PAKISTAN EMERGING AS AN OUTSTANDING PLAYER IN ISLAMIC FINANCE FIELD

SHABBIR H. KAZMI
(feedback@pgeconomist.com)

Apr 23 - 29, 20
12

After the landmark decision by the Supreme Court of Pakistan that the country's financial system was not Shariah-compliant, the government of Pakistan (GoP) took immediate corrective steps. Integrating centuries-old system with the prevailing global financial system in a short span of time posed a mammoth task. Therefore, the GoP decision was to introduce Shariah compliant banking and let it run in parallel with the conventional banking and give people of the country a chance to make their own choice.

Around the world, Islamic banking has been termed 'ethical banking', which encourages even non-Muslims to adopt it. The role being played by the central bank has been acknowledged globally. Islamic Finance News, publication of REDmoney, had declared State Bank of Pakistan 'Best Central Bank'. Pakistan has been playing a key role at Islamic Financial Services Board (IFSB) and one of the previous governors of the central bank was also the chairperson of IFSB. To get a clear picture, Pakistan & Gulf Economist talked to Saleemullah, Head of Islamic Banking Department, State Bank of Pakistan.

PAGE: WHAT ROLE SBP HAS BEEN PLAYING IN PROMOTING ISLAMIC BANKING IN THE COUNTRY?

SALEEMULLAH: To begin with, I would like to share that Pakistan is one of those countries, which made pioneering efforts way back during 1970s and 1980s for the promotion of Islamic banking. The current parallel banking paradigm was initiated in 2001 and since then several initiatives have been undertaken to help develop a robust Islamic banking system in the country which includes: 1) Development of an enabling legal framework by enacting various amendments in the banking companies ordinance and related laws to allow for establishment and operations of Islamic banks; 2) Introduction of a robust regulatory framework by suitably amending the prudential regulations for conventional banks wherever necessary, and introducing new regulations to cater to the specificities of Islamic banking; 3) Introduction of a comprehensive multi tiered Shariah compliance framework that includes a) Shariah Board at SBP, b) Shariah Advisors at banks level, c) mandatory internal Shariah review and audit, and d) periodic Shariah inspection by the central bank; 4) Contributing towards capacity building of the industry through regularly organizing training and capacity building programs such as the accredited three-week certificate course by our subsidiary NIBAF, recently introduced one week program on Islamic banking operations for the field staff of IBIs, specialized training sessions etc., also developing linkages with reputed national and international institutions engaged in Islamic finance training to synergize their efforts for improving the industry's human resource skills; 5) Collaborating and partnering with the industry to improve public awareness and understanding of Islamic banking products and services; 6) Active engagement with international Islamic institutions like IFSB, the Accounting and Auditing Organization for Islamic Financial Institutions (AAOIFI) and the International Islamic Financial Market (IIFM) to help leverage their resources for promotion of the industry.

PAGE: WHAT MAJOR MILESTONES HAVE BEEN ACHIEVED?

SALEEMULLAH: Since the establishment of first Islamic bank in Pakistan in 2002, the industry has witnessed a respectable growth over the years. Currently, there are five full-fledged Islamic banks and 13 conventional banks offering Islamic banking through standalone branches. Total branch network has reached to 886 whereas share of Islamic banking assets in the overall banking system has fast increased to 7.5 percent with year-on-year growth of about 30 percent. Since 2002, the industry has witnessed the following major developments: 1) Introduction of comprehensive set of "Instructions and Guidelines for Shariah compliance" in Islamic banking institutions; 2) Introduction of Shariah compliance inspection of the Islamic banks by the central bank - it is a more comprehensive and robust inspection framework in comparison with practices in other jurisdictions; 3) Strengthening the Shariah compliance framework through the introduction of fit and proper criteria (FAPC) for the appointment of Shariah advisors; 4) Issuance of framework for Islamic microfinance services by the banks/micro finance institutions; 5) Adoption of AAOIFI Shariah standards for commonly used modes of Islamic finance to augment the Shariah compliance framework and to harmonize the Shariah practices across the industry. The adoption of AAOIFI Shariah standards with necessary customization as per local environment remains a regular feature at the central bank level; 6) Gradual adoption/adaptation of IFSB prudential standards will further augment the regulatory framework for Islamic banking industry in Pakistan.

PAGE: HOW DO YOU COMPARE THE PAKISTAN'S PERFORMANCE WITH OTHER MUSLIM COUNTRIES?

SALEEMULLAH: Though the present market share of Islamic banking in the country's banking system is relatively low (7.5 percent) compared to the countries such as Malaysia and Bahrain, Pakistan is amongst the leading Muslim countries that have made serious and concerted efforts in developing the Islamic banking industry and have robust, vibrant and large Islamic banking footprint in the country. We are hopeful that our Islamic banking market will continue to grow rapidly.

PAGE: WHAT ROLE SHARIAH SCHOLARS ARE PLAYING?

SALEEMULLAH: Under our Shariah compliance framework, the role of Shariah advisor is critically important as he gives Shariah approval of each and every product/service being offered by IBIs and all the related procedures and manuals etc. While an increasingly larger number of Shariah scholars from different schools of thoughts are accepting and approving the current Islamic banking paradigm, an equally large number of Shariah scholars have expressed reservations on the Islamic banking paradigm in vogue in most of the countries including Pakistan.

A consensus amongst the Shariah community on the Shariah permissibility of the current paradigm with necessary adjustments would give a big boost to the industry enabling it to significantly increase its market share in the country's banking system in the medium term.

PAGE: HOW BENEFICIAL HAS BEEN THE GLOBAL EXPERIENCE?

SALEEMULLAH: The steady growth of Islamic banking industry across the world has deposited a good collection of experiments related to legal, regulatory, supervisory, and Shariah compliance for the international community to benefit from. Our strategy and approach for development of Islamic banking industry has been largely at par with international best practices suitably customized to cater to our environment, culture, and religious values. The establishment of leading international Islamic institutions like AAOIFI, IFSB and IIFM also facilitated dissemination and adoption of international best practices in various jurisdictions including Pakistan.

State Bank of Pakistan, being the founding member of these institutions, is supporting them in their efforts to develop and disseminate prudential, accounting and Shariah standards for Islamic finance industry. Likewise, our previous attempt to introduce and implement interest free banking in 1980s in the country and the related issues we faced subsequently, is a real learning experience for all of us.

PAGE: WHAT REGULATORY MEASURES HAVE BEEN INTRODUCED TO ENSURE SHARIAH COMPLIANCE?

SALEEMULLAH: As I mentioned earlier, SBP has introduced a comprehensive Shariah compliance framework that includes a) Shariah board at SBP, b) Shariah advisors at banks level, c) essentials and model agreements of Islamic modes of finance notified by SBP, d) approval of all products by Shariah advisor, e) mandatory internal Shariah review and audit, and f) periodic Shariah inspection by the central bank.

Further, the Shariah advisor is appointed based on the fit and proper criteria given by SBP for a renewable term of three years. One Shariah scholar can be the Shariah advisor of only one IBI. A report by Shariah advisor on overall Shariah compliance level in an IBI is part of the IBI's annual accounts.

In case of difference of opinion between IBI's management and the Shariah advisor on Shariah permissibility of any product/service, the matter is referred to the SBP Shariah Board for its verdict, which is final and binding on IBIs.

PAGE: WHAT IS BEING DONE FOR THE DEVELOPMENT OF NEW ASSET AND LIABILITY PRODUCTS?

SALEEMULLAH: We have provided a flexible approach to Islamic banks for developing new products and services, as no regulatory approval is required for launch of new products approved by IBI's Shariah Advisor. We have however notified essentials and model agreements for various modes of Islamic finance to ensure standardization and harmony in Shariah related features of the products and services. These essentials are the minimum requirement for Shariah compliance whereas IBIs can add additional features as per their business requirement subject to approval of their respective Shariah advisor.

Further, the IBIs are being encouraged to diversify their product mix and tap nontraditional areas like SMEs, agribusiness, low cost housing etc. We have recently issued a model agricultural financing product based on "Salam" to facilitate IBIs' entry in the country's agri-sector. Similarly, the coverage of SBP credit guarantee scheme for small and rural enterprises has also been extended to IBIs offering Shariah compliant services to small and rural enterprises.

We are also working with the industry to develop an incentive package for encouraging IBIs to gradually build up Musharaka, Mudaraba based financing portfolio. Further, we are also developing a comprehensive liquidity management package for IBIs that would enable them to efficiently and effectively manage their surplus liquidity. The package will also include Shariah compliant Lender of Last Resort (LOLR) facility for IBIs facing temporary liquidity shortages.

PAGE: WHAT ARE THE MOST COMMONLY USED AGREEMENTS/INSTRUMENTS?

SALEEMULLAH: Murabaha, Ijarah and Diminishing Musharaka are the most commonly used modes for extending financing facilities. As of September 2011, Murabaha has the highest share (41.5 percent) in overall financing, followed by Diminishing Musharaka (33.2 percent) and Ijarah (11.9 percent). On deposit side, almost all the savings and term deposits are mobilized on Mudaraba basis. The current deposits are however largely on Qard basis.

PAGE: WHAT IS THE CURRENT SIZE OF SOVEREIGN IJARA SUKUK?

SALEEMULLAH: Since auction of first domestic GoP Ijarah Sukuk in 2008, a total of nine Ijarah Sukuk have been issued amounting to Rs294,867 million. Of these nine Sukuk, the first two have matured while the remaining has yet to mature. In terms of subscription, six out of nine issues have been oversubscribed. Presently, GOP Sukuk of over Rs282 billion are outstanding.

PAGE: HAS IJARA SUKUK HELPED IN MOBILIZATION OF DEPOSITS?

SALEEMULLAH: The regular issuance of sovereign Sukuk during last one and half year has facilitated Islamic financial institutions to effectively manage their liquidity and improve their asset quality. While the regular issuance of the Sukuk has, no doubt, provided a good and lucrative investment avenue to IBIs, the growth in deposit base has so far been largely in line with the past trends.