’s adoption of this form of banking practice?

The origins of modern Islamic Banking are rooted in the religion of Islam. A loose form of financial operations had been in use in early times in the Muslim world. In the Arab and middle eastern cultures similar traditional models of banking still exist that draws on the principles espoused in the Holy Quran. Some of these traditional practices have been blamed for terrorist financing and have given some of that coloration to the more generally accepted modern Islamic banking. Modern Islamic banking is a capitalist system. Islamic financial instructions are motivated by the profit maximization principle found in conventional banking models. The distinguishing principle being that Islamic banks seeks to lessen the perceived “evils” of the western capitalist banking principle of interest payment. But yet like the western capitalist banking system Islamic banking institutions exists to make the most profit for their shareholders just like any other bank or financial services provider. Thus interest based financial model is mostly replaced by a profit and loss sharing system. This is the pivot of modern Islamic banking. Most people associate Islamic banking with  interest-free financing. But this is slightly a distorted truth. The borrower still has the obligation to repay a loan plus additional costs that the financial institution includes in the agreement. To a large extent lending by an Islamic bank is equivalent to lending by a conventional bank at a fixed interest rate over the life of the instrument. Both systems require that shareholders return on investment be maximized. Thus the profit-motive remains a part of sharia-compliant banking. Comments

logoThe First Islamic banking model was pioneered by an Egyptian called Ahmad Elnaggar in 1963. Following the relative acceptability of this initial model the first commercial Islamic bank opened in Dubai in 1975 (the Dubai Islamic Bank). Fundamental principles of the Sharia system including the naming of the financial products is of necessity inherent in the system. But that is how far it goes. If you borrowed money from an Islamic bank you will still have to repay the loan plus some extra (not regarded as interest). In real money terms this extra costs may actually be more or less the same value as paying an interest that would have been charged by a conventional bank. A borrower or a customer is not necessarily subject to Sharia court if a dispute arises out of a transaction neither would a customer loose his arm or have his eyes gorged out if he defaulted in a transaction. Islamic banks operate under the same principle as any other bank – there are established to maximize profit and minimize loss for its investors. There is nothing like “interest” free loan in actual fact. In fact profit sharing may, in some cases, be more expensive than simply borrowing money and paying back at a reasonable interest rate to the financial service provider. Both systems are suited for different individuals of varying financial and risk conditions. Some of the most considerate application of the profit and loss sharing model is when there is a default in repayment by the customer. In conventional banking the financial institution simply focuses on recovering the outstanding amount owed to it. And this means that the defaulter or customer losses all monies repaid so far as well as use of the assets. Whereas an Islamic bank would seek to resale the asset minimizing loss or maximizing profit and sharing the proceeds. In a way If a customer bought an asset for N5000. After two years, let’s say he has repaid N2500. Let’s also assume that at this point he is unable to continue to to repay. Let us also assume that the market value of this asset has is appreciated at N4000 in current terms. A conventional bank will simply repossess the asset and will sell at auction to the highest bidder. Its motive will be to recover N2500 owing on the asset. The bank will not care to sell the asset for anything more than N2500. However, an Islamic bank will do exactly the opposite. It will seek to sell at current market price and share the proceeds with the customer.

Having said that lets look at how Islamic finance works. In a simple and direct form, asset finance in Islamic Banking involves a Banking institution purchasing a customer’s required asset (example, a car or house) and reselling it to the customer with some profit calculated and added to the original purchase price. The bank then allows the customer to repay in instalments. An investment (deposit) account in an Islamic bank would not earn interest. Rather the Bank would use the funds for trading or invest it some other way (compliant with Sharia principles). The depositor is given only a share of the proceeds of the investment of his money made by the Bank. Any losses are similarly shared and reduce the value of the initial deposit. The principles are purely financial. There is in real terms no such thing as a interest-free banking. Every financial instrument comes at a cost. Perhaps the CBN should re-consider naming Islamic Banking Interest Free or Non Interest Banking. If they want to avoid use of the term “Islamic” they should try using Participant Banking. (even Hausa Banking, could be acceptable. More Muslims are Hausa).

So why all the fuss about Islamic banking by Christian Association of Nigeria, CAN etc. What should they be worried about? Is there anything to be worried about in the first place.

Islamic Banking is of necessity regulated by a Central Bank. A supervisory board is required to regulate the operation and compliance issues involved. Compliance in terms of Sharia principles of not charging interest (a few exceptions  to this rule exist) and to comply with the principles of equity and justice as required by Sharia law.  CAN should be worried about the proper composition of the Advisory board. This board must be staffed not by Islamic clerics but by economists and financial experts. CAN should seek to have non-Muslim financial experts sit in that board or have a representative in it even as an observer to make sure non-Muslims are not deprived and the board does not corrupt itself to serve unconstitutional purposes. Terrorism is the worst kind of crime committed against humanity in the guise of promoting a religion. The organisation of terrorist acts evidently involve substantial funds. The movement and availability of these funds and the tracking of its sources has become a top security priority in many financial systems worldwide both in the east as well as in western nations.

Studies have shown that the easiest way for terrorists to move funds through the system is through the normal conventional banking system where the transactions is simply lost in the daily transactions. According to Sahathevan (An Australian expert on Islamic terrorism finance) Islamic banks may have a greater disposition for facilitating the financing of terrorist groups at the level of ownership. Islamic banks are more often than not owned by Muslim shareholders who have a desire to promote Islamic banking as a form of Dawa [the propagation and promotion of Islam]. And among those shareholders who believe in the promotion of the Islamic way, there are some for whom this may also include Wahabbist leanings, so then for a bank in the ownership of shareholders who already have that inclination, it becomes an obvious tool through which to move funds through the international banking system [for terrorism financing]. This is another point which both the CBN and CAN must be be watching carefully that no one with extremist leanings are appointed into the advisory board and also at the directorship level at Banks. The safest way to avoid this is to have publicly owned conventional banks to offer Islamic Banking services as well. Thus making sure that the ownership of Islamic banks are not exclusively in sectarian hands. Having dedicated Islamic banks which are owned, operated and patronized only by Muslims is going to be a dangerous form of exclusivity. The CBN has currently licensed two banks: Stanbic/IBTC which is a good conventional bank with International spread; JAIZ is a recent start up that is struggling to become established. The owners appear to be prominent financial industry players.

Other Islamic banking principles that lends itself to movement of funds which could be used for financing terror is the principle of zakat. Three kinds of zakat are known depending on the intended recipient. There is fesabeelillah (meaning, in the way of Allah). This can be interpreted to mean alms money meant for fighting the cause of Allah (Jihad). Jihad is equally interpreted in broad terms to include “a struggle against poverty” or “to become a better Muslim” or “against oppression, for self preservation or self defence”. There is also the second form called lil fuqara (Alms for the poor) and the third form lil Masakeen (alms for the needy). All of these money can amount to billions of dollars. usually received and distributed by the local mosque. It only takes a small percentage of that to fund a major terrorist organisation like Boko haram. British Intelligence reports have warned that Al-Qaeda is planning on moving into Nigeria. (source: BBC). These reports when collaborated with recent warning issued by the CIA that terrorist organisations are planning on sewing bombs into people is indicative of “reluctant” bombers being used. Nigerians are reluctant suicide bombers. See . Other  Islamic banking practices that can be manipulated to launder money include the principle of “gift” or Hibah.  This is money which a the bank can willingly give to a customer with a savings account instead of interest on money deposited. These could become avenues for laundering money into the country. An avenue which could easily be used by terrorists to sponsor and finance terrorist operations in Nigeria.

However, the greatest danger to Islamic finance being used to sponsor terrorism in Nigeria are undisputedly lax supervision and outright corruption of supervisory officials. And this is not a danger unique to Islamic Banking. Subjudicial processes, government pre-occupation with politics, public alignment along ethnic and religious lines and a state security intelligence that is completely absent among national security forces - these are the real danger not Islamic banking per say. Al-Qaeda remains an enemy of all, Muslim and non-Muslims. Ask Moroccans, Saudi Arabians and Kenyans. There are still a large majority of Muslims who are committed to the peace. But it only takes a bomb (costing a few hundred naira) to kill thousands of people. We should be watching the history, background and dispositions of those that are appointed at the head of Islamic Banks and most especially those who are appointed to head the Islamic Banking Advisory council at CBN. That is what CAN should be following closely and so should all of us. Any objective info should be put out there into the public domain. Speculations and unfounded accusations serve to further muddle the pool of intelligence.

Islamic banking is by far a more acceptable practice than sharia in application. Some principles of Islamic finance based on sharia have the potential to contribute to a better community. The principle of ethical investment is one. Under Islamic finance, a financial institution is prohibited from investing in certain industries proscribed by the Holy Quran. Some of these industries include companies or institutions involved in manufacture, sell or distribution of alcoholic beverages, pornography, gambling, pork based products etc. Another principle is the “asset backing” principle. Under Sharia law money has no value except backed with a real asset. To make a profit an investor will have to buy or sell a real and tangible asset. Money is not classified as an asset under Islamic banking hence money cannot earn an interest. This principle actually eliminates the burden of speculative investments in near money assets. Speculative investments in mortgage instruments was the clear trigger which led to the current financial crisis in modern economies. This lack of speculative investment and exposure in Islamic banking is one of the principal reasons the CBN is diving into Islamic Banking at this point. Governor Sanusi and his predecessor Mr Soludo, perhaps, view Islamic banking as a way out of the current financial crisis that is plaguing the system. At present many more Nigerian banks are facing sever liquidity problems. Most overseas banks are cash strapped and cannot delve into third-world Nigerian banks at this time. Only Islamic banks have maintained a measure of stability and continue to grow. the CBN perhaps anticipates that the needed bailout of the banks would most likely come from the East where financial institutions are sound and there is money to invest. But how Islamic banking will help particular banks in crisis remains to be seen. The Emirates, Saudi and Malaysian banks must come shopping. One Islamic banking product that is currently on the upward trend is the  sukuk. Sukuk is a capital market security or bond. Data from the US federal Research Service shows that global issuance of sukuk was estimated to be over $30billion in 2010 an increase of over $20billion from total 2009 issues of sukuk worldwide.

In conclusion the opposition we get from the introduction of Islamic finance in Nigeria is mainly due to ignorance or stereotyping and coloration of every issue as either a religious takeover or an ethnic imposition on the rest of the country. There is no danger in Islamic banking except as is common in the country. The problem has never been the policies but the incompleteness of its implementation and the administration of it. Many people will still find avenues to use this system to their own selfish means. That is guaranteed. As an instrument to salvage failing banks that is nonsense. The Saudis, Dubai and Malaysian businessmen still do not see Nigeria as an investment destination. They have their eyes firmly in the Americas. The Iranians are growing mostly internally. They are being watched too closely to try to come to Nigeria. But Boko haram is making Nigeria a more attractive option for Al-Qaeda financers potentially. But this has nothing to do with Islamic banking. Al-Qaeda will come here if they want even now with or without Islamic banking. In fact Islamic banking might even make it more difficult for them to move money in. The conventional banks are still best bet. If all else fails they can still carry the money in containers or bags straights under the nose of our custom officials or the bombs and firearms right through the country from some port in the south to the north-east of the land. And they will go undetected. Just leave the poor “abokis” alone.

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