Developments in Islamic Finance and Opportunities for Hong Kong Dr. Mohd Daud Bakar President/CEO International Institute of Islamic Finance Author of the CIMA Certificate in Islamic Finance mdaud@iiif-inc.com

Content - Definition of Islamic finance The salient features of Islamic finance Comparison between conventional and Islamic financing schemes Historical development of Islamic finance - Developments in the Global Islamic Finance Markets - The opportunities and role that Hong Kong can play as an Islamic finance hub

ISLAMIC FINANCE: AN OVERVIEW Islamic finance is a financial system that provides products and services which are compliant to the teachings of Islamic principles(Shariah). These teachings and principles of Islam are either provided in the Qur’an and the Traditions of the Prophet Muhammad as well as interpreted by the Muslim Jurists.

Salient Features of Islamic Finance Essentially, Islamic finance shall be free from all prohibited items and practices which include: a) Paying and charging interest (riba) b) Gambling (maysir) c) Uncertainty in the object, price and delivery d) Practices/clauses which contradict the established principles/maxims of Islamic law e.g. Capital guarantee in equity-based contracts. e) Buying/selling and/or leasing non-halal items e.g. liquor, non-halal food, etc.

Cont’d The main underlying principle of Islamic finance is to depart from “money for money transaction”. Money can only earn more money if put into real productive economic activities such as sale, lease, investment, services, etc. Money provided via loans cannot be expected to pay returns. Islamic finance is essentially reflective of both economic and financial functions of money.

Conventional vs Islamic Finance Comparison Islamic finance must be conducted for Halal activities only, whereas conventional finance cover wider spectrum Conventional finance has biasness towards loans and the “lender-borrower paradigm” whereas Islamic finance promotes trading, leasing and partnership structures Interest mechanisms which is key in conventional finance must be avoided in Islamic Finance Derivatives and its trading is popular in conventional finance but it’s application is very limited in Islamic finance Islamic finance shall be governed by both modern law and Shariah principles as interpreted by the Shariah Supervisory Board

ISLAMIC FINANCE IN THE HISTORY Modern Islamic finance only started in 1975 in Dubai (Dubai Islamic Bank) as a commercial bank. Modern “Islamic bank” receives deposit and provides financing as well as being licensed by respective regulators. Was there Islamic bank prior to 1975? Abraham Udovitch’s research: “There was Islamic banking but there was no Islamic banks in the past”. Essentially, Islamic finance provides scheme to meet the needs of the surplus and deficit units in the society without necessarily having a financial intermediary institution.

Cont’d Contracts that are useful in the past include: a) Mudarabah (profit and loss sharing) b) Musharakah (JV) c) Qard (Benevolent loan) d) Salam (forward sale) e) Istisna’ (manufacturing & construction contract) f) Tawarruq (cash financing)

NEW DEVELOPMENTS PRIOR TO 1975 A local Islamic bank of Mit Ghamr in Egypt in 1969. Tabung Haji (Pilgrimage Fund) of Malaysia in 1969. Various cooperatives societies in the Muslim World. Islamic Development Bank in Jeddah in 1975.

DEVELOPMENTS POST 1975 Islamic banks in other Muslim Countries (either full fledged or isolated Islamic banks or a dual banking system). Islamic banks in Non-Muslim countries. Takaful (Islamic insurance) and Retakaful (reinsurance) scheme for both General and Life plans. Islamic stock screening (DJIM, FTSE, KLSI/BFHI). Islamic mutual funds/unit trusts. Islamic bonds/sukuk. Islamic ETF, Islamic REITs, Islamic Hedge Fund, etc.

ISLAMIC FINANCE IN THE FAR EAST VIS-À-VIS GCC Malaysia has been the leader in SEA and has set up a complete infrastructure in banking, insurance and capital market. Brunei is still developing but “heavy reliance” on outside products and services. Indonesia policy on Islamic finance is evolving but not drastic. Slow growth of assets and infrastructure. Singapore, being the global Centre of Private Banking, focuses more on whole-sale banking. Islamic Bank of Asia (2007) is a good case study for Far East.

Cont’d GCC Islamic finance is demand-driven market a) highly capitalised institutions. b) high profile of shareholders. c) public listing. d) branching out to the world. e) access of liquidity.

ISLAMIC FINANCE IN EUROPE (UK) Islamic widows/Islamic products in 1980s and 1990s. Establishment of full fledged Islamic banks in UK in early 2000s. Europe is active in Islamic asset management and Islamic-back-office services. Europe is also having an excellent infrastructure to support Islamic finance. Europe has been very close to the Middle-East since centuries. Far East countries are new to the Middle East. Far East countries are also “cautions” in establishing new market focus.

KEY DRIVERS OF ISLAMIC FINANCE GROWTH Supportive policy direction and infrastructure. Demand and supply. Awareness of Islamic finance amongst the Muslims. Petro wealth and access of liquidity. Human resource. “New way of doing finance”.

CHALLENGES OF ISLAMIC FINANCE IN HONG KONG New concept of doing finance. Policy direction. Legal framework. Taxation treatment. Human resource and expertise. Perception.

OPPORTUNITIES OF ISLAMIC FINANCE IN HONG KONG Hong Kong is an industry-driven country which is not available in many Muslim countries - many Islamic financial products can be structured leveraging on this quality. Some of assets be it shares or commodities or real estate are of good quality Hong Kong provides a new market and asset for diversification purposes. Its good physical infrastructure and its position as a key financial centre lends to its potential of driving the Islamic Finance agenda further

THE FUTURE OF ISLAMIC FINANCE Western and Far East financial institutions embracing Islamic finance – the fourth wave. Petrol wealth and diversification of assets and geography. Competitiveness and synergy. Risk management and prudential standards. Global Islamic financial institutions in banking, takaful, retakaful, asset management and derivatives. Human capital and education.

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