March 2011

MARCH 28, 2011

Apologies for the light posting and delay in the newsletter.  After re-reading my post on Rushdi Siddiqui’s article on the Islamic sovereign wealth fund, there was one point that I think I did not focus on sufficiently and that is the relative benefit of an Islamic sovereign wealth fund compared with a “mega-bank” that has been declared as “in the works” for years.

Once the comparison is made–and these are not the only potential solutions for rapid growth in Islamic finance–the Islamic sovereign wealth fund stacks up relatively favorable, but the problems I highlighted in the article remain.  For example, each proposal has an uncertain source of financing.  However, the mega bank–despite being talked about for years–has not developed any traction.  To be fair, some of that lack of interest is due to the financial crisis, but there are also real questions about whether there is enough demand for Islamic financial products and whether even an Islamic bank with several billions in equity can compete with the global financial institutions.

Furthermore, the mega-bank would probably expand its own business at the expense of smaller existing Islamic banks.  In contrast, the Islamic sovereign wealth fund would likely bring additional assets to the table (perhaps from  individual country’s sovereign wealth funds) and would support rather than compete with the other Islamic financial institutions out there.  In this light, the Islamic sovereign wealth fund stacks up relatively well, although I still think that big challenges remain to its implementation.

MARCH 20, 2011

A recent story I wrote for The Islamic Globe (you can sign up for a free subscription at the website, included a mention of a proposed bill in the South Dakota legislature that would effectively ban Islamic finance in that state.  While I have been researching a longer article which will appear on The Islamic Globe’s website, I was struck at just how pervasive Islamophobia is becoming in parts of the United States.

Besides creating a poor image of the United States internationally, it is beginning to harm the prospects for the United States to leverage its large financial industry to participate in the Islamic finance industry.  I don’t want to over-hype the South Dakota bill–the state has less than 1 million residents–but the way in which the bill is crafted shows nearly wanton disregard for any type of foreign investment in the state.  In addition to Islamic finance, the bill could make it illegal to sell securities of foreign countries in the state if those countries have any laws that conflict with American or South Dakota law.

The entire issue revolves around a misunderstanding of how Islamic finance works and it plays off of fears that Islamic finance is some Trojan horse for “foreign interests” with ulterior motives (which is not just limited to Islamic finance).  The proposal in South Dakota represents a segment of the country who want to look inward and reject the international nature of finance (the bill applies to securities subject to foreign as well as religious laws).  This is the opposite from the U.S. government’s past approach when looking at Islamic financial products.

When the Office of the Comptroller of the Currency (the agency which regulates national banks) was considering allowing ijara and murabaha mortgage products, they looked at the product’s economic outcome and applied U.S. laws to that, overlooking the ‘form’ of the contract (which distinguished the products from conventional products).  What they saw was that an ijara or murabaha mortgage was equivalent in economic outcome to a conventional loan that banks were allowed to use under current banking law.  Because of this, they drew the conclusion that nothing with the terminology or separate structure of the Islamic finance product would change the risks to the banking system from conventional mortgages (in contrast to musharaka financing, which they did not allow banks to offer).

Shifting from the OCC’s more rational approach to one that is fear- and misconception-driven will harm not just the U.S. potential for Islamic finance, but could have wider implications for American finance.

MARCH 13, 2011

First, I would like to thank a reader who provided me the clarification on a blog post included in last week’s newsletter that discussed Islamic repo agreements.  He pointed out correctly that a collateralized murabaha-based repo would not give the “lender” the ability to sell on the sukuk provided as collateral.  I always appreciate when sharp-eyed readers notice and point out things I miss or get wrong.

During the past week, the news has focused on the terrible earthquake and tsunami which hit north-eastern Japan. It is too early to measure the total economic damage it caused, but I glanced back a couple months and remembered that the Japanese government had proposed creating tax neutrality for Islamic finance products like sukuk.  As the devastation of the earthquake becomes clear and efforts turn from finding and helping survivors to rebuilding the country’s infrastructure that was damaged or destroyed, there will be a demand for financing that could be partially filled by Islamic finance.

The large amount of infrastructure finance that will be required opens the door for greater cooperation between Japan the regions where Islamic finance is thriving like the GCC.  With limited or no oil or natural gas resources on its own, Japan imports most of what it needs (it is the third largest consumer in the world) from the GCC.  according to the US Energy Information Administration, nearly 80% of the oil it imported in 2009 came from the Middle East, most of which came from GCC countries.  Some of that was produced in local joint ventures with Japanese oil companies.

Japan spends heavily on oil and if some of this is used to finance the reconstruction of Japan following the earthquake–particularly with participation by the Islamic finance industry–it could create goodwill that is needed to counter the fear-mongering about Islamic finance in countries like South Korea and the US.  Raising the financial resources needed for rebuilding through Japanese government and corporate issuance of sukuk would provide an opportunity for misconceptions to be overcome about Islamic finance.  It would also provide sukuk investors with needed geographical diversification into one of the largest economies in the world

The Japan Bank for International Cooperation (JBIC) talked since 2007 about issuing a sukuk and Nomura issued (in Malaysia) the first Japanese corporate sukuk for $100 million last year.  There is much greater need and a much larger opportunity now for Islamic finance to begin acting to expand in a more meaningful way into Japan.  Most of the money exchanged between Japan and the GCC has gone from the former to the latter.  Now it is time to reverse that direction to help rebuild Japan.

MARCH 6, 2011

Within the past week, a report paid for by the US Department of Defense has surfaced (it was written in mid-2009) based on (sympathetic)coverage by the far-right Washington Times.  I have been creating some coverage of the report itself for The Islamic Globe.  There will be an article in the newspaper (you can subscribe for free on the website) as well as an article on the website (probably by mid-week).  I direct you either to the Washington Times article (although it is far from unbiased) and the forthcoming articles in The Islamic Globe for my summary and analysis of the report itself.

However, another issue involved in the report (which at its core makes the tired accusation that Islamic finance is connected to financing terrorism, including “economic terrorism”) is the growing prominence of hostility to Islamic finance based on (probably intentional) misunderstanding by people who can best be described as “Islamophobes”.  The US is unfortunately not alone among countries where Islamophobia and deliberately spread malicious lies have become just “one side of the argument” between “pro” and “anti” Islamic finance.  South Korea’s vitriolic debate over a bill to provide sukuk with equal tax treatment provides another example.

The newest issues–the continuing struggle to pass the sukuk bill in South Korea and the Department of Defense-funded report–highlight the headwinds facing Islamic finance in many countries where Islamic finance could provide a way to diversify funding sources for companies while also creating a source of greater supply of sukuk (for example).  However, these headwinds are likely to have reverberations beyond the US and South Korea by creating the image of hostility towards Islamic finance in general that will spread beyond their borders.  This could harm the cooperation between (for example) the West and the GCC in developing a more global Islamic finance market.

Governments taking a supportively neutral position on Islamic finance is not working.  The US financial markets are some of the deepest and most developed in the world and yet there is nearly nothing taking place on Wall Street with regards to Islamic finance.  Neutrality has allowed the spreaders of misinformation to prosper at the expense of the Islamic finance industry; the Islamic finance industry needs to enlist the assistance of financial market players (governments where possible but also general financial services trade groups) to dispel the myths that are becoming widespread.  It will never convince the anti-Islamic finance crowd that they are wrong, but it can marginalize them.  Unfortunately, that might be the best outcome possible.