Date: April 21st, 2003

Title: The implications of globalisation for Islamic finance

Author: Professor Rodney Wilson, University of Durham, UK

The issue for Islamic banks is whether they are also vulnerable to foreign take-overs, especially as most are relatively small in size. There have already been some attempts at consolidation in Islamic banking, notably the proposed merger of the Institutional Investor of Kuwait and the Al Baraka Islamic Bank in Bahrain although negotiations were suspended in 2002. The Faysal Bank in Bahrain was merged with other group affiliates to form the more adequately capitalised Shamil Bank. The Al Ahli Bank of Bahrain merged with the London based United Bank of Kuwait, including the Islamic banking unit. So far however no major multinational providing Islamic treasury or asset management facilities for Islamic banks or high net worth individuals has shown much interest in getting involved in Islamic banking at retail level in the Muslim world, although HSBC seems to have ambitions in this respect. Even if the markets for financial services are opened up in Muslim countries as a consequence of GATS, the Islamic banking sector may still be protected by its knowledge of Muslim clients and its unique product offerings.

Muslim countries can open up their conventional banking sector under GATS while still protecting their Islamic finance sector using infant industry arguments. In the January 2002 Trade Policy Review of Pakistan, the review team noted Pakistan’s commitment to liberalisation under GATS in forty seven activities including banking, insurance, business and communications. Pakistan requested and received GATS exemptions under the most favoured nation clause (MFN) in financial services where there were reciprocity agreements and in Islamic financing transactions. This ruling by the WTO should help the position of Islamic banks in Pakistan, demonstrating that a sympathetic treatment of globalisation issues can prove beneficial to those seeking to ensure shariah compliant financing facilities are offered to potential Muslim clients.

As financial systems become more open, national discretion in the determination of interest rates is reduced, as if money flows freely, differentials in inter-bank rates between currencies will largely reflect exchange rate expectations in relation to a dominant currency, usually the United States dollar. If expectations remain unchanged, and dollar interest rates rise, local inter-bank rates will also rise. The close correlation between the London Inter-bank Offer Rate (LIBOR), which refers to Euro-dollar transactions, and for example, the Saudi Inter-bank offer rate on riyals (SIBOR), is not surprising given that the exchange rate between the dollar and the riyal is fixed and that international inter-bank transactions can be freely substituted for domestic transactions. As returns on Islamic investment deposits and the costs of Islamic financing in Saudi Arabia are related because of competitive pressures and client expectations to SIBOR, it could be argued that Islamic banking activities are indirectly affected by what is happening in western, secular money markets. Hence Islamic financial institutions, and even less the Islamic branches, counters and windows of conventional banks, are not seen as autonomous.

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WTO Trade Policy Review Pakistan, January 2002. Press release TPRB/185.